Thursday, May 12, 2011

Shelby’s Capital Idea

New Orleanians use the storm and Katrina not only to indicate the primary meteorological incident, a hurricane; the terms additionally encompass the levee breaches, the ensuing flood, the resulting deaths, the rescue efforts, the governmental blunders, our extended—sometimes permanent—stays in the diaspora, the near-death of our city, Hurricane Rita, which arrived three weeks after Katrina, and in many cases every day that has passed since August 29, 2005.

Sara Roahen, Gumbo Tales

On April 1st I was running late for a hearing on flood insurance reform. There was only one witness; Craig Fugate missed an earlier hearing to monitor the tsunami that had so recently overwhelmed Japan. This was a make-up hearing taking place on a beautiful Friday morning and there were plenty of empty seats up on the dais and in the audience. I took a seat near a friend.

FEMA Administrator Fugate is a man who inspires confidence, at least in me. He was forthright, matter-of-fact, and didn’t hesitate to answer questions directly. My favorite moment in the hearing was Fugate’s takedown of his fellow Floridians who have set up federal taxpayers to take the fall for their oversubscribed, underfunded state property insurance program. At least someone in the federal government gets the joke.

My friend and I hung around after the hearing, talking about the flood program. She said I seem to take the issue personally. It is personal and it should be for you, too.

Here’s why.


I believe it was the morning of August 30, 2005, that an official from Louisiana Citizens, the state run insurer of last resort, called the office asking for a $500 million emergency federal appropriation so Citizens could pay claims. In less than 24 hours the state run insurance program was insolvent. It was Tuesday; Citizens needed the money that week. They knew it wasn’t going to happen.

Soon afterwards, Louisiana homeowners discovered they were liable for every penny of the little more than $1billion in claims that Louisiana Citizens couldn’t pay out. To cover what was one of Louisiana’s largest bond issuances, every homeowners policy in the state was assessed an ongoing Katrina surcharge.

Armed revolt almost ensued. Almost. The legislature ultimately opted to spread the costs to all Louisiana taxpayers by allowing a state income tax rebate equal to the Katrina surcharge. According to the State Treasurer, the average rebate for the Katrina surcharge this past year was $136.59. And so the little known fact remains—Louisiana covered all losses in the Louisiana Citizens program.


How long did it take officials at the National Flood Insurance Program to have their Louisiana Citizens moment? When did they realize how hopelessly unprepared the program was to meet its obligations? It took them a couple of times to get the number right, but ultimately the NFIP had to ask Congress for permission to borrow around $20 billion from the Treasury.

Sara Roahen captures in one sentence the essence of Katrina; for the people who lived it, Katrina divides time. Katrina is how things were versus how things are. Bankrupted and currently $17 billion in debt, the NFIP is viewed by Congress in very simple and familiar terms from the Louisiana lexicon: pre-Katrina and post-Katrina.

The House Financial Services Committee is marking up yet another post-Katrina NFIP reform bill this week. The bill increases premiums, eliminates subsidies, improves flood insurance rate maps, and allows the NFIP to purchase private reinsurance. On the other hand, the bill delays the effective date of new flood maps for up to 5 years, gives local officials even more ways to suspend mandatory flood insurance purchase requirements for high risk areas, and expands NFIP coverage lines. The bill does all of this and more, but it doesn’t directly address the NFIP’s $17 billion post-Katrina debt problem.

Everyone knows the NFIP will never repay this debt. During the hearing Administrator Fugate said it was “unlikely.” So, what’s to be done?

Personally, I think the Louisiana Citizens model makes sense. If you benefit from the NFIP, you should pay its freight. If Louisiana can do it, I know the nation can, too. However, there is that risk of armed rebellion to contend with.

If we don’t want the people who use the NFIP to pay its debts, perhaps we should acknowledge that the American people are already paying for the debt and move it on the balance sheet. We don’t have to like it, but we can’t deny the post-Katrina reality—we own the NFIP’s debt. It is personal after all, isn’t it?

If we decide to pay the bill we need to make sure we only pay it once. The NFIP needs to act more like an insurance company rather than a government program in one very important way. The NFIP needs a minimum capital standard; it needs to have reserves the same way every other property and casualty insurance company in the country does. State regulators would never allow an insurance company with $1.2 trillion insurance in force to stay in business without any capital. Only the federal government (and Florida) does this.

