Freddie Mac

PE Firms Renting Homes Proves How Fraudulent Federal Housing Policy Is

Since when is this a thing? (cnbc)

Since when is this a thing? (cnbc)


New York Magazine had a truly scathing article about the Department of Housing and Urban Development under Secretary Carson last week and it’s worth reading. He is as disinterested and unaware of housing policy as many feared, but surprisingly, to me anyway, he is also as prone to incompetence, nepotism, and cronyism as his boss. I could go on about how bad things are at HUD and why that is terrible for the affordable housing crisis, but one person who played a minor role in the story deserves more focus: Maren Kasper.

Ms. Kasper’s presence in government offers a chance to talk about the significant growth of private equity firms in the single-family housing market and why it confirms how fraudulent the federal government’s stated policy of encouraging homeownership truly is. It also shows that addressing the affordable housing crisis is not a priority of the federal government under either party.

Before I get to Ms. Kasper, let’s quickly review what happened during the foreclosure crisis in 2007–2008. The long-held bi-partisan focus on promoting homeownership in the US created a policy apparatus that over decades became a two-headed monster that was bound to devour itself and us along with it.

On the one side, through massive Government Sponsored Organizations (GSOs) like Fannie Mae and Freddie Mac, the federal government subsidized homeownership by backing mortgages and allowing them to be securitized and traded on secondary markets. Over time, mortgages were bundled and unbundled, divided and combined, sold and resold to the extent that it was hard to know where they originated. The largest, most powerful banks in the country traded in this profitable and increasingly complex system, which became a main engine of the American economy.

On the other, in the interest of raising homeownership rates, government policies created incentives for banks and other mortgage lenders to offer increasingly absurd or pernicious mortgages for traditionally unqualified buyers — the most infamous example being the sub-prime mortgage. Millions of Americans took out mortgages that they could not realistically expect to support based on willful ignorance, carelessness, and outright criminality from the industry.

You know the rest. Inevitably, the system collapsed on itself and caused the greatest economic crisis since the Great Depression. An estimated 10 million Americans lost their homes and 30% of all homeowners were underwater in their mortgages. The financial system was bailed out and Fannie and Freddie came under government receivership, where they remain today.

Some banks like Wells Fargo, Bank of America, and Goldman Sachs were forced to pay millions in fines and one or two low-level people went to jail. Some lending policies were tweaked and financial regulations were added in Dodd-Frank. Some people continued to lose their homes or remain underwater. The country and the press largely moved on.

But the crisis never really went away. That’s because the underlying roots of the crisis were never honestly accounted for or discussed at the policy level. The bigger problem is that Americans can’t afford basic goods and services anymore without taking on huge amounts of debt. 

Rather than address ways to increase Americans’ incomes and purchasing power, or to control the costs of important needs like housing, education, and healthcare, we’ve encouraged increasingly exotic financial instruments to fill the gap.

That’s what our federal housing policy actually is — a series of exotic financial instruments. On the surface, it provides a means for Americans to buy homes, but look deeper and it is in fact a giant wealth transfer for financial institutions. 

By allowing housing — the land, the structure, and the mortgage — to become a commodity (through the policies that I mentioned earlier, but just as importantly, through the tax code) they’ve increased the incentive to speculate on housing just like any other traded good.

In the immediate aftermath of the crisis, this naturally led to a rush of private equity firms into the housing market, buying up thousands of foreclosed homes on the cheap. 

The government could have helped keep families in these homes, could have kept ownership of them, or could have sold them to non-profit housing groups. Instead it allowed speculators to dominate this vulnerable market, flying in the face of what the goals of housing policy were supposedly intended to do.

That brings us to Ms. Kasper, who worked at a west coast startup company called Roofstock before she entered the Trump Administration. The company is a platform that helps investors buy single-family homes with the intention of renting them. Roofstock offers a chance for smaller investors to compete with PE firms in the same speculative game.

The space for renting single-family homes is rapidly expanding, thanks to the government. Just this month, Blackstone merged with Starwood Waypoint Homes to form one of the largest landlord entities in the country, with over 80,000 homes under management. The NY Times had a detailed article about the new focus and it’s worth checking out. 

In 2015, when Blackstone originally announced it was spinning-off its business into a publicly traded home rental company, it also quietly announced that Fannie Mae was backing $1 billion of its mortgage debt.

