Senate Banking Committee Discusses Government Gaurantee for MBS
AT OCTOBER 31ST’S SENATE BANKING COMMITTEE HEARING, lawmakers
discussed shaping the government guarantee under housing finance reform for
mortgage-backed securities. Specific attention was paid to exactly when the
government guarantee would kick in and how the shape of the guarantee would
impact pricing and the availability of credit.
Executive Session
The following nominations were approved by voice vote:
·
Wanda Felton to be First Vice President,
Export-Import Bank of the United States
·
Katherine O’Regan to be an Assistant Secretary,
U.S. Department of Housing and Urban Development.
Hearing
In his opening remarks, Chairman Tim Johnson (D-S.D.)
commended Sens. Bob Corker (R-Tenn.) and Mark Warner (D-Va.) for their work on S. 1217, the Housing
Finance Reform and Taxpayer Protection Act of 2013. Noting that the
government guarantee must be “explicit,” Johnson added that “the details of how
the guarantee should be structured is paramount to a well-functioning national
market.”
“If the structure of the new guarantee is not compatible
with TBA execution, a wide range of stakeholders have expressed concerns that
access to credit will tighten for borrowers, making mortgages more expensive,
especially in rural and historically underserved areas. This outcome is
unacceptable.”
In his opening remarks, Ranking Member Mike Crapo
(R-Idaho) briefly discussed S. 1217 before mentioning his interest in the
panel’s thoughts on how credit-linked note structures, as well as other
structures envisioned under S. 1217 would interact with the TBA market.
“While not all available finance products must be
TBA-compatible, we should keep an eye on their interaction with the current TBA
marketplace to ensure that enough options will be available to allow for this
market to thrive,” he said.
Testimony
In his testimony,
Joseph Tracy, Executive Vice President and Senior Advisor to the President,
Federal Reserve Bank of New York (FRBNY), acknowledged that the risk of the
government intervening during significant times of stress cannot be eliminated,
and stated that the level “at which the government steps in must be well known
in advance and credible to the market,” and devoid of speculation.
If the arrangement is made where the government bears
only the costs associated with “extraordinary systemic risks,” while the
private sector bears the losses associated with a normal business cycle, “then
the largest portion of the guarantee fee will be priced by the market and not
by the government.”
Mentioning research conducted by the FRBNY, Tracy discussed
how government support “would be triggered by the total loss across an entire
group or vintage of mortgage-backed securities.” Losses experienced during the
recent financial crisis would have been “far less” to the taxpayer and housing
market if a vintage-based program were in place that contained “adequate, high
quality private capital.”
In his testimony,
Philip Swagel, Professor of International Economic Policy at the University of
Maryland School of Public Policy, discussed the importance of first-loss
private capital in protecting taxpayers and said the 10 percent capital
requirement under S. 1217 “is appropriate and essential,” which should provide
“considerable comfort regarding taxpayer protection.”
Swagel also told the Committee that the incremental cost
of going from a five percent capital requirement to a 10 percent requirement
“will be modest,” and that the larger capital requirement “will foster a
diversity of sources of funding for mortgages, including more balance sheet
lending and a revival of private label securitization,” on top of mortgages
that continue to be packed into government guarantees.
Swagel also suggested the government guarantee come into
play “only after the entire private capital of the entities taking the
first-loss position at the level of the mortgage-backed security. The
government would then cover the full principal and interest of guaranteed MBS.”
“Anything less — having the guarantee apply a vintage at
a time — or a mortgage-backed security at a time will mean that the full
consequences of failure do not operate,” he concluded.
In his testimony,
Michael Canter, Director of Securitized Assets at AllianceBernstein and
testifying on behalf of the Securities Industry and Financial Markets
Association (SIFMA), discussed the importance of the TBA marketplace and
suggested that any government guarantee provide timely payment of all principal
and interest associated with securities in order to preserve the benefits of
the TBA market.
“Otherwise, the mortgage-backed securities would no
longer be an interest-rate investment, but a credit investment as well,” he
cautioned.
