Why the Gov’t Won’t Divorce Fannie & Freddie

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Fannie Mae and Freddie Mac need more money. And lots of it. Yesterday, Fannie Mae asked the government for $8.4 billion after the company experienced first-quarter losses of $13.1 billion.

Freddie Mac requested $10.6 billion in government funds to counteract its $8 billion in losses last week.

Well, at least Fannie and Freddie are consistent. In total, the two government-chartered mortgage finance companies have requested more than $145 billion in government aid since being taken over by the U.S. Treasury in 2008. The hefty sum represents the most money handed out as part of a government-issued bailout.

Worse than that accomplishment, the buck isn’t going to stop at $145 billion, according to Fannie Mae, who said so themselves, and the U.S. government, who pledged in December to backstop all losses for both firms through 2012.

What keeps taxpayers from demanding the deaths of the two mortgage companies, despite their marked involvement in the subprime mortgage crisis, is that Fannie and Freddie were largely viewed as government-owned entities prior to the 2008 conservatorship. (And the government giving money to the government is perhaps more forgivable than the government giving money to, say, AIG.)

What keeps the government involved, despite the firms’ exuberant requests (or, even, the fact that last year their top executives received $13.4 million in pay) is a little more complicated.

Ironically, Fannie Mae and Freddie Mac were created to prevent the exact type of crisis to which they ultimately contributed. Originally launched by the Roosevelt Administration to buy out mortgages that were defaulting during the Great Depression, Fannie Mae became a stockholder-owned corporation in 1968 when the Vietnam War was putting too much of a strain on the national budget.  Freddie Mac, created to prevent a monopoly, went public two years later, but ties to the government have never completely severed.  Both of the companies buy mortgages from banks and then resell them to investors as securities.

In fact, the government’s pressure on Fannie and Freddie to stay competitive in the housing market (and its subsequent failure to recognize how they generated their earnings) exacerbated the firms’ faulty mortgage lending. By the time both firms had amassed $5 trillion in liabilities, Congress had no choice but to intervene. Fannie and Freddie had, in fact, become too big to fail.

But the government’s guilty conscience isn’t the only thing that forces taxpayers to subsidize this never-ending bailout. Fannie and Freddie currently own or insure more than three-quarters of the U.S. housing market.  As a result, the government is relying heavily on both companies to stimulate lending by continuing to buy mortgages from banks, thereby stabilizing the housing market. It doesn’t help that prospective home buyers generally falsely believe that loans backed by Freddie and Fannie carry an implicit government guarantee. The fact that Fannie and Freddie are being used as government-operated tools to regain control over the failing housing market invariably puts all parties in a “damned if they do, damned if they don’t” kind of situation.

Of course, Fannie and Freddie’s latest needs have caused certain lawmakers to ask for a divorce.  Sen. John McCain (R - Ariz.), Sen. Richard Shelby (R - Ala.) and Sen. Judd Gregg (R - N.H.) recently proposed an amendment to the financial reform bill that would end Fannie and Freddie's dual status as a government-guaranteed and corporately held entity.  However, even if the McCain-Shelby-Judd amendment were to pass (and all signs suggest that it won’t), it would take another ten years for governmental ties to the mortgage firms to severe completely.

Which means, unfortunately, taxpayers are in it for the long haul.

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