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Building on the Johnson-Crapo Consensus

By Michael A. Stegman

Wednesday, August 3, 2016

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This post is the second in our Housing America Series, aimed at elevating the need for housing policy reforms—from housing finance to affordability—as we move through a pivotal federal election and transition.

The need for comprehensive housing finance reform still exists and should be a top-of-mind consideration in the next Congress. Instead of starting the discussion from scratch, Congress should recognize the groundwork already laid and progress made toward a consensus.

The Housing Finance Reform and Taxpayer Protection Act of 2014, commonly known as Johnson-Crapo, aimed to wind down and replace the government-sponsored enterprises (GSEs), Fannie Mae and Freddie Mac, with a system of paid-for federal guarantees of the timely payment of principal and interest to investors in “eligible” mortgage-backed securities (MBS). Eligible MBS would consist of credit-enhanced mortgages originated by lenders in the primary market, where private capital would absorb losses (first-loss risk) before the government guarantee kicked in. The Congressional Budget Office reported that the bill would save taxpayers $58 billion over 10 years relative to current law.

While the legislation was voted out of the Senate Banking Committee by a bipartisan majority in May 2014, it was never considered by the full Senate. Yet today Johnson-Crapo is the only comprehensive housing finance reform measure to receive bipartisan support (endorsed by a committee vote of 13-9 with 6 Democratic and 7 Republican ayes). As such, it is important that critical areas of consensus achieved in the Johnson-Crapo process serve as a starting point as the nation transitions to new leadership and stakeholders prepare for a renewed debate about the future of the GSEs.

The Congressional Budget Office reported that the bill would save taxpayers $58 billion over 10 years relative to current law.

Here is a list of the ten most important elements of the Johnson-Crapo bill that I believe mark the evolving consensus around the contours of a future housing finance system for the next Congress.

1. Establishes an explicit government guarantee: An actuarially sound, paid-for government guarantee on MBS, not firms, is necessary to attract sufficient funding to meet the mortgage needs of American families at scale and at the lowest possible costs. A government guarantee to cover catastrophic losses ensures that rate investors—those domestic and international investors willing and able to take interest-rate but not credit risk—continue to play a substantial role in funding the U.S. mortgage market. It also preserves a deep and liquid to-be-announced market, allowing lenders to hedge their interest-rate risk and borrowers to lock in their rates ahead of closing.

2. Allows private capital to assume mortgage credit risk and protect the taxpayers from losses: The administration, a wide range of stakeholders, and legislators on both sides of the aisle agreed that extending mortgage credit and absorbing the first-loss risk is a role that private capital can and should play for the majority of loans originated in our country. Consequently, Johnson-Crapo required significant private capital to take the first loss and stipulated that private capital be completely wiped out before the government catastrophic guarantee kicks in.

3. Ensures the flow of mortgage credit in both good times and bad: There is broad consensus that home prices would have fallen much further and the economy would have suffered to a much greater extent in the recent crisis without government intervention. Countercyclical authority in a reformed system is necessary because if the availability of credit contracts sharply in a collapsing housing market, it can exacerbate the severity and duration of the downturn, which could ultimately cost taxpayers more in higher mortgage rates, foregone consumption, catastrophic insurance payouts, and loss of household wealth. To achieve cyclical resilience, Johnson-Crapo established a clear and institutionalized structure for the government to expand its catastrophic credit-risk role temporarily and flexibly during severe economic downturns.

4. Reduces concentration of credit risk: The perils of concentrating mortgage credit risk in two too-big-to-fail companies that also controlled the pipes for the nation’s securitization system were borne out in the financial crisis. The size and importance of the GSE duopoly threatened to destabilize the financial system and required unprecedented taxpayer support.

5. Separates the securitization infrastructure from private credit risk-taking: In a reformed system, private companies and investors that absorb credit risk should be separate from the securitization infrastructure. This would allow them to fail and be wound down in an orderly fashion without taking the entire secondary market system down with them. Johnson-Crapo created a securitization platform to be cooperatively owned by its members and operated in the public interest.

Because Johnson-Crapo never advanced to a Senate floor vote, some stakeholders might be inclined to ignore important areas of agreement, preferring to start afresh.

