Yet while banks must operate with leverage around 10 to 1, the Enterprises have only recently reduced their leverage to 140 to 1. That is not enough capital for them to survive a housing downturn.
When I came into office, the Enterprises were allowed to hold only $6 billion in loss-absorbing capital to back their $6 trillion balance sheets. In September 2019, Treasury and FHFA raised their combined capital caps to $45 billion.
That change saved Fannie and Freddie from failing last year when the COVID shock hit. But it does not mean they are safe. In their current condition, Fannie and Freddie will fail in a downturn in house prices.
But the cyclical history of the housing market teaches that strong house price growth is not a guarantee of future stability.
In fact, FHFA’s data shows that high prices gave Enterprise borrowers a slightly greater share of home equity in December 2005, on the cusp of the last crash, than they had as of December 2020.
We know that just as prices go up, they also go down. It is prudent to prepare for the downturns during the boom times. That is what FHFA’s resolution planning rule helps accomplish.