Nick Timiraos reports,

A consensus has emerged over the last few years among economists, academics, and industry officials that says any new system should do the following:

• Make the “implied” guarantee explicit and require any successors to Fannie and Freddie to pay a fee for that guarantee, as the chart up top illustrates. Successors would compete for business, selling securities and taking initial losses before any guarantee would be triggered.
• Get rid of those investment portfolios, or shrink them to the point where they don’t create systemic risks. This way, the firms wouldn’t be guaranteed by the government—only their securities.
• Require more capital and tighter regulation, since too little of both is what got Fannie and Freddie into trouble. Just how much capital will be required will be a major point of contention, because having more will protect taxpayers but would also raise borrowing costs.

As I have said before, what this “consensus” would accomplish is to complete the Wall Street takeover of the mortgage industry. The history is roughly as follows:

1. In the 1970s, Wall Street saw an opportunity to “disintermediate” the savings and loan industry, which formerly supplied mortgage loans. In a high-inflation economy, money market funds had a regulatory advantage for attracting funds (banks and S&Ls were constrained by regulatory limits on the interest that they were allowed to pay on deposits ceilings).

2. In the 1990s, with the savings and loan industry dead, Wall Street along with Freddie and Fannie took over the mortgage finance system. But Wall Street always resented having to work with Freddie and Fannie. See All the Devils are Here, by McLean and Nocera.

3. In the 2000s, Wall Street thought it had figured out a way to get around having to work with Freddie and Fannie. Investment bankers would issue “private label” mortgage securities, use the CDO structure to get most of these securities a AAA rating, and use those high ratings to substitute for the Freddie-Fannie guarantee. Wall Street firms managed to pull off this trick with a lot of subprime mortgages.

4. Then came the bust, which discredited the Wall Street model of securitization.

5. Now, what Wall Street wants is to re-start securitization. They realize that nobody will fall for the AAA-rating scam any more. They need a government guarantee. But they don’t want the government-guaranteed enterprise to take profits away from them the way that Freddie and Fannie did. Hence, the three items listed by Timiraos, particularly “get rid of the investment portfolios.”

Assuming that the “consensus” eventually becomes policy, the decks will have been completely cleared for mortgage finance in the United States to be a 100 percent shadow-banking enterprise, exactly what Wall Street wanted.

For me, this is painful to watch, even though for a long time I have realized that is the most likely scenario. It is like watching a young brat who wrecked the five-year old family sedan have his parents console him by buying him a brand-new sports car.

My suggested alternative to housing finance reform can be found here.