Should Fannie and Freddie be bailed out?

Great Debates
1

The stock price of Fannie Mae and Freddie Mac have been pummeled in the last few days. Some folks are very critical of these companies because of their past accounting irregularities and unique relationship with the government.

What would be the impact if these companies became insolvent? There is currently some concern that the do not have sufficient capital to back up the loans, although their regulator, OFHEO, says they are fully capitalized.

Should these companies be allowed to fail and allow the market to come to equilibrium, or should they be floated to help stabilize the mortgage market?

Disclosure: My wife is a Fannie Mae employee.

2

If they’re fully capitalized, how can they become insolvent?

3

I cannot speak to the specifics but on a broader note I personally struggle with the idea of government bail outs of large corporations.

On the one hand in some cases these entities are “too large to fail” in that the knock on effects to the overall economy is something we’d all want to avoid.

On the other hand fuck them. If my business fails the government will not ride to my rescue and in a capitalist society that is generally how it should be. If you fuck up you get washed out and something else that is better replaces you.

I am tired of business railing against regulation as the ultimate evil. History has shown time and again that business will not regulate itself effectively. The current debacle over mortgages is a prime example. In the end these companies dug their own hole giving out loans that were so bad a 12 year old probably could have told them it was stupid.

My feeling is Fannie and Freddie should go down if that is how it plays out, let the chips fall where they may. Nuts to their investors. If corporations are ever to be expected to have some self restraint it will come from the shareholders who remember Freddie/Fannie and make sure their Board is being smart rather than endlessly greedy. And if they do not they deserve what they get when it goes down the tubes.

The government should step in to minimize the effects of that as best they can but let the corporations sink.

4

[QUOTE=E-Sabbath]
If they’re fully capitalized, how can they become insolvent?
[/QUOTE]
It’s a matter of risk analysis. At one end of the spectrum you could say that they should have cash equivalent to 100% of outstanding loans in case they all default. That won’t happen. So what is the realistic outlook? Something more than 0% and something less than 100%. But only the person with a crystal ball knows the exact number.

5

Hijack: If the government takes over Freddie Mac and Fannie Mae, could it, as a matter of public policy, stop foreclosing on all the defaulted mortgages they hold?

6

[QUOTE=BrainGlutton]
Hijack: If the government takes over Freddie Mac and Fannie Mae, could it, as a matter of public policy, stop foreclosing on all the defaulted mortgages they hold?
[/QUOTE]

I don’t see why not. Whether that would make the situation better or worse is a separate issue.

7

[QUOTE=BrainGlutton]
Hijack: If the government takes over Freddie Mac and Fannie Mae, could it, as a matter of public policy, stop foreclosing on all the defaulted mortgages they hold?
[/QUOTE]

If the government actually were to come into possession of them, they could ask the homeowners to pay in M&Ms if they wanted to.

8

Do any other Western countries have similar companies operating, with or without any connection to the government? I just read the GQ thread on what they do and it seems to me that the American government has been encouraging exactly the kind of behaviour that led to the subprime meltdown. If that’s the case wouldn’t the US be better off if both companies were allowed to go under?

9

I’m not sure most poeple know what it is. And frankly, neither do I; its business structure is very weird. But it’s not exactly a corporation.

Fannie Mae was a government lender from '38 to '68, when it went private. It guarrantees loans in exchange for a fee from lenders. Thre are two issues here: first, a lot of people still think of it as a government entity. Second, as a grondfather clause issue, I believe it doesn’t fall under certain regulations which apply to other companies. I believe it can, for example, be much less capitalized than other companies. Finally, as an entity is sets certain limits on mortgage loans, and those limits affect the market substantially.

Now, if Fannie Mae were to collapse, we’d have serious troubles. These institutions deal with trillions of dollars’ worth of loans. If it fell, it might cause a real depression (unlike the fake one we’ve not actually been having). With continued uncertainty in Europe and short prospects in the export-economy in Asia, more bad news could kill Fannie Mae, or Fannie Mae could start something on its own.

The further issue is that investors think the feds would prevent Fannie mae from keeping over. Therefore, they’ve been more reckless in their investments in it. Whether or not the government would step in it unknown at this point. Bush hasn’t been very responsive to these kinds of bailouts in the past, but this might be more risk than anyoen wants to take.

10

Yes, bail 'em out.
If you want to get rid of them, salvage them then fade them out. Problem is, what’s going to replace them?
Peace,
mangeorge

11

[hijack]I love the people who are calling for investigations of those nefarious Wall Street insiders who by “rumors” or “short selling” somehow caused a “run” on these crappy stocks (or on Bear Stearns). Talk about stupid logic – “we all implicitly agree these companies were grossly overextended, the math could have shown us that a modest default rate threatened their liquidity due to the big leverage, but damn you for not pretending otherwise and for pointing out that the emperor had no clothes – otherwise we could have kept lulling the market into complacency.”[/hijack]

As with other of the gov’t’s stupid, kneejerk, poorly thought out “rescue” plans, this latest (and potentially very very expensive) attempt to bribe the market into not correcting itself is having a pretty paltry effect, even as a bribe – last I checked the DJIA was up all of 45 points.

12

A trader (probably in a hedge fund) spreading false rumors on a stock they have shorted would not be surprising at all. Look at Lehman Brothers last week. Even though it’s illegal, it’s nearly impossible to prove because you have to prove they knew the rumor was false, that they started it instead of just passing it on.

13

Everything has become a playground for the rich and powerful. Last year Fannie Mae CEO got 13,4 million while they lost 2.1 billion and shares dropped 1/3. Freddie Mac board chair made 18.3 million. Nice work.

14

[QUOTE=Whack-a-Mole]
I cannot speak to the specifics but on a broader note I personally struggle with the idea of government bail outs of large corporations.

On the one hand in some cases these entities are “too large to fail” in that the knock on effects to the overall economy is something we’d all want to avoid.

On the other hand fuck them. If my business fails the government will not ride to my rescue and in a capitalist society that is generally how it should be. If you fuck up you get washed out and something else that is better replaces you.

I am tired of business railing against regulation as the ultimate evil. History has shown time and again that business will not regulate itself effectively. The current debacle over mortgages is a prime example. In the end these companies dug their own hole giving out loans that were so bad a 12 year old probably could have told them it was stupid.

My feeling is Fannie and Freddie should go down if that is how it plays out, let the chips fall where they may. Nuts to their investors. If corporations are ever to be expected to have some self restraint it will come from the shareholders who remember Freddie/Fannie and make sure their Board is being smart rather than endlessly greedy. And if they do not they deserve what they get when it goes down the tubes.

The government should step in to minimize the effects of that as best they can but let the corporations sink.
[/QUOTE]

Wow, well said. I couldn’t agree more. In addittion, like you say, bailouts are beneficial if they are an integral arm of the economy in the sense that if they fail, they will have a huge impact on our economy overall (airlines).

But there’s also no reason why these giant financier-based corporations like Bear Stearns and Freddie/Fannie Mac/Mae cannot save corporate money in terms of profits for a “rainy day” in order to prop themselves up during a crises, like right now.

It’s a long-term view that shareholders refuse to take because they are more interested in the profits of the now, rather than trying to possibly stabilize a company’s growth and assets by increments rather than leaps and bounds.

This is why low-risk, long-term credible mutual funds are your friend, if you can live long enough to reap the benefits and resist the urge for a million-dollar lifestyle while you’re young.