Fannie and Freddie: 2 Zombies to Tolerate for a While

Representative Barney Frank was furious.

The Massachusetts Democrat had been watching a morning news program that had me on, and soon afterward he was calling my cellphone to fume about that morning’s discussion. The topic? Why it has taken the government so long to address the fate of the zombie mortgage giants, Fannie Mae and Freddie Mac.

Barney Frank
Barney Frank

It is an issue that has been talked about a lot of late. On Tuesday, the Treasury secretary, Timothy F. Geithner, will convene a meeting of government officials and executives like Bill Gross of Pimco and Lewis Ranieri, the father of the mortgage-backed security, to delve into future housing policy and the role played by Fannie and Freddie.

On the television program that had stirred Mr. Frank, “Morning Joe” on MSNBC, the prevailing view was that any effort toward a resolution of Fannie and Freddie — government-created mortgage companies that were taken over by the government as the financial crisis mounted — had been put on the back burner during the overhaul of financial regulation. The consensus was that neither Democrats nor Republicans wanted to touch an issue that would dredge up decisions made by both parties over the last decade that looked bad in light of the financial crisis. Fannie and Freddie was now the third rail of American politics.

Mr. Frank was having none of that.

The Housing Fix -- A CNBC Special Report >> See Complete Coverage
The Housing Fix -- A CNBC Special Report >> See Complete Coverage

“I take offense at the idea that we’ve done nothing,” he told me. Far from dragging its feet, he insisted, the government took the bold step of putting Fannie and Freddie into conservatorship in 2008. “There was no political fear to not do it.”

I asked the question that I hear from so many Americans: Why hasn’t the government tried to unwind and replace Fannie and Freddie, which have so far cost taxpayers $145 billion, more than any other bailed-out firm?

His response was counterintuitive — and as unsatisfying as it may sound, he’s right.

“There is no urgency,” he said.

Come again?

“We’ve already abolished Fannie and Freddie,” he said, referring to the government takeover. “Yes, we waited too long to fix it. But the money is not being lost by anything they are doing now.”

In other words, the sinkhole that is Fannie and Freddie — Freddie just said it needed an additional $1.8 billion and the Congressional Budget Office says the combined companies could cost taxpayers $389 billion over the next decade — is not a function of those firms making new loans that have gone bad, but the continued “bleeding,” as Mr. Frank put it, from previous loans made before the crisis that are still going belly-up.

More important, shutting down Fannie and Freddie and having the private market step in, as politically popular a sound-bite as that may be, is economically unfeasible. For better or worse, Fannie, Freddie and Ginnie Mae were behind 98 percent of all mortgages in this country so far this year, according to the Mortgage Service News. Pulling the rug out from under them would be pulling the rug from under the entire housing market as it continues to struggle.

“Nobody in the private market thinks we’re ready,” he said, adding that whatever legislation is developed, it will be “for a postrecession world.”

That reality, however, is not changing the minds of many who are calling for a return to a private system that doesn’t depend on the government to subsidize housing.

One of the more interesting ideas being floated is that the government-sponsored enterprises, Fannie and Freddie, would subsidize loans only for low-income families by lowering the size of a so-called conforming loan. At the moment, Fannie and Freddie are buying up single-family mortgages for up to $417,000, and in some high-cost areas as much as $729,750, clearly benefiