Isn't Anyone in Washington Paying Attention?

We are all, by now, well aware of the $400 billion travesty created by subprime lending and the fundamental structure of Fannie Mae and Freddie Mac.  A platform which includes private profits and public liabilities should have been conceptualized in a different fashion. In the 1980′s, the government thought an increase in the homeownership rate from 64% to 75% would be positive for the country and incentives were given to these government sponsored enterprises to help achieve that objective. They loosened their standards, expanded their platforms and supported riskier loans (over 20 years later the homeownership rate has only increased 3.4% to its present level of 67.3%).  Subprime lending was a central catalyst for the difficulties faced by Fannie and Freddie as loans were made to people who did not qualify for them. A bubble was created and spectacularly burst when we discovered that housing prices could not keep going up forever. Lesson learned, right? Think again.Enter the Government National Mortgage Association, aka Ginnie Mae. Ginnie’s mission is to bundle, guarantee and sell mortgages issued by the Federal Housing Administration. The FHA is the government’s in-house mortgage operation which, given the difficulties in the housing and related markets, has grown spectacularly as it filled a void. As the FHA has grown, so has Ginnie Mae. FHA/Ginnie now guarantee $680 billion of mortgage securities, a 400% increase since 2006.In June alone, Ginnie had issued $43 billion in mortgage backed securities. By the end of next year, it is expected that Ginnie’s mortgage exposure will eclipse the $1 trillion mark. With the activity of late, Ginnie has now swaped positions with Fannie Mae in terms of loan volume.Here is what is troubling: the government has eased FHA’s already loose underwriting standards while every other lender on the planet has tightened them. FHA’s program and oversight are notoriously lax. It accepts very low downpayments (3.5% generally) and will make loans to borrowers with below average to poor credit ratings. They also have other policies which, among other things, allow borrowers to finance closing costs which can reduce the downpayment to a mere 2%. Given the tremendous growth of the operation, it is even more likely than before that fraud protection mechanisms will be ineffective. This is called subprime lending and Washington is running the show.Additionally, FHA has been the recipient of a Congressional blessing to assist with the refinancing of hundreds of thousands of subprime and other exotic loans extended to borrowers who can’t (or wont) make their mortgage payments. Through the Home Affordable Modification Program, the FHA will refinance these troubled loans by reducing the balances of the loans by as much as 30%. The stated purpose is to reduce foreclosures but someone has to pick up the tab. Guess who? Right, the US taxpayer.Fannie Mae and Freddie Mac carried “implicit” government guarantees. (These are off balance sheet liabilities for Uncle Sam which, if reported properly (no one believes the government wont stand behind them), would increase our national debt by 75% to about $12.7 trillion and a more than 90% debt-to-GDP ratio, but questioning the integrity of the National balance sheet is another topic for another post). FHA and Ginnie carry “explicit” guarantees of the government.HUD’s Inspector General issued a report recently indicating that FHA’s default rate has risen to 7% which is more than double the level considered tollerable for lenders. Moreover, the report found that 13% of the loans were delinquent by more than 30 days. Because of these facts, the FHA’s reserve fund has been reduced by more than 50%,  going from 6.4% to about 3%. Why is a 33 to 1 leverage ratio ringing a bell to me? The report went on to say that, “FHA may need a Congressional appropriation intervention to make up the shortfall.”  It sounds as if yet another bailout is on the horizon.Doesn’t Congress have a responsibility to the US taxpayer to secure the soundness and safety of FHA? Common sense reforms would show that attention was being paid to the extraordinary things that have occurred recently. Why not increase the downpayment requirement to a level where the borrower has something to lose by defaulting? This would be the best protection against default and foreclosure. Why not participate in the upside of the home’s value given the generous terms upon which loans are made. The “participation” could protect the taxpayer from inevitable losses.  This would allow those who benefit directly from the program to help support the program.I know that the function of the FHA and Ginnie Mae are fundamentally well intended and necessary. The government needs to provide an overly reasonable path to the “American Dream” for those who need a helping hand. The point is that we were just afforded the opportunity to learn a VERY costly lesson about the dangers of subprime lending. It is a big concern that the lesson has seemingly been missed by those on Capitol Hill and the government is now explictly running the biggest subprime lending operation in the world.