Summer 2022
The Quarterly Newsletter of Forethought Advisors
Our quarterly newsletter provides perspective, framing and political insight as we interpret the direction and objectives of Congress and the Biden Administration for CEOS and their corporate government relations teams. As experienced, seasoned government relations professionals, Larry Parks and Tim Simons recognize that corporate America operates effectively and efficiently in environments where they know what’s coming next - certainty. With insight, analysis, and some forecasting, we help our clients accurately evaluate the risks and political advantages during their campaigns to achieve legislative and regulatory objectives. Forethought Advisors provides the strategic leadership that can help propel our clients to the next level.
1 Rising Interest Rates Create Fault Lines Within America’s Housing Industry
As the Federal Reserve pushes interest rates higher, conservatives and economists focused on taming inflation roar approval for each uptick. By contrast, in most corners of the housing industry, ranging from potential home buyers to sellers, builders, developers, and lenders, there are more groans than cheers as the inflation-fighting policies raise costs throughout the entire housing sector. In fact, higher mortgage rates are stirring serious concerns about the industry’s future in both the short and long term. And at least one major question looms above the turbulence: will the Administration and/or Congress intervene in bold ways if faults in the housing sector threaten to drag the national economy into a recession?
Most components of the housing industry are linked to interest rates, creating multiple anxieties for an industry that amounts to 15% to 17% of America’s economy. Last year, residential housing was valued at $33.8 trillion and after years of low interest rates, the median price of a home in the U.S. was up to $337,400. When such a large segment of the economy nosedives, as could be the case after mortgage rates nearly doubled within a few months, fault lines form across a broad spectrum of the sector.
Already, developers and builders are slamming on the brakes. Housing construction can take years to complete once the process begins. Developers must buy land, with loans costing more because of the jump in interest rates and begin the often-tedious process of obtaining a variety of local permits and preparing the land for construction. But if developers project that the market is slowing, they hesitate to start new projects and slow or halt ones underway. To this end, housing starts plunged 14.4% to about 1.5 million in May and building permits declined to 1.7 million from April’s 1.8 million. Of course, the irony is that this occurs even as a wide range of academic and industry experts acknowledge that the nation has a serious housing supply problem. Clearly, today’s responses from developers to rising interest rates will worsen that shortage in the future.
With this scenario already in play, lawmakers and policymakers could consider solutions that include government subsidies to spur housing construction, especially affordable housing, by working with the private sector to assist in land acquisition and lowering the cost for developers. Another path would be for the housing GSE giants, Freddie Mac, and Fannie Mae, to either originate or purchase construction and/or land acquisition loans. These moves could spur housing construction, which would ease the supply problem, encourage lenders to make loans, and work towards increasing the construction of housing.
Higher interest rates also shift the pendulum from a beneficial environment for home-sellers, one where multiple bids often exceeded asking prices by substantial amounts, to one favoring lenders. Higher mortgage rates will likely equate to more revenue for lenders, and buyers may see moderated prices. But the higher mortgage rates could also push potential buyers out of the market, leaving sellers with properties harder to sell. The cooling of a hot housing market also has other residual effects on voters and jobs. Real estate companies are laying off workers - Redfin cut 8% of its workforce and Compass let go 10%. Appraisers and big box home improvement stores may also experience revenue declines in this environment. Worth watching is how, and if, lawmakers and policymakers respond as midterm elections loom. If the climate worsens, would the federal government step in to subsidize mortgages for low- and moderate-income families to get a slow market moving again?
Further, frustration is building with the Biden Administration and fellow Democratic lawmakers over the lackluster performance on their “equity” agenda. President Biden made bold promises that his voter base demands he fulfill. The Administration could adopt stronger policies and practices boosting Black homeownership, a key measure of wealth for African Americans. Fannie Mae and Freddie Mac recently announced policies, mostly pilot programs, to help disadvantaged families become homeowners by offering down payments assistance, funding for homeowners' emergencies, lower mortgage insurance payments, and a new credit reporting process that will allow rent payments to be considered in the underwriting process. Previously, HUD issued a report on appraisal bias and ways to address it. However, these policies to increase Black homeownership may collide with the Federal Reserve’s goal of lowering inflation by raising interest rates.