If it seems counter-intuitive for a single-family home to be owned by large private equity firms, you’re right. If it seems counter-intuitive for the federal government to support private equity firms — or investor platforms like Roofstock — in owning single-family homes, you’d also be right. But that’s exactly what is happening.

So let’s be clear: it has been federal policy to encourage homeownership for the average American family for 70 years to create an ownership society, to promote economic development and strengthen civic commitment (with decidedly mixed results). The government has spent trillions of dollars subsidizing the industry as a result. Now, that policy directly supports the opposite. How does that make any sense?

It doesn’t. The truth is, secure housing for Americans may have been the initial goal of federal policy (for white Americans, anyway) but by the 1970s the true goal was to enrich private interests through the commodification of housing. 

The move to subsidize private equity firms as they rent out homes just shows that this reality no longer has to be hidden from the public. This contradiction doesn’t factor in to policy discussions — at all. Who in either party is willing to talk about this? Who is willing to question if this is good for the country?

It’s also clear that this trend is making it harder for Americans to afford homes, particularly at the lower-end of the market and in hotter secondary markets. First time buyers are competing with these investors for the same housing, but often don’t have nearly as much cash on hand for the deposit. In many cases, they instead get to rent those homes for increased rents. The federal government has increased the cost of shelter for Americans.

It is clear that affordable housing will not be a central goal in the Trump Administration. HUD is in serious trouble under Secretary Carson. Massive budget cuts are expected to further weaken the agency’s mission. Tax reform threatens the only (flawed) federal affordable housing policy, the Low-Income Tax Credit. And the desire to deregulate the financial industry further only speeds up a future crisis.

As a coda, Ms. Kasper, the only visible member of the administration with even a modicum of housing experience, is now working at Ginnie Mae, which like Fannie and Freddie, backs mortgages. She will likely pursue more support for private investors to enter the single-family housing rental market.

If this doesn’t show how bad federal housing policy is, I don’t know what will. We have learned little from the Great Recession and we have no new ideas at the federal level for the ongoing affordable housing crisis that doesn’t rely on the same flawed market thinking. Until either party is confronted with the flawed logic of our housing policy, the cycle of crisis will continue.

The New York Times Doesn't Get the Housing Market

Wait, seriously? (newyorktimes)

Wait, seriously? (newyorktimes)

This week the New York Times published an article about how the national housing market “finally looks healthy” that was at best misleading and at worst irresponsible (it was also lazily edited).  The writer bases his argument on a joint release from the US Census and HUD that shows an increase in housing sales of 12% over last month and 31% over the same month last year.  On the surface, this could be a positive sign that the housing market is returning to ‘health’, but once you dig into the numbers, the picture is more complicated.  In fact, if this writer stepped back and examined the broader context of the economy, it would be hard to argue that we have a healthy market at all. This reveals a larger problem about how the media talks about the housing market and what it hasn’t learned from the 2008 crash.

Let’s start with the data from the joint report.  Though the article does point out that this data has a wide margin of error and is volatile, it still proceeds to use it as the core of the argument.  The problem is, this data does have a wide margin of error and is incredibly volatile because it’s based on a quick sample turnaround. You only need to look at the previous month’s release (June 2016) to see the difference in the July report’s revised totals.  They lowered the June numbers by 10,000 homes.   The report itself is clear about expectations and explains its methods and possible errors.  It also makes it clear that it takes a quarter to get an accurate sense of the trends within the market.  You can quibble with how different the data ends up being from what is currently reported, but the point is, this is a thin piece of evidence to base an entire argument on. 

Now, let’s just assume that the data is more or less accurate. We are still left with a more complicated picture than the article suggests, particularly when trying to compare the differences among regions.  Though the numbers are broken down into 4 regions, the raw numbers don’t show how wildly different the housing market is, even in certain parts of the same region.  For example, prices and availability for housing in and near NYC remain a competitive death-match while parts of Connecticut less than an hour from New York are struggling.   Does that mean the housing market is healthy?

The reality is that economic growth is happening in an increasingly smaller number of cities (and it’s almost exclusively cities) in certain pockets of the country that also have extremely expensive housing markets.  This is because of a limit in the supply of housing in these markets relative to the demand, whether as a result of geographical or political limitations. In either case, this situation is making it harder for middle class workers, let alone poorer workers, to be able to locate in these hot job markets. Hot job markets should create a housing boom, but that’s not what’s happening and it’s hurting our productivity as a nation.  That’s not the sign of a healthy housing market.  