6. Requires application of fair lending laws to reformed system: In a reformed system, fair lending laws should apply to the purchase and guarantee of loans by secondary market participants, as they currently apply to the GSEs under the Federal Housing Enterprises Financial Safety and Soundness Act of 1992.

7. Assesses an annual ten basis point fee on the outstanding balance of guaranteed securities to support broad market access, affordability and other public policy goals: When fully phased in, this fee would raise more than ten times the resources for affordable housing than under the current GSE affordability fee. Revenues raised through assessment would be dedicated to the Department of Housing and Urban Development’s Housing Trust Fund (supports development and preservation of affordable rental housing), Treasury’s Capital Magnet Fund (provides grants to community development financial institutions or CDFIs for affordable housing loans and co-investment), and a new Market Access Fund (serves ownership and rental housing needs of low-income households through grants, loans, and credit enhancement).

8. Spins off multifamily subsidiaries: Unlike their single-family lines, the GSEs have been operating very successful multifamily programs that feature private capital taking significant first-loss risk. Johnson-Crapo enabled these existing risk-sharing programs to continue, along with other models to flourish in a reformed system. The bill required each GSE to establish and capitalize multifamily subsidiaries to continue their respective risk-sharing business lines for later spin off to the private sector. The benefit of a government guarantee on multifamily securities comes with a mandate to meet portfolio-level affordability requirements.

9. Uses GSE infrastructure and assets in future system: Furthermore, the bill acknowledged that despite critical deficiencies in the GSE business model necessitating comprehensive reform, there are many aspects of the current system that can be preserved to help provide a solid foundation on which to build the future system. Johnson-Crapo allowed for the sale and repurposing of critical GSE assets—systems, infrastructure, and human capital—to not only help preserve what works, but also support a smooth transition.

10. Clearly separates primary and secondary markets: Johnson-Crapo limited so-called vertical integration—or the ability of firms and activities in the primary market owning or controlling companies that operate in the secondary market. By prohibiting the private guarantors of first-loss risk from being affiliated with mortgage originators, not allowing guarantors to be aggregators of MBS, and banning depositories from having a controlling interest in a guarantor, the bill sought to address widespread concerns about the possibility of the largest financial institutions having disproportionate influence over the secondary market.


Because Johnson-Crapo never advanced to a Senate floor vote, some stakeholders might be inclined to ignore important areas of agreement achieved in the legislative process, preferring to start afresh. A more fruitful approach would be to build upon critical areas of bipartisan agreement, with good faith efforts on both sides of the aisle focused on ways to broaden the coalition without losing the core support of those committed to reform.

This is particularly important because as those involved in the process know, intensive negotiations to resolve outstanding issues that kept some members from supporting the bill in the Senate Banking Committee took place well after the committee’s vote.  And while these issues could not be resolved in time to move Johnson-Crapo to the floor, meaningful progress was made in several key areas:

  • How to ensure broad access and affordability in the reformed system in the event that economic incentives alone would not do the trick;
  • The form and composition that the loss-absorbing capital of guarantors should take in the new system;
  • The extent of vertical integration that would be permitted with respect to the ownership or control of guarantors by banks, and refinements in the role of standalone capital markets executions and aggregators; and
  • How small lenders would access the system. While largely unrecorded, the progress made and insights gained as a result of these efforts would be lost if the decision were made to start anew.

Eight years have passed since the GSEs were put into conservatorship and the need to pass housing finance reform has only grown more pressing. It is time for everyone to work together to create a mortgage finance system prepared to meet our economic needs.


  • Alan Rhinesmith

    Interesting discussion. But post financial crisis assessments may
    suggest that we question the basic premise, i.e., that “mortgage credit
    should be as widely available as it was during Urban’s pre-crisis
    baseline “. Wasn’t that system excessively risky? Mian and Sufi
    describe that baseline in their 2014 book “House of Debt” as a system of
    “leveraged losses” that ultimately resulted in the loss of significant
    household wealth, especially for low and moderate income households. And
    in the long run we didn’t even increase homeownership rates. Charles
    Lane nicely summarized the situation in his column last week