Tag: freddie mac

FHA Bailout Watch

The Federal Housing Administration has been one of the government’s main instruments for propping up the housing market in the wake of the housing bust. But as has been widely reported, the FHA is in danger of needing a taxpayer bailout because of rising defaults on mortgages it insures.

FHA-insured loans originated in 2007 and 2008 – when Bush administration housing officials were mainly concerned with “winning back our share of the market” – are defaulting at higher rates as this graphic from the Washington Post shows:

FHA officials are optimistic a bailout won’t be needed, but the Post reports that not everyone shares this optimism:

The audit, released in November, found that the cash the FHA set aside to pay for unexpected losses had dipped to historic lows, well below the level required by law. As of Sept. 30, those reserves were estimated at $3.6 billion, down from nearly $13 billion a year earlier. The most recent figure represents 0.53 percent of the value of all FHA single-family-home loans – far lower than the 2 percent required by Congress.

But Ann Schnare, a former Freddie Mac official, said the situation could be even worse. She said the audit underestimates future losses because it does not take into account all loans that are now overdue, only those that the FHA has paid claims on.

To avoid a bailout, the FHA recently proposed more stringent standards, which would include raising the premiums it charges to cover losses. However, even if a bailout isn’t needed and the FHA continues to “make money,” that would only call into question the need for the FHA to begin with. Why can’t the private sector provide all mortgage insurance?

The answer is that the mortgage lending industry likes knowing it can originate mortgages that the government will cover in the event of a default. Heads they win, tails Uncle Sam loses. The president’s new budget makes this clear in addressing concerns about the FHA’s currently low reserves:

However, it is important to note that a low capital ratio does not threaten FHA’s operations, either for its existing portfolio or for new books of business. Unlike private lenders, the guarantee on FHA and other federal loans is backed by the full faith and credit of the Federal Government, and is not dependent on capital reserves — FHA can never “run out” of money.

That’s right – the federal government can simply tax, borrow, or fire up the printing presses.

The government has been propping up the housing market with taxpayer subsidies in the wake of a housing boom and bust it helped create. If policymakers continue to keep the housing market on artificial life support, taxpayer will remain on the hook. If it pulls the plug and the market takes another downward spiral, Washington will probably rush in with more bailouts.  It appears taxpayers can’t win.

See this essay for more on federal housing finance.

Blank-Check Bailout for Fannie and Freddie Means Taxpayers Get a Lump of Coal from Obama

Even though politicians already have flushed $400 billion down the rathole, the Obama Administration has announced that it will now give unlimited amounts of our money to prop up Fannie Mae and Freddie Mac, the two government-created mortgage companies. While President Obama should be castigated for this decision, let’s not forget that this latest boondoggle is only possible because President Bush did not do the right thing and liquidate Fannie and Freddie when they collapsed last year. And, to add insult to injury, Obama’s pay czar played Santa Claus and announced that that a dozen top “executives” could divvy up $42 million of bonuses financed by you and me. Not a bad deal for a group of people that more properly should be classified as government bureaucrats. Here’s an excerpt from the Washington Post about the Administration’s latest punch in the gut for taxpayers:

The Obama administration pledged Thursday to provide unlimited financial assistance to mortgage giants Fannie Mae and Freddie Mac, an eleventh-hour move that allows the government to exceed the current $400 billion cap on emergency aid without seeking permission from a bailout-weary Congress. The Christmas Eve announcement by the Treasury Department means that it can continue to run the companies, which were seized last year, as arms of the government for the rest of President Obama’s current term. But even as the administration was making this open-ended financial commitment, Fannie Mae and Freddie Mac disclosed that they had received approval from their federal regulator to pay $42 million in Wall Street-style compensation packages to 12 top executives for 2009. The compensation packages, including up to $6 million each to Fannie Mae and Freddie Mac’s chief executives, come amid an ongoing public debate about lavish payments to executives at banks and other financial firms that have received taxpayer aid. But while many firms on Wall Street have repaid the assistance, there is no prospect that Fannie Mae and Freddie Mac will do so.

One Thing Greenspan Got Right and Bernanke Didn’t

While both Greenspan and Bernanke merit considerable blame for helping to inflate the housing bubble, it is worth mentioning what Greenspan did get right:  bringing to the attention of Congress and the public the risk posed to our financial system from Fannie Mae and Freddie Mac.

During Bernanke’s confirmation hearing last week, Banking Committee Chairman Chris Dodd criticized the Fed for not doing enough to warn Congress on systemic risks facing the economy.  Given Dodd’s attendance record, both as Chair and before, he can perhaps be forgiven if he missed one of Greenspan’s many appearances before the Banking Committee.

To help remind us, on Feb. 24, 2004, Greenspan told the Banking Committee:

Concerns about systemic risk are appropriately focused on large, highly leveraged financial institutions such as the GSE’s…to fend off possible future system difficulties, which we assess as likely…preventive actions are required sooner rather than later.”  In Greenspanspeak, that translates to “do something now.

Again on April 6, 2005, Greenspan warned the Banking Committee:

When these institutions were small, the potential for such risk, if any, was small.  Regrettably, that is no longer the case.  From now on, limiting the potential for systemic risk will require the significant strengthening of GSE regulation.

These are just a few of Greenspan’s many warnings to Congress on the risks posed by Fannie and Freddie.  In addition, economists at the Fed published numerous studies, during Greenspan’s tenure, on the nature of Fannie and Freddie.

Sadly, upon taking over as Chair of the Federal Reserve, Ben Bernanke scaled back these efforts.  Gone was the published economic research on GSEs.  Gone was the loud voice of authority from a Fed Chairman on GSE policy.  Instead, Bernanke choose to appease the GSE’s protectors in Congress.

