A Framework for Evaluating Housing Finance Alternatives

This week, the Administration hosted a conference entitled “The Future of Housing Finance”, which focused in large measure on alternative paths for the housing GSEs.  Cambridge Winter’s executive director attended on behalf of the center.

Conference participants expressed a diversity of perspectives, but a rough consensus does seem to be coalescing.  This one-page “decision tree” contrasts that emerging consensus from two other points of view (including Cambridge Winter’s), in order to highlight the different implicit premises behind them.

In particular, our analysis has counseled deep skepticism about the notion of too-big-to-fail government agencies serving as effective arbiters of credit risk and pricing.  Merely requiring a layer of subordinate private capital (which would be junior to the government-insured tranche) does not solve that problem.  After all, the GSEs’ own on-balance sheet portfolios (through GSE common and preferred equity), and AIG’s insurance wrap of “super-senior” private-label tranches, all had the benefit of subordinate private capital.  The existence of those private capital tranches did not obviate the need for an effective debt market check on Fannie, Freddie, or AIG’s own decision-making.  Government agencies, by definition, lack that debt market discipline, and always will.