What happens when one government intervention for social engineering meets another government intervention for social engineering? Hilarity doesn’t exactly ensue, as the White House discovered when it attempted to exploit Fannie Mae and Freddie Mac to carry paper for its home-energy improvement program, part of Barack Obama’s “green economy” strategy. The two GSEs issued a rare rebuke to the Obama administration and refused to play along, at least for the moment:
A White House-backed effort to encourage home-energy improvements was dealt a blow Tuesday after a federal regulator said the program posed significant risks to mortgage lenders and investors.
The Federal Housing Finance Agency, which regulates Fannie Mae and Freddie Mac, suggested the mortgage finance titans should avoid participating in the program or should tighten their lending standards where the initiative moves forward.
The move could effectively torpedo the fledgling program that lets homeowners borrow money from their local governments to finance the high upfront costs of energy-efficient upgrades, like solar panels or efficient furnaces.
City and state leaders say the decision could put at risk a program they had hoped would boost jobs and conservation efforts.
Well, sure it does — and the White House has only itself to blame. As the Wall Street Journal notes, the plan called for the Property Assessed Clean Energy (PACE) program to coordinate loans from states and local municipalities on special tax assessments to pay for expensive improvements on energy use (solar panels, for example) over a period of 15-20 years, and the state or local government sells bonds to cover the debt. However, those who buy those bonds then become senior creditors, which means that they get paid first in any liquidation — and not the mortgage lender and its investors.
That presents a big problem for Fannie and Freddie. The terms of their operations requires them to hold the senior position on any mortgages they buy or guarantee, in order to make the mortgage-backed securities (MBSs) more reliable financial instruments. This is why FHFA says that Fannie and Freddie should refuse to participate, or at the worst only agree when the borrower has airtight credit and ability to pay off the loans. Otherwise, it puts at risk the investors of the MBSs sold by allowing them to lose their first position on liquidation, and the last thing this economy needs is even more instability in those instruments. And given the lending standards applied over the past twelve years by Fannie and Freddie, it’s a good bet that most of the homeowners participating in the PACE program may already be too extended to make for a good credit risk.
Now, it’s not as if the collapse of Fannie and Freddie was some arcane event only known by a few industry insiders, and not as though the MBS market somehow strengthened so much over the last couple of years that inducing more risk makes any sense at all. After the disastrous results of previous government intervention with Fannie and Freddie and the poisonous effects of toxic MBS assets, the only efforts the government should be making in regard to Fannie and Freddie is extricating them from lending risk, not doubling down on it. At the very least, one might have presumed that someone in the Obama administration might have researched the issue of senior positioning of PACE creditors and the impact it might have on the troubled GSEs.
Of course, this administration has shown little respect for senior creditors in the past, which is one of the reasons why investors aren’t all that keen on jumping into the market now anyway. The WSJ reports that the Obama administration’s solution to this was to tell Fannie and Freddie to just reorder the creditor positioning, but the PACE investors won’t roll over like others have done in the past — mainly because the PACE investors are taxpayers to whom these state and local municipalities have to answer.
In short, this gives a strange sense of deja vu — and a disturbing sense that this White House is very clueless about economics and the law.