Rent Regulations Pose as Destabilizing Factor to NYCB

U.S. House and Senate Democrats and the Biden administration would like the Federal Housing Finance Agency (FHFA) to direct Fannie Mae and Freddie Mac (Fannie and Freddie) to condition mortgage guarantees on whether the multifamily housing market imposes limits on rent increases. The White House explicitly states that renters “should pay no more than 30 percent of household income on housing costs.” However, they do not attempt to justify this arbitrary threshold with any substantive analysis. Rent controls in a higher interest rate environment make it hard for landlords to make their mortgage payments—putting lenders’ balance sheets in a precarious position. New York Community Bancorp (NYCB) is feeling this pressure firsthand.

Fannie and Freddie back about 70 percent of the U.S. mortgage market. To originate riskier mortgage loans, bank and nonbank lenders rely on Fannie and Freddie’s mortgage guarantees. If rent controls were implemented nationwide via federal mandate, Democrats would effectively be coercing the mortgage market to implement rent controls by forcing private lenders, and consequently property developers and landlords, to restrict rent prices. However, this policy would propagate throughout the U.S. residential mortgage market and potentially restrict housing supply and devalue residential mortgages—potentially discouraging lenders from offering mortgage loans at all. If Fannie and Freddie guarantee more mortgages, taxpayers will be the ones backstopping any shortfalls since the Treasury Department owns stock warrants amounting to 80 percent of Fannie and Freddie’s common shares. The Treasury Department also owns the rights to over $200 billion in Fannie and Freddie’s senior preferred shares. More reliance on Fannie and Freddie is a solution in search of a problem. This would kill shareholder value and result in the de facto nationalization of the U.S. housing market—the antithesis of a free market.

Current events are the best example for why rent controls destabilize the American economy. The commercial real estate market appears to be in dire straits as the Federal Reserve maintains interest rates around 5.5 percent. Federal Reserve Chair Jerome Powell has made it clear that the central bank does not want to announce victory against inflation too prematurely. However, delaying interest rate cuts is clearly worrying shareholders with stakes in banks with extensive exposure to commercial real estate (CRE) mortgages. 

Treasury Secretary Janet Yellen expressed her concerns with the CRE market while testifying before Congress. She “pointed to the impact of the higher interest rate environment coupled with many commercial real estate loans coming due that need to be refinanced in a context where vacancy rates are quite high.”

New York’s rent control policy is largely contributing to the ructions in CRE. This is evidenced by NYCB’s $37 billion multifamily housing portfolio—half of which is rent-regulated housing. According to the Wall Street Journal, “New York, like some other states and cities, has rules that can in some cases make it harder for apartment building owners to raise rents to offset higher interest costs. That can depress buildings’ value and make it harder to refinance their mortgages.” In 2019, New York enacted a law that placed a “limit on how much New York City landlords could increase rents on some units, hindering the profitability of that entire asset class.” An astounding “14% of [NYCB’s] $18 billion rent-regulated loan book is at risk of default.”

The situation at NYCB exemplifies that rent control regulations can perpetuate instability at banks with significant exposure to CRE mortgages. Similarly, the Democrats’ desire to coerce rent controls through the secondary residential mortgage market could further degrade stability in the regional banking sector.

Existing rent regulations in New York and elsewhere should be repealed. Rent controls raise rental prices for non-regulated units and decrease the overall housing supply. This is well documented in a 2018 paper showing that in San Francisco, “[l]andlords treated by rent control reduced rental housing supply by 15%, causing a 5.1% city-wide rent increase.” San Franciscans that do not live in rent-regulated housing are subsidizing those who do.

Another option to provide more transparency to bank shareholders is to have banks disclose the fair market value of their held-to-maturity (HTM) securities. Accounting adjustments that more clearly reflect the mark-to-market value of every bank security could prove to be a less onerous yet more viable option for stemming deposit withdrawals. It could also clearly show shareholders the value of long-term securities in real time so that they are not caught off-guard when the securities’ underlying value starts to decline.

Congress can shed light on rent regulations by exploiting their flaws. Conducting oversight of FHFA is one avenue to pursue. Lawmakers can also learn from the 33 states that prohibit local rent controls. Legislation to prohibit FHFA from conditioning mortgages guarantees on rent controls is commonsense policy that will ensure a strong supply of U.S. multifamily housing offered at more affordable prices.