In an environment where higher mortgage rates create new barriers for people of color, do Democrats push more aggressive policies such as expanded Section 8 rental assistance and interest rate write-downs for first time homeowners?
Bold measures that expand the housing supply, maintain enhanced homeowner equity, and use homeownership expansion policies to close the racial wealth gap would be pitted against longer term, inflation-curbing activities. The tensions would play out in a backdrop where much of the housing industry tends to be passive in regard to influencing federal policies. As the stakes rise with the interest rates, perhaps the industry’s survival strategies will need to evolve.
2 The Big Idea:
Improve the Capacity of Localities to Effectively Use Federal Resources
A radically changed business environment has emerged for corporations. Federal resources are available to pay for new infrastructure, create housing opportunities for changing populations, spur community development, help American companies compete in the global marketplace, shift strategies so more goods are manufactured and warehoused in the U.S., and many additional tasks that generate revenue. A rare common thread for Presidents Trump and Biden is recognition that government must actively engage with the private sector, buffering some economic pain from the pandemic, so that workers and the nation’s economy can benefit. Outside of wartime, this level of industry-targeted resources is unprecedented.
Corporations have multiple avenues to learn access points for the funding. Often Forethought Advisors is called upon to advise a wide range of companies on how to access the funding that Washington has rightly or wrongly made available to the private sector. In other words, the corporations can frequently find the assistance it needs. Our bigger concern is ensuring that local officials have the capacity to effectively disperse the funding headed their way for improving public services, repairing roads and bridges, building schools and community centers, and much more. The Biden administration has miscalculated in anticipating that delivery mechanisms are in place to receive and use the federal funding.
At one time, state governments excelled at effectively distributing federal funds. But today there are divided state governments where the executive and legislative branches struggle to find a consensus on spending priorities. Or there are intraparty squabbles drawing out the process. At the municipal level, there are barriers to distributing funding. Local governments are preoccupied with their day-to-day struggles after months of dealing with employees working from home because of the pandemic and the diminished operations that resulted. Some employees decided not to return, retiring, or seeking better job opportunities, leaving local governments depleted and without some of their most experienced workers. Further, in many cases non-profit intermediaries are unable to pick up the slack as they often did previously because of the expanded scope of their own work in a broad range of critical areas.
Another challenge for cities is that some face declining populations. America’s cities felt the biggest impact from COVID deaths, as well as the decline in births and significantly slower influx of immigrants. In fact, the Census found that in the year spanning July 2020 to July 2021, of the nation’s ten largest cities only San Antonio and Phoenix gained new residents, and the gains were limited to about 13,000 people each. In New York, more than 305,000 people are gone; Chicago lost 45,000 and Los Angeles 40,000.
Our Big Idea is that the public and private sectors, as well as philanthropy, must better shape local delivery apparatus (local government and non-profits) so that federal funds can be channeled through an effective delivery infrastructure. The local delivery apparatus needs to include large and small companies, business trade organizations, labor, minority businesses, local government representatives, non-profit service providers, lenders, and investors.
In 1966, when President Lyndon Johnson sought to turn his Great Society and War on Poverty initiatives into reality, he created Model Cities, a program that created new infrastructure in 150 cities to develop and implement antipoverty programs. In many ways, it was a parallel local government rooted in communities, one that was closer to the people and the challenges that they needed government to fix. This innovative approach prioritized expanding social programs as well as new development. It also helped coordinate local government agencies in prioritizing the President’s initiatives to revitalize communities and curtail urban poverty.
More importantly, Model Cities changed the approach to decision making in local communities. Instead of federal, state, or local government imposing its will on cities and their residents, the program empowered the communities, creating a new infrastructure with planning commissions and service providers. Residents got to identify the problems in their neighborhoods, develop solutions and use federal resources to address those challenges. While the program worked in some communities, it failed in others, and was ended in 1974, when President Richard Nixon transitioned the funding to Community Development Block Grant and the local apparatus that had been built was dismantled.
