Fannie Mae and Freddie Mac, collectively known as the government-sponsored enterprises or GSEs, are huge government-backed yet privately owned companies whose main purpose is to buy mortgages. They are also, according to a recent Fed governor among others, insolvent — that’s "broke" to you and me.
This story is all over the news so I’m not going to rehash it — here’s a NY Times piece for those who want more. I just wanted to note that this is a huge crossroads for the housing and mortgage finance bailout efforts about which I’ve written several times on these pages.
A failure of the GSEs would be huge. They either own or guarantee over $5 trillion worth of mortgages, accounting for nearly half the mortgage debt in the country. And in the days of dwindling private mortgage issuance, the GSEs provide a huge chunk of the lending that takes place. Were they to stop buying mortgages, as the Times article puts it, it "could bring much of the American housing economy to a standstill." Many think that the government would step in and take over the companies before that was allowed to happen.
I love the quotes from our
I love the quotes from our government’s and Fed’s top dawgs. It just so laughable in hindsight, but painful to go through. A lot of innocent people are going to be hurt in the next two years. I’m moving to Siberia until everything shakes out.
T4L
Can you comment on the impact
Can you comment on the impact on US $? Any chance of major devaluation a la 1974?
Here are two articles with
Here are two articles with two very different takes on this situation. I could be reading one of these wrong, but the Bloomberg article says a failure of the GSEs would cause interest rates to go up by a point, while a CNN/Money article says it could cause a depression or something like it.
More of the articles I’ve read seem to say that it would be somewhere in between but probably closer to a catastrophe in the housing market (and the resulting damage to the rest of the economy) than a mere one point rise in interest rates.
Still, quite a disparity in the predictions of fallout if it happens.
(Brief quotes here from the articles, and links to them.)
July 11 (Bloomberg) — A failure or government bailout of Fannie Mae and Freddie Mac could push mortgage rates above 7 percent for the first time in six years and delay a recovery in the U.S. housing market.
Home loan rates would go up by one percentage point, to about 7.3 percent, if the companies failed because borrowers would have to pay private market rates, said Keith Gumbinger, vice president of mortgage research firm HSH Associates in Pompton Plains, New Jersey. Even if the government steps in, rates could gain as much as half a percentage point as the cost of selling mortgage-backed securities rises, he said.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aEJpAyueAyVE&refer=home
“If Fannie or Freddie failed, it would be far worse than the fall of [investment bank] Bear Stearns,” says Sean Egan, head of credit ratings firm Egan Jones. “It could throw the economy into depression or something close to it.”
http://money.cnn.com/2008/07/09/news/companies/benner_fanniefreddie.fortune/index.htm?postversion=2008071108
Depending on exactly how
Depending on exactly how “insolvent” the GSEs are…
There are two issues here, IMHO. The first is the existing loans/guarantees on the GSE’s books. The second is future lending.
Let’s first consider future lending. If the GSEs are insolvent, future lending will just about come to a standstill, and we will probably see rates for **qualified** buyers run in the double-digit range (pulling this out of my a$$ here). Who is going to buy bonds that are guaranteed by insolvent entities? For what price? If money becomes really scarce, prices of houses will drop like a rock (think all-cash purchases, or 30%++ down payments), which will exacerbate the GSE’s problems and cause the death-spiral in the mortgage market.
Even if the govt tries to bail out the GSEs, investors ($$$ that buys the loans/bonds, etc.) will begin to questions the U.S. govt’s ability to really back-stop the mortgage market. As an investor, I’d personally still expect a 10% or better return, especially since there would be an expectation of large-scale inflation as the printing presses are fired up to absorb all the losses in the mortgage market and force more money into the market.
IMO, there are two options, and neither is good:
1. The govt bails out the GSEs and we see severe inflation or hyperinflation as they try to cover the losses in the mortgage market. Let’s not forget how all the PTB want the GSEs to bail out the other lenders as well. In the event of a govt bailout, I anticipate **very high** inflation (think oil is high now…you ain’t seen nothing yet).
2. Stand back and basically let the GSEs and private markets sort things out on their own. I’m ardently opposed to govt bailouts, but this is an interesting situation. Most people don’t realize how far the tentacles of the GSEs reach in the financial world. GSE debt is probably in your Money Market Funds (check your retirement accounts), your insurance company holds them, as do your pension plans (if you’re lucky enough to have one, you might not after all this is over). Municipal governments holds some of their reserves in GSE debt, and GSE failure could quicken the pace of municipal defaults (which I think will happen anyway). The financial markets could quite literally seize up.
GSE failure could be the demarcation point between where we are now and a major deflationary/hyperinflationary event (I view debt deflation and hyperinflation as two sides of the same coin).
IMHO, GSE failure would be the largest financial catastrophe ever experienced in modern time. A GSE bailout would be the second largest financial catastrophe ever experienced in modern time. Sure hope I’m wrong…
I wonder if Rich walks around
I wonder if Rich walks around singing that Hives song, “Hate to say I told you so…”
I am concurrently reading
I am concurrently reading “Conquer the Crash” by Robert Prechter and “The Creature from Jekyll Island” by G. Edward Griffin. As I am reading these books, I find myself trying really hard not to become a paranoid pessimist…and then this GSE stuff comes out. I think my paranoia is becoming more justified by the day. I can’t wait to see the spin jobs in the media this week. I didn’t know David Lereah was speech writer for Bernanke and Paulson.
The health insurer FDIC
The health insurer FDIC (Fiscally Doubtful Insurance Corp), refuses to cover liposuction to remove cellulite for an overweight Fannie, that has suffered years of abuse due to lack of regulatory exercise and high calorific tax breaks. Meanwhile, a close friend Freddie the freeloader chokes on lunch in the lobby. Apparently, the offending morsel was actually an angry tax payer looking for accounting records for the last ten years.
As to the surprising coincidence, marxist tabloid the NY Times, reports that both parties are fitted with ‘somnambulant’ regulators, a kind of defibrillator that insulates internal CEOs (Cholestral Eating Organs) from the outside world. Apparently, a toxin called ‘subprime lending’ has caused internal rupturing, and new donors are currently being sought.
Meanwhile, the pop duo Bernanke and Paulson break through with another hit single, entitled “It’s Contained”, and CNN continues to report the mortgage crisis is somehow linked to recent UFO sightings.
Failed or bailed, rates will
Failed or bailed, rates will go up even before a LIBOR, 10-year, or Fed increase, won’t they?
Even if they admit their socialist tendencies and let the GSE’s operate at a loss to continue funding mortgages they will have to do something to make up for the massive losses they have seen and will continue to see.
That will push rates everywhere else up, but prices down to where blue collar workers may actually be able to afford homes again. With prices back down to earth foreclosure rates may actually start to decline, people can spend less on housing and stimulate the economy by spending money they actually have, not debt.
Far be it from anyone in the government to connect those dots though.
Oh boy …
I’ve never
Oh boy …
I’ve never understood the rationale for owning FRE or FNM, at least the equity.
The Treasury just stepped in front of all the commoners. Ouchie.
How about the scenario of a
How about the scenario of a state-owned central bank that controls how much credit is issued:
http://webofdebt.wordpress.com/monetary-proposal/
I’m not endorsing this, just want to get this idea out there for people to chew on…