The NFIP was never capitalized and so the program was never actuarially sound from its founding. In 2006, Senator Richard Shelby attempted to correct this problem by proposing that the NFIP maintain reserves equal to 1 percent of all risk exposure in force or effect in the program while eliminating most program subsidies. In exchange, the NFIP’s then $20 billion debt was to be taken on by taxpayers.

We look at the NFIP in post-Katrina terms, but the reality is today’s NFIP is still very much a pre-Katrina government program. A Shelby-style capital requirement is an important component of a realistic, long-term solution to maintaining the NFIP’s solvency and protecting taxpayers from future NFIP losses. Congress needs to eliminate subsidies and allow the NFIP to purchase reinsurance to cover catastrophic coverage, but nothing beats cash money in the bank.

Friday, February 18, 2011

I think I might have misplaced my Fannie

I was enjoying a cup of coffee with a friend the other day whose only involvement in the housing finance system is that her family makes their mortgage payment on time every month. She told me about a family whose closing on a new home was canceled three times because the lender needed more than 45 days to document and approve their loan.

My thought was, “And this is how the housing finance system functions with hundreds of billions of taxpayer dollars greasing the gears.”

Fast forward to February 11th. The Administration released its report on options to reform the housing finance system.

On Capitol Hill, Republicans commended the Administration for its commitment to wind down Fannie Mae and Freddie Mac, but groused about the lack of a concrete plan. Democrats were happy that support for affordable rental housing featured heavily in the report, but didn’t exactly go out of their way to congratulate the Administration for its other ideas.

On K Street, the mortgage bankers were glad to see the Administration wants the government involved in the mortgage market. I’m sure private mortgage insurance companies were buying crates of champagne. Meanwhile, the Realtors asked the practical question, “How’s this all supposed to work?”

Battle plans are being drawn up in Congress and around the country as the countdown to the epic struggle over housing finance reform begins. What most folks should be realizing now (if they haven’t figured it out yet) is that reform has already started.

At a February 16th hearing in the Subcommittee on Insurance, Housing, and Community Opportunity, Federal Housing Administration Commissioner David Stevens couldn’t complete a thought without mentioning how FHA has ratcheted up the pressure on homebuyers and homeowners this past year.

First up was the announcement of a new 25 basis point increase in FHA’s annual insurance premium, which comes on the heels of two other premium increases. Next, Stevens listed ways FHA has pushed homeowners out of its programs by making them more restrictive. The icing on the cake was Commissioner Steven’s plea for Congress to allow loan limits to fall.

In response to a question by Rep. Dold (R-IL), Stevens said the primary goal of these policies is to substantially reduce FHA’s footprint in the housing market—specifically from 30 percent down to around 15 percent. And Stevens happily shared that it’s working. Citing a report by Inside Mortgage Finance, Stevens noted FHA’s market share from the 1st quarter of 2010 to the fourth quarter of 2010 declined from 24 percent to 14.8 percent.

That is housing finance reform in action now. Game on.

FHA isn’t the only one at the party though. The Administration has announced it will urge (require, actually) that Fannie Mae and Freddie Mac increase guarantee fees and increase minimum downpayments for loans it purchases. Conforming loan limits will be coming down, too.

Is this bad? No. In fact, this is likely the only way we can prevent giving Fannie and Freddie even more cash than we already are and stop FHA from being added to the list of government bailouts. And that’s what brings me back to my friend.

How is the average American family that still owns a home going to react when all of this hits them in a very personal and practical way? If you still have a job or still own your home, it’s not just because of sheer dumb luck. You had to have done something right in the years leading up to and during the financial meltdown. How are these people going to react to paying for the sins of others?

That question will be answered soon. Government support for the mortgage market is diminishing. The Administration’s report shows that trend will not only continue, but accelerate. Even if Congress does nothing on housing finance reform, the mortgage market will look a lot different in 12 to 18 months than it does today.

If the Administration gets it wrong this next year and runs into a public that’s not so sure it wants to put 30 percent down on a mortgage with a higher interest rate, what are the chances of structural housing finance reform making its way through Congress? The country can’t afford to simply swap one Fannie for another.

