Greenspan questions overhaul plan

February 11, 2011, 11:21 PM UTC

The government is flying blind in its mortgage market overhaul, Alan Greenspan said.

Speaking at a Brookings Institute panel on the Obama administration’s plan to reform U.S. housing finance, Greenspan said he doesn’t believe we know enough about what an unsubsidized mortgage market would look like to commit to creating one.

What price is right?

“We have no sense of what is out there ex the actions of Fannie, Freddie and Ginnie Mae,” said Greenspan, referring to the government-backed mortgage buyers and insurers that provided financing for more than 90% of mortgages last year. “I have been looking at this market for generations, and I don’t have a clue what we have here.”

Greenspan said he would like to see “some academic type simulations, at least,” of what mortgage rates might prevail in a market not backed by the government.

The author of one such recent simulation, Dwight Jaffee of the University of California at Berkeley, said his findings show that the spread between mortgage rates and benchmark government bond rates in Europe is actually narrower than in the United States – suggesting perhaps that a private market is viable here at rates similar to the prevailing, subsidized ones.

But the two noted differences between the mortgage arrangements and the banking systems in the two regions. The option to refinance your mortgage at lower rates when interest rates fall is free in the United States, but carries a fee in Europe, for instance. That option “is worth at least 50 basis points,”  or half a percentage point, in terms of the spread between Treasury and mortgage rates, Jaffee said.

Greenspan also noted that it is widely understood that the big European banks that hold mortgages are viewed as too big to fail – creating a potentially costly, highly untransparent subsidy akin to the one that spurred the Obama administration housing finance reform paper.

“That is almost equivalent to the Fannie-Freddie situation,” he said.

In any case, Greenspan said it seems clear that a privately run, unsubsidized market would involve higher interest rates and less available mortgage credit.

But he said policymakers must first try to quantify those effects — and to specify exactly what price they believe is appropriate for society to pay to support homeownership. That, he said, is no easy task, because subsidies given one group inevitably come out of someone else’s hide.

“We have been through a period of hyping up housing,” said Greenspan, who was known to do a bit of hyping in his own day. “We need to decide what level of subsidization is acceptable.”

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