Do Government Guarantees Inhibit Risk Management? Evidence from Fannie Mae and Freddie Mac
نویسنده
چکیده
Fannie Mae and Freddie Mac’s implicit government guarantee is widely argued to cause irresponsible risk taking. Despite moral-hazard concerns, this paper presents evidence that Fannie Mae and Freddie Mac (the GSEs) more effectively managed home price risks during the 2000-2006 housing boom than private insurers. Mortgage origination data reveal that the GSEs were selecting loans with increasingly higher percentage of down payments, or lower loan to value ratios (LTV), in boom areas than in other areas. Furthermore, the decline of LTVs in boom areas stems entirely from the segment insured by the GSEs only, and none of the decline stems from the segment co-insured by private mortgage insurers. Private mortgage insurers also did not lower their exposure to home price risks along other dimensions, including the percentage of high LTV GSE loans they insured. To quantify how the GSEs’ portfolios would have performed under alternative home price scenarios, I build an insurance valuation model based on competing-risk hazard regressions, calibrated Hull and White term-structure model, and forecasting prepayment and default speeds. I find that the GSEs’ risk management would have been sufficient for the historically average 32% mean reversion but insufficient for the realized 95% mean reversion between 2006 and 2011. My results highlight that post-crisis reform of the mortgage insurance industry should carefully consider additional factors besides moral hazard, such as mortgage insurers’ future home price assumptions.
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