May 14th 2024.
There is growing concern among US officials that the next recession could be exacerbated by a series of failures within the mortgage industry. The combination of plummeting home prices, frozen financial markets, and a surge in delinquencies has raised red flags for the US Financial Stability Oversight Council (FSOC).
This council, formed after the 2008 financial crisis, serves as a team of financial regulators. They have recently sounded the alarm about a critical part of the mortgage industry that has largely gone unnoticed: nonbank mortgage companies. Unlike traditional banks, these companies are heavily reliant on the mortgage market, making them vulnerable to its ups and downs. They also depend on funding that can quickly dry up during times of economic turmoil and do not have the safety net of stable deposits.
What's more, these nonbank mortgage companies are only lightly regulated at the national level. This means that their unique vulnerabilities could trigger a domino effect in a future crisis. If multiple mortgage companies were to fail, borrowers could lose access to the mortgage market, and the federal government would be left to pick up the pieces. Treasury Secretary Janet Yellen, who chairs FSOC, reiterated these concerns in a recent report, stating that the vulnerabilities of nonbank mortgage companies could amplify shocks in the mortgage market and undermine overall financial stability.
To address these risks, federal regulators are calling for action from both state and national authorities. They recommend implementing stricter requirements and standards for nonbank mortgage companies, including creating a plan for how they would be safely wound down in a crisis. Additionally, they suggest establishing an industry-funded backstop to provide liquidity to nonbank mortgage companies facing bankruptcy or failure. However, not everyone is on board with these recommendations.
The Mortgage Bankers Association, a trade group representing the industry, supports the goal of a safe and sustainable financial marketplace. Still, they believe some of the proposals are unnecessary and could add significant costs and complexity to an already heavily regulated market. Another trade group, the Community Home Lenders of America, also questions the need for these measures, stating that the risks to taxpayers and the financial system as a whole are limited.
There are also concerns from within the regulatory community. The president and CEO of the Conference of State Bank Supervisors, Brandon Milhorn, believes that the recommendation to establish a new liquidity fund is premature and could have unintended consequences, particularly for low-income borrowers and communities of color.
But according to Patricia McCoy, a professor at Boston College Law School and former mortgage regulator, these concerns are not unfounded. She notes that nonbank mortgage companies' reliance on short-term loans for financing makes them vulnerable to collapse if interest rates rise or lending dries up. In fact, we have already seen a wave of nonbank mortgage company failures in the past due to these very reasons.
In summary, the US Financial Stability Oversight Council is urging both state and national authorities to take action to address the risks posed by nonbank mortgage companies. While some believe these measures are unnecessary and could have unintended consequences, others warn that these companies' vulnerabilities could have a significant impact on the mortgage market and the overall financial system. Only time will tell how these concerns are addressed and whether the mortgage industry will be better equipped to weather future economic storms.
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