If I Were Mortgage Czar
By Arnold Kling
If I were the czar of the mortgage market, I would attempt to bring back the 30-year amortizing fixed-rate mortgage with a 20 percent down payment. As recently as fifteen years ago, this was the workhorse of the housing market.
I think that a housing market that is based on mortgages with low down payments is inherently unstable. The buyer’s equity comes almost entirely from house price appreciation. That means that in a rising market, everybody can buy a home. In a flat or falling market, nobody can buy a home. [note: Bob Shiller wants mortgages that are indexed to home prices. Such mortgages might adapt to this problem, but I would rather avoid the problem in the first place.]
The 30-year mortgage with 20 percent down produced a very stable mortgage market for many years. Until the 1970’s, savings and loans provided mortgages in a no-brainer fashion. The joke was 3-6-3: pay three percent interest on savings, charge six percent interest on mortgages, and be on the golf course by three PM. Only when inflation got out of hand did this model break down.
The demise of the savings and loans produced the rise of Fannie Mae and Freddie Mac. One can argue that Fannie and Freddie were more efficient and better hedged against interest-rate volatility than the savings and loans. If Fannie and Freddie had stuck firmly to the 20 percent downpayment mortgage, we would not need a mortgage czar today. But they didn’t stick to it, and we are where we are.
I think we ought to aim to go back to the model that worked well in the past, where lots of companies made mortgage loans and kept them in portfolios. That model worked when the 20 percent down payment was the rule. All it would take to get back to that model would be to freeze Fannie and Freddie’s mortgage business and to lower capital requirements at banks for purchasing mortgages with 20 percent down payments.
Instead, the plan is to grow Fannie and Freddie’s mortgage business for the next 18 months, and then to shrink it. Maybe. Depending on what the next Administration decides to do.
My approach would not do anything to support house prices. In that regard, Shiller and I are in agreement: there is no public policy purpose served in trying to levitate home prices.
My approach would make it more difficult for many families to achieve home ownership, because many families find it hard to save the money for a 20 percent down payment. I am willing to let those families deal with being renters. As fantasy mortgage czar, I value stability of housing markets and financial institutions more than raising the home ownership rate.
I don’t expect to be named mortgage czar any time soon.