Mortgage System Overhaul

They could not have picked a more fitting location than Phoenix, Arizona, for President Obama to announce on Tuesday his plans for revitalizing the housing market, which has risen out of its ashes like the mythical bird of legend.

“This was part of ground zero for the housing bubble bursting.” The president recalled Phoenix’s plight as one of the worst hit markets during the housing crisis.

Owing to that crisis, home owners all across America have endured a long and steady 5.5-year erosion of property values from their peak in July 2006 to their bottom in January 2012, according to the Case–Shiller home price index of the 20 largest American cities.

Finally, for some 18 months now, property values have been on the mend. “Today, our housing market is beginning to heal,” the president encouraged. Yet he acknowledged there is still more that needs to be done. “We’ve got to build on this progress. We’re not where we need to be.”

Home ownership at 65% is the lowest it has been since 1997, with rapidly rising interest rates prohibiting many from buying.

Hence, Obama’s plans are for mortgage reform, aimed at making sure the housing recovery does not stall. But is this really going to help?

Fannie and Freddie are Fired

Perhaps the greatest single reform measure Obama has been advocating is the “winding-down” of Fannie Mae and Freddie Mac, two government-sponsored enterprises whose purpose is to buy mortgages from banks and other lenders, package them together into funds or securities, and sell them on the open market to investors. This takes mortgages off the hands of banks and lenders, freeing their capital so that they may keep offering mortgages to more and more home-buyers.

With some $12 trillion worth of mortgages owned or backed by the two enterprises before the housing crisis, they were considered too big to fail, encouraging them into riskier and riskier practices as they approved mortgages to buyers who could not afford them. When the housing market collapsed in 2008, the “implied” government backing of Fannie’s and Freddie’s securities cost taxpayers dearly, estimated at over $187 billion.

Now Obama wants them out of the picture, with mortgages insured and guaranteed by private investors, not public taxpayers. “Private capital should take a bigger role in the mortgage market,” the president stressed. “I know that sounds confusing to folks who call me a socialist,” he quickly jabbed, seeing as it was a fellow Democrat – President Franklin Delano Roosevelt – who initiated the structure during the Great Depression of the 1930s to help home owners keep their homes.

A measure both parties agree on, a bipartisan bill calling for the dismantling of the two mortgage powerhouses is already making its rounds through the Senate. Tennessee Republican Senator Bob Corker, who co-authored the bill, expressed his conviction to Reuters:

“There is real momentum growing to finally move a structural housing finance reform bill that ends the Fannie and Freddie model of private gains and public losses.”

Corker is referring to the double-standard where investors in Fannie and Freddie reap the profits when things go well, while taxpayers bail them out when they get into trouble.

While both parties agree with the concept, experts are cautioning against moving too quickly, as it could send shocks through the mortgage market.

“The leading ideas would reduce the government involvement in housing finance,” Jaret Seiberg, a senior policy analyst at Guggenheim Securities, explains to Reuters. And removing the government’s backing “would mean higher rates for consumers,” he warns.

Ensuring Affordability

The president’s other reforms outlined in Tuesday’s speech seem to already be anticipating those higher costs facing borrowers as the government slowly slides itself out of the picture. After all, if the private market is going to shoulder more of the risk, it’s going to demand more compensation, which could hurt home buyers through higher rates and fees.

For this reason, Obama called on lawmakers to help home buyers by preserving access to the 30-year fixed-rate mortgage and to help existing owners refinance at today’s lower rates by waiving closing costs. And for those who cannot afford homeownership, the president called for supporting low rental housing to help fight homelessness.

Obama also wants Congress to authorize the revitalization of the most depressed, run-down neighborhoods around the nation, tearing down abandoned structures and building up vacant lots. Not only would these projects improve property values in those hardest hit areas, but they would also create jobs for thousands of unemployed.

If some questioned Obama’s ideological leaning with his rejection of Fannie and Freddie in favor of placing the mortgage business more squarely on private investors’ shoulders, all of these other reforms from low-rate refinancing to slum rehabilitation should dispel any notion that he has forgotten which party he leads.

Immigration Reform

Perhaps no other reform measure announced in Tuesday’s speech supports that ideological leaning more than his call for immigration reform.

Between 2000 and 2010, immigrants made up nearly 40% of first-time home owners. There is a huge interest in American homes and properties by investors from abroad, who have greatly contributed to the revival of the housing market over the past 18 months.

The president affirmed that reforms aimed at simplifying the immigration process would keep the recovery alive, not just in housing but also across the entire economy in general. Foreigners who come to live also come to spend, and that influx of capital is sorely needed.

But opponents warn that simply flinging open the gates would not only push property prices in some areas out of the reach of American buyers, but it would also take jobs away from American workers. They are calling on a stringent, more selective process that draws investment from abroad while still protecting jobs for unemployed American citizens.

The New Look of Housing

It is clear that America’s housing market has turned a corner, never to turn back again.

Not only is mortgage financing going to change, but so will investing in the mortgage market. If you have been an investor in the housing market, be prepared to burden more of the risk, though you will likely be compensated by a more attractive yield.

Communities are also changing in ways not seen before, with a greater mix of foreign and domestic ownership side-by-side.

Yet perhaps the greatest change is a new attitude toward responsible homeownership, greater self-discipline toward mortgage obligations, and smarter financial planning.

They say that disasters – terrible though they are – do at least lead to improved safety standards. Perhaps there are some improvements to be redeemed from this housing crisis after all.

Joseph Cafariello

If you liked this article, you may also enjoy:

• The Two Sides of the Housing Recovery
• The Housing Recovery and First-Time Buyers