This article also somehow neglects to mention (which is surprising given that the Times has covered this issue in another section recently) who is buying up a lot of these houses in certain market segments.  The entry of private equity firms into the housing market has been a quiet, powerful force building over the last 10 years.  Though the number of houses under control by private equity on a national level is relatively minor, the concentration of their portfolios in certain markets has had a huge impact on the perception of the housing market as a whole.  In many cases, they are buying up homes for straight cash.  They then rent them until the market reaches a certain point to flip them.  This speculation is perfectly legal, but it distorts the actual activity of house sales.

Also unaccountably left unsaid is the question over the financial health of the housing market.  No, another crash is not just around the corner, but the continuing receivership of Freddie Mac and Fannie Mae (who collectively back over 60% of US mortgages) has left the previous crash in an unresolved, frozen state.  Though many of the excesses that led to the crisis have been removed, the flawed assumptions underlying the housing market – that homeownership is a good political policy, that the government should support it as an economic policy - remain in place.  The fact that this policy costs taxpayers $150 billion a year while still failing to provide adequate housing for millions of Americans should challenge the assertion that this is a healthy market.  It’s not even a true market.

It is a mystery how the same paper that has addressed all of these issues at various times could allow an article to be published that breezes passed them all.  Maybe it’s just laziness or someone having an off-day, but it could also be someone pushing a narrative in search of story.   The media primarily talks about the housing market as an economic trend.  In doing so, it internalizes the assumptions of people who profit from the housing market regardless of how that process impacts the larger society and economy.  The housing market looked healthy, even robust, in the lead up to the 2008 crash, but underneath the sales numbers were real problems with earnings, financial instruments, and exploitation that went underreported until it was too late.  It is stunning and ultimately disappointing to see the Times revert back to this laziness and water-carrying.

It’s easy to cherry pick data from a report or to draw phantom conclusions from it, but it’s more important to report the full context of an issue to readers.  The housing market is not healthy.  Arguably it has never been healthy.  Trying to present it that way does a terrible disservice to the people that are suffering from it and to the people that are trying to solve it.

Meet Your New Landlord, America: Wall Street

What mortgage crisis? (NYT via RealtyTrac)

What mortgage crisis? (NYT via RealtyTrac)

The New York Times has been running a series about the quietly dominant role private equity firms have started to play in many aspects of our lives - from responding to 911 calls to writing local laws - but this week it finally addressed what I think these firms are having the biggest impact on: buying and renting homes.  I've written a number of blogs about how the mortgage crisis never really ended and that is partly because private equity firms swarmed the housing market as banks retreated after the 2008 crash. Despite putting billions of dollars into housing, these firms have only masked the crisis and have not solved it by any means.

Over the past 6 years alone, a small handful of private equity firms have bought up over 500,000 homes across the country while avoiding regulations that banks were subject to which were intended to prevent foreclosures.  As a result, instead of fundamentally addressing the structural causes of the foreclosure crisis, we have in many ways maintained the same problem with fewer policy tools at hand to address them.

I won't rehash all of the details of the 2008 crash here, but want to point out that an estimated 10 million Americans lost their homes during the crisis, representing the single largest collective migration of Americans in history.  

The basic formula for the crisis, as I've seen it, had three pillars:

1. Unfounded societal preference for homeownership.  

2. Excessive governmental support for homeownership.  

3. Reckless financial exploitation of homeownership. 

You simply can't create such a devastating, slow-moving event like the 2008 crash without indicting everyone.  We've crafted the American Dream to include a house and a green backyard as opposed to an apartment and a public park. We've created 80 years of laws to subsidize homeownership for some while excluding most minorities. And we've actively or passively encouraged financial practices that range from unethical to illegal. So the next time you hear someone say "Well, that person should have known they couldn't afford a $600,000 house," remember that everyone was telling that person that they could and should. The deck was thoroughly stacked against them.

When the crash occurred, millions of homeowners were defaulting on mortgage payments and the institutions backing those mortgages came under considerable financial pressure, particularly Freddie Mac and Fannie Mae, the federally-sponsored private companies that back most private home mortgages in the country.  As I've previously discussed, there is an ongoing debate about how much trouble Freddie and Fannie were actually in, but the Bush Administration and then the Obama Administration balked at pressure from financial leaders to deem the companies at-risk and took them over, infusing them with nearly $500 billion in tax dollars. 

