- This “bi-partisan” Johnson-Crapo plan contains provisions which will lead to debased lending standards.
- The pro-cyclical Johnson-Crapo plan would increase the wrong kind of debt for our economy.
- The Johnson-Crapo proposal assumes the government would be better at pricing risk than the private market.
The legislative outline released yesterday by Senate Banking Committee Chairman Tim Johnson (D-SD) and Ranking Member Mike Crapo (R-ID) will not protect taxpayers from future bailouts. The proposed legislation will almost certainly include a new explicit government guarantee for a large swath of the home mortgage market. This would be in addition to the existing explicit government guarantees for the FHA and Ginnie Mae.
Replacing Fannie Mae and Freddie Mac’s implicit guarantee with an explicit one will also not protect taxpayers. The proposal assumes the government would be better at pricing risk than the private market. The examples of the government’s mispricing of risk are legion—flood insurance, Medicare, and pension guarantees immediately come to mind. But what about the 10 percent private capital requirement? Deposit insurance is based on a similar concept, yet it also has failed—the savings and loan deposit insurance bailout (FSLIC) and the TARP bailout of the FDIC come to mind. And let us not forget, Fannie Mae at one point had a similarly high capital requirement which was whittled away over time by Congress.
This “bi-partisan” agreement, like the inaptly named Fannie and Freddie “Safety and Soundness Act of 1992” before it, contains provisions which will lead to debased lending standards:
- “Ensure that affordable, 30-year, fixed-rate, prepayable mortgages continue to be available”;
- “[a]ffordability remains an important consideration”;
- “Facilitate broad availability of mortgage credit for all eligible borrowers in all areas and for single family and multifamily housing types.”
As with all complicated legislation, the devil is in the details. As an indication of what “broad availability of mortgage credit for all eligible borrowers” means, one need look no further than this statement by FHA Commissioner Carol Galante one year ago: “The obligation that I have is to ensure that lenders using the FHA program are lending to as full a spectrum [down to 3.5 percent down with a 580 FICO score] of the credit box as possible.”
The pro-cyclical Johnson-Crapo plan would increase the wrong kind of debt for our economy—debt that bids up existing housing assets and the price of the land they sit on, creating a temporary wealth effect and a crowding out of private capital investment that is much needed for a productive economy and increased job growth.
Edward J. Pinto is a Codirector of AEI’s International Center on Housing Risk.