Mortgage lending is by far the largest category of consumer credit. Of the total $13 trillion in consumer debt obligations outstanding, approximately $11 trillion is housing related, compared to another $2 trillion mainly of student loans, auto loans and credit cards. Given the dominant share of mortgages owned by the government versus the private sector today, it should come as no surprise that taxpayers today are effectively on the hook for approximately $6 trillion in total mortgage credit. This amount or share is growing as the government is now also the provider of mortgages for new homeowners, backing roughly 96% of all new purchase mortgages. In time and without any reform, the $6 trillion figure could rise to more than $10 trillion over the next decade.
The Re-Emergence of the Federal Housing Administration
Obama’s latest plan for FHA is now to ask Congress to change the rules so the agency can effectively assume or take-over more of the loans left in the private sector. The Administration estimates that this new FHA expansion could cost taxpayers around $10 billion. While both the government and the private sector deserve blame for the housing crisis, the answers or fixes that Obama has offered over the past 3 years have remained consistent. At each turn, the administration has taken incremental steps toward increased government control of housing finance. From President Obama’s vantage point, it’s not hard to see the potential political benefits with a proposal to expand FHA. While taxpayers may have bailout fatigue when they hear the names Fannie and Freddie, FHA is not nearly as well known. Plus, so many of the other crisis programs that have involved FHA have been such failures that most people forgot they were even launched. Hope for Homeowners was supposed to help 400,000 homeowners, but shut its doors toward the end of 2011 having helped less than 1,000 people. FHA Short Refi is another program that didn’t take off.
What Could Really Go Wrong at FHA?
What Obama conveniently omits from his speech and background material on FHA is that the latest actuarial review found the agency has a 50-50 chance of requiring a bailout as soon as this year. His officials at HUD and OMB are no doubt intimately aware of these details. Perhaps they are comforted by the fact that the Treasury Department has independent authority (i.e. Congress doesn’t have to act) to send taxpayer dollars over to FHA to keep the agency solvent (as this would fulfill the government pledge to back FHA loans). Taxpayers would be wise to pay close attention to this agency moving forward.
One of the big lessons from the financial crisis is that the largest financial institutions fell in part because they were way too leveraged and that they miscalculated housing risk. Rather than the historic precedent of being levered 10:1, or 15:1, or in extreme cases 20:1, some of the biggest banks were levered 30 or even 40:1. When their estimates of housing and mortgage risk turned out to be wrong, they failed and we had a crisis.
Now we have a government run housing agency in the FHA, which is levered 300 or 400 to 1 and the Administration is proposing to increase their bets on housing? FHA has only a few billion dollars in reserve against more than $1 trillion of mortgage guarantees that it has outstanding. What could possibly go wrong?
A year ago, the Obama administration committed itself to reducing the role of the FHA. Now, however, it is moving in exactly the opposite direction, shifting risk from private lenders and homeowners to taxpayers. This may well be a politically shrewd approach, but it is fraught with danger. That danger, alas, is borne not primarily by the policymakers behind this shift, but by current and future taxpayers.