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Home Publications Blogs Beat the Press Nocera Largely Right on Fannie and Freddie

Nocera Largely Right on Fannie and Freddie

Thursday, 27 June 2013 07:26

Joe Nocera gets the story mostly right in his skepticism toward a bill put forward by Senators Mark Warner and Bob Corker that would replace Fannie and Freddie with a convoluted system of government guarantees. I would add three points.

First, the 30-year fixed rate mortgage is not necessarily dependent on a government guarantee. In the pre-bubble days banks did hold a substantial portion of the mortgages on their books. They also issued 30-year jumbo mortgages which could not be guaranteed by Fannie and Freddie, so apparently there is a market for these mortgages even without government guarantees.

Second, an important goal of policy in housing finance should be efficiency. In other words, the point is to make it possible for people to buy homes with as few moving parts as possible. This could probably be best accomplished with something like the old Fannie Mae.

In the pre-privatization period, Fannie was a publicly owned company that bought and held mortgages. There were no mortgage backed securities. There is little obvious purpose to move from a government company/agency holding mortgages to a government company/agency guaranteeing mortgage backed securities. In the latter case the government still has the credit risk, it only shields itself from timing risk (fluctuations in interest rates), but that is a risk the government has no problem bearing.

There are political reasons why the old Fannie system might be difficult to reinstate, but we can at least be clear that it would be the most efficient way to manage housing finance. Other methods are political compromises.

Which brings us to the third point, the waste created by these compromises is income to the financial industry: hence the argument for the sort of convoluted system of guarantees in the Warner-Corker bill.

So if we want the most efficient system that is politically feasible, it's probably best to just shut down Fannie and Freddie altogether. The 30-year mortgage will not disappear, although it may cost somewhat more.

Comments (7)Add Comment
USG should be all-out or all-in mortgage market
written by beowulf, June 27, 2013 8:06
"So if we want the most efficient system that is politically feasible, it's probably best to just shut down Fannie and Freddie altogether. The 30-year mortgage will not disappear, although it may cost somewhat more."

Agreed and if Uncle Sam is going to be in the mortgage business, why should it privatize profits and socialize losses?
Just as the Dept of Education now issues student loans directly instead of simply guaranteeing private issuers against losses, there's no practical reason HUD couldn't issue home loans directly. On the other,why would senators like Bob Corker or Mark Warner even think about redirecting hundreds of billions of interest income to taxpayers when there are campaign contributors who need to eat?
written by pete, June 27, 2013 9:25
Why should there be any subsidy of home builders? These are just crazy arguments. Where is the market failure? Government guarantee implies subsidy. Else it would not be necessary. Government should not be lending money to folks to buy houses, unless it is for folks who satisfy some poverty criteria. This was the goal of increased home ownership, with guarantees which led to a magnificent bubble, since folks with low income were able to fraudulently buy homes they could not afford. Sigh...get the government out of the housing market.
the power of money
written by Jennifer, June 27, 2013 10:34
The story of Fannie and Freddie is really the story of the power of concentration of wealth. Theoretically, there is a lot of support behind the simple idea of just shutting them down. Again, from the various books on the financial crisis NOBODY thought/thinks they are good. They are just the worst combination of private/public but between the politicians and private groups there are just too many people who will lose money if they were to go.
The old Fannie & Freddie
written by Edward Ericson Jr., June 27, 2013 11:44
Before the derivatives revolution, Fannie and Freddie acted as a brake on the bankers' worst proclivities. Fan-Fred and FHA would not buy scammy, predatory paper. Little did anyone know that the predatory loan business would, thanks to the magic of MBS, grow much larger than Fan-Fred and, eventually, induce their managers into the same game.

The reason for this was baked into Fan & Fred's charters. Both were created to serve the needs of mid and lower income borrowers. And both were chartered to serve the needs of their shareholders. Where those directives clashed, shareholders won.

You could see it happening in the early 2000s as the cap on Fan-Fred loans rose above $400,000. Even in Connecticut, where I lived at the time, nice houses could be had for much less than that.

Though we got here accidentally, what's needed is what we have: Fan and Fred publicly owned an operated, the MBS scammers largely humbled--though not, unfortunately, imprisoned.

We ought to streamline Fan-Fred's mission and make them honest brokers in the market. Not politically feasible, I suspect, but there it is.
Its Public Information Now Though Counterfeit Fraud Has Been Decriminalized for Banks
written by Perplexed, June 27, 2013 1:47
-"Second, an important goal of policy in housing finance should be efficiency. In other words, the point is to make it possible for people to buy homes with as few moving parts as possible."

And just who is this an "important goal" for? Just who benefits more from getting people into unsuitable investments in an "efficient" manner? Is it banks, real estate & mortgage brokers, builders, or politicians? I suppose there's plenty to go around so why bicker about how its "divied up" right?

If your stock broker sells you an unsuitable investment you can sue and recover your losses; no such protections exist in real estate. Just ask the millions of victims who are still deeply underwater and those forced into bankruptcy by the last scam. The only thing that has really changed since the last crises is that now everyone knows that counterfeit fraud has now been decriminalized for banks. This makes taking on a mortgage more risky, not less so. Those victimized last time can at least claim they thought counterfeit fraud was a crime punishable by imprisonment; the future victims can make no such assertion.
written by NWsteve, June 27, 2013 9:24
when whatever transition is ultimately installed:
the oldest rule should, but probably won't, be the driver:
on balance will the borrowers benefit?
or will they simply pay and then pay again?


in a related discussion:
when interest rates re-approach their historic mean,
if the mortgage interest deduction is eliminated,
how long will it take for the share of households that own or are buying their residence
drop below 50%?
is this acceptable?
Of course Dean is right in context, but...
written by Alex Bollinger, June 30, 2013 1:20
There's no government interest in putting people in houses instead of apartments. When people buy instead of rent, they want land and that means more distance between things (bars, work, stores, schools, etc.), less public transport, and more carbon emissions. Does the government have an interest in speeding up global warming?

People are also more afraid if they live in their own house. People I know who live in the exurbs tell me they get creeped out at night and one guy told me that's why he bought a gun; I live in the city where crime is an order of magnitude higher but knowing my neighbors are several feet away keeps me sensible. Is stoking fear a legitimate government interest?

A case can be made that the suburbanization of America was driven in part by racism (aka white flight). Urban economists reject this in favor of models that compare transport costs for rich and poor, but then fail to explain why prices are distorted in certain ways by public policy (like mortgage tax credits, home loan guarantees, and overbuilding of public roads). If white people voted in the 60's and 70's for politicians who would help them move away from black people, does the government have an interest in maintaining this policy?

Cars kill far more people than buses and subways do, and suburban living requires cars more than urban living does. Does the government have an interest in increasing car accidents?

Americans, for whatever reason, think houses need a giant green carpet around them. Even people who buy houses in deserts where these green carpets are most unnatural will pour time and money into maintaining them so that they don't have dust bowls between their houses and their neighbors'. These carpets require large amounts of water, labor, and chemicals to maintain. Does the government have an interest in wasting resources?

I could go on, but I think I've made my point: get the government to encourage responsible habitation instead of the suburban lifestyle. And if you're going to respond that people's preferences are such that they want to live in houses at the current rate, then let's experiment and take away all the government subsidies that unfairly benefit suburbanites, let the market determine prices in this area, and see where people's preferences lead them.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.