At this point, the US Government had several options to solve the crisis. They could 'bail out' the financial institutions providing liquidity for the mortgage market and hope that the market self-corrects; they could 'bail out' homeowners and reduce principal payments on individual mortgages relieving millions of Americans of the risk of losing their homes; and they could prosecute rouge actors in the market and further regulate how banks provide mortgages to homeowners. They could also begin to address the underlying economic and cultural conditions that led to the crisis in the first place.

Technically, the US Government has done the first three, but realistically the main trust of the government's intervention, the Troubled Asset Relief Program (TARP), bailed out financial institutions and ignored homeowners and bad actors. Of that $500b I mentioned earlier, only a small portion went to actual homeowners, resulting in only about 1.2 million who received even modest principal reduction on their mortgages.  As for sending people to jail, only some of the smaller, egregious actors in the market were prosecuted while major banks such as Wells Fargo and Bank of America escaped with slap-wrist fines.  And finally, there wasn't much discussion about root causes of the crisis or what broader policies could be created to address them.

Ironically, it was some of the regulations introduced during this period, and further flushed out in Dodd-Frank, that caused banks to turn away from mortgages, leaving a vacuum for private equity firms. Whereas banks were required to seek out low-income homeowners and to resist foreclosures at all-costs, private equity firms do not face any such restrictions or mandates.  Why? Because banks borrow money from (and are accountable to) the government and private equity firms don't, relying instead on private investors. 

What is more troubling is the government's eagerness to work with private equity firms in the housing market despite not obtaining the same policy compromises from banks. Federal housing agencies have sold off over 100,000 homes with trouble mortgages to these firms in the last few years, often at steep discounts of 30%. If the US government valued low-income homeownership and averting foreclosures so much, you would think it would require similar concessions from private equity firms in order to get such good deals.

In theory, private equity firms buying these troubled mortgages have some positive effects.  By one count, 10% of mortgages sold to these firms were abandoned homes that were put back on the market.  This obviously is good news for some buyers and surrounding homeowners.  The billions of dollars put into the housing market have also stabilized housing prices nationally, certainly helping millions of other homeowners. This has dulled the overt signs of distress from the mortgage crisis.

In practice however, it appears that private equity firms are not having a completely positive impact on the communities they are operating in.  By most accounts, they are more likely to foreclose on residents than banks.  The NY Times found that one company, Lone Star, has foreclosed on 20% of the properties it has bought from the federal government and only restructured about 9%. This has proven especially true in certain markets that have rebounded faster than the country as a whole.  Parts of Florida and Ohio where these firms own homes have seen higher foreclosure rates than other states.  These firms are clearly clawing back and flipping houses that are recouping value quickly and sitting on ones that aren't until they do. They don't appear particularly concerned about the impact those decisions have on the residents and communities affected by them and, in their defense, they don't have to be.

Far from restoring the housing market, this type of massive speculation further warps it by encouraging more foreclosures that harm families and communities (often by massive conflicts of interests within these companies), removing housing stock in attractive markets from local buyers (or putting more pressure on prices), and by trapping people in false foreclosure proceedings through clerical errors due to amassing millions of mortgages in a short span of time. 

As many housing advocates, housing lawyers, and, increasingly, government officials are starting to notice, private equity firms are no better at handling the crisis than banks or government agencies and might be worse. They have not kept enough people in their homes. They only focus on markets that probably would have recovered anyway while ignoring potentially needier markets.  They are also only beholden to investors - and the returns on the bonds created by these assets have been keeping them happy.  (A further irony is that some of these investors are public pension funds that likely have members that are being affected by the crisis.) This is the best outcome we can hope for?

This is why I maintain that the mortgage crisis has never ended.  Those three basic housing pillars that led to it are still in place.  Unless we question and reassess all three of these pillars, we're just going to recreate the crisis over and over again.  We can't keep relying on exotic financial products to 'cure' the housing market whether they come from private equity firms or banks. We must create policies that create affordable housing in a variety of forms in a variety of places. We can't keep allowing the government to warp housing policy which gives away too much tax money while preventing too many Americans from actually finding a secure home.  We must steer federal policy towards housing as a right and not a wealth-vehicle. Finally, we can't keep clinging to the false notion that homeownership is the key to the American Dream. Perhaps it is for some Americans, but surly having a safe, affordable place to live whether you own it or rent it should be obtainable for all Americans.

