WASHINGTON — The federal government has dramatically expanded its exposure to risky mortgages, as federal officials over the past four years took steps that cleared the way for companies to issue loans that many borrowers might not be able to repay.
Now, Fannie Mae, Freddie Mac and the Federal Housing Administration guarantee almost $7 trillion in mortgage-related debt, 33 percent more than before the housing crisis, according to company and government data. Because these entities are run or backstopped by the U.S. government, a large increase in loan defaults could cost taxpayers hundreds of billions of dollars.
This risk is the direct result of pressure from the lending industry, consumer groups and political appointees, who clamored for the government to intervene when homeownership rates fell several years ago. Numerous government officials, starting in the Obama administration, obliged, mistakenly expecting that the private market would ultimately take over.
In 2019, there is more government-backed housing debt than at any other point in U.S. history, according to data from the Urban Institute. Taxpayers are shouldering much of the risk, while a growing number of homeowners faces debt payments that amount to nearly half of their monthly income, a threshold many experts consider too steep.
About 30 percent of the loans Fannie Mae guaranteed last year exceeded this level, up from 14 percent in 2016, according to Urban Institute data. At the FHA, 57 percent of the loans it insured breached the high-risk echelon, jumping from 38 percent two years earlier.
This article is based on interviews with 24 senior administration officials, regulators, former regulators, bankers and analysts, many of whom warned that risks to taxpayers have built up in the mortgage sector with very little scrutiny.
The binge in high-risk lending has some executives and regulators on edge and could grow problematic if the economy continues to weaken or enters a recession, as more economists are predicting could happen within a year. Two Freddie Mac officials told a government inspector general this year that certain loans they had been pushed to buy carried a higher risk of default, and problems could multiply when the economy slows.
“There is a point here where, in an effort to create access to homeownership, you may actually be doing it in a manner that isn’t sustainable and it’s putting more people at risk,” said David Stevens, a former commissioner of the Federal Housing Administration who led the Mortgage Bankers Association until last year. “Competition, particularly in certain market conditions, can lead to a false narrative, like ‘housing will never go down’ or ‘you will never lose on mortgages.’ ”
The risky situation is a direct outgrowth of the extraordinary steps taken more than a decade ago in response to the 2008 financial crisis, which itself had roots in excessive mortgage lending and a broad national focus on boosting homeownership.
Democrats pushed for curbs on risky lending, but the Obama administration regulators later nudged Fannie Mae and Freddie Mac toward riskier mortgages. The Federal Housing Finance Agency and the Department of Housing and Urban Development continued to allow Fannie and Freddie to expand their exposure to risky loans during the Trump administration. White House officials did not directly push the change, but they did little to stop it. The Treasury Department has recently called for cutting back on mortgage-related risks, but it is not a top priority at the White House while Trump battles Democrats on impeachment.
Now the government’s response to the previous crisis threatens to cause a new one. The White House and congressional leaders are searching for answers, and Trump administration officials are looking for a way to release Fannie Mae and Freddie Mac from government control. The Trump administration took a critical step, allowing the firms to hold more capital to cushion against future losses. The process is expected to take more than a year.
Sudden alterations to the current system could disrupt the housing market and make it more expensive for people to buy homes, a treacherous political dynamic heading into an election.
Fannie Mae and Freddie Mac purchase home loans from lenders. They retain a small portion of these loans on their books, but they package most of the loans into securities and sell them to investors. Separately, FHA insures home loans against default as an incentive for lenders to offer mortgages to higher-risk borrowers. These entities were created 50 years ago by Congress to try to encourage homeownership.
Company and government officials have acknowledged that the recent push to expand access to mortgages has increased risks of mortgage defaults, but they have said they have properly assessed the risks so they don’t suffer big losses in a downturn.
“Certainly, I think we do need to be concerned overall about some of the risk that’s in the mortgage market,” said Mark Calabria, director of the Federal Housing Finance Agency, which oversees Fannie Mae and Freddie Mac. “There are some patches in the housing market that are going to hit some turbulence if there’s a downturn.”
The 2010 Dodd-Frank law that overhauled banking rules required the new Consumer Financial Protection Bureau (CFPB) to crack down on mortgage practices that didn’t take into account a borrower’s “ability to repay” the loan. The provision was meant to prevent the types of abusive mortgages that proliferated during the housing bubble, ones with low, short-term teaser rates or huge monthly payments.
Richard Cordray, then the CFPB director, Cordray huddled with top staff members, consumer groups, lenders and housing market experts to gather input.
After intense debate, Cordray and his aides decided they would cap the debt-to-income threshold at 43 percent. So if a borrower earned $5,000 a month, payments on his or her mortgage and other debt had to be less than $2,250, or the loan could be labeled as improper.
Lenders were apoplectic. They warned CFPB officials that such a tight restriction, however well-intentioned, could cut off access to mortgages for many home buyers and damage the housing market further.
Cordray agreed on a temporary exemption. All loans deemed adequate for Fannie Mae, Freddie Mac, FHA and other government entities, which had their own, less stringent standards, would not have to abide by the new limits. The exemption for Fannie Mae and Freddie Mac would expire in 2021.
Default rates on these loans have stayed relatively low, in part because the job market has remained strong and the economy has been healthy.
But loans with high debt-to-income thresholds are particularly dangerous during a downturn, because it can be very difficult for people to come up with payments if they lose their jobs or if their credit card bills grow. The performance of these loans in such a scenario has not been tested since the CFPB exemption was put in place five years ago.
“It’s an explosion waiting to happen,” said Robert Pozen, the former president of Fidelity Investments and a senior lecturer at the Massachusetts Institute of Technology. “People don’t seem to be worried about it, but they weren’t worried about it the last time until it all blew up.”