Canter added that “we support an approach where the size
of the first loss layer fluctuates with the demand for mortgage credit risk. If
constructed otherwise, the regime will tend to be pro-cyclical, and exacerbate
booms and busts.” Following up on this, Canter said whatever loss structure is
considered, it should not disrupt the liquidity of the TBA market. The recent
risk-sharing transactions executed from Fannie Mae and Freddie Mac called
Structured Agency Credit Risk (STACR) and Connecticut Avenue Securities (CAS)
are “prime examples of how the capital markets can provide first-loss capital
without disrupting the TBA structure.”
Canter also mentioned the market that has formed around
investors that hold non-investment grade mortgage credit risk and his firm’s
belief that fixed income investors will want to participate in this market
thereby spreading the risk, and pricing mortgage credit risk relative to other
risks in the marketplace.
“Financial companies that can only take one type of risk
do not have this flexibility. The price transparency that these risk-sharing
transactions will bring will help all market participants,” he said.
In his testimony,
David Stevens, President and CEO of the Mortgage Bankers Association, said any
transition to a new system “must retain and redeploy key aspects of the GSE’s
existing infrastructures” and be carefully phased in.
The MBA believes a stable and successful secondary
mortgage market must include three elements: an explicit government guarantee
for mortgage securities backed by a well-defined class of high quality
mortgages; taxpayer protection to “deep credit enhancements” that puts private
capital on a first-loss position; and a fair and transparent guarantee fee
structure, effectively creating an FDIC-like guarantee fund in times of
catastrophic losses.
The key question, as Stevens explained, is how to
identify how much capital entities need to set aside to absorb losses. He
mentioned that private credit enhancers should have sufficient capital to make
it rare enough that they would not have to tap into an insurance fund, while
the insurance fund should be large enough that government outlays would almost
never be required.
QUESTION & ANSWER SESSION
Johnson and Sen. Joe Manchin (D-W.Va.) asked
the panel for their views on the impact on homebuyers if the first-loss private
capital requirement is set too high, and whether the requirement should be set
by Congress or by a regulator.
Stevens noted the need for certainty that the guarantee
would be 100 percent on the mortgage-backed security, and that the first-loss
credit enhancement be provided by a “deep level” of private capital. In
addition, a legislative flat line standard would likely lead to systemic
distortions, as seen in the current model where lenders sell off their risk to
a government-guaranteed structure. A flat-line standard does not take into
account the risk-based measures within a structure of pooled mortgages and
Stevens said he would prefer a regulator be required to set capital levels.
Canter said it depends on how that 10 percent is funded,
while another panelist said it depends on the credit box and other dimensions.
Johnson noted Tracy’s research and questioned why
he recommends providing a government guarantee to a vintage MBS, instead of a
single institution or single MBS as proposed in S. 1217.
Tracy replied that it is “our view that the vintage-based
approach is going to be more robust under those conditions of severe market
stress, and will be better capable of continuing to provide access to mortgage
financing,” unlike the single institution or single MBS which, under similar
circumstances, may be unable to provide mortgage credit, which again will
likely lead to government intervention.
Johnson asked Canter how S. 1217 can be improved
to accommodate the STACR, CAS designs.
Canter said the basic design of STACR and CAS allows
Fannie and Freddie to sit in front of the transaction, passing risk off to the
capital markets. Under S. 1217, this would occur with the financial guarantor
who would have the risk and pass it off to the market. He added, “so what’s
important is that all the standards be the same across the financial
guarantors, which they would, as per the Federal Mortgage Insurance Corporation
(FMIC).”
Crapo asked Canter on what the Committee can learn
from the private market’s response to recent FHFA transactions that were
designed to address how the housing market may price risk in the future.
Canter said the market is “very capable” of measuring and
taking credit risk. Remarking on his firm’s findings, he said the expected loss
on the STACR and CAS transactions “ranged between 10 to 15 basis points
cumulatively over a ten year period.”
Canter noted that the 10 percent first-loss buffer is
“many, many multiples of that expected loss,” and that how the 10 percent is
structured is important. “What we learned is that everything above an
attachment point of say, 1.5 or 2 percent… is going to be considered investment
grade,” which opens up many more investors that are able to invest in the
transactions.