Right now our public and private sectors are failing us all in housing.  We can keep punting on addressing the economic conditions that make it so difficult for Americans to afford a decent home on the one hand but make it so attractive for powerful financial institutions to exploit it on the other. We can keep papering over the dire conditions that many homeowners and renters are currently in hoping that the economy bails us out. Largely because of private equity firms stepping in as our nation's landlord, many of us have stopped worrying about it altogether. Recent history should make us wary of stopping there.

Fannie Mae and Freddie Mac: How the Government has Warped the Housing Market for 80 years (Part 2)



Just in time for the second part of our discussion of Fannie Mae and Freddie Mac, the US Treasury has announced this week that it will spend $1 billion on blight in American neighborhoods.  The money will mostly be used to relieve some homeowners that are underwater in their mortgages to prevent them from foreclosing, but it will also continue the effort to demolish abandoned homes that hurt surrounding property values in at-risk neighborhoods.

I'll get to why this policy is tied to Fannie and Freddie at the end of the post.  First, let's jump back to where we left off, with the lead up to the 2008 financial crisis.

After Fannie and Freddie were officially privatized in the early 1970s, they remained government-sponsored entities (GSEs) which meant that though they were publicly traded companies, they enjoyed easy access to low-interest credit from the government, were the only 2 Fortune 500 companies exempt from publishing financial statements with the Securities and Exchange Commission (SEC), and were also exempt from local and state income taxes.  It was thus assumed, correctly as it turns out, that even if these organizations ran into trouble, the US taxpayer would be there to bail them out.

The true foundation of the 2008 crisis started in the 1980s when Fannie started issuing mortgage-backed securities, which are financial instruments used to bundle together lots of individual mortgages and sell them to other investors.  The up-side of MBSs was that it further infused capital into the housing market and reduced the risk of any individual foreclosure damaging the market by packaging geographically diverse sets of mortgages. The down-side of course was further separating the individual borrower from the direct lending institution which unknowingly created massive uncertainty about the value and security of mortgages. Unlike Freddie, which generally used MBSs to pass along this risk to investors (until the 1990s anyway), Fannie actually began to buy MBSs from other institutions and managed their own portfolio, taking on additional outside risk. This was largely in response to Wall Street firms doing the same, and, as a private organization responsible to shareholders, Fannie wanted to compete in a growing, lucrative market.

Again the idea with Fannie and Freddie was to increase capital flow in the housing market and, though they increased complexity and speculation in the market, it was a bi-partisan policy choice with broad popular support.  Increased complexity always means the increased risk of the unknown, but with the government implicitly backing Fannie and Freddie, the system churned on and on. According to the Congressional Budget Office, in 1981 Fannie and Freddie held $60 and $5 billion in mortgages respectively; by the late 1990s they held $114 and $21 billion.

It's also important to point out that many people with or without ties to Fannie and Freddie began to speak out about the mission creep of both organizations.  It was one thing to increase liquidity in the market to encourage homeownership, it was another to start, effectively, speculating on the housing market and amassing huge, profitable portfolios of unaffiliated mortgages.  This type of expansion would most certainly not have happened had they remained government agencies and, paradoxically, the market would probably not have formed such complexity had they not been created.  

The increasing securitization of the housing market on the one hand began to mirror the politicalization of housing on the other over the next decade.  Under President Bush (I) and President Clinton, Congress expanded Fannie and Freddie's mandate to offer affordable mortgages to lower-income Americans by requiring a certain percentage each year go to targeted demographics.   The policy goal in the Clinton administration was to get the homeownership rate to 70% by 2000, which came close at 66%.

BFFs over Fannie and Freddie (

BFFs over Fannie and Freddie (

There were dissenting opinions about expanding the market to riskier buyers, mostly based on the ideological belief that the government shouldn't interfere in the private market or that it would increase systemic risk given the uncertainty of these new buyer's abilities to pay their mortgages.  (Certainly, one can quibble with the idea that the private market would even exist without government intervention, but that's for another time.)

However, no one questioned the underlying assumption that homeownership was inherently better than renting or other forms of living arrangements.  The economy was so tailored to homeownership that it was not, nor is it now, really questioned.  Even if you take away the complete inevitability of the crisis and the billions spent in the bailout for a moment, you can faintly image how those funds, spent over decades, in more housing-neutral policies would have encouraged more investment in cities and sustainable communities that could be better adaptable to the world we live in today. It is also possible to consider how less segregated our neighborhoods could have been without so much public-private intervention. 

