Introduction

The new calendar year got off to a rocky start in Washington. Mid-January negotiations between the president and congressional leaders to keep the federal government open failed, resulting in a three day shutdown. Prior to the shutdown, an Oval Office discussion on immigration turned heated when the president reportedly made controversial statements regarding the countries of origin of some immigrants currently protected under the Deferred Action for Childhood Arrivals (DACA) and other special immigration status programs. On January 22, the shutdown ended when Congress agreed to fund the government until February 8, at which time another funding bill will have to be passed. After initially balking at the deal, the majority of Senate Democrats supported it in exchange for a promise from Majority Leader Mitch McConnell (R-Ky.) to provide floor time for legislation to resolve the DACA issue prior to the deadline for the next spending deal. The funding deal also extended the National Flood Insurance Program for three weeks, and extended the Children’s Health Insurance Plan for six years.

From an optimistic perspective, the president’s remarks in Davos were generally well received, and his State of the Union speech was more traditional than some of his predecessors. However, it is worth noting that the president’s State of the Union address was the first since the financial crisis that did not mention housing.

Impact of a Government Shutdown

The three day government shutdown did not have a significant impact on financial services, as it did not last very long. However, a longer shutdown, should one occur in the future, would likely be more impactful. In short, automated activities should continue without issue, but anything requiring government approval will likely be postponed until the shutdown is over and funding is restored. During the January episode, the administration stated that it would try to lessen the impact of the shutdown as much as it could and instructed some agencies to continue providing services for as long as they could with the money they had. In a future shutdown, if past experience is precedent, major housing programs and financial services oversight would continue for as long as possible. During the 2013 shutdown, which lasted 16 days:

• Prudential banking supervision continued; • The Federal Housing Administration continued to endorse single-family loans and lender insurance approvals, although there were some delays in processing; • Ginnie Mae continued to ensure principal and interest payments were made to investors; • The Rural Housing Service halted new rural housing loans or guarantees during the shutdown and would do so again, according to the Department of Agriculture website; • No impact on or ; and • Veterans Administration originations continued running smoothly and would be expected to do so again.

Also in 2013, the Internal Revenue Service (IRS) stopped processing 4506-T requests (borrower tax return transcripts). The IRS has not said how it would handle a future shutdown, but some lenders may decide to save 4506-T authorization in the loan file and postpone verification. Others may refuse to close loans without a transcript.

Although the January shutdown was a bit of a non-event, a lingering concern is that a future shutdown could also impact the debt ceiling, which must be raised in March to avoid default. A default could have significant impact on the markets.

Housing Finance Reform Update

On January 17, the Federal Housing Finance Agency (FHFA) sent a letter to the Senate Banking Committee outlining its views on housing finance reform. FHFA Director Mel Watt stated that he was presenting these views in response to multiple requests from lawmakers in both houses. That said, Watt underscored that he believes that it is the prerogative and responsibility of Congress, not FHFA, to decide on housing finance reform.

In the letter, FHFA asserts that Fannie Mae and Freddie Mac should be preserved and reincorporated as “secondary market entities” (SMEs), which it describes as private, shareholder-owned corporations that have a regulated rate of return. The letter calls for the government to provide an explicit and paid-for catastrophic guarantee on all mortgage-backed securities issued by the SMEs and other private-sector competitors. The SMEs’ regulator would collect the fees from the guarantee and create a mortgage insurance fund that would cover losses in the event of a severe downturn, similar to how the Federal Deposit Insurance Corporation’s fund covers losses on insured deposits. Though FHFA suggests there should be more than two guarantors, it raises a concern that having too many market participants could create a perverse incentive that leads to a “race to the bottom.”

The FHFA letter also outlines a number of housing goals, including maintaining the cash window utilized by smaller lenders, and affordable housing mandates for the SMEs. Media reports stated that under the FHFA plan, the SMEs would have mandated capital and liquidity requirements.

On January 30, draft legislation attributed to Senators Bob Corker (R-Tenn.) and Mark Warner (D-Va.) was released to the media. Media reports indicate that the legislation would put Fannie Mae and Freddie Mac into receivership as part of an effort to build a new housing finance system. The new system envisions multiple private guarantors that issue mortgage backed-securities that carry a government guarantee. The legislation would permit FHFA to require each FHLBank to jointly establish one or more single-family mortgage guarantors to provide access to the secondary market for small lenders. Small lenders that are not FHLBank members would be allowed to participate in the FHLBank guarantor subject to regulation.

Regarding affordable homeownership, the legislation requires a market access fee equal to a set percentage of the unpaid principal balance of the mortgage-backed security issuance that would support the Housing Trust Fund and the Capital Magnet Fund. The legislation also requires guarantors to submit annual market access plans on how they intend to improve access to credit for lower income borrowers. In writing its plan, the FHFA is to use the existing programs and infrastructure of the state housing finance agencies and the FHLBanks. Separately, the House Financial Services Committee is working on an issuer based housing finance reform proposal that may utilize a Ginnie Mae approach.

Regulatory Relief Update

On January 17, Dr. Mark Calabria, chief economist for the vice president, addressed a financial services group in Washington and spoke in favor of the regulatory relief bill sponsored by Senate Banking Committee Chairman Mike Crapo (R-Idaho), which was approved by a majority of the committee in December. While noting that it should have substantial bipartisan support, Calabria cautioned that floor consideration of the bill may get pushed until after the 2018 mid-term elections. Calabria handicapped the bill’s chance of passing at below 50 percent and opined that its place in the “queue” for Senate floor time is behind other policy priorities, including looming budget deadlines and efforts to pass an infrastructure bill.

Nominations, Approvals, and Hearings

On January 23, the Senate voted 84-13 to confirm the nomination of Jerome Powell to serve as Chairman of the Board of Governors of the System. Powell’s four-year term as chairman will begin on February 1. He is currently serving a 14-year term as a Federal Reserve governor that continues until 2028.

Appearing before the Senate Banking Committee on that same day, former Senate staffer Jelena McWilliams said that if confirmed as Chairman of the Federal Deposit Insurance Corporation (FDIC), she would focus on easing unnecessary regulatory burdens on community banks, addressing obstacles to de novo bank charters, and cybersecurity issues, as well as on how international regulations like Basel III affect community banks. Senator Dean Heller (R-Nev.) asked for her views on expanding the industrial loan company (ILC) charter. McWilliams agreed with previous FDIC chairs that ILCs pose no greater safety or soundness threat than any other charter type. She said that she is particularly concerned about bank consolidation that may leave rural areas underserved, and identified the Volcker Rule as a regulation ripe for review. Separately, the White House adjusted McWilliams’ nomination so that she would replace Thomas Hoenig as a member of the FDIC Board, rather than fill a current vacancy. This would prevent Hoenig from continuing to serve past the expiration of his term on April 16.

On January 30, Treasury Secretary Mnuchin testified before the Senate Banking Committee. During his testimony, Mnuchin indicated support for congressional efforts to reform the nation’s housing finance system and said that he was open to a number of legislative proposals. His goals for reform legislation include preserving the 30-year mortgage, decreasing the risk held by Fannie Mae and Freddie Mac (presumably through credit risk transfers), and ensuring that substantial private sector capital stands in a first-loss position ahead of a “paid-for” government guarantee.

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