Federal Housing Administration & FDIC – The Next Bailouts to Come?

In August referenced and wrote the following about the Federal Housing Administration (FHA) in US Government Happily Continues Subprime Lending:

The FHA’s standard insurance program today is notoriously lax. It backs low downpayment loans, to buyers who often have below-average to poor credit ratings, and with almost no oversight to protect against fraud. Sound familiar? This is called subprime lending—the same financial roulette that busted Fannie, Freddie and large mortgage houses like Countrywide Financial.

On June 18, HUD’s Inspector General issued a scathing report on the FHA’s lax insurance practices. It found that the FHA’s default rate has grown to 7%, which is about double the level considered safe and sound for lenders, and that 13% of these loans are delinquent by more than 30 days. The FHA’s reserve fund was found to have fallen in half, to 3% from 6.4% in 2007—meaning it now has a 33 to 1 leverage ratio, which is into Bear Stearns territory.

(…)

Where this will lead is predictable: Taxpayers will be on the hook to cover more losses than our dear bureaucrats are currently capable of expecting.

Today the Washington Post reports Housing Agency’s Cash Reserves Will Drop Below Requirement:

The Federal Housing Administration has been hit so hard by the mortgage crisis that for the first time, the agency’s cash reserves will drop below the minimum level set by Congress, FHA officials said.

(…)

‘Not Going to Congress’

Earlier this year, HUD Inspector General Kenneth Donohue told a Senate panel that falling below the reserve’s minimum threshold would require an “increase in premiums or congressional appropriation intervention to make up the shortfall.

But Stevens, who became FHA commissioner in July, said these options are not on the table. “We are absolutely not going to Congress and asking for money for FHA,” he said. “We’re not going to need a special subsidy or special funding of any kind.”

He stressed that the agency plans to take other steps that will help beef up the reserves. Some of these measures address fraudulent loans that can contribute to FHA’s losses.

For one, he will propose that banks and other lenders that do business with the FHA have at least $1 million in capital they can use to repay the agency for losses if they were involved in fraud. Now, they are required only to hold $250,000. Second, he will propose that lenders also take responsibility for any losses due to fraud committed by the mortgage brokers with whom they work.

You’re So Going to Congress!

OK, let’s back up for a second: I have my doubts that relieving the FHA from the responsibility to cover fraudulent loans even remotely fixes their problems. The problem is not one of fraudulent loans. The problem is that loans were made to lots and lots of people who simply can’t pay them back. This is what started the sub-prime mess in 2006. Note that “the FHA’s default rate has grown to 7%, which is about double the level considered safe and sound for lenders, and that 13% of these loans are delinquent by more than 30 days”.

Folks, this is subprime lending at its best. They will find out at some point in the future that none of the solutions proposed above will help. And then they will need money or close shop. And if they need money they will need to go to Congress. If they don’t deem it politically palatable to go to Congress directly, then what?

Here is an idea that Sheila Bair with the FDIC is now toying with. Please note that the FDIC is essentially for bank deposits what the FHA is for mortgages:

The FDIC has several options to consider as it looks to replenish the insurance fund after nearly 100 bank failures this year. There has been a general shift of mindset that the FDIC should consider taking government funds, Bair said at a question-and-answer session following the speech Friday.

“We are considering all options, including borrowing from Treasury,” Bair said, adding the board will meet before the end of the month and should soon issue some requests for comment on the subject.

Senator Carl Levin (D-Mich.) this week urged FDIC to take advantage of borrowing authority included a provision in the Helping Families Save Their Homes Act. He noted the Act authorizes the FDIC to borrow up to $100bn from the Treasury if additional funds are needed to replenish the insurance fund. He urged the FDIC to choose borrowing from the Treasury over increasing fees charged to all banking firms.

But the FDIC has these $100 billion essentially pre approved. I don’t see any such option for the FHA. At some point they will either hike up premiums for performing banks, or ask for money from Congress, or do a combination of both … of they could also do the right thing for a change and close down their miserable operation.




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