That debate didn't happen and instead, the call to expand mortgages to lower-income Americans continued with bi-partisan support. This led to steady rise of sub-prime mortgages, which are mortgages tailored to individuals with little or bad credit and reduced the amount of down payments. The introduction of these securities, and their attractiveness on the market, led to an explosion of irresponsible and predatory lending across the country in the early 2000s.

By 2006 and 2007, thousands of Americans had been missing mortgage payments and began defaulting in waves all over the country.  This can be attributed to explosive interest rates, stagnating wages, the real estate bubble, and a number of other factors. The main point is, the market wasn't working fine. What many observers in the financial world thought were small, localized market adjustments, quickly spread nationally as the confusion over the value of MBSs and who in fact was on the hook for these mortgages began to set in.  These instruments were supposed to reduce the risk of any individual foreclosures damaging the market, but instead hid the true risk of foreclosures on a systemic level from investors and policy makers - causing panic in the market that led all the way to Wall Street.

The financial crisis of 2008 was the worst economic downturn since the Great Depression, but that's really an understatement.  The complexity of the economy, now thoroughly globalized, was even greater than during the 1920s and 1930s and the scale of the potential collapse is still hard to fathom.  But we didn't have a depression because as opposed to the 1929 crash, the US Government - and US taxpayers - saved the day to the tune of about $620 billion in bailout money to major financial institutions - including $187 billion to Fannie and Freddie.

To be clear, Fannie and Freddie did not single-handedly cause the crisis; they were just two of the many badly prepared actors.  It is also still a matter of some debate as to how at-risk they were during the crisis.  At the time of the government take over in 2008, they had a positive net worth against their liabilities. What separated them from other institutions, and what evidently caused the government take over, was their asset-to-capital ratios, which were wildly out of line with other distressed banks. The fear was real that if mortgages kept defaulting at the levels seen in 2007-8, Fannie and Freddie (which owned or guaranteed 56% of American mortgages at the time) would be too over-leveraged to meet their obligations. Given how huge the two companies were, if they failed, there was no telling what would happen to the housing market or financial markets. Whether or not they actually were at-risk became secondary to the perception that they were.

Will the courts like Treasury's song and dance? (bloomberg)

Will the courts like Treasury's song and dance? (bloomberg)

Technically, the US government did not bailout Fannie and Freddie in September 2008 so much as make a massive invest in them, which partly explains the current lawsuit from shareholders. The nature of the takeover meant that the two companies received the $187b infusion of cash and transitioned into government receivership. The original deal called for Fannie and Freddie to pay 10% of their profits each quarter once they returned to profitability, which they did in 2012 (fueling the questions over how troubled they were). They remain in receivership to the present.

The Treasury revived the deal in 2012 to basically take all profits, which means that not only did the Treasury recapture its original $187b investment, but has actually profited to the tune of about $40b.  When challenged about the change in the deal, the US Treasury has claimed that it wasn't a bailout, but an investment, and their continued control prevents further risk in the housing market. We'll have to see how that plays out in court, but don't underestimate the sympathy courts have for shareholders.

If you're confused over why the US government - that started Fannie and Freddie in the first place, choose to privatize it, but still controlled it technically - is now getting sued for taking them back over, that's understandable.  You can make the argument that Fannie and Freddie never should have been privatized given the government's implicit guarantee (that became explicit in 2008) and their policy directives.  You can argue that they never should have existed in the first place.  You can argue that if they were privatized, they should never have still been GSEs.  You can argue that they should be broken up into multiple, smaller private companies to spread the systemic risk.  All of these perfectly valid arguments have been made, whether presently or in the past, but even in the wake of the 2008 crisis, that should have prompted these arguments to take center stage, the status quo (give or take what happens in the courts) will remain for the foreseeable future. The politics and economics don't lend themselves to practical change let alone radical change.

That brings us to the present, where not much has changed in the housing market. Indeed, there are even largely ignored new calls that Fannie and Freddie are at risk again. As mentioned at the beginning of this post, as part of the final distribution of funds from TARP, the 2008 bailout, the Treasury is spending $1b to help some homeowners with underwater mortgages and to even tear down abandoned homes to help with property values.  

