When the Treasury and HUD housing-finance plans were released yesterday, media coverage pooh-poohed the papers on grounds that they did nothing unexpected to Fannie Mae, Freddie Mac, or the FHA.  This is like saying that a downpour that changes the course of a river didn’t make all that much different since the river is still wet. There is indeed no announcement of imminent demise for the GSEs and Ginnie Mae as we have come to know, if not always love them.  That said, there is scope for enormous strategic realignment in the very near term now that Treasury has laid out what it is willing to contemplate under the preferred-stock purchase agreement first struck in the midst of the 2008 crisis.  The Obama Administration kept the GSEs as they were due to the power of this agreement; the Trump Administration clearly plans to use it as a vehicle for the dramatic reform also favored by its FHFA director.

Three in-depth FedFin reports lay out strategic issues. The first considers the full scope of administrative and statutory recommendations, discounting the likelihood of statutory change to focus on what FHFA and HUD are most likely to do now that they have Treasury’s green light.  A second report makes it clear why Congress won’t advance broad reform, although the coast is clear for administrative action.  The final, forthcoming report charts private-sector winners and losers based on the new U.S. housing-finance configuration.

And there will be plenty of both.  One of the most interesting – and widely overlooked – actions in the Treasury report is a request to FHFA to recalibrate GSE regulatory-capital requirements to eliminate the GSEs’ arbitrage advantage. This has much to do with the GSEs’ quasi-governmental status as it does with the generous, if not altogether lax, capital rules that have long applied to the GSEs even as bank capital standards became far more stringent after 2013. 

Treasury and FHFA plan to work on a new capital framework that, under FSOC, could involve not only the GSE-capital redo FHFA proposed in 2018, but even a rewrite of the banking rules to reduce favored treatment for GSE obligations to give PLS an even chance.  As we noted yesterday, FSOC already has a review of non-bank origination and servicing risk in the works.  We expect this overall recalibration of GSE capital also to take these risks into account in concert with a campaign to reduce not just the GSEs’ arbitrage advantages, but also those enjoyed by nonbanks.

Specific recommendations for new capital standards on credit-risk transfer positions are also significant.  We have long noted that the Senate approach to GSE reform would squeeze out banks that simply couldn’t match capital-markets players as first-loss enhancers due to costly capital requirements.  But, if the GSEs are able to do business only with counterparties with tough capital as Treasury proposes, banks will finally stand a chance.  However, if the banking agencies balk at easing these tough capital rules and FHFA holds firm on like-kind capital, then first-loss risk providers will be few and far between.

Indeed, it’s not just Treasury and FHFA who have it in for regulatory arbitrage.  HUD’s reform plan also takes aim at it, looking for ways Ginnie Mae could control counterparty risk that recalibrates the competitive balance between nonbanks and bank originators and servicers.

And, if the capital rules weren’t enough, the reform plan now also posits new GSE liquidity-risk requirements and even new requirements for GSE-issued total loss-absorbing capacity (TLAC) rules comparable to those imposed on U.S. and global GSIBs.  Anyone who thinks none of these capital, liquidity, and resolvability standards will make a dent in mortgage finance doesn’t know mortgage finance.