Tuesday, February 1, 2011

Mr. President, We'll See Your Exective Order and Raise You a Real Regulatory Review

On January 18th, President Obama announced an executive order in the Wall Street Journal directing that federal agencies amend or repeal regulations unnecessarily impeding economic growth. The president wrote that the effort is intended to “…root out regulations that conflict, that are not worth the cost, or that are just plain dumb.”

The president’s announcement is welcome. It marks a substantial shift for an administration that spent its first two years in office trying to convince the nation that the federal government can successfully direct private economic activity. But is this anything more than a mid-term pivot to placate the business community? It won’t take long to tell.

The volume of pending regulation from laws passed by the 111th Congress is staggering by any measure. An early test of the president’s pro-business conversion will be how these new rules are written. If the administration’s old way of doing business is to change, the change should start right here.

Unfortunately, the president’s executive order doesn’t seem to be directed at the current rule-making binge. In fact, from his rhetoric, it seems clear that President Obama is not as interested in “…writing rules with more input from experts, businesses and ordinary citizens” when it comes to this spate of rule-making.

Even if the president limits the regulatory review to existing rules only, it’s hard to see how any administration can effectively review, in depth, the regulatory structure supporting federal government programs. Unless the Office of Management and Budget makes the president’s initiative a core priority in 2011 the executive order won’t be worth the paper it’s printed on. This means harassing Cabinet officials and other politically-appointed staff across the government to make the review a priority, something that OMB—backed by the White House—can do.

The cynic in all of us knows this is overblown pre-election year hype, right? You bet it is. But there is some real potential if Congress decides to get in on the act, too.

Can Congress really help the process along? Of course it can.

House Committee on Oversight and Government Reform Chairman Darrell Issa has already put significant pressure on federal agencies to justify how programs are operated. The topic of the House Financial Services Committee’s first hearing of the 112th Congress was the uncertainty that American businesses face due to the changing regulatory landscape.

The House and Senate Appropriations Committees can also have a major impact by requiring all federal agencies subject to annual appropriations to implement a rigorous regulatory review. The power of the purse has significant potential to make the president’s executive order have teeth.

What type of impact could a regulatory streamlining have on economic output? Dr. Chad Moutray, former Chief Economist for the Small Business Administration’s Office of Advocacy does a good job of telling us. Writing in the Washington Post, Dr. Moutray says that federal regulations cost the American economy $1.75 trillion every year. These costs are disproportionately borne by small businesses, which shoulder higher per employee regulatory compliance expenses.

While it is self-evident that regulation matters, Dr. Moutray helps bring this into focus by putting a price tag on how the federal government conducts business, so to speak. Even a casual review of the federal regulatory burden could have a substantial economic impact.

Why is this important? Small businesses employ just over half of all private sector employees. If employment is going to grow in 2011, this is where the growth will take place. Dr. Moutray’s regulatory price tag tells us that how we regulate does matter and it matters a great deal. This is why a regulatory review across the federal government can make a real difference in the economy.

Take the Federal Housing Administration as an example. FHA requires condominiums to meet certain standards before the agency will agree to insure mortgages on units in the development. This is good public policy. It protects condominium owners from poor management and it protects taxpayers from losses. As a result many condominium boards have adopted rules that mirror and enforce FHA program requirements.

That’s where the common sense stops. FHA has recently decreed that all condominiums that have adopted FHA’s own safety and soundness requirements are ineligible for FHA’s mortgage insurance programs.

Let me say that again: if a condominium adopts the same rules that FHA uses to qualify the development for its programs, FHA prohibits all owners in the condominium from receiving FHA-insured mortgages.

If you own a condo, that’s a big deal. FHA accounted for approximately 38 percent of all home purchase loans and 9 percent of mortgage refinances nationwide according to its fiscal year 2010 report to Congress.

Going back to President Obama’s editorial in the Wall Street Journal, FHA’s condominium rules seem to fit the bill for regulations that are “…just plain dumb.”

This is the type of regulatory nonsense that businesses across the country are subject to. The more of these types of regulations the president can eliminate the better. American businesses and workers (and condo owners, too) could use that kind of stimulus.

The president is on to something; Congress, it’s up to you to see he follows through.