This is small potatoes given the quiet, ongoing foreclosure crisis and overall affordability crisis across the country (and given the profits received from Fannie and Freddie), but it reveals the sad irony about the housing market and Fannie and Freddie. Institutions that were set up to help Americans own homes actually helped Americans lose their homes. And when the government had the choice between helping the institutions or individual Americans, it choose the institutions, and, really, their shareholders.

We could be having a national debate about housing policy as a result. We could question whether supporting homeownership is the right use of tax money. We could question if using tax dollars to intervene in the private market is appropriate at all. We could question if the private market can really address the the housing needs that we face.  But so far we haven't. So far our elected leaders have failed to adequately address the affordability crisis that many homeowners and renters face. The lessons of Fannie and Freddie are there to be learned, debated, and acted upon, but we have opted not to, and the crisis continues.

Fannie Mae and Freddie Mac: How the Government has Warped the Housing Market for 80 years (Part 1)

The free market didn't build this.  It didn't even build itself (house logic)

The free market didn't build this.  It didn't even build itself (house logic)

An article in the NY Times this past week discussed the on-going court battle between the US Government and private shareholders over the profits of mortgage-finance companies Fannie Mae and Freddie Mac.  As part of one of the major bailouts of the 2008 crisis, the US Treasury took both companies into government receivership and secured rights to future profits of both institutions along the lines of a 10% dividend each quarter.  Surprisingly, in 2012, the US Treasury revised the deal and has since taken all of the profits from both companies (to the tune of $1.7 billion in Q4 2015 alone) which prompted the first lawsuit in 2013.

This post will be the 1st of 2 that will examine Fannie Mae and Freddie Mac and why they have had such a huge impact on housing policy in this country, whether you are a homeowner or a renter.  The first post will discuss their creation and the policy discussions that drove their evolution.  The second post will examine their role in the lead up to and aftermath of the financial crisis of 2008.

It all begins in the midst of the previous major financial crisis, the Great Depression. In 1933 just less than half of Americans owned homes, but about a quarter of those mortgages were in default and thousands of people had lost their homes.  This also meant that thousands of workers associated with the homebuilding industry didn't have jobs.  

FDR, in full New Deal swing, passed the National Housing Act of 1934 which established several government-sponsored enterprises (GSEs) to encourage the construction and financing of private homes: the Federal Housing Administration which offered insurance on mortgages that explicitly guaranteed them, the Federal Savings and Loan Insurance Corporation, which insured savings and loan associations which offered mortgages; and the United States Housing Authority, which made loans to local public agencies for low-income housing.

The underlying logic was that by supporting home ownership and home construction, the US government could kickstart the economy and stabilize the political environment which had many radical elements. Homeownership was seen as a social good as well as an economic good. There was notable opposition to these measure, but FDR's first administration had large enough majorities in Congress to pass such measures despite Republican and conservative Democratic opposition. 

FDR meant well (us news)

FDR meant well (us news)

An amendment to the National Housing Act in 1938 created forerunner of the Federal National Mortgage Association (FNMA) - conveniently shortened to Fannie Mae.  Fannie Mae was formed to encourage banks to offer more mortgages to Americans by creating a secondary mortgage market where banks could then package those mortgages and sell them to other financial institutions.  

So basically as a result of the National Housing Act, the government tilted the housing market heavily towards private ownership and away from renting by first guaranteeing mortgages through the FHA, which reduced the risk to banks, and then by creating a secondary mortgage market through Fannie Mae, which increased the amount of money banks could make from reselling mortgages.  This made offering affordable mortgage financing attractive to banks which dramatically lowered the cost of owning a home for average Americans.

This is an important and often overlooked moment in American history because it can be argued that this is where the idea of owning a home became such a large, bi-partisan part of the American Dream (a phrase coined around the same time in 1931).  Up until this point, homeownership rates were generally around 40-45% nationally with predictably huge swings between rural and urban dwellers (it is currently about 65%).

Certainly much of the foundational mythology of American homeownership can be traced back to the early European settlers carving out their own homes and to the early homesteaders settling the western frontiers, but there was always a smaller share of homeowners than commonly believed (and a larger share of slaves, indentured servants, and displaced indigenous that were obviously denied the ability to own a home). Indeed, as European immigration exploded in the 19th and early 20th centuries, people flooded into cities and few had any expectation of owning a home. Renting was cheap and allowed proximity to jobs, services, and cultural institutions that shaped many ethnic identities in America as well as the cities that housed them.

