In this report, we begin our analysis of the implications of the newly-final U.S. Basel III rules on mortgage finance. We start here with the numerator – that is, what’s “capital” – and the overall framework of the new rules, focusing in particular on how the “supplemental” leverage ratio affects the ability of the biggest banks to bet on MBS. Subsequent reports will analyze in more detail the decision to retain current mortgage risk weightings and the new, stringent approach to structured asset securitization. In the near term (i.e., next two to three years), these rules apply only to big banks, not to large insurers and commercial companies that happen to own banks, giving them a significant advantage in several key mortgage-market functions over traditional players. This is, though, nowhere near as much an edge as granted de facto to non-banks outside the immediate or eventual scope of regulatory capital. Fannie and Freddie’s dominance will thus only increase, at least for as long as FHFA or Congress leave them mostly as is.
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