The Federal Housing Administration’s (FHA) losses over the next 30 years could be much higher than originally projected, according to the findings of a congressional committee. The dismal forecast has some bracing for another taxpayer-financed bailout.
The House Oversight and Government Reform Committee, chaired by Rep. Darrell Issa (R-Calif.) is reporting that a worst-case scenario stress test conducted last year estimated the FHA could suffer losses as high as $115 billion. That forecast is significantly worse than the one reported by independent auditor Integrated Financial Engineering Inc., which projected losses of $65 billion for the 79-year old agency. Federal law requires the FHA to keep enough reserves to cover projected losses or to accept a government bailout if it cannot.
FHA was created as a part of the National Housing Act of 1934 with the goal of improving housing affordability. The agency does not lend money to borrowers but insures lenders against losses on loans that meet certain standards, making lenders more willing to extend credit.
Swamped by Defaults
The primary cause of the FHA’s troubles is the plague of underwater mortgages that has struck the housing sector in recent years. During the late housing bubble, the FHA lost market share as more private lenders sold “subprime” loans to home buyers. But with the collapse of the housing market in 2007-08, much of that business returned to the FHA. While the agency has played a major role in propping up home prices, it has also been overwhelmed by defaults.
Critics say the FHA is not helping anybody by easing credit to borrowers. “Insofar as the FHA was encouraging people to buy homes in bubble markets that were not deflated, that’s not good for the FHA and you didn’t help the homeowner,” Dean Baker, co-director of the Center for Economic and Policy Research, told the Wall Street Journal.
The FHA is seeking to reverse its deteriorating financial position by boosting fees, extending the amount of time premiums are paid to the life of the loan, and lowering the amounts senior citizens can borrow with reverse mortgages. In addition, a decision whether to draw against the U.S. Treasury will not be taken until September in the hopes an improving housing market will allow the agency to avoid a bailout.
Urging Fundamental Reforms
But some FHA critics see these measures as cosmetic. They are urging fundamental reforms to address the agency’s long-term financial problems.
John Ligon, senior policy analyst at the conservative Heritage Foundation, writes:
The FHA has a core mission of providing targeted support to creditworthy low- and moderate-income, minority, and first-time homebuyers. The FHA cannot responsibly achieve these intended objectives when it is expanding its market share and competing with the conventional market for high-cost mortgage loans.
According to Ligon, the only way the FHA can avoid a bailout is to reduce its market share by lowering maximum loan limits to $325,000 over the next four years, raise credit requirements for borrowers, and institute “burden sharing” with loan originators by reducing insurance coverage from the current 100 percent to 50 percent by 2016.
While these reforms may improve FHA’s balance sheet over the long term, they would also reduce market liquidity, which in turn could cause home prices to fall. Thus homeowners with little home equity now could find themselves underwater on their mortgages, which could trigger more defaults.
But it is precisely this apparent dilemma that government-sponsored enterprises like FHA have created with their meddling into the market that has some calling for a more radical approach.
‘Shut Down Fannie, Freddie, FHA’
“I would shut down Fannie Mae, Freddie Mac, the FHA, HUD, and such similiar programs and agencies,” says Mike “Mish” Shedlock, a market analyst and host of the Web site Mish’s Global Economic Trend Analysis. “The more money government threw at housing, the less affordable housing became until the bubble popped.”
He says numerous government agencies and programs “should be shut down and things would be far better off because government can never allocate money better than the free market.”
Tim Kelly ([email protected]) is a political cartoonist, policy advisor, columnist for the Future of Freedom Foundation, and a correspondent for Radio America’s Special Investigator.