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Yanking the life-support from Fannie and Freddie
Perspective on the News
Monday, August 16, 2010
Ed DeShields

The government buys or guarantees more than 90 per cent of mortgage loans currently being issued. About one in twelve of the houses insured by our government will wind up in foreclosure and lose up to 70 percent of the money it lent to the borrower.

Look up and down your street.  That puts you, the taxpayer, on the hook for about one house on every block in America.  So, the overhaul of government-controlled FannieMae and FreddieMac remains one of the most challenging problems of the financial crisis, and one that was noticeably absent from the reform regulation signed into law earlier this summer.  Since being taken over by the government in 2008, Fannie and Freddie have absorbed nearly $150 billion in aid, making them by far the costliest part of a bail-out that rescued carmakers and financial institutions.

For decades, Fannie Mae and Freddie Mac privatized their profits while ultimately putting taxpayers at risk for losses. This type of “heads private shareholders win, tails taxpayers lose” system of misaligned incentives makes no sense for the nation.  On Tuesday, the Treasury Department will convene its panel of so-called experts to try and decide just what to do about it.   Will the Obama Adminstration yank the cord from its life-support and leave Fannie and Freddie to die?  Not likely.

The problem is that without government backing, large private investors have said they would stop buying mortgage bonds that support the loans made to consumers; a development that would be catastrophic both for the housing market and the broader economy.

No one wants to see the GSEs survive in their current form, but neither do they want to upset the mortgage market at such a crucial time. Beyond that no one knows how to proceed; like most of the rest of the economy we’re now experimenting with.

In the meantime, if you are a renter you felt the pain of higher rents during this economic crisis.  Since the housing bust started in April 2006, the cost of renting a home has risen 12%, according to the latest data from the Labor Department. Rents flattened out when the housing market started to show signs of recovery in mid-2009, but have since started heading upward again.  Not a good sign.

To be sure, not all renters are feeling the pain. In places such as California and Florida, the glut of empty homes has kept rents down. And compared to the payments on subprime mortgages taken out at the peak of the boom, renting can look reasonable just about anywhere.

Rising rents also affect the economy. Rent, including an estimate of rent for homeowners, makes up nearly a third of the consumer-price index. Excluding rents, consumer prices fell at an annualized rate of 0.25% in the three months ending July. So one of the main price trends keeping the U.S. out of deflation stems from a weak housing market, not from a recovering economy.

As long as the government stands in the first-loss position with mortgages, private investors aren’t likely to step into their shoes.  Why would they?  Never-the-less, watch for more regulation from our administration as they try to control what might be better left as a private market.

About Ed DeShields

Last week: Why Banks Should Start Working forTheir Money

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