Tag: gse

Getting Our Money Back from Fannie and Freddie

Yesterday in the New York Times, Josh Rosner, co-author of Reckless Endangerment, asked one of the questions that almost everyone in Washington is avoiding: how do the taxpayers get back their money, currently about $180 billion (including dividends), from Fannie Mae and Freddie Mac? Obviously Democrats do not want to be reminded that their social engineering of the mortgage market has been a disaster, but why have Republicans been quiet?

I suspect many Republicans, at least those not closely aligned with the real estate industry, are torn between wanting to immediately get rid of Fannie and Freddie and getting the taxpayers’ money back.  A common attitude in Washington also appears to be that the money put into Fannie/Freddie is gone, sunk, and will never be returned. I’m not so willing to just give up, on either getting rid of them or getting our money back.

First, let’s accept that any wind-down would likely take a few years, say six or so. So I would suggest we immediately take Fannie and Freddie into receivership. Impose any future losses on creditors, but also continue to run the companies. And continue to buy and package mortgages during the receivership. This would minimize disruptions to the housing and mortgage market.

Instead of simply running the companies, business as usual, levy a surcharge on all their purchases and use that surcharge to pay back the taxpayer. Fannie and Freddie, combined, will likely purchase about a $1 trillion annually in mortgages over the next few years. Assuming a six year wind-down, that’s $6 trillion. A 2 percent surcharge gets back most of the bailout. That’s also high enough to encourage private money to come into the mortgage market and compete with Fannie and Freddie. If my Realtor friends feel this is a ”tax on home-ownership” then they are free to drop their commissions by 2 percent, leaving buyers no worse off. Even better, they can encourage buyers to use a non-government mortgage.

Any forecast of housing activity is going to have some error. So the numbers above are likely off, in one direction or another. The point is a surcharge on the purchases made by these Government-Sponsored Enterprises can kill two birds with one stone: getting the taxpayers’ money back and reducing the GSEs’ footprint in the mortgage market.

GSE Loan Limits Fell…and Home Sales Went Up

On October first, the Fannie Mae/Freddie Mac maximum loan limit fell (from around $729,000 to $625,000). The Senate later voted to extend that limit until December 2013. Some House members, such as Rep. John Campbell (R-CA) warned that if the loan limits were not raised back to their previous levels, our housing market would “crater.” And of course the special interests in the real estate industry all but implied that if the taxpayer did not remain on the hook, then we’d all be living in caves before too long.

It was easy enough to make such outlandish statements in the absence of data. Now we have some data, and from of all people, the real estate industry. According to the National Association of Realtors (full disclosure: I worked there about 10 years ago):

Total existing-home sales, which are completed transactions that include single-family, townhomes, condominiums and co-ops, rose 1.4 percent to a seasonally adjusted annual rate of 4.97 million in October from a downwardly revised 4.90 million in September, and are 13.5 percent above the 4.38 million unit level in October 2010. [emphasis added]

You read that correctly. The loan limits fell and then home sales actually rose, which is the opposite of crater. I’m not claiming that the decline in loan limits caused home sales to increase, but I am claiming that the housing market did not crater, as was predicted.

‘Monstrous Moral Hybrids’

Sunday’s dinner of the Society for Development of Austrian Economics featured a keynote from George Mason University economics professor Richard Wagner. The talk brought back a lot of memories for me. Wagner was chair of my dissertation committee and it was in his graduate public finance class (back in 1992?) that I first gave any thought to Fannie Mae and Freddie Mac when I wrote a paper on government sponsored enterprises. Little did I know I’d spend much of the following years working to reform Fannie and Freddie.

During his talk, Wagner invoked a term first used by Jane Jacobs: “monstrous moral hybrids.” I suspect Jacobs used the term to describe how Robert Moses managed to wield unaccountable power over development in New York City (Caro’s account of Moses, Power Broker, still being the single best read on city government). Ms. Jacobs describes two distinct moral syndromes,  commercial and guardian. Obviously commercial pertains to the market, while guardian can pertain to government. The monstrous moral hybrids are when we get the worst of both instincts combined in one entity. For instance, I generally view competition as a good thing; however, competition underwritten by government guarantees will almost always lead to disaster. Its competition without the discipline of failure.

