Fannie and Freddie: Does America owe every citizen a Home?

I am posting an intersting editorial from this week’s Barrons. It makes many good points and questions the concept of Freddie and Fannie. I think the editor’s line of thinking will be echoed by many and may cause a monumental change in the mortgage markets in America. At the least it will cause a great debate: does America owe easy mortgages to all citizens, regardless of their ability or interest in repaying their debts?

Cbass will be proud of this piece:

“Is This Capitalism?

Thomas Dolan - Barrons Editorial Staff

EVERY ONCE IN A WHILE, THE MARKETS serve up new evidence that a lot of investors don’t really care what happens to their money. The past two weeks have been awash in proof. Just look at the recent declines in share prices for the stock of Freddie Mac and Fannie Mae (Feddie) on “news” that the two mortgage behemoths may face large losses and may have to raise more capital to make good their guarantees.

To whom did this come as a surprise? Who was stunned by this news? Who had held firm during the past year, while Fannie’s and Freddie’s stock fell 80%, and indeed the whole financial sector took a haircut that reached all the way to the belt?

Was this “capitulation,” when the last stubborn bulls give up? Was it bottom-fishing by people whose lines were too short? Or was it a rude awakening of people who have been sleepwalking in the Street?

Investors’ eyes were closed to so many things:

For years, F&F could not even issue clean financial reports. For years before that, F&F issued financial reports that sophisticated investors questioned, loudly and publicly. For decades, F&F ran on thin margins of capital, creating leverage that would shame an insolvent savings and loan — or the federal government. For years, Fannie was operated by overpaid Democratic political operatives (Freddie made its political accommodations more discreetly).

Yet people who considered themselves risk-averse bought stacks of F&F paper as higher-yielding substitutes for “risk free” Treasuries. They thought that Fannie and Freddie are backed by the federal government — even though the government always shrank from saying so explicitly.

Myth Becomes Reality

Regrettably, some of the naive investors were right. Fannie and Freddie — henceforth to be known as Feddie — are backed by the federal government. The Treasury, the Federal Reserve, the Congress and the White House have tuned up and now sing in chorus, declaring that Feddie is indeed the ultimate example of “too big to fail.” They will buy Feddie stock, lend to it from the Treasury or the discount window of the Fed. They will do whatever else it takes to be sure that holders of Feddie-guaranteed mortgages don’t lose their money.

Officialdom still shrinks from a straightforward declaration of unconditional support for Feddie or a straightforward nationalization, because it hopes to muddle through this crisis without adding $5 trillion or so of mortgages and guarantees to the national debt.

Fannie and Freddie and the whole mortgage mess represent capitalism at its worst — the Invisible Hand in the taxpayer’s pocket. First, it pays out bonuses and benefits to politically connected big shots. Then, it takes money from some citizens to redress the bad investments of others. It’s the classic “mixed economy,” in which rewards are private and risks are socialized.

As an economic adage tells us, “Capitalism is the exploitation of man by man; with socialism it’s the other way around.”

The Blame Game

We are hoping that regulators find a way to go back and strip the former executives of Fannie and Freddie of all their ill-gotten bonuses, but we also blame the game as much as the people who played it.

That game was created by those who believed that political advantage lay on the side of cheap credit, especially cheap credit for houses. They were right, of course, but they extended the idea much too far. Among their serious mistakes:

• Permitting F&F to “guarantee” timely payment of principal and interest without requiring them to have adequate financial resources.

• Allowing F&F to hold mortgages in their own portfolios, like banks, only with inadequate capital.

• Letting F&F sell stock to the public with a wink, signaling that the federal government would never let them fail.

• Encouraging banks and mortgage brokers to travel a path well-marked by F&F, using easy credit to foster subprime loans, Alt-A loans and liar loans, all with associated high fees, passing them on to investors lulled into a false sense of security by F&F and their market power.

As so often happens in American financial crises, these failures are not failures of capitalism, but instead failures of a phony regulatory system that assures people that their speculations are sound investments.

What Is This?

The famously prescient investor Jim Rogers, who took his money and his family out of the U.S. economy and out of the U.S. entirely, raised some good points last week:

“I don’t know where these guys get the audacity to take taxpayer money and buy stock in Fannie Mae. I mean, what is this? What are they doing guaranteeing their debt? The people who bought debt in Fannie Mae and Freddie Mac can read a prospectus. It says it is not guaranteed by the government. Anybody who can read a balance sheet knew that both of those companies were a sham and they had problems. Now, we have to bail out the Japanese? The Japanese own hundreds of millions of dollars of this stuff and so we are going to bail out the Japanese and the Chinese and everybody else in the world? What is this? It ruins the Federal Reserve’s balance sheet, it makes the dollar more vulnerable, and it increases inflation, and it drives down the dollar.”

A good question: What is this? A panic, surely, but not so much a financial panic as a governmental one.

The federal chorus stands behind Feddie like a midnight choir standing behind the chief drunk. The lady of the house comes out to see what’s going on, and the choir denies all responsibility. Anyway, he will be sober in the morning, they promise.

That’s what they said the last time, and the time before that and the time before that. Using the money of its innocent citizens, the government is trying to prop up Feddie until it can stand on its own again, attract capital again, pour money into the mortgage market again, raise the price of housing again, and, of course, collapse again — perhaps not taking the banking system with it.

Fannie and Freddie are not too big to fail, but there’s a bigger question: What about the federal government itself?”