The Wall Street Journal today has an editorial http://on.wsj.com/1491miA laying out conclusions from a recent Congressional Budget Office study on the GSEs. The Journal highlights CBO findings that a significant rollback of or even an end to Fannie Mae and Freddie Mac would have negligible market impact. The Journal does, however, discount CBO’s forecast that FHA would pick up at least a good part of the GSEs’ high loan-to-value ratio business in their wake.
We remind clients that our assessment of this study earlier this month highlighted another important point: for the first time, CBO proposes an auction method to liquidate the GSEs and at the same time to determine the price private capital will pay to take over lower-LTV mortgage securitization. In our view, the auction idea has bipartisan political appeal – it phases out the GSEs without immediately replacing them with a mandatory set-up for private securitizations that Democrats feared would freeze out the thirty-year fixed-rate mortgage.
However, because the auction idea also relies on private capital, it should be appealing to the GOP.
In any priced auction system in which private capital pays for the privilege of a GSE guarantee, banks are likely to be adversely selected – i.e., they will pay more than non-banks – because they need the agency backstop for capital, liquidity, margin and other purposes that have nothing directly to do with mortgage finance. This is particularly true for the largest banks under the biggest regulatory gun. However, the auction idea may also be problematic for smaller mortgage lenders, including community banks. CBO discounts this issue, but we think it is a major political consideration not just for this idea next year, but indeed for any reform initiative.
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