Lawrence Parks
Timothy Simons
The 1990s Empowerment Zone initiative built on the Model Cities program and the gap left from creating the Community Development Block Grant program. The program created empowerment zones allowing urban communities to access government resources to improve their quality of life. It brought disparate, local groups and leaders together to develop plans and compete collectively for federal dollars that would be spent on community improvement and development. The Upper Manhattan Empowerment Zone still exists and has been a catalyst for growth and lending in Harlem.
Communities need help again.
New hybrid business/community entities must be created to channel federal funding to local entities that deploy the money to rectify the challenges that cities face. How do they get potholes fixed? Can they move homeless people off the streets and into affordable housing? Can they successfully retrofit safe mass transit and lure industry? How do they attract industry to the region? How is job training retooled to prevent redundancy and incorporate lessons learned from the pandemic? How do cities help small businesses flourish?
Every entity from Chambers of Commerce to local companies, minority businesses, labor unions, non-profits and philanthropic organizations must be engaged. There needs to be a collaboration that works together to find ways to move communities forward. The answer is rebuilding local governments so they can delivery at a higher level. Provide counties and municipalities an array of experts who understand financing and bonding authority and possess technical knowledge that can allow cities to maximize opportunities.
The Biden Administration should be driven to make this happen. Getting funding appropriated is an important first step in creating new business/worker/community partners. To effectively use the funding in the American Recovery Act, the infrastructure bill and larger annual agency appropriations, new delivery networks must be established that can channel funding to local partners. That is when urban and rural transformations can truly begin.
3 OIRA Under Biden: More Questions than Answers
On many fronts, President Joe Biden has aggressively pressed an agenda that returns the federal government to “active duty.” His federal spending priorities forge a new era of industrial policy that encourages manufacturing and warehousing goods in America. His domestic priorities expand the safety-net and opportunities for low-income and middle-class families. But the Administration has failed to bring leadership to an obscure government division - the Office of Information and Regulatory Affairs (OIRA) – that plays an essential role in turning signed legislation into new realities on the ground for industry, communities, workers, and families.
OIRA wields considerable influence on how agencies implement legislation that the President pushes through Congress, as well as how other priorities will be implemented in his presidency. By statue, OIRA is a division of the Office of Management and Budget (OMB), which sits under the Executive Office of the President. Its official role is supervising the implementation of policies and rules throughout government agencies. Yet, its influence can be far greater and if utilized adeptly it can even embolden a president’s legacy.
What’s unknown is how the Supreme Court decision curbing the EPA’s ability to regulate climate change will affect government rulemaking and regulations. For sure, Congress would be advised to develop legislative reports once again at the end of their conferences on major legislation. This process, frequently abandoned in the last five or six years to move bills quickly, improves the understanding of congressional intent when laws, rules, and regulations are challenged in the courts.
When Hollywood or political insiders talk about the "Deep State" of hidden bureaucrats who run the government, OIRA is one of the first places that comes to mind. Presidents can use OIRA to subtly spin the laws of the land in directions that boost their political and policy agendas. When President Bill Clinton and Vice President Al Gore were “re-inventing government” and sought to speed up the rule making process, Clinton sharply reduced the matters that required OIRA reviews. He also tried to speed up OIRA reviews and make its work more public. But his reform efforts, as well as those by other presidents, at times are stymied by the civils servants, who are non-political and work at their own pace.
President Donald Trump was much more forceful. He appointed as OIRA administrator a conservative activist, Neomi Rao, who spearheaded the Administration’s efforts to deregulate industry, especially laws impacting the environment and climate change. Rao talked openly about reversing, delaying and rewriting rules. "In the process of rolling back regulations, we're really looking to find regulations that are no longer working, that are duplicative or ineffective," stated Rao, who was known as the “Deregulatory Czar.” In 2017, Rao issued mandates to agencies to eliminate two rules for every new one proposed and demonstrate how regulatory costs would be cut. She took direct aim at the EPA, where she implemented President Trump ‘s efforts to weaken or eliminate tough regulations enacted by President Barrack Obama. Rao, a former law professor at George Mason University, was rewarded with an appointment and confirmation as an appellate judge on the U.S. Court of Appeals for the D.C. Circuit.
