The GSEs as Regulated Utilities
In the spring of 2019, National Association of Realtors® (NAR), together with financial-market experts Susan Wachter (Wharton) and Richard Cooperstein (Andrew Davidson & Co., Inc.) proposed completing the transition of Fannie Mae and Freddie Mac (Enterprises) into market utilities in a publication entitled “A Vision for Enduring Housing Finance Reform.” This work builds on Richard Cooperstein and Andrew Davidson’s 2017 paper, “ Is There a Competitive Equilibrium for the GSEs?”
In NAR’s latest white paper, “GSEs: Their Viability as Public Utilities,” Wachter and Cooperstein expand on several points in their earlier discussion. On January 14, 2021 at 1:30 PM ET, NAR is hosting a webinar open to all interested parties to further explore and discuss these insights.
Why a Utility?
Fannie and Freddie were established by Congress as private companies with a public mission; namely, to support secondary market liquidity and mortgage access at all times, across the entire country, with a special obligation to support underserved markets. The mortgage origination and capital investment markets are highly competitive and efficient, but the guarantor and securitization markets are not. These markets function better with externally imposed standards for quality, consistency, capital adequacy and fairness. Further, scale is required to achieve these goals. These are the characteristics of public utilities.
The common governance structure for utilities is private companies with service obligations and strong regulators that ensure adherence to the mission and to regulate returns. The cost of capital is by far the largest component of the GSE risk fee, so reducing the unsubsidized cost of debt and equity is the most effective way to reduce consumer cost and advance homeownership. Financial theory and 100 years of empirical evidence show that government-granted franchises that operate in limited markets have lower return volatility and thus lower required returns on equity and debt. Indeed, the beta for utility stocks is half that of the S&P 500.
Three requirements for success are: (1) The GSEs curate stable debt markets for interest rate and credit risk and to intermediate most of their risk into these competitive capital markets. (2) A federal backstop on pass-through debt (MBS) and corporate financing for approved activities such as Cash Window operations and non-performing loan buyouts, but not for equity holders or credit risk securities. And (3) A governance structure that balances the tension between regulation, mission and capital markets discipline with a regulator, board, shareholders and management. At this stage, the regulator and operating model are largely in place, it remains to establish a Board that represents shareholders and other constituents, and shareholders.