Robert Feinberg: Former Freddie CEO Discusses Housing Finance Policy

Thursday, 01 Nov 2012 03:00 PM

By Robert Feinberg

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Charles (Ed) Haldeman, the recently retired CEO of Freddie Mac, spoke to an audience at Harvard’s Kennedy School of Government for the 2012 Glauber Lecture. The lecture is named after Robert Glauber, a former Harvard Business School professor, former Treasury official and former board member of Freddie Mac who recruited Haldeman to be CEO. This event provided a useful complement to the recent presentation at the American Enterprise Institute for Public Policy Research on the history of Fannie Mae. Although this was not recognized at the event, Freddie Mac represents the Republican counterpart to Fannie Mae, which has come to be dominated by Democrats.

In his introduction, Haldeman referred to the emotional edge that marks the debate over the role and future of Fannie Mae and Freddie Mac, the so-called housing government-sponsored enterprises (GSEs), and stated his intention to provide a “balanced” view, rather than a “heated and emotional” one. He described the employees of Freddie Mac as “passionate” about their work to the point where they exhibited a religious fervor regarding housing finance, and they found it hard to understand that others could hold a diametrically opposed position.

As discussed regarding Fannie Mae, the mortgage market of the 1930s was built around short-term balloon loans with 50 percent down-payment requirements and had no connection to the capital markets. With the advent of Fannie Mae and later Freddie Mac, mortgages were financed in the international capital markets, underwriting was standardized, rates became relatively uniform throughout the country and homebuyers could obtain a 30-year, fixed-rate mortgage with a modest down payment and no prepayment penalty.

Haldeman sought to refute the argument that Fannie Mae and Freddie Mac caused the 2008 episode of the financial crisis. He argued that their market share had dropped from 75 percent to 40 percent as a result of expansion by banks of their private-label mortgage securities business, so the managers of the GSEs decided that they had to recapture some of this market. He also pointed to statistics showing that delinquencies of loans guaranteed by Fannie Mae and Freddie Mac remained near 5 percent, whereas the prime mortgages that were privately securitized defaulted at a 10 percent rate and the subprime mortgages defaulted at a 25 percent rate.

Crony capitalism was part of the landscape of the GSEs, and Haldeman twice recommended that the audience read Gretchen Morgenson and Josh Rosner’s book titled “Reckless Endangerment” to learn the details of how the GSEs hired government officials and established offices in the districts of influential legislators. (I recall that when the press asked, former Sen. Robert Bennett, R-Utah, the avatar for the GSEs among Republican legislators who was defeated in a primary, about his son Jim working for Fannie Mae’s partnership office in Utah, he responded that the GSEs were never discussed in the family and that another of his children worked for Wells Fargo.)

Haldeman touted the continuing importance of the GSEs, which, along with the Federal Housing Administration (FHA), now finance 95 percent of the mortgages in the country, and he credited the GSEs with restructuring 1.2 million foreclosed mortgages, although this is nowhere near the 4 million figure that the administration has promised — an amount Haldeman called unrealistic.

He added that the GSEs decided not to give in to the pressure to undertake reductions of mortgage principal, because this would have created an incentive for the 80 percent of homeowners whose mortgages are underwater to engage in “strategic default.” Haldeman also faulted the administration for not putting forward any meaningful ideas for reform of the GSEs, and he said his decision to leave was based on his assessment that given the lack of action in and after Dodd-Frank, and the attention taken by the fiscal cliff, there is no prospect of timely action.

In response to a question, he characterized morale at the company as affected by uncertainty on the part of employees as to their job security, heavy losses in their 401(k) plans that were concentrated in company stock and the criticism they endure whenever they are seen in the supermarket wearing the company logo. A low point was the suicide of the 42-year-old CFO, who was not accused of any wrongdoing.

Reviewing the prospects for a restructured mortgage finance industry, Haldeman chuckled as he recalled that the administration had laid out three options back in January 2011: a private model, a public model and a hybrid model. He lamented that the presidential campaign has been bereft of any discussion of this issue. Haldeman forcefully endorsed the proposal by the Mortgage Bankers Association and Jim Millstein, who served as chief restructuring officer at the Treasury Department from 2009 to 2011, for five competitors to be created that would not be backed by the government and would not maintain a portfolio of mortgages, which he derided as an internal “hedge fund,” but would benefit from a federal guarantee of the mortgage securities and would pay a premium for that guarantee similar to the premiums charged for FDIC insurance.

He reiterated the industry view that without a government guarantee, international investors would not buy mortgage securities issued by the new companies, and that privatization of the companies would result in mortgage rates rising to a level that would be politically unacceptable.

An indication of how the mortgage finance industry is evolving in real time was provided by Jesse Eisinger in an article titled After Bailout, Giants Are Allowed to Dominate Mortgage Business in The New York Times. The article quoted experts as saying that the historically low mortgage rates have enabled JPMorgan Chase and Wells Fargo to achieve wide spreads between the free money provided by government policy and the rates they can charge for scarce mortgage credit. Eisinger also cited a speech decrying this state of affairs by William Dudley, president of the Federal Reserve Bank of New York, and criticized policymakers for “allowing takeovers without forcing weak competitors to get healthy quickly.” However, the weak competitors are weak for a reason and were evidently chosen to be left behind because they have not achieved the status of Too Big To Fail that the authorities insist has been eliminated by the Dodd-Frank Act.

Please be assured that if and when the future of Fannie Mae and Freddie Mac returns to the policy agenda, there will be pitched combat over whether to reinstate, at the behest of the industry, a model that looks substantially similar to the one that failed so spectacularly in 2008. However, if no action is taken, existing legislation calls for the GSEs to remain in place. This would become, so to speak, the “default” solution.

Robert Feinberg served on the staff of the House Banking Committee for the 10 years that encompassed the savings-and-loan debacle and the beginning of its migration to the banking sector. Subsequently, he has consulted on issues related to the crisis for law firms, accounting firms, securities firms and trade associations.

Feinberg holds a BS.E. from the Wharton School and a J.D. from the Law School of the University of Pennsylvania. He has drafted dissenting views on landmark banking legislation, contributed to a financial blog and written hundreds of reports for clients to document the course of the financial crisis as it has unfolded over the past three decades.

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