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Too Big Not to Fail
...Despite their central roles in the housing bubble, the Federal Housing Administration, Fannie Mae and Freddie Mac now back more than 95 percent of new mortgages. In 2006, at the height of the housing boom, the F.H.A.’s share of the mortgage market was 2 percent; today it’s around 30 percent. Given that the agency’s requirements on down payments and creditworthiness have been less stringent than Fannie Mae’s, that should concern all taxpayers.

Just about everyone agrees that the government’s extraordinary role in supporting the housing finance market should be curtailed. Most government officials, however, insist that the time for serious reform will be when “the housing market is clearly recovering,” as the former Treasury Secretary Henry M. Paulson Jr. recently put it.

But by waiting for a recovery before reforming the government’s mortgage-backing trio, we are getting things backward. Far from being the last bulwark supporting the housing market, the F.H.A., Fannie and Freddie are very likely holding back the private loan industry. And, unfortunately, a little-noticed provision of the Dodd-Frank act threatens to undermine efforts at rebuilding an innovative and healthy private sector for mortgages.

Under Dodd-Frank, financial firms that securitize mortgages are required to retain 5 percent of the risk of those securities. The goal, a laudable one, is to encourage companies to more closely monitor the quality of the mortgages they securitize. But it is also likely to increase the cost of affected mortgages, because banks will seek to pass on the costs of that risk to home buyers.

Mortgages guaranteed by the F.H.A., however, are exempt from the 5 percent risk-retention requirement. This means that lenders will find that it costs far more, and involves more risk, to offer mortgages they back themselves than those covered with a guarantee from the agency. There’s little doubt this will lead to a huge increase in the volume of business done by the F.H.A., as banks creating securities will seek out mortgages on which they don’t have to cover the risk. Purely private mortgages will quickly be pushed out of the market. ...