Fannie, Freddie pose risk to financial system, panel says in 'historic' finding

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Fannie Mae and Freddie Mac, the government-run companies that stand behind about half of the $11 trillion U.S. mortgage market, pose a potential danger to the stability of the broader financial system, a Treasury-led panel said today.

The companies still do not have enough capital to protect themselves from the massive risk in their portfolios, the Financial Stability Oversight Council concluded following a long-awaited review of the secondary mortgage market, where investors purchase home loans.

The council, which consists of all the government’s top financial regulators, endorsed a proposal to raise capital requirements for Fannie and Freddie, saying it would go a long way toward mitigating the looming peril to the system.

Fannie and Freddie have been at the center of a fierce debate between Republicans and Democrats ever since the two companies were rescued from collapse by the government during the 2008 financial crisis. Republicans have pushed to boost their capital to prepare them for privatization. But some Democrats and affordable housing advocates warn that the stricter capital requirements could drive up the cost of mortgages and limit Fannie and Freddie’s ability to serve low-income communities.

Fannie and Freddie don’t make home loans but rather purchase mortgages from lenders and bundle them into securities for sale on the secondary market. That frees up the lenders to make more loans.

Federal Housing Finance Agency Director Mark Calabria, Fannie and Freddie’s regulator who has proposed the stricter capital standard, applauded the announcement during an open meeting Friday of the council. Calabria, a Trump appointee, has long pushed for greater scrutiny of the mortgage market.

“I commend the council for its historic acknowledgment that [Fannie and Freddie’s] activities could pose risk to financial stability,” Calabria said. “Today’s announcement is an important and necessary step to reform and protect the housing finance system so that the [companies] can continue serving the market during crises.”

The council — which is led by Treasury Secretary Steven Mnuchin — unanimously endorsed the review’s findings, which will be released later Friday after markets close.

Calabria’s proposed rule would require the companies to retain capital equivalent to 4 percent of their assets under normal economic conditions, meaning they would have to hold about $240 billion to support their $6.1 trillion in combined assets — roughly five times what they hold today.

“The next critical step will be finalizing the capital rule with the benefit of the council’s valuable recommendations,” Calabria said today. The agency is working to complete the rule by the end of the year.

The review of the mortgage market is the first of its kind. FSOC has the power to designate for stricter supervision both individual institutions and activities that it views as having the potential to destabilize the financial system.

The panel — created by the landmark 2010 Dodd-Frank financial regulation law — pivoted in December to focusing on activities rather than specific corporations, following complaints by companies that the oversight was too onerous.

FSOC pledged to continue to monitor the secondary mortgage market and to make additional recommendations if the FHFA fails to mitigate risks.

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