To allow for this to happen, “you have to make it so that
bond investors around the world can invest… as opposed to an insurance company
model, where… the return on capital might be excessive… because they want an
equity return on capital, as opposed to a bond return on capital.”
Crapo followed up by asking Canter what
“mileposts” the Committee should look for to be assured that the markets are
comfortable with the new system.
Canter replied by saying the continuation of such deals,
the look of the new system, how it’s structured, and what the transition will
ultimately look like “is going to be key,” he said, adding that “the more
places your able to place this risk, the better and more resilient the private
market capital system will be.”
Crapo then noted that the S. 1217 framework “has
approved bond guarantors, as well as capital market executions,” and asked why
encouraging such sources of private capital is important.
Canter mentioned how the more options available, “the
more chances we have of success and flexibility.”
Sen. Mark Warner (D-Va.) asked the panel whether
they believed that bond guarantors should all go out of business and be fully
liquidated before one would ever have to tap into the reinsurance fund.
All participants agreed. Carter also acknowledged that
there are disagreements amongst SIFMA members on this question, however.
Following up, Warner asked the panel to describe
the pros and cons of vintage versus security level in terms of where the
guarantee is.
Swagel said the vintage approach to failure is “not
consequential” as the executives stay in their positions and shareholders are
fine. Systemic issues arise from the government having to write a check with no
severe consequences attached to it, Swagel explained.
Tracy discussed the potential issues with the supply of
mortgage credit if the vintage approach is not taken, as that approach “is
designed to help restart the system and make sure that these entities can
continue to lend, even after systemic shock.”
Sen. Mike Johanns (R-Neb.) asked the panel whether
they could envision a workable system without a backstop.
Tracy said his suspicion was the threat of no backstop
wouldn’t be credible, and that at some point “we’d be back to an implicit
guarantee.”
Canter also agreed and, along with Tracy, discussed how
international markets would be reassured knowing that “they have a counterparty
they can depend on” during bad times. Canter also noted that if the first-loss
protection is deep enough with private capital up front, it would be rare that
the government would ever have to get involved.
Sen. Jeff Merkley (D-Ore.) asked the panel whether
it was possible to have both flexibility and strong legislative language, along
the lines of what Swagel referred to earlier.
Stevens noted the advantages and disadvantages of the GSE
structure, and urged the Committee to find the right balance. “So getting this
balance right, both in the flexible pricing model, so the government and
taxpayer don’t get adversely selected with the worst credits, but also making
sure that there’s a structure that interventions are protected to a point where
you don’t create systemic risk in the market.”
On flexibility, Swagel suggested incorporating an “escape
hatch” during a crisis whereby the Federal Reserve Chairman and the Treasury
Secretary would allow the FMIC to adjust the amount of private capital and have
the government insurance expand, as private capital will become scarcer during
this period.
Swagel also mentioned that loans inside the government
guarantee “will still be under the QM standard,” and pretty safe. He said it
was odd that the industry has said 5 percent capital will not lead to adverse
selection, but 10 percent will, despite the fact that there will still be QM
loans. “So I just think the adverse selection issue can be overstated with
regards to the 10 percent capital limit.”
Stevens responded that the concern is not whether the
capital limit is 5 percent or 10 percent, but the possibility that the FMIC
will only inherit the high-risk mortgages since institutions have options, the
FIMC guarantor program will not be the only outlet, and lenders and consumers
will choose best execution.
David Vitter (R-La.) questioned Swagel on whether
Section 204E, the Prohibition on Federal Assistance, of S. 1217 is too
broad, and if flexibility should be added.
Swagel again reiterated that investors who make bad
decisions should suffer the losses before the government starts writing checks,
and said he would support the language as is and avoid adding flexibility after
recognizing the fact that Dodd-Frank Title II “has the kind of protections
against systemic risk.”
Sen. Elizabeth Warren (D-Mass.) focused her
thoughts on when the guarantee would be triggered, noting the differences
between the bond/mutual approach and the structured transaction. She stated
that the structured transaction runs the risk of the government writing a check
every time a particular transaction runs beyond the 10 percent first-loss capital,
leaving the government “in the position of writing checks long before there’s
any systemic risk by really just backing up a bad deal.”
