Fannie and Freddie Get a Little Room to Breathe

OFHEO, the regulator in charge of Fannie Mae and Freddie Mac, has designed to loosen a key capital requirement which has been restraining the mortgage giants:

To support growth and further restore market liquidity, OFHEO announced that it would begin to permit a significant portion of the GSEs' 30 percent OFHEO-directed capital surplus to be invested in mortgages and MBS.

This move is long overdue. I was calling for it back in November, when OFHEO was on a very different page:

The reason why capital-adequacy rules exist is to make sure that there's a cushion in times of crisis. Well, guess what - this is a time of crisis. The capital-adequacy rules should be loosened, but instead OFHEO is sticking to its decision to impose significantly tighter requirements on Freddie.

So OFHEO has come full circle since then; I'm glad. Is this enabling, I'm asked, or is it some kind of true solution? The answer is in between. It's not really enabling, since Fannie and Freddie are about as blameless as mortgage professionals come in this present fiasco. Yes, their internal accounting was atrocious. And yes, their decision to spend billions of dollars buying back their own stock was idiotic. But they were reasonably good at maintaining some kind of handle on underwriting standards, which means that their effect on the housing market generally was to act, at the margin, as a brake on soaring house prices rather than as an accelerator.

What's more, the loosened capital requirements come with a catch: Fannie and Freddie have to go out and raise new capital. So this shouldn't weaken their balance sheets overmuch.

On the other hand, this is certainly not a true solution. The sum total of capital freed up to buy mortgages is about $5.8 billion, which is peanuts, really, and not remotely enough to have a noticeable effect on the nation's housing markets. (Update: To clarify, thanks to the power of leverage, the $5.8 billion in extra capital will allow Fannie and Freddie to buy $200 billion in mortgages. Which is tiny in relation to the size of the US housing market.)

So chalk this up to "step in the right direction". And if Fannie and Freddie show that they're using their extra capital responsibly, maybe OFHEO will let them have even more leeway in future.