Updated January 13, 2022
Introduction to Financial Services: The Housing Finance System
Background
The Federal Housing Finance Agency (FHFA) is the
Prior to the Great Depression, U.S. residential mortgage
primary regulator of the FHLB System.
markets operated at local levels and were highly sensitive to
local conditions. Lenders funded mortgages by relying on
Federal Housing Administration (FHA). The National
local deposits, which were concentrated in heavily
Housing Act of 1934 (P.L. 73-479) created FHA, now a
populated areas, such as Chicago and New York, rather
Department of Housing and Urban Development (HUD)
than less populated areas in need of loans. Interstate
agency. FHA insures private lenders against the default
banking restrictions made it difficult to move funds from
risks on mortgages meeting certain criteria. FHA
geographical areas with large concentrations of deposits to
introduced fixed-rate mortgages with maturities of 20
areas with comparatively smaller amounts. The immobility
years or more, evolving into the 30-year fixed rate
of funds contributed to differences in mortgage rates and
mortgages commonly used today.
underwriting (loan qualifying) criteria across the nation.
Department of Veterans Affairs (VA). Congress
During economic downturns, frequent deposit withdrawals
created the VA home loan program in 1944 (P.L. 78-
led to cash flow (liquidity) shortages that stymied lending.
346). Similarly to FHA, the VA loan guaranty program
At the time, savings and loan associations (S&Ls)—
insures private lenders against the default risks on
nonprofit, member-owned cooperative financial institutions
mortgages made to veterans who meet certain criteria.
that relied on members’ savings deposits to fund
Unlike FHA, VA does not insure 100% of a loan’s
mortgages—were the primary sources of home financing
default risk; a percentage of the default risk is
during liquidity shortages. S&Ls were unable to borrow
guaranteed based on the loan’s principal balance.
temporary funds from the Federal Reserve System because
they were not eligible members. For this reason, the lending
Fannie Mae (Federal National Mortgage
terms of residential mortgages were structured to reduce
Association). Title III of the National Housing Act of
liquidity risks borne by S&Ls. For example, borrowers
1934 initially established Fannie Mae as a federal
were required to make large down payments (e.g., 50%-
agency to purchase federally insured mortgages from
60%) to mitigate default risks and to reduce mortgage sizes,
lenders. By holding residential mortgages on its balance
thereby reducing the amount of funds small lenders needed
sheet, Fannie Mae extended the risk-bearing capacity of
to collect to make loans. Mortgages typically had variable
the mortgage market when small lenders lacked capacity
interest rates and 10- to 12-year maturities, thus mitigating
and access to funds. In 1968, Congress split Fannie Mae
cash flow disruptions due to frequent changes in local
into two distinct organizations (P.L. 90-448). The
mortgage rates.
private-sector organization retained the Fannie Mae
name and operated like an interstate lender, purchasing
Government Interventions to Facilitate
mortgages and funding them by issuing debt securities.
Mortgage Market Liquidity
Over the years, Congress has addressed market liquidity
Ginnie Mae (Government National Mortgage
issues, particularly for single-family mortgages (i.e., loans
Association). Congress created the federal agency
secured by residential dwellings having one to four separate
Ginnie Mae in 1968 after splitting Fannie Mae. Ginnie
units), by establishing federal agencies and government-
Mae sells to private investors the interest rate risks
sponsored enterprises (GSEs). Some of the key ones are
linked to mortgages that are federally insured against
listed below.
default risk by FHA or VA.
Federal Home Loan Bank (FHLB) System. Created in Freddie Mac (Federal Home Loan Mortgage
1932 (P.L. 72-304), the FHLB System is a GSE that
Corporation). Congress created Freddie Mac in 1970
currently consists of 11 regional FHLBs. Each FHLB
(P.L. 91-351) as a GSE and subsidiary of the FHLB
provides liquidity to member lending institutions in its
System. Freddie Mac was authorized to buy
district in the form of advances, which are temporary
conventional mortgages, which are mortgages without
cash loans that must be collateralized (secured) by
insurance provided by a federal government agency.
members’ eligible assets that promote housing finance
Freddie Mac largely purchased mortgages from S&Ls
and community development (e.g., mortgages,
and funded them by issuing debt securities.
mortgage-related assets, and certain small business
loans). The FHLBs initially served as lenders of last
Following passage of P.L. 101-73 in 1989, the business
resort for S&Ls. Congress expanded their membership
models and missions of Fannie Mae and Freddie Mac
in 1989 to serve in that role for banks and credit unions.
(F&F) were harmonized, allowing them to purchase
mortgages and sell mortgage-backed securities (MBS)
https://crsreports.congress.gov
Introduction to Financial Services: The Housing Finance System
linked to the underlying mortgages. (MBS investors are
Recent Congresses have debated the optimal post-crisis
typically large institutional investors, such as pension
structure of F&F. Some plans have suggested
funds, domestic banks, foreign banks, and hedge funds.)
eliminating or shrinking F&F. Some plans would rely
F&F must also fulfill required affordable housing goals
predominantly on the private sector to replace them, and
regularly set by their primary regulator, FHFA.
others would have an explicit government guarantee to
supplement private capital under certain circumstances.
