What would happen if FNMA/FHLMC were privatized without guarantee fee intact?

Privatizing Fannie Mae (FNMA) and Freddie Mac (FHLMC) without the guarantee fee intact would have significant and complex implications for the U.S. housing market. Here’s a breakdown of the potential consequences:

Key Implications:

• Increased Mortgage Rates:
  • Without the implicit or explicit government guarantee, investors would perceive a higher risk in mortgage-backed securities (MBS) issued by these entities.
  • To compensate for this increased risk, investors would demand higher yields, leading to higher mortgage interest rates for borrowers.
  • This could significantly impact housing affordability, making it more expensive for individuals to purchase homes.
• Reduced Liquidity in the Mortgage Market:
  • The guarantee provided by Fannie and Freddie ensures a high level of liquidity in the mortgage market.
  • Without this guarantee, the market for MBS could become less liquid, making it more difficult for lenders to sell mortgages.
  • This could lead to a contraction in mortgage lending, limiting the availability of credit for homebuyers.
• Increased Credit Risk:
  • Without government backing, Fannie and Freddie would be exposed to greater credit risk.
  • They would need to build up substantial capital reserves to absorb potential losses from mortgage defaults.
  • This could lead to stricter lending standards, making it more difficult for borrowers with lower credit scores to obtain mortgages.
• Changes in Market Participants:
  • The role of various market participants, such as banks and institutional investors, would likely shift.
  • Banks might play a larger role in the mortgage market, but their focus could be on higher-quality loans.
  • The Federal Reserve’s ability to hold non-guaranteed MBS on its balance sheet would also be a question.
• Impact on Housing Affordability:
  • The combination of higher mortgage rates and tighter lending standards would negatively impact housing affordability.
  • This could have broader economic consequences, as the housing market plays a significant role in the U.S. economy.
• Increased volatility:
  • Without the stabilizing effect of the government backing, the mortgage markets would likely become far more volatile, especially during times of economic stress.

In summary:

• Privatization without a guarantee fee would introduce significant uncertainty and risk into the mortgage market.
• It would likely lead to higher mortgage rates, reduced liquidity, and tighter lending standards, with a notable negative impact on housing affordability.
• Liquidity in the Mortgage Backed Securities marketplace adds backing by the full faith and credit of the United States government. Any investor would prefer a pool of mortgages with a guarantee.

It’s important to note the exact outcomes would depend on various factors, including the specific details of the privatization plan and the overall economic environment.