I  repeatedly watched, while working in Senate, Fannie/Freddie invoke their “private” nature in order to avoid regulation while invoking their “public” nature to gain protection and privilege. The result was little accountability from either the market or the government (our largest banks currently enjoy a smaller version). Of course, one of the primary differences in debates over financial regulation is the degree to which one believes that either the market or government provides accountability. Setting aside those debates, we should all be able to agree that companies should be either private or government. That the mixing of the two, government sponsored enterprises, is a recipe for avoiding accountability and transparency. But then I suspect that might have been the intent all along. Monstrous moral hybrids by design.

Fannie Mae and Greece’s Problems Enabled by Basel

On the surface the failures of Fannie Mae and Freddie Mac would appear to have little connection to the fiscal crisis in Greece, outside of both occurring in or around the time of a global financial crisis.  Of course in the case of Fannie and Freddie, primary blame lies with their management and with Congress.  Primary blame for Greece’s problems clearly lies with the Greek government. 

Neither Greece or Fannie would have been able to get into as much trouble, however, if financial institutions around the world had not loaded up on their debt.  One reason, if not the primary reason, for bailing out both Greece and the US’s government sponsored enterprises is the adverse impact their failures would have on the banking system.

Yet bankers around the world did not blindly load up on both Greek and GSE debt, they were encouraged to by the bank regulators via the Basel capital standards.  Under Basel, the amount of capital a bank is required to hold against an asset is a function of its risk category.  For the highest risk assets, like corporate bonds, banks are required to hold 8%.  Yet for those seen as the lowest risk, short term government bonds, banks aren’t required to hold any capital.  So while you’d have to hold 8% capital against say, Ford bonds, you don’t have to hold any capital against Greek debt.  Depending on the difference between the weights and the debt yields, such a system provides very strong incentives to load up on the highest yielding bonds of the least risky class.  Fannie and Freddie debt required holding only 1.6% capital.  Very small losses in either Greek or GSE debt would cause massive losses to the banks, due to their large holdings of both.

The potential damage to the banking system from the failures of Greece and the GSEs is not the result of a free market run wild.  It was the very clear and predictable result of misguided and mismanaged government policies meant to create a steady market for government borrowing.

Put Housing GSEs in the Budget and then Privatize

The two large housing government-sponsored enterprises, Fannie Mae and Freddie Mac, have been in government receivership since September 2008. The U.S. Treasury has given the housing GSEs $112 billion in cash infusions, and this past Christmas Eve it quietly announced it would cover all of Fannie and Freddie’s losses beyond the original $400 billion limit through 2012.

The president’s latest budget proposal continues to only count the cash infusions, which it projects to be $188 billion through 2020. On the other hand, the Congressional Budget Office also includes in its budget projections the subsidy cost of new loans or loan guarantees made by Fannie and Freddie, which results in a total projected hit of $370 billion through 2020.

The CBO’s rationale for including the subsidy cost is obvious:

[T]he Congressional Budget Office (CBO) concluded that the institutions had effectively become government entities whose operations should be included in the federal budget.

Is it not obvious to the administration?  Of course it is, but the administration doesn’t want the GSEs “on budget” because it will only make already dismal deficits look worse. It also hinders any effort to count the GSE’s combined $1.5 trillion in outstanding debt against the ever-increasing federal debt limit. Yesterday, Treasury Secretary Geithner waived the idea away when he told the Senate Budget Committee that “we do not believe it’s necessary to consolidate the full obligations of those entities onto the balance sheet of the federal government at this stage.”

Geithner also told Congress the administration will now wait till 2011 to propose an overhaul of Fannie and Freddie. The Associated Press noted the hypocrisy in the administration’s punt:

‘We want to make sure that we are proposing these changes at a time when we have a little bit more distance from the worst housing crisis in generations,’ Geithner said. That argument is exactly the opposite of the case Geithner is making for new financial regulations. Geithner is pressing Congress to move swiftly on new Wall Street rules, saying action must occur before memories of the financial crisis recede.

Geithner said he wanted measures that would ensure “the government is playing a less risky, but more constructive, role in supporting housing markets in the future.” But government “support” of the housing market is what fueled the housing bubble and subsequent damage to the economy. Why should the arsonist be trusted to put out the fire?

Unfortunately, policymakers get a lot of self-serving prompting from the housing industry, as I discuss in this Cato Policy Analysis. For example, the National Association of Realtors is currently shopping a plan on Capitol Hill that would turn Fannie and Freddie into government-chartered non-profits explicitly backed by the government. Instead, policymakers should begin the process of separating housing finance and state by developing a plan to privatize Fannie and Freddie.