A Lot More
Observations on housing's wreckage and recovery
There’s much lamentation in the econoblogosphere about the demise of the “plain vanilla” mandate, which was part of the Consumer Financial Protection Agency legislation and deeply despised by banks. Last week Barney Frank let it drop, and Felix Salmon, Mike Konczal, and many others have responded with eulogies for consumer reform itself.
Losing the plain vanilla mandate sucks deeply, but the really important battle regardless is what will happen to the secondary market. Fannie and Freddie and their regulators made plain vanilla the standard for decades – CRA activists in the 1980s actually used “plain vanilla” as an epithet, describing how the GSEs’ strict underwriting standards for this mortgages excluded minority/urban borrowers. It was only with the entry of essentially unregulated secondary market actors following 1980s deregulation that subprime and other gotcha mortgages came on the scene.
Good secondary market regulation can reward lenders for doing plain vanilla and make it discouragingly expensive for them to venture into exotica. That was essentially the case during the 1990s, as investment banks entering the mortgage-backed securities market struggled to make a dent in Fannie Mae and Freddie Mac’s market share because of the GSEs’ advantages of implied government backing and monopoly on plain vanilla. Predatory lending was a problem then, of course, but it was not yet a mainstream market and thus could have been contained had regulators (Greenspan!) chosen to act.
There’s still ample opportunity for the feds to push plain vanilla, if they choose to seize it. Bankers don’t necessarily mind, either – after all, they did very well for themselves selling plain vanilla backed by the GSEs. The Mortgage Bankers’ Association’s proposal for GSE reform contemplates explicit government guarantees on mortgage pools that meet regulators’ specified standards. With the right standards and incentives, a mechanism like that can promote plain vanilla as once again a dominant market presence. Think of it as the “public option” for mortgage credit, and perhaps other forms of credit too.