It was the perception that urban America was in irrevocable decay during the Depression that permanently changed American housing policy away from cities and urbanism. Hysteria over the conditions of the urban poor has long been an easily exploitable trope in American politics, often not so subtly tinged with racism and xenophobia.  Perhaps ironically, the New Deal created an unprecedented opportunity to address it on a national scale but unfortunately caused a lot of unintended damage, which further exacerbated those problems. Fannie Mae was just one policy tool that the US Government used, consciously or subconsciously, to start the suburban sprawl / white flight era that dominated the postwar American landscape.

Almost instantly, Fannie Mae went beyond its initial intended policy goals, which were to spark the private sector, and instead effectively established a 30-year monopoly over the secondary mortgage market because, as a government agency, it could borrow money at lower-rates than private institutions, which made it harder to compete against. 

Some members of Congress along with trade groups associated with homebuilding thought Fannie Mae exerted too much power over the private market (criticisms were a mixture of self-interest and philosophical beefs) and wanted it abolished or privatized - while other members of Congress wanted it to remain a government agency to ensure the social goods of affordable homeownership were preserved.  

The Eisenhower administration, which was stocked with people from the real estate industry, pushed through a compromise in the pivotal National Housing Act of 1954, which included the Charter Act that reorganized Fannie Mae into a semi-private company that allowed private investors to hold common stock. (The Act also established slum clearance as a national policy of urban renewal, which also had far reaching consequences.) This left Fannie Mae as a "mixed-ownership corporation" but undeniably set it up for future privatization.

In 1968, at the height of the Vietnam War, President Johnson re-chartered Fannie Mae as a private company to remove it's holdings from the federal budget through the Housing and Urban Development Act of 1968.  The cost of the war was skyrocketing and though Johnson could largely ignore citizen protests (to a point), Congress was starting to question the impact on the budget, so Fannie Mae - which many in Congress still wanted privatized - was an elegant solution to reduce the raw numbers. From this point forward, Fannie Mae would be a private corporation beholden to its shareholders. 

Johnson less so (housing perspectives)

Johnson less so (housing perspectives)

Fannie Mae officially went public in 1970 and also began purchasing conventional mortgages, expanding beyond the secondary market, but technically no longer had the explicit backing of the federal government. In order to create 'competition', Congress also created the Federal Home Loan Mortgage Corporation (Freddie Mac) which had an almost identical structure and mission but was a separate entity with its own board and leadership.

The modern Fannie and Freddie were born. Today they are two of the largest financial institutions in the world and control over $5 trillion in mortgage assets. I'll explore how this happened in the next post.

It might seem weird to have kinda-sorta private-but-public companies have so much power in the mortgage industry, because it was and is.  Let's not forget that this was a political choice that had broad bi-partisan support.  Politicians on the left and right both saw the virtues of homeownership and wanted government policy to encourage it. The key intention here was to 'encourage' it, but creating such a large force within the private sector that has a government guarantee ultimately did more than encourage the private market - it dominated the private market and warped it.

Without the government guaranteeing the market directly and indirectly, homeownership would simply never have been such an economic and cultural driver in the second half the 20th century.  

Just as importantly, the amount of federal money that went into homeownership (including through infrastructure spending and the tax code) created a vacuum that sucked money out of America's cities during this period. Though billions were spent on "urban renewal" the devastating impact on poorer urban residents (the majority of which were minorities by this time) has been chronicled for years.

It is fascinating to imagine how differently America would look physically and socially without such a large government intervention over decades in homeownership.  Would the private market still have driven up homeownership rates to their current levels? Would there have been such an explosion of car-centric suburban and exurban communities? Would there have been such a focus on highway construction over transit construction? Would there have been such conscious racial exclusionary policies? Such a concentration of extreme poverty in inner city neighborhoods? Such a political divide between urban and rural across state-lines

No question there are social goods for owning a home, and no question there are a lot of benefits from the type of society it has created, but the costs and trade-offs of the US government tilting the scales so heavily in the favor of homeownership are difficult to comprehend, even without looking at the hard numbers of the bailout.  At a time when the environmental and political impact of these policies have started to manifested themselves in troubling ways, we must look honestly at how we got here if we are to address these challenges responsibly. 

In post 2, I will give a quick overview of Fannie and Freddie from 1970 to today and why all this blew up in 2008. I'll also return to the current court case and where both companies stands today.