Chairman Hensarling, Ranking Member Waters, and Members of the Committee:
Thank you for this opportunity to testify on the Protecting American Taxpayers and Homeowners Act of 2013. This act is particularly well-named; by taking the government out of our housing finance system we will create a stable system for financing homes in the future while protecting taxpayers from further bailouts and homeowners from the dangers of foreclosure.
Although there seems to be a near-consensus that Fannie Mae and Freddie Mac should be eliminated, there is no consensus on what should replace them. Since the financial crisis in 2008, almost every plan that has been put forward in Washington has involved one or another ingenious way to wind down Fannie and Freddie while keeping the government involved in the housing business.
This reflects a kind of delusion—that Fannie and Freddie were bad but the government’s involvement in housing finance is somehow good. In reality, Fannie and Freddie did what they did, and became insolvent doing it, because they were backed by the government. If Congress adopts another plan for the government to back the housing finance system we will end up the same way—with a huge mortgage meltdown, a major recession, taxpayers on the hook for billions of dollars, and millions of families losing their homes.
The last point finally got to a former chairman of this committee, Barney Frank, who said in 2010, "I hope by next year we'll have abolished Fannie and Freddie. It was a great mistake to push lower-income people into housing they couldn't afford and couldn't really handle once they had it." And he added, "I had been too sanguine about Fannie and Freddie."
It’s easy to see how government-induced declines in underwriting standards happen. Every member of this committee knows how hard it is to cut spending. That’s because every member of Congress wants to do something for the people who elected him or her. Congress likes to spend because the voters like it.
All the better, then, when the benefits for constituents do not involve spending. Fannie and Freddie were and are examples of this. Because they were controlled by the government, they could be manipulated to give subprime and other low quality mortgages what was in effect a government guarantee, so that financial institutions and others would buy these mortgages when in any other world they would not think of taking such a risk.
This was a gift to constituents who did not have the financial resources or the credit standing to get a mortgage. It was no different from the usual spending program, except that it did not involve appropriations or increases in the debt—until the whole system crashed because of low-quality mortgages in 2008.
Housing finance is a particularly good example of this process because Congress also saw fit to extend the benefits of the GSEs and the FHA to wealthy constituents, allowing people who were buying million dollar homes to get the benefits of FHA insurance or a GSE mortgage.
What makes anyone think that this won’t happen again if the government is going to back mortgages? The Corker-Warner bill, which has received a lot of favorable attention because it is bipartisan, is an example of the proposals that will eliminate the GSEs but put another government program in its place. Investors would be protected, but the government insurance program that would replace Fannie and Freddie will eventually be pressured by Congress to make the same risky mortgages that brought down the financial system in 2008. We should recall that FHA started its life requiring 20 percent downpayments. Now it requires 3 percent or less—and needs a taxpayer bailout.
This history should tell all of us that the bill now before this committee is the way to go. It would take the government out of most of the housing finance market, although it would provide for a new and more prudent FHA for first time low-income home buyers.
I have some suggested improvements for this bill—detailed in my written testimony—but on the whole it shows the way out of the repetitive cycles of failure that have been the story of the housing finance market under the government’s control since the end of the Second World War.
Instead of yet another government program—and another meltdown in the future—the PATH Act would open the way for private securitization to become a major source of housing finance.
In this, the draft is following the views of former Fed chair Paul Volcker, who said in 2011:
There is one very large part of American capital markets calling for massive structural change that so far has not been touched by legislation. The mortgage market in the United States is dominated by a few government agencies or quasi-government organizations. The financial breakdown was in fact triggered by extremely lax, government –tolerated underwriting standards, an important ingredient in the housing bubble. The need for reform is self-evident and the direction of change is clear. We simply should not countenance a residential mortgage market, the largest part of our capital market, dominated by so-called Government-Sponsored Enterprises.
The residential mortgage market today remains almost completely dependent on government support. It will be a matter of years before a healthy, privately supported market can be developed. But it is important that planning proceed now on the assumption that Government-Sponsored Enterprises will no longer be a part of the structure of the market.