On the bond/mutual approach, Warren said it takes a while
before the 10 percent first-loss capital disappears “and that may mean that the
government is coming in only long after the market has begun to crater and we
have serious systemic problems.”
Corker discussed the split between those who
believe a government guarantee should kick in following a bond guarantor going
insolvent, as S. 1217 is currently structured, and those who believe the
government guarantee should be tied to a grouping of securities where, if one
fails, the guarantee should kick in.
“To me, to have it only kick in when an entity that’s
guarantee becomes insolvent means that the strength of these guarantees has to
be really there. Whereas with the other, certainly you can have much weaker
guarantors participating in it.”
Swagel and Stevens agreed with Corker’s premise, while
Canter responded that the financial guarantees “by their very nature are going
to be extremely highly correlated. And so when one is failing, it’s going to be
highly likely that the others are going to be under distress as well. And that
complicates the problem of what is the housing market going to look like then.”
Sen. Joe Manchin (D-W.Va.) asked the panel for
their suggestions on enhancements to S. 1217.
Canter said it is important to leave “a lot of
flexibility” for the regulator in order for the regulator to react to how the
transition is taking place. Canter also said he would like to see a prohibition
on the use of eminent domain inserted into the Senate bill.
Sen. Jack Reed (D-R.I.) asked Canter to elaborate
on some of the potential problems with the current proposal on the TBA
marketplace.
Canter said it is important that the government make
clear that “we don’t have to worry about the ability or the willingness of a
financial guarantor company to make an interest or principal payment.” If
financial guarantors were to miss a payment, but they’re still solvent, “the
government will need to make that payment, and it needs to be clear to the
market that the government will make that payment,” he said.
Pressed whether this is implicit in the current
legislation or if it needs to be made clearer, Canter said there should be
clearer language.
For more on the hearing please click
here.
,Blog Tags:,Blog Categories:,Blog TrackBack:,Blog Pingback:No,Hearing Summaries Issues:Housing,Hearing Summaries Agency:Senate Banking Committee,Publish Year:2013
AT OCTOBER 31ST’S SENATE BANKING COMMITTEE HEARING, lawmakers
discussed shaping the government guarantee under housing finance reform for
mortgage-backed securities. Specific attention was paid to exactly when the
government guarantee would kick in and how the shape of the guarantee would
impact pricing and the availability of credit.
Executive Session
The following nominations were approved by voice vote:
·
Wanda Felton to be First Vice President,
Export-Import Bank of the United States
·
Katherine O’Regan to be an Assistant Secretary,
U.S. Department of Housing and Urban Development.
Hearing
In his opening remarks, Chairman Tim Johnson (D-S.D.)
commended Sens. Bob Corker (R-Tenn.) and Mark Warner (D-Va.) for their work on S. 1217, the Housing
Finance Reform and Taxpayer Protection Act of 2013. Noting that the
government guarantee must be “explicit,” Johnson added that “the details of how
the guarantee should be structured is paramount to a well-functioning national
market.”
“If the structure of the new guarantee is not compatible
with TBA execution, a wide range of stakeholders have expressed concerns that
access to credit will tighten for borrowers, making mortgages more expensive,
especially in rural and historically underserved areas. This outcome is
unacceptable.”
In his opening remarks, Ranking Member Mike Crapo
(R-Idaho) briefly discussed S. 1217 before mentioning his interest in the
panel’s thoughts on how credit-linked note structures, as well as other
structures envisioned under S. 1217 would interact with the TBA market.
“While not all available finance products must be
TBA-compatible, we should keep an eye on their interaction with the current TBA
marketplace to ensure that enough options will be available to allow for this
market to thrive,” he said.
Testimony
In his testimony,
Joseph Tracy, Executive Vice President and Senior Advisor to the President,
Federal Reserve Bank of New York (FRBNY), acknowledged that the risk of the
government intervening during significant times of stress cannot be eliminated,
and stated that the level “at which the government steps in must be well known
in advance and credible to the market,” and devoid of speculation.
