Credit unions have a large stake in the debate over how toreform the secondary mortgage market but may need exceptional patience andendurance to see it through to the end.

To recap, the failure and conservatorship of the two governmentsponsored enterprises, the mortgage finance organizations FannieMae and Freddie Mac, are on course to cost U.S. taxpayers $200billion.

That cost came about because the government guaranteed themortgage-backed securities that Fannie Mae and Freddie Macassembled and sold to investors–mortgage-backed securities thatexperienced widespread failures as the mortgages that backed themalso failed. This guarantee, critics charged, essentially allowedthe GSEs to reap profits from business while leaving the businessrisk to the taxpayers. It also allowed Fannie and Freddie todominate the market due to having lower borrowing costs that thecompetitors, which lacked a government guarantee, critics alleged,and further distorted the market by undercutting the risk andcaution which would normally have guided investor actions whenplacing large sums of money.

Although debate on the impacts of these questions as well as onFannie and Freddie's precise role in the mortgage crisis andsubsequent recession has continued, consensus has built that somesort of reform is necessary to try to prevent a similar calamityfrom happening again. And the debate has centered over the shapethat reform should take.

The Obama administration released a set of three possibleapproaches to the question in February, but has left theresponsibility of making a specific proposal to Congress, where thedebate has largely devolved into a question of how much of a rolein the secondary market the federal government should take goingforward. And that debate has also been taking place, albeit moremuted, within the credit union industry as well.

On one side are Jim Blaine, CEO of the $21.4 billion StateEmployees' Credit Union, and some other credit union leaders whostrongly challenge whether CUs and other local mortgage lenders,particularly credit unions and local banks, necessarily need muchof a government role in the housing market. On the other side arecredit union CEOs and others who argue that having a strong federalrole in the secondary mortgage market will be absolutely vital tomaking sure credit unions and community banks have any access tothe secondary market at all.

As part of their critique, Blaine and other GSE critics notethat the government guarantee effectively introduced a wholesalerbetween the financial institution that issued the mortgage and theinvestor that sells the mortgage–and that this prevented the sortof common sense due- diligence and risk evaluation that these sortsof transactions should carry.

“What we are really talking about here is whether or not you eatyour own cooking,” said Blaine, drawing on an a country aphorismthat has migrated into the investment world to symbolize situationswhere organizations are willing to back their investment productsby keeping them in their own portfolios.

“We, as a nation, got into this mess in part because too manypeople at all levels of the mortgage industry stopped being theones who ate the meal,” Blaine said. Without the middlemanorganization, Blaine argued, credit unions could continue toservice their own members' mortgages and sell them to investorswho, in turn, would know the risk profile the credit unions used,would know the sorts of mortgage underwriting the institution has,and would know, ultimately, where to come for redress if thosemortgages wound up going sour.

Most strongly, he also noted that having a broader secondarymortgage market that was not dominated by one or two federallybacked organizations or other federal presence could allow creditunions to offer mortgage products more tailored to their membersneeds.

One of the aspects of the previous secondary mortgage market wasthe rise of the so-called “conforming mortgage”; that is, amortgage that conforms to Fannie Mae and Freddie Mac's guidelinesand was therefore eligible for sale into the secondary market.

But Blaine argued that these conforming rules wound up turningmortgages into commodities and that this hurt credit unions.

“Turning something into a commodity always hurts the smallmanufacturers or suppliers,” Blaine said. “Credit unions have astrong reputation as good, solid and strong mortgage lenders, butif all we're doing is cranking out mortgages that look more or lessjust like those of other issuers, that advantage is lost.”

Blaine acknowledges that his thinking on this has been colored,in part, by SECU's experience with mortgage issuing. SECU does not,necessarily, write conforming mortgages. The CU prefers to issueshorter term mortgage loans that Blaine argues better suit the CU'smembers and usually sells only to private investors. Some of itsmortgages are also above Fannie Mae's guidelines on loan-to-valuebased on the member's situation and carrying a somewhat higherinterest rate. Because SECU services all its loans, the creditunion is able to step in relatively quickly with its own mortgagemodification program as well, giving it one of the lowest mortgagedefault rates of any CU in the country.

But other credit union executives countered that having a strongfederal role in the secondary mortgage market was essential tomaking sure that CUs continued to have access to the market atall.

One, who declined to speak for the record, agreed with Blainethat credit unions write strong mortgages, but argued that withouta federal role in the secondary market CUs would have no place tosell them.

“It would be akin to having a car lot with some great cars onit, but down the street there would a huge megalot with a whole lotmore cars in it,” the CEO said, “and because of the volume, theycould also offer their cars at a much lower price. CUs need theGSEs to keep us in the game.”

For the record, that is on the minds of the administration aswell. Administration officials have gone on record several times,most recently before Congress, as being aware of the need toprotect the access of smaller mortgage issuers to a reformedsecondary mortgage market.

Nader Moghaddam, CEO of the $710 million Financial PartnersCredit Union, headquartered in Downey, Calif., is one who agreesthat credit unions and other smaller financial institutions willneed the federal government to maintain a role in a reformedsecondary mortgage market.

The credit union has maintained its mortgage business in theface of a very difficult real estate market and economy inCalifornia, Moghaddam reported, and part of that has meant sellingmore than 80% of the mortgages it writes onto the secondary market,something which he expects will have to continue as long as the30-year fixed-rate mortgage remains as popular as it hasbecome.

Still Moghaddam said he remains “agnostic” on how, exactly, afederal market-guaranteeing option might be structured, and hecautioned against imagining that CUs will necessarily continueselling mortgages at the same rapid pace.

“This has been a very unusual time for credit unions just likethe other parts of the financial system.” he said. “Credit unionshave historically not sold quite as high a percentage of theirmortgage loans as they have in the past two years. It is not clearthat two years hence they will still want to sell as many loans orthat they will want to sell them the same way.”

But what executives agreed upon was the need for CUs to playclose attention to the debate over GSE reform and remain vigilantabout speaking up during the reform process. They also agreed thatthey may have to do so for a number of years. Obama administrationofficials have generally spoken in terms of five to seven years tocompete the reforms once they finally start, and it's unclear howlong the debate over what to do will last.