Eliminating Fannie and Freddie May Raise Mortgage Costs, Force Small Lenders Out of Business

By Kyle Chezum Updated on 2/14/2011

2/14/11

In the wake of the Obama Administration’s announcement on Friday to gradually eliminate Fannie Mae and Freddie Mac, some economists and finance professionals have expressed concern that privatization of the secondary mortgage market will force smaller, community lenders out of business.  Removing government support entirely from the secondary mortgage market will place the vast majority of power in the hands of massive financial institutions insured by the FDIC and price minor institutions out of the market.

Glen Corso, Managing Director of the Community Mortgage Banking Project, insists that the government’s proposed mortgage reform will create a monopolized mortgage market.  "The proposed wind down of Fannie and Freddie does little to restore healthy competition in the mortgage market and will simply permit the three mega‐lenders that currently have a combined 55% market share to use their too‐big‐to‐fail status and FDIC‐insured deposits to drive mid‐sized and smaller lenders out of business and further increase their market dominance," Corso said.  The statement may seem dramatic, but it’s not unrealistic.

What does this mean for the average American homebuyer?  According to some economists, it means the fence is no longer a safe place to sit.  Mortgage rates are still low, home prices are down, and lending requirements, though tighter than ever before, are not impossible to meet.  All of this may change in the coming months or years, depending on how swiftly Congress implements the Treasury’s recommended changes.

Without Fannie and Freddie, some economists predict, there will be fewer lenders on the market to choose from, and those that remain will demand higher down payments and higher closing fees.  The amount of money buyers can borrow will decrease by 14% under the new plan.  With interest rates expected to continue their current upward climb, the housing sector faces an uncertain future.

Corso claims the end result for the mortgage market will be a bad one.  "The end result will be to simply replace the two GSEs with a handful of too‐big‐to‐fail government‐backed banks,” he said.  “We do not believe that any proposal that reduces competition and diversity of funding sources for American home buyers is a good public policy outcome.”