If the arrangement is made where the government bears
only the costs associated with “extraordinary systemic risks,” while the
private sector bears the losses associated with a normal business cycle, “then
the largest portion of the guarantee fee will be priced by the market and not
by the government.”
Mentioning research conducted by the FRBNY, Tracy discussed
how government support “would be triggered by the total loss across an entire
group or vintage of mortgage-backed securities.” Losses experienced during the
recent financial crisis would have been “far less” to the taxpayer and housing
market if a vintage-based program were in place that contained “adequate, high
quality private capital.”
In his testimony,
Philip Swagel, Professor of International Economic Policy at the University of
Maryland School of Public Policy, discussed the importance of first-loss
private capital in protecting taxpayers and said the 10 percent capital
requirement under S. 1217 “is appropriate and essential,” which should provide
“considerable comfort regarding taxpayer protection.”
Swagel also told the Committee that the incremental cost
of going from a five percent capital requirement to a 10 percent requirement
“will be modest,” and that the larger capital requirement “will foster a
diversity of sources of funding for mortgages, including more balance sheet
lending and a revival of private label securitization,” on top of mortgages
that continue to be packed into government guarantees.
Swagel also suggested the government guarantee come into
play “only after the entire private capital of the entities taking the
first-loss position at the level of the mortgage-backed security. The
government would then cover the full principal and interest of guaranteed MBS.”
“Anything less — having the guarantee apply a vintage at
a time — or a mortgage-backed security at a time will mean that the full
consequences of failure do not operate,” he concluded.
In his testimony,
Michael Canter, Director of Securitized Assets at AllianceBernstein and
testifying on behalf of the Securities Industry and Financial Markets
Association (SIFMA), discussed the importance of the TBA marketplace and
suggested that any government guarantee provide timely payment of all principal
and interest associated with securities in order to preserve the benefits of
the TBA market.
“Otherwise, the mortgage-backed securities would no
longer be an interest-rate investment, but a credit investment as well,” he
cautioned.
Canter added that “we support an approach where the size
of the first loss layer fluctuates with the demand for mortgage credit risk. If
constructed otherwise, the regime will tend to be pro-cyclical, and exacerbate
booms and busts.” Following up on this, Canter said whatever loss structure is
considered, it should not disrupt the liquidity of the TBA market. The recent
risk-sharing transactions executed from Fannie Mae and Freddie Mac called
Structured Agency Credit Risk (STACR) and Connecticut Avenue Securities (CAS)
are “prime examples of how the capital markets can provide first-loss capital
without disrupting the TBA structure.”
Canter also mentioned the market that has formed around
investors that hold non-investment grade mortgage credit risk and his firm’s
belief that fixed income investors will want to participate in this market
thereby spreading the risk, and pricing mortgage credit risk relative to other
risks in the marketplace.
“Financial companies that can only take one type of risk
do not have this flexibility. The price transparency that these risk-sharing
transactions will bring will help all market participants,” he said.
In his testimony,
David Stevens, President and CEO of the Mortgage Bankers Association, said any
transition to a new system “must retain and redeploy key aspects of the GSE’s
existing infrastructures” and be carefully phased in.
The MBA believes a stable and successful secondary
mortgage market must include three elements: an explicit government guarantee
for mortgage securities backed by a well-defined class of high quality
mortgages; taxpayer protection to “deep credit enhancements” that puts private
capital on a first-loss position; and a fair and transparent guarantee fee
structure, effectively creating an FDIC-like guarantee fund in times of
catastrophic losses.
The key question, as Stevens explained, is how to
identify how much capital entities need to set aside to absorb losses. He
mentioned that private credit enhancers should have sufficient capital to make
it rare enough that they would not have to tap into an insurance fund, while
the insurance fund should be large enough that government outlays would almost
never be required.
QUESTION & ANSWER SESSION
Johnson and Sen. Joe Manchin (D-W.Va.) asked
the panel for their views on the impact on homebuyers if the first-loss private
capital requirement is set too high, and whether the requirement should be set
by Congress or by a regulator.
Stevens noted the need for certainty that the guarantee
would be 100 percent on the mortgage-backed security, and that the first-loss
credit enhancement be provided by a “deep level” of private capital. In
addition, a legislative flat line standard would likely lead to systemic
distortions, as seen in the current model where lenders sell off their risk to
a government-guaranteed structure. A flat-line standard does not take into
account the risk-based measures within a structure of pooled mortgages and
Stevens said he would prefer a regulator be required to set capital levels.
Canter said it depends on how that 10 percent is funded,
while another panelist said it depends on the credit box and other dimensions.
Johnson noted Tracy’s research and questioned why
he recommends providing a government guarantee to a vintage MBS, instead of a
single institution or single MBS as proposed in S. 1217.
Tracy replied that it is “our view that the vintage-based
approach is going to be more robust under those conditions of severe market
stress, and will be better capable of continuing to provide access to mortgage
financing,” unlike the single institution or single MBS which, under similar
circumstances, may be unable to provide mortgage credit, which again will
likely lead to government intervention.
Johnson asked Canter how S. 1217 can be improved
to accommodate the STACR, CAS designs.
Canter said the basic design of STACR and CAS allows
Fannie and Freddie to sit in front of the transaction, passing risk off to the
capital markets. Under S. 1217, this would occur with the financial guarantor
who would have the risk and pass it off to the market. He added, “so what’s
important is that all the standards be the same across the financial
guarantors, which they would, as per the Federal Mortgage Insurance Corporation
(FMIC).”
Crapo asked Canter on what the Committee can learn
from the private market’s response to recent FHFA transactions that were
designed to address how the housing market may price risk in the future.
Canter said the market is “very capable” of measuring and
taking credit risk. Remarking on his firm’s findings, he said the expected loss
on the STACR and CAS transactions “ranged between 10 to 15 basis points
cumulatively over a ten year period.”
Canter noted that the 10 percent first-loss buffer is
“many, many multiples of that expected loss,” and that how the 10 percent is
structured is important. “What we learned is that everything above an
attachment point of say, 1.5 or 2 percent… is going to be considered investment
grade,” which opens up many more investors that are able to invest in the
transactions.
To allow for this to happen, “you have to make it so that
bond investors around the world can invest… as opposed to an insurance company
model, where… the return on capital might be excessive… because they want an
equity return on capital, as opposed to a bond return on capital.”
Crapo followed up by asking Canter what
“mileposts” the Committee should look for to be assured that the markets are
comfortable with the new system.
Canter replied by saying the continuation of such deals,
the look of the new system, how it’s structured, and what the transition will
ultimately look like “is going to be key,” he said, adding that “the more
places your able to place this risk, the better and more resilient the private
market capital system will be.”
Crapo then noted that the S. 1217 framework “has
approved bond guarantors, as well as capital market executions,” and asked why
encouraging such sources of private capital is important.
Canter mentioned how the more options available, “the
more chances we have of success and flexibility.”
Sen. Mark Warner (D-Va.) asked the panel whether
they believed that bond guarantors should all go out of business and be fully
liquidated before one would ever have to tap into the reinsurance fund.
All participants agreed. Carter also acknowledged that
there are disagreements amongst SIFMA members on this question, however.
Following up, Warner asked the panel to describe
the pros and cons of vintage versus security level in terms of where the
guarantee is.
Swagel said the vintage approach to failure is “not
consequential” as the executives stay in their positions and shareholders are
fine. Systemic issues arise from the government having to write a check with no
severe consequences attached to it, Swagel explained.
Tracy discussed the potential issues with the supply of
mortgage credit if the vintage approach is not taken, as that approach “is
designed to help restart the system and make sure that these entities can
continue to lend, even after systemic shock.”
Sen. Mike Johanns (R-Neb.) asked the panel whether
they could envision a workable system without a backstop.
Tracy said his suspicion was the threat of no backstop
wouldn’t be credible, and that at some point “we’d be back to an implicit
guarantee.”
Canter also agreed and, along with Tracy, discussed how
international markets would be reassured knowing that “they have a counterparty
they can depend on” during bad times. Canter also noted that if the first-loss
protection is deep enough with private capital up front, it would be rare that
the government would ever have to get involved.
Sen. Jeff Merkley (D-Ore.) asked the panel whether
it was possible to have both flexibility and strong legislative language, along
the lines of what Swagel referred to earlier.
Stevens noted the advantages and disadvantages of the GSE
structure, and urged the Committee to find the right balance. “So getting this
balance right, both in the flexible pricing model, so the government and
taxpayer don’t get adversely selected with the worst credits, but also making
sure that there’s a structure that interventions are protected to a point where
you don’t create systemic risk in the market.”
On flexibility, Swagel suggested incorporating an “escape
hatch” during a crisis whereby the Federal Reserve Chairman and the Treasury
Secretary would allow the FMIC to adjust the amount of private capital and have
the government insurance expand, as private capital will become scarcer during
this period.
Swagel also mentioned that loans inside the government
guarantee “will still be under the QM standard,” and pretty safe. He said it
was odd that the industry has said 5 percent capital will not lead to adverse
selection, but 10 percent will, despite the fact that there will still be QM
loans. “So I just think the adverse selection issue can be overstated with
regards to the 10 percent capital limit.”
Stevens responded that the concern is not whether the
capital limit is 5 percent or 10 percent, but the possibility that the FMIC
will only inherit the high-risk mortgages since institutions have options, the
FIMC guarantor program will not be the only outlet, and lenders and consumers
will choose best execution.
David Vitter (R-La.) questioned Swagel on whether
Section 204E, the Prohibition on Federal Assistance, of S. 1217 is too
broad, and if flexibility should be added.
Swagel again reiterated that investors who make bad
decisions should suffer the losses before the government starts writing checks,
and said he would support the language as is and avoid adding flexibility after
recognizing the fact that Dodd-Frank Title II “has the kind of protections
against systemic risk.”
Sen. Elizabeth Warren (D-Mass.) focused her
thoughts on when the guarantee would be triggered, noting the differences
between the bond/mutual approach and the structured transaction. She stated
that the structured transaction runs the risk of the government writing a check
every time a particular transaction runs beyond the 10 percent first-loss capital,
leaving the government “in the position of writing checks long before there’s
any systemic risk by really just backing up a bad deal.”
On the bond/mutual approach, Warren said it takes a while
before the 10 percent first-loss capital disappears “and that may mean that the
government is coming in only long after the market has begun to crater and we
have serious systemic problems.”
Corker discussed the split between those who
believe a government guarantee should kick in following a bond guarantor going
insolvent, as S. 1217 is currently structured, and those who believe the
government guarantee should be tied to a grouping of securities where, if one
fails, the guarantee should kick in.
“To me, to have it only kick in when an entity that’s
guarantee becomes insolvent means that the strength of these guarantees has to
be really there. Whereas with the other, certainly you can have much weaker
guarantors participating in it.”
Swagel and Stevens agreed with Corker’s premise, while
Canter responded that the financial guarantees “by their very nature are going
to be extremely highly correlated. And so when one is failing, it’s going to be
highly likely that the others are going to be under distress as well. And that
complicates the problem of what is the housing market going to look like then.”
Sen. Joe Manchin (D-W.Va.) asked the panel for
their suggestions on enhancements to S. 1217.
Canter said it is important to leave “a lot of
flexibility” for the regulator in order for the regulator to react to how the
transition is taking place. Canter also said he would like to see a prohibition
on the use of eminent domain inserted into the Senate bill.
Sen. Jack Reed (D-R.I.) asked Canter to elaborate
on some of the potential problems with the current proposal on the TBA
marketplace.
Canter said it is important that the government make
clear that “we don’t have to worry about the ability or the willingness of a
financial guarantor company to make an interest or principal payment.” If
financial guarantors were to miss a payment, but they’re still solvent, “the
government will need to make that payment, and it needs to be clear to the
market that the government will make that payment,” he said.
Pressed whether this is implicit in the current
legislation or if it needs to be made clearer, Canter said there should be
clearer language.
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