Federal Government Housing Policies - Fannie Mae & Freddie Mac - Case Study Example

Federal Government Housing Policies Table of Contents Table of Contents 2 Introduction 3 Government Policy Intervention 4 About Fannie Mae & Freddie Mac 6 The Role of Fannie Mae & Freddie Mac in the Financial Crisis 7 Conclusion 8 Works Cited 9 Introduction A crucial role is played by the federal government in supporting the construction of housing financially and offering ownership as well as rental support for households with lower income since the 1930s. In the recent period, numerous programs are being funded by the Congress in order to meet up to the housing requirements for the population that is poor and susceptible. The plans are mainly controlled by the Department of Housing and Urban Development (HUD). The contemporary housing assistance plans involve the comparatively flexible grants for the state as well as the local governments. This is done so as to assist the homeless people, build up reasonably priced housing and offer support to the first-time buyers. This was also done to encourage community development as well as more planned, direct support programs that would assist in providing low-priced apartments and even rental vouchers to the deprived families, managed through quasi-public, local public and the private intermediaries (McCarty & Et. Al., “Overview of Federal Housing Assistance Programs and Policy”). The main objective of the paper is to analyze the housing policies adopted by the federal government related to the mortgage and funding system. With this concern, the discussion of the paper will intend to identify the strategies implemented by the federal government persuade lenders and low-income borrowers in dealing with highly risky loans and mortgages. Furthermore, the paper will analyze the role of Fannie Mae and Freddie Mac in the recent sub-prime crisis of 2008. Government Policy Intervention The condition of extreme and mispriced mortgage liability is the main reason behind the current boom in the housing markets. It is not possible to understand the unusual character of this particular cycle without recognizing the parts that links the policies on the demand-side as well as the supply restrictions. The boost in the housing prices was positively aggravated by the policies that facilitated cheap credit, especially for borrowers belonging to the low-income group. With the increasing prices, the enterprises those were government-sponsored, started becoming quite insistent in assisting lending activities. This significantly contributed to the rising prices of households (Glaeser & Gyourko, “Rethinking Federal Housing Policy”). During the early period of 1980s, the subprime lenders such as Household Finance Corp along with thrifts like Long Beach Savings and Loan provided funding services for home equity. They also provided services frequently for second advances to borrowers whose credit record was still to be recognized or even had financial records that were disturbed. At times it mirrored setbacks like divorce, unemployment, medical emergencies etc. Rates of interest charged on the subprime mortgages with considerable collateral which was the house were not as soaring compared to the car loans and also quite lesser than the credit cards. The benefits of the mortgage were coagulated and intensified in the year 1986 over the various other varieties of debt with the assistance of the Tax Reform Act. This act excluded taking away of the interest payments on the customer loans, whereas, the subtraction was retained in relation to the payments for mortgage interests (Stanford University “Subprime Lending”). Throughout the period of 1980s and the beginning of 1990s, prior to computerized “credit scoring”, a statistical method that was utilized to gauge the credit value of a borrower, initiated the evaluation of risk and mortgage lenders along with the subprime lenders depended on other attributes at the time of underwriting mortgages. During the period of 1990s the mortgage companies as well as the banks along with the securities organizations of the Wall Street started to securitize mortgages among which majority of them were the subprime ones. Well known organizations in the Wall Street began structuring as well as selling mortgages known as “non-agency”. This meant loans which failed to meet the standards of ‘Fannie and Freddie’. With the growth of such fresh non-agency securities, the investors had to witness risks regarding the repayment of the debts. This is when the rating services came into housing business (Stanford University “Subprime Lending”). The non-agency securitizations received a strong motivation from an improbable source, i.e. the federal government. The Resolution Trust Corporation was formed by the congress in the year 1989 in order to relieve the mortgages and the real estate and at times the unsuccessful frugalities, which are now government-owned (Stanford University “Subprime Lending”). The financial as well as the tax policies by the federal government promoted housing purchases and investments in regard to real estate as a result of which institutions were forced to persuade borrowers to take out mortgages (U.S. Department of Housing and Urban Development “Reforming America’s Housing Finance Market”). The federal government interfered in order to create opportunities to purchase homes for the low-income group people. This interference was instigated with two corporations that were backed by the government named Fannie Mae & Freddie Mac. These corporations privatized their own profits but at the same time socialized their hazards too, making strong inducements for them in order to act irresponsibly and revealing the taxpayers to terrific losses. This