While the Federal Reserve does not maintain primary regulatory authority over Fannie and Freddie, the Fed has long been viewed as the most credible voice in Washington on issues of systemic risk.  When faced with the choice of protecting the Fed, or protecting the financial system, by raising the pressure on GSE reform, Bernanke punted.  How he can be trusted to find the courage to taken on the next “Fannie Mae” is beyond me.

The Week in Government Failure

Over at Downsizing Government, we focused on failures in the following departments and agencies this week:

Also, in addition to losing more money, Fannie Mae and Freddie Mac lose their inspector general.

Government Housing Adventures

The Wall Street Journal is reporting that Fannie Mae and Freddie Mac, which have already consumed $112 billion in taxpayer bailouts, may have additional losses if they can’t recoup claims from struggling private mortgage insurers.

From the Journal:

Fannie Mae has about $109.5 billion of mortgage-insurance coverage in force, which represents 4 percent of all single-family home loans it owns or guarantees. Freddie Mac had $63.4 billion in mortgage insurance and $12.2 billion in bond insurance. Private mortgage insurance is required for any home loan with less than a 20 percent down payment, and the policies typically cover 12 percent to 35 percent of losses in the event of a default, according to HSH Associates, a financial publisher. Mortgage insurers have been forced to pay up as loan defaults escalate.

Escalating loan defaults are also likely to bite taxpayers through the Federal Housing Administration, which covers 100 percent of losses. The FHA is in deep trouble:

The reduction in private insurance coverage has contributed to the rise in the volume of loans backed by the Federal Housing Administration, a government mortgage insurer that backs loans with as little as 3.5 percent down payments. It could be required to ask for a federal subsidy for the first time in its 75-year history if the housing market deteriorates further.

Who is looking out for taxpayers here?

Ryan Grim at Huffington Post reports that the Federal Housing Finance Agency, which is in charge of Fannie and Freddie, has used a legal technicality to rid itself of its inspector general:

There is no independent auditor overseeing the federal agency responsible for some $6 trillion in home mortgages, because the Department of Justice’s Office of Legal Counsel ruled that the agency’s inspector general didn’t have authority to operate, according to internal memos obtained by the Huffington Post. The ruling came in response to a request from the Federal Housing Finance Agency itself — which means that a federal agency essentially succeeded in getting rid of its own inspector general.

The timing is curious:

Fannie and Freddie are burning through cash at a staggering rate. Fannie reported a loss of $18.9 billion in the third quarter of 2009, four billion more than it lost in the second quarter. FHFA requested $15 billion from Treasury to plug the hole. What’s it spending money on? “The company continued to concentrate on preventing foreclosures and providing liquidity to the mortgage market during the third quarter of 2009, with much of our effort focused on the Making Home Affordable Program,” boasts the press release accompanying the announcement of the massive loss. “As of September 30, 2009, approximately 189,000 Fannie Mae loans were in a trial period or a completed modification under the Home Affordable Modification Program.” Those are the precise programs that Kelley was looking into when his own agency shut him down.

See here for essays on the problems associated with the federal government’s housing market interventions. Also check out Johan Norberg’s book, Financial Fiasco: How America’s Infatuation with Homeownership and Easy Money Created the Economic Crisis.

Fixing Fannie Is Essential

This past week witnessed continued debate in congressional committees over changes to our financial regulatory system.  Perhaps catching the most attention was Fed Chairman Ben Bernanke’s appearance before House Financial Services. 

Sadly missing from all the noise this week was any discussion over reforming those entities at the center of the housing bubble and mortgage meltdown:  Fannie Mae and Freddie Mac.

While many, including Bernanke, have identified the “global savings glut” as a prime force behind the historically low interest rates that drove the housing bubble, often missed in this analysis is the critical role played by Fannie and Freddie as channels of that savings glut.  After all, the Chinese Central Bank was not plowing its reserves into Countrywide stock; it was putting hundreds of billions of its dollar reserves into Fannie and Freddie debt.  Fannie and Freddie were the vehicle that carried excess world savings into the United States.

Had this massive flow of global capital been invested in productive activities, or even just prime mortgages, it is unlikely tha we would have seen such a large housing bubble.  Instead, what did Fannie and Freddie do with its Chinese funds?  It invested those funds in the subprime mortgage market.  At the height of the bubble, Fannie and Freddie purchased over 40 percent of private-label subprime mortgage-backed securities.  Fannie and Freddie also used those funds to lower the underwriting standards of the “prime” whole mortgages it purchased, turning much of the Alt-A and subprime market into what looked to the world like prime mortgages.

Given the massive leverage (at one point Freddie was leveraged 200 to 1) and shoddy credit quality of mortgages on their books, why were the Chinese and other investors so willing to trust their money to Fannie and Freddie?  Because they were continually told by U.S. officials that their losses would be covered.  At the end of the day, Fannie and Freddie were not bailed out in order to save our housing market; they were bailed out in order to protect the Chinese Central Bank from taking any losses on its Fannie/Freddie investments.  Adding insult to injury is the fact that the Chinese accumulated these large dollar holdings in order to suppress the value of their currency, enabling Chinese products to be more competitive with American-made products.

While foreign investors have been willing to put considerable money into Wall Street, without the implied guarantees of Fannie and Freddie, trillions of dollars of global capital flows would not have been funneled into the U.S. subprime mortgage market.  As Washington seems intent on continuing to mortgage America’s future to the Chinese, that at minimum it seems that fixing Fannie and Freddie might help insure that something more productive is done with that borrowing.