With President Biden, even well into his second year, it is unclear how OIRA will wield its considerable power. In fact, in the modern era, no president has waited this long to appoint an OIRA administrator. The more time that transpires before it has a leader, the more time the Deep State can dig its heals in, creating roadblocks for rules and regulations. Biden has stated that he wants to reform the OIRA regulatory review process, asserting that currently their reviews too often are based on cost benefits that ignore broader societal benefits such as equity and fairness, while creating hurdles for rules and regulations that would generate stronger protections for the public.
Moreover, regardless of who controls Congress after the mid-terms, OIRA can hold the key to unleashing policy and practices that are aligned with Biden’s agenda. Already, tension is building as the push for spending that expands racial equity clashes with desires to raise interest rates to curb inflation. OIRA, with its rule making, can help swing the pendulum to one side or the other. For instance, regulatory changes can require new guidelines on federal contracting. Or does OIRA take a stab at improving the environment for workers or certain industries? Biden could even create tax preferences for companies that increase warehousing of goods in the U.S. instead of manufacturing overseas. For the technology sector, rulemaking can impact how privacy standards are enacted. The Administration could act boldly and circumvent congressional deadlock over this and other issues.
For Biden, there could be many factors at play. Shalanda Young, his choice to run OMB, was only recently confirmed by the Senate, and the President may have wanted her in place before nominating an OIRA administrator. Nevertheless, there will be landmines in his path with the Senate tied at 50-50 regardless of who is nominated to run OIRA. Too progressive a candidate will be roundly rejected by Republicans and could lose votes from moderate Democrats. A more centralist pick, will run into trouble with Democratic progressives.
Less talked about is internal White House politics, where there are also progressive-moderate factions over policy priorities. White House progressives have been focused on social issues, oftentimes leaving it to the President to articulate the need for more worker-friendly policies, such as unionization, prevailing wages, and a pro-industrial worker agenda. Meanwhile, moderate policymakers with roots to the Democratic Leadership Council advocate for a more pro-business agenda. It will be fascinating to see how Biden seeks to satisfy all these factions, while keeping his agenda on track and not having it delayed or derailed by the Deep State.
All the questions regarding regulatory action create an uncertain environment for the corporate leaders, who must navigate it. That is where Forethought Advisors can help. Our congressional and Administration insiders provide clients with the data and information they need to make the smart strategic choices that enhance their profitability.
4 Federal Home Loan Banks: Could Mutual Benefits Derive from Collaboration with FinTech?
Looking into a crystal ball, could a future marriage between FinTech mortgage lenders and the Federal Home Loan Banks quiet their respective critics?
The Home Loan Banks face sharp criticism for being stagnant for decades, with few innovations or new reasons to justify their existence in the modern banking environment.
Ironically, the rise of non-depositories, including FinTech, has been a factor in assessing whether the Home Loan Banks’ low-cost funding to member institutions - big banks, community banks, credit unions, insurance companies and more - is still needed. This certainly became an issue in recent years when the Fed’s low interest rates made capital readily available. Over the decades, advances to member financial institutions originating high volumes of mortgage loans had been the bread and butter for the Home Loan Banks. But as the non- depository lenders move into the mortgage business, muscling out the traditional mortgage industry, it has sharply reduced the need for Home Loan Bank advances to keep cash flowing to member institutions as an additional secondary market for home purchases.
A critical revenue issue looms for the Home Loan Banks. In the early 2000s, several Home Loan Banks successfully sued big banks over the quality of the mortgage-backed securities they purchased and received huge settlements. But those payments will run out in the coming years, leaving the Home Loan Banks searching for revenue. Today, the overly cautious and innovation-challenged Home Loan Banks find themselves squarely under the gaze of lawmakers, regulators, and economists wondering why they are still here when they bring so little to table in exchange for their prized implied government guarantee on their debt. But critics do insist they bring one thing – taxpayer risk.