interference by the government even created reasonable but risky lending policies which promoted inferior down payments, increased leverage and also substandard underwriting (Issa “The Role of Government Affordable Housing Policy in Creating the Global Financial Crisis of 2008”). The Federal Reserve structured the Tax Reform Act which encouraged people to avail loans. The Internal Revenue Services managed two plans of housing subsidies, i.e. the tax expenses to people who were the owners for housing expenditure and also the tax expenses in regard to the developers of the rental housing. The last mentioned plan was created in the Tax Reform Act of 1986 and was smaller than the previous plan which was present with the same structure as it is now since the establishment of the individual income tax in the year 1915. The advantages provided under these particular tax policies were said to be of the most liberal nature in the world. Thus, such great advantages encouraged borrowers to avail the loans and this is how the Federal Reserve ensured that loans were provided (University of California “Housing Policy in the United States”). About Fannie Mae & Freddie Mac Freddie Mac and Fannie Mae are government-sponsored enterprises (GSEs) which means that they are corporations that are owned by the shareholders along with government licenses and are considered to be an integral part of the mortgage finance sector (Jickling “Fannie Mae and Freddie Mac in Conservatorship”). They are involved in purchasing mortgages in relation to homes from the actual lenders and restructure them like ‘mortgage-backed securities’ (MBSs). Then they are either sold or held in the investment portfolios of the enterprise (Jickling “Fannie Mae and Freddie Mac in Conservatorship”). These two mentioned enterprises are said to be the two leading bodies in the mortgage markets of US. They are also a significant and famous part of the widespread efforts made by the government at every stage to promote the production as well as consumption of housing (White “Fannie Mae, Freddie Mac, and Housing Finance”). The Role of Fannie Mae & Freddie Mac in the Financial Crisis These enterprises were pressurized by the government to enlarge the mortgage loans to the low-income borrowers by way of augmenting the ratios in relation to their loan portfolios in the inner areas of the city that were poverty-stricken. As a consequence of these augmented ratio necessities, it was insisted by the institutions functioning in the primary market of mortgage to ease the credit necessities on the purchased mortgages by these enterprises. This allowed them to provide loans to the subprime borrowers at augmented rates of interest compared to the conservative loans. Buying the mortgages offered by these two enterprises provided banks as well as the other financial enterprises with money in order to provide more fresh loans (PRMIA, “Fannie Mae & Freddie Mac”) This pressure to enlarge possession of homes to the low-income families, directed towards the issuance of hazardous mortgages. This gave rise to the hazard of guarantying doubtful mortgages and miss out in case when huge number of loan borrowers would fail to meet their responsibilities. This is what contributed greatly towards the nation’s financial crisis (PRMIA “Fannie Mae & Freddie Mac”). Conclusion From the above discussion it is evident that the housing policies of the government were the main contributors towards the financial crisis that took place in the year 2008. These particular policies promoted the growth of an enormous ‘housing bubble’ that existed during the period of 1997 to 2007 and the formation of subprime loans, majority of which already were failed to be paid with the reduction of the bubble in the housing sector. The losses connected with such feeble and elevated risky loans were the reason behind the actual or obvious limitation related to the main financial institutions worldwide that were responsible for holding these mortgages. The financial crisis could have been avoided by altering the housing policies laid down by the federal government. It is noteworthy in this regard that the prime reason for this financial crisis was eventually the involvement of the government in the financial system related to housing industry. It is due to this reason that the financial policies related to housing industry needs to be altered accordingly in future by the federal government (The Financial Crisis Inquiry Commission “The Financial Crisis Inquiry Report”). Works Cited Glaeser, E. L. & Gyourko, J. “Rethinking Federal Policy”. September 26, 2011. The AEI Press, 2008. Issa, Darrell. “The Role of Government Affordable Housing Policy in Creating the Global Financial Crisis of 2008”. September 26, 2011. U.S. House of Representatives, 2010. Jickling, Mark. “Fannie Mae and Freddie Mac in Conservatorship”. September 26, 2011. CRS Report for Congress, 2008. McCarty, Maggie & Et. Al. “Overview of Federal Housing Assistance Programs and Policy”. September 26, 2011. Congressional Research Service, 2008. PRMIA. “Fannie Mae & Freddie Mac”. September 26, 2011. Summary, 2007. Standford University. “Subprime Lending”. September 26, 2011. Financial Crisis Inquiry Commission Report, 2007. The Financial Crisis Inquiry Commission. “The Financial Crisis Inquiry Report”. September 26, 2011. Conclusions of the Financial Crisis Inquiry Commission, 2011. U.S. Department of Housing and Urban Development. “Reforming America’s Housing Finance Market”. September 26, 2011. A Report to Congress, 2011. University of California. “Housing Policy in the United States”.September 26, 2011. Berkeley, 2011. White, Lawrence J. “Fannie Mae, Freddie Mac and Housing Finance”. September 26, 2011. Policy Analysis, 2004. Read More