The Federal Housing Finance Agency (FHFA) is sounding the alarm over a high risk-based capital shortfall for Fannie Mae and Freddie Mac, exceeding their risk-based requirements and elevated operational risks. This is according to FHFA’s 2022 Annual Report to Congress published earlier this month.
“Despite considerable growth in each Enterprise’s loss-absorbing capacity (net worth), available capital remains in deficit, in large part because the Senior Preferred Stock issued by the Enterprises is excluded from regulatory capital,” the report reads. “The Enterprises remain undercapitalized, with a combined adjusted total risk-based capital shortfall of $421 billion, which exceeds their adjusted total risk-based capital requirements and buffers due to the Enterprises’ accumulated deficits.”
Credit risk management continues to be a priority at the GSEs, particularly due to the impacts of the COVID-19 coronavirus pandemic that is partially mitigated by borrowers’ exits from forbearance programs, the report explained. High levels of home price appreciation are also helping, but exposure to nonbank mortgage companies increased in 2021 due to increased sales to the GSEs.
Operational risks to the GSEs are also “elevated” due to the persistent presence of cybersecurity threats. However, some steps have been taken to improve the positions of the GSEs, including updated minimum financial eligibility requirements for Ginnie Mae and FHFA announced last August.
The report also makes a series of legislative recommendations related to the GSE’s regulatory capital for policies that cannot be implemented legislatively, including updates to FHFA’s authorizing statute, and additional flexibilities Congress could grant that would streamline the regulation of capital.
“In 2008, Congress amended FHFA’s authorizing statute to give FHFA relatively broad authority to prescribe regulatory capital requirements for the Enterprises,” the report reads. “The 2008 amendments, however, did not update the outdated definitions of regulatory capital from the original authorizing statute.”
Unlike the U.S. banking framework, the report points out that applicable statutory definitions include, “without limits, certain capital elements that tend to have less loss-absorbing capacity during a period of financial stress, such as deferred tax assets (DTAs).”
As it currently stands, FHFA’s authorizing statute “does not expressly permit FHFA to adjust the statutory capital definitions by regulation,” the report states.
FHFA’s Enterprise Regulatory Capital Framework (ECRF) as established in 2020 and amended in 2022 does mitigate risks associated with existing statutory definitions, supplemental requirements add “additional complexity to an already complex capital framework,” the report says.
“If Congress were to give FHFA the same flexibility as the federal banking regulators by amending or removing the statutory capital definitions, FHFA could streamline the capital regulation,” the report explains.