With shareholders expecting substantial dividend pay outs to continue, the Home Loan Banks could be pressured to make bad choices. They could find themselves in the similar predicament as Fannie Mae and Freddie Mac when their investors pushed for returns that led to an escalation of poor underwriting practices that contributed to the housing crash in 2007 and the Great Recession. And there is this: after legislative changes, shareholders of the Home Loan Banks now place all the directors on each board, including public interest directors mandated by statute back in 1932 so the board would include non-affiliated parties that could advocate for consumers. The days of public interest directors being appointed by the regulator, usually in consultation with the White House, are gone. Now it is the industry selecting and electing all their overseers (directors) on the Home Loan Bank Boards, potentially a path for trouble.
Over the years, the Home Loan Banks have squandered opportunities to be bold, to embolden their status in the financial services space and deliver more benefits to the public beyond their Affordable Housing Programs, but the system of eleven regional institutions has blinked each time. Coming out of the Great Recession, they could have purchased Freddie Mac and been a better alternative to the mortgage giant remaining in conservativeship. Or the Home Loan Banks could have recognized the approaching storm and consolidated from their current eleven members to a smaller number that would have made them less vulnerable.
As interest rates rise and home lending nose dives even more, Home Loan Banks must demonstrate their relevancy. Can they convince critics that the credit they provide to their member financial institutions is a valuable resource for consumers? For a time, using their capital to help cities, counties, and states with bond purchases for infrastructure improvements seemed plausible. But now the government has made billions of federal dollars available for that purpose, reducing the need. The Home Loan Banks desperately need a reason to exist.
Their statutory mission to facilitate mortgages to increase homeownership is growing stale and few economists are pleased that their primary purpose has evolved into providing liquidity to member institutions for loan purposes that have little to do with homeownership. The picture does not look particularly bright when their regulator, Federal Housing Finance Agency Director Sandra Thompson, supports appointing an advisory committee to provide fresh ideas on how to modernize the Home Loan Banks. In a paper that has circulated widely, three economists with links to the Fed - Stefan Gissler, Borghan Narajabad and Daniel K. Tarullo – question the public/private hybrid nature of the Home Loan Banks. “The private ownership and control of the FHLBs provide the incentive to take advantage of the considerable public privileges from which they benefit – including an explicit line of credit from the United States Government and an implied guarantee of all their debt similar to that enjoyed before the Global Financial Crisis by Fannie Mae and Freddie Mac.”
But let us be clear. The Fed has rarely been receptive of the Home Loan Banks.
Their opinion might shift if the law is changed, and the Home Loan Banks are allowed to accept non-depositories as members. While FinTech, with their Wall Street investment backing, have helped keep the economy rolling with new sources of capital for everything from mortgages to car loans, lawmakers and regulators are extremely weary that they have far fewer regulations than institutions with deposits. Frequently noted is their ability to skirt CRA regulations that can be a burden for traditional financial institutions, but provide benefits to communities throughout the country, especially those that are under-resourced.
For sure, allowing non-depositories to join the Home Loan Banks as members would be a huge change for both, but could also be beneficial. The Home Loan Banks would have a new purpose as they provide a structure with more safety and security standards for the non-depository lenders to operate within. It would change the fabric of the Home Loan Banks, but not long ago they were allowed to offer membership to Community Development Financial Institutions, many of which are non-depositories like FinTech.
The move would also have advantages for the non-depositories. It would provide alternatives to capital as their investor money dries up. The move may also silence critics who would be less likely to see them as unregulated entities with unfair advantages over traditional financial institutions if they operated within the Home Loan Bank System.
FHFA Director Thompson made it clear that the regulators have a watchful eye on FinTech mortgage lenders. In July, she announced the new Office of Financial Technology, which will provider “effective risk management” over their housing finance activities.
Politically, it would create interesting dynamics, especially for Republicans. Most Republicans have argued against the GSEs for decades, preferring to have an open market for loans to students, farmers, and homeowners. But a strong Republican constituency – big investors - are backing FinTech companies. It could be enough to swing their support to helping the non-depository lenders become Home Loan Bank members, despite the strong, historic GOP opposition to all things GSE.
It will be critical for all parties with interest in how the Home Loan Banks evolve, and there are many, to know what is going on behind the scenes. Forethought Advisors has the regulatory, congressional, and administration insiders to provide that information with the data and analysis that can assist our clients in making smart choices.