The federal government does not facilitate all of the
In response to relaxed pre-crisis mortgage underwriting
activities that would generate liquidity for mortgage
standards, Congress passed the Dodd-Frank Wall Street
markets. Private financial institutions may issue MBSs,
Reform and Consumer Protection Act (P.L. 111-203).
known as private-label securities (PLSs). Although PLSs
Among other things, the act provides legal protections to
can be linked to any type of mortgage, they are often linked
lenders if their loans satisfy the requirements for
to pools of nonconforming mortgages, which either exceed
qualified mortgage (QM) status. Because all loans
the conforming loan limit (jumbo mortgages) or do not
guaranteed by the federal agencies or purchased by F&F
meet F&F’s creditworthiness standards.
receive QM status, these entities have increased in
Selected Policy Issues
importance. Many originators have limited themselves
to making only QM loans to avoid exposure to potential
The U.S. mortgage market attracts funding from global
liability and litigation risks. A loan’s ability to receive
investors. Consequently, rather than reflect more of the
QM status after F&F purchases it, however, expires
costs borne by regional lenders to acquire funds, modern
either when F&F exit conservatorship or after an
mortgage rates better reflect the payment and default risk
October 1, 2022, deadline extension—whichever comes
behaviors of borrowers. Along with assuming various
first. Afterward, F&F could limit their purchases to
financial risks, the federal government agencies (FHA, VA,
QMs or charge higher fees for non-QM loans to offset
Ginnie Mae) and the GSEs (the FHLB System, F&F) have
potential legal and compliance risks. Either response
facilitated greater standardization of mortgage products and
would likely affect mortgage credit availability and
borrower underwriting criteria. Greater liquidity in the
liquidity.
modern mortgage market has made it possible to offer
products with less liquid features (e.g., fixed rates, 30-year
The federal government also facilitates the liquidity of
maturities, larger amounts) than those offered in the early
multifamily mortgages (i.e., loans secured by residential
1900s. These developments have arguably contributed to
dwellings, such as apartment buildings, with at least five
lowering borrowers’ costs to finance homeownership,
or more separate units) to promote the construction of
possibly contributing to rising homeownership rates.
affordable rental units. Providing liquidity to this market
does not mitigate the impacts linked to rising
Along with liquidity benefits, government intervention in
construction costs and rents, which have risen at faster
the mortgage market brings about costs. For example, the
rates compared with household incomes.
financial markets might perceive the GSEs as being too
important for the government to allow any of them to fail.
Additional CRS Resources
In this case, the GSEs may have an incentive to take on
CRS Report R46855, Housing Issues in the 117th
greater financial risks, including competing for lending
Congress, coordinated by Katie Jones
opportunities that the private sector would willingly take.
As a result, taxpayers could ultimately bear the costs of
CRS Report R46499, The Federal Home Loan Bank
risk-taking by the GSEs. The benefits to borrowers have
(FHLB) System and Selected Policy Issues, by Darryl E.
also been debated. F&F, for example, purchase mortgages
Getter
primarily offered to prime (creditworthy) borrowers and
loan refinances for existing homeowners (rather than
CRS Report RS20530, FHA-Insured Home Loans: An
focusing solely on first-time buyers). Hence, the liquidity
Overview, by Katie Jones
benefit may accrue to borrowers who would already have
access to favorable mortgage rates. In addition, the benefits
CRS Report R42504, VA Housing: Guaranteed Loans,
received by reducing the costs to finance homeownership
Direct Loans, and Specially Adapted Housing Grants, by
may be offset if the overall demand for housing increases,
Libby Perl
prompting increases in house prices.
CRS Report R45828, Overview of Recent Administrative
On September 6, 2008, FHFA placed F&F in
Reforms of Fannie Mae and Freddie Mac, by Darryl E.
conservatorship (i.e., took control of F&F from their
Getter
stockholders and management) following financial loss
from extreme turmoil in the housing and mortgage markets.
CRS Report R44525, Fannie Mae and Freddie Mac in
Treasury received preferred shares in F&F in exchange for
Conservatorship: Frequently Asked Questions, by Darryl E.
financial support in the form of funding commitments. As
Getter
of June 15, 2020, Treasury has extended a combined total
of $191.4 billion to F&F and received $301 billion in
CRS In Focus IF11413, The Qualified Mortgage (QM) Rule
dividend payments, which are not applied to repayment of
and the QM Patch, by Darryl E. Getter
the $191.4 billion in funding. These developments have led
to policy issues for Congress, including the following:
CRS Report R46480, Multifamily Housing Finance and
Selected Policy Issues, by Darryl E. Getter
https://crsreports.congress.gov
Introduction to Financial Services: The Housing Finance System
IF11715
Darryl E. Getter, Specialist in Financial Economics
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