President Trump Paves the Way for the FHFA to Reform and Reduce GSE Capital Requirements

Summary

On March 13, President Trump issued two housing-related executive orders (EOs), one of which is dedicated to promoting access to mortgage credit, specifically its pricing, terms, and availability.¹  This EO demonstrates its commitment to housing affordability by stating that “It is the policy of the United States to improve the availability and affordability of mortgage credit.” It also lists key principles for the administration (e.g., “Every American…should have access to a mortgage loan…at a rate commensurate with his or her creditworthiness.”), and includes a list of specific action topics. This article argues that the expressed intent of this EO effectively paves the way for — and implicitly calls for — the Federal Housing Finance Agency (FHFA) to finally significantly reform and reduce the much-criticized regulatory minimum capital requirement rule that has applied to Fannie Mae and Freddie Mac (F&F), the two government-sponsored enterprises (GSEs), since late 2020.

Such a reform of the existing capital requirement rule, known as the Enterprise Regulatory Capital Framework (ERCF), aims to address its main weaknesses. A well-designed reform would lead to lower mortgage rates and cause F&F to retain less mortgage credit risk, all while maintaining F&F’s safety and soundness. Although developing such a simplified and reformed capital rule is often seen as a challenging and time-consuming regulatory task, it might well be relatively straightforward for the reasons explained below.

Background

The issuance of the two EOs offers a one-two punch — the first aimed at supply and the second at demand — to address housing affordability. The “Promoting Access to Mortgage Credit” EO makes clear that the Trump administration aims for mortgage rates to be as low as possible, including through competition among various types of providers, while maintaining safety and soundness. It also aims to avoid any single channel of such credit being particularly advantaged or disadvantaged relative to others, to encourage competition that produces the lowest possible rates and fosters innovation. ²

In 2019, the FHFA released a proposed rule, the ERCF, for public comment. This rule established how to calculate the minimum capital each GSE would be required to hold upon exit from conservatorship. ³Despite the extensive public comment process, which produced many criticisms and suggestions for revisions, the rule was finalized with relatively few changes in late 2020. 

The ERCF is, as I have expressed in several articles since 2019, materially flawed in key ways. These material flaws boil down to three major problems: its required level of capital is too high, its incentives are too distorting, and its framework is too complex. (I first described these flaws in “The New Proposed Capital Rule for Freddie Mac & Fannie Mae: Ten Quick Reactions,” May 2020, ⁴ and, after finalization of the rule in late 2020, “FHFA’s Final GSE Capital Rule: Little Credibility and a Short Shelf Life,” November 2020.⁵) 

• The ERCF’s required level of capital is too high. The required level is well above what is needed even under a conservative view of safety and soundness, as demonstrated by its incompatibility with the results of the official stress tests performed each year (a topic explored quantitatively further below). This reflects the policy viewpoint of small-government conservatives, many of whom had long been critics of F&F,⁶ who sought a capital requirement that would be high enough not just to ensure safety and soundness but also to force a shrinkage of the “footprint” (i.e., market share) of the two GSEs.⁷  Since the then-FHFA director had long been a small-government conservative GSE critic,⁸ this outcome was not unexpected. 

• The ERCF’s incentives are too distorting. The ERCF does not support proper economic risk-versus-reward decision-making by the GSEs when they engage in specific transactions, which is a key objective of a regulatory capital system. This is because the ERCF has many non-risk-based requirements, including several large discretionary add-ons (called “buffers”), and also several discretionary “minimums” that override actual risk calculations. As a result, the ERCF causes transactions to be incorrectly judged as either economically efficient (i.e., desirable) or not worth pursuing. Importantly, this has caused the GSEs — and the taxpayers who support them — to be exposed to greater mortgage credit risk than they otherwise would have, as explained further below. 

• The ERCF’s framework is too complex. The current capital requirements are far too complicated for two companies that are generally considered “monolines.” These companies have far fewer product lines and take on far fewer types of risks compared to typical large banks. As one example of the ERCF’s complexity, it includes at least six different definitions of capital, each with its own minimum requirement, and the most stringent one serves as the binding requirement at any time.⁹ This unnecessary complexity not only creates an excessive administrative burden but also distorts sound risk-versus-reward decision-making.

In early 2021, some modest changes to the ERCF were adopted during the Biden administration’s first year. Specifically, the FHFA proposed and then approved limited changes to eliminate two key distortions that had already become visibly problematic: distorted analysis that falsely deemed many desirable credit risk transfer transactions to be uneconomic, thereby reducing the volume of such transactions; and inappropriate incentives to add high-risk assets. (See “Newly-Proposed Changes to the GSE Capital Rule Will Eliminate Harmful Distortions,” September 2021.¹⁰) 

Regrettably, the changes did not address the more fundamental flaws cited above, which would have required a much longer and more politically challenging process, described further below, to approve. These changes thus acted only as a first step towards improving the ERCF in the many ways needed for it to become, in my view, a high-quality regulatory capital requirement. However, there has never been a second step, so the ERCF remains highly flawed today, even if somewhat less so than prior to the modest 2021 revisions. 

The impact of those remaining flaws has been consequential. In my paper “The Latest GSE Stress Test Results: Showcasing the Need for Regulatory Capital Revision (Part 2),” August 2022,¹¹ I showed that the capital required by the stress test results for F&F safety and soundness at that time was $120 – $135 billion versus the ERCF calculation of $312 billion, i.e., less than half. When the Biden administration went ahead and “implemented” the higher capital required by the ERCF in setting guarantee fees (or “G-fees”) starting in 2022, the average G-fee rose by 0.07 to 0.10 percent, from around 0.45-0.48 percent to about 0.55 percent.^{12 13} As intended, this caused F&F’s market share among new mortgages to decline, dropping every year since 2022 to just 37.6 percent in 2025, the lowest it had been in almost two decades.

That the ERCF has also significantly harmed transaction-level risk-versus-reward decision-making shows up in particular in the lower volume and the distortion of credit risk transfer (CRT) transactions, as described in “The Unfinished Business of GSE Systemic Risk: Mortgage Credit Risk Concentration Is Getting Worse, Not Better,” December 2025.¹⁴  As a result, the GSEs are today retaining more concentrated credit risk than they would if the ERCF were less distorting.¹⁵   

Practical considerations in reforming the ERCF

The FHFA undertaking a major revision of something so important and detailed as a capital rule is considered a “heavy lift” in the financial institution regulation field, and thus not to be undertaken lightly. Fortunately, a quick analysis of the situation indicates it could well be easier than usual.

• Such a rule change normally would require a lot of FHFA resources and time to complete. Any proposal for a new or modified regulatory rule must be undertaken through a burdensome process specified by the Administrative Procedure Act, which has a detailed publication-comment-and-response requirement on top of all the other things needed to construct a proper capital requirement. The history is that such efforts consume large amounts of regulatory resources and usually take at least almost a year, and sometimes far longer.¹⁶ The good news is that the FHFA does not need to start from scratch to modify the ERCF; it can instead start with a proposal developed by the FHFA in 2018 which, based on my experience (I was still CEO of Freddie Mac at the time and thoroughly familiar with it), was not too high, distorting, or complex. It even went through one round of public comments under the rule-making process. This shortcut could well considerably reduce the time and resources needed, perhaps significantly.

• Proposing a major change in a financial institution’s regulatory capital rule will usually generate considerable pushback¹⁷ by commercial and ideological interest groups that oppose the resulting impact. Fortunately, this pushback will be more limited than might otherwise be the case, because a reduction in capital — with resulting lower, rather than higher, mortgage credit costs — is broadly supported by almost all the major participants in the housing industry, such as homebuilders, realtors, and mortgage lenders, as well as consumer groups and others that emphasize affordability. Based on my experience, the main pushback from a reduction will likely come from small-government conservatives (i.e., members of Congress and prominent think tank researchers/advocates who seek to reduce the footprint of F&F), and possibly some smaller industry organizations. Even potential pushback from small-government conservatives may be noticeably reduced, given that the mortgage credit access EO makes clear that President Trump fully supports lower mortgage credit costs. 

Thus, the “heavy lift” of a financial regulator materially changing a capital rule might not be so heavy after all in this case. It might even be relatively easy.¹⁸  

In addition, if the administration — as much reported in the media — is interested in making an impact before the upcoming mid-term congressional elections, then the FHFA can, as conservator over F&F, direct them to use the proposed capital system at the time that it is put out for public comment, i.e., almost immediately incenting them to lower G-fees, rather than waiting for the full regulatory process to be completed. 

Conclusion

The White House’s EOs make clear that the FHFA has its marching orders to reduce credit costs while protecting safety and soundness. Thus, the time is now — not six months from now — for the FHFA to embark on a major revision of the ERCF to lower capital requirements, eliminate the distortions it imposes on risk-versus-reward decision-making, and make it considerably simpler. Done right, the result should be lower-cost mortgages and less risky GSEs that remain fully safe and sound.