Fannie Mae, Freddie Mac, and the Future of the Secondary Mortgage Market

Posted by
Damien Moore
David Torregrosa
April 4, 2013

Fannie Mae and Freddie Mac are companies that were chartered by the Congress four decades ago to provide a stable source of funding for residential mortgages across the country, including loans to finance housing for low- and moderate-income families. To carry out that mission, they purchase mortgages that meet certain standards from banks and other originators, pool those loans into mortgage-backed securities (MBSs) that they guarantee against losses from defaults on the underlying mortgages, and sell the securities to investors. They also buy mortgages and MBSs and hold them in their portfolios.

In September 2008, the federal government took control and ownership of Fannie Mae and Freddie Mac after falling house prices and rising delinquencies threatened their solvency and their ability to facilitate the flow of credit to mortgage borrowers. Since then, the Department of the Treasury has invested $187 billion in the two enterprises and received dividend payments totaling $65 billion. Under federal conservatorship, Fannie Mae and Freddie Mac continue to play a central role in the secondary mortgage market, where lenders (such as banks, thrifts, and mortgage companies) obtain funding for the loans they originate by selling loans to those two enterprises and other financial institutions. Last year those enterprises guaranteed a large majority of new residential mortgages originated in the United States, and they hold or guarantee about half of the outstanding residential mortgage debt.

The cost to taxpayers of taking over Fannie Mae and Freddie Mac and the structural weaknesses that contributed to the enterprises’ financial problems have prompted policymakers to consider various alternatives for the government’s future role in the secondary market for residential mortgages. In December 2010, CBO released a study, Fannie Mae, Freddie Mac, and the Federal Role in the Secondary Mortgage Market, which was followed by related testimony on The Budgetary Cost of Fannie Mae and Freddie Mac and Options for the Future Federal Role in the Secondary Mortgage Market in July 2011. In those publications, CBO examined a wide range of alternatives for the future structure of the secondary market that included:

  • A hybrid public/private model in which the government would help ensure a steady supply of mortgage financing by providing explicit guarantees on privately issued mortgages and related securities that met certain qualifications;
  • A fully public model in which a wholly federal entity would guarantee qualifying mortgages; or
  • A fully private model in which there would be no special federal backing for the secondary mortgage market.

That work examined the trade-offs involved in making key design choices, which include whether to have federal guarantees and, if so, how to structure and price them; whether to support affordable housing, and, if so, by what means; and how to structure and regulate the secondary mortgage market. CBO’s study evaluated the strengths and weaknesses of the three broad approaches for the future of the mortgage market, looking at a number of criteria, including whether a given alternative would ensure a steady supply of financing for mortgages, how affordable-housing goals would be met, how well taxpayers would be protected from risk, whether federal guarantees would be priced fairly, and to what extent an approach would provide incentives to control risk-taking. Depending on the market structure chosen, Fannie Mae and Freddie Mac could be privatized, liquidated, or converted or merged into a federal agency.

Damien Moore is CBO's Assistant Director for Financial Analysis and David Torregrosa is an analyst in the Financial Analysis Division.