Outside editorial: Fannie and Freddie drop the ball

The following editorial appeared in the Los Angeles Times:


Home prices plunged by almost a third in major U.S. cities after the housing bubble burst, and the glut of foreclosures has kept the market from rebounding. The seemingly relentless pace of foreclosures also is dampening the demand for new homes, which is one reason construction industry unemployment remains significantly higher than the rate for the rest of the economy.

State and federal officials have tried to delay or avert foreclosures, with limited success. Their most recent, and promising, effort is a settlement that requires the nation’s five leading banks to forgive some of the debt of borrowers in hardship, provided that the write-downs would cut the banks’ losses over the long haul. But the two biggest players in mortgage finance, Fannie Mae and Freddie Mac, have refused to follow suit. It’s a shortsighted position that could lead to billions more dollars in losses from unnecessary foreclosures.

Fannie and Freddie have more influence over the housing market than any other financial institutions because they own or guarantee more than half the mortgages in the United States. They’ve rejected write-downs — also known as “principal forgiveness” — at the insistence of regulator Edward J. DeMarco, acting director of the Federal Housing Finance Agency. DeMarco told a Senate panel Tuesday that he prefers giving troubled borrowers a temporary reprieve from paying interest on a portion of their loans — also known as “principal forbearance” — because it would be less costly for Fannie, Freddie and the taxpayers who are bailing them out.

At least, that’s what the agency’s number crunchers say about some types of write-downs. They concede, though, that other types of forgiveness result in smaller losses than forbearance, and that Fannie and Freddie could prevent more foreclosures if they were willing to reduce some borrowers’ debt. Research on actual mortgage modifications shows that the most effective ones by far, both in terms of homeowners rescued and losses avoided, have been those that forgave some of the borrower’s principal. Considering that repossessing and reselling a property can wipe out half or more of a loan’s value, a lender can write off a fair amount of a borrower’s debt and still come out ahead if the modified loan averts foreclosure.

It’s not hard to understand why. Plummeting property values have trapped many borrowers in homes they can’t sell or refinance, and when hardship strikes, a loan that once was affordable becomes crushing. Only by shedding some of their debt can they regain the ability to obtain a more affordable loan or move to find a new job.

Last week, California Attorney General Kamala Harris asked DeMarco to suspend foreclosures in this state until he analyzes the results of the five top banks’ new approach to principal forgiveness. DeMarco refused on Monday, but he should reconsider. His own data show that Fannie and Freddie aren’t moving boldly enough to modify mortgages and avert unnecessary foreclosures. That hurts borrowers, their neighbors and the taxpayers who are stuck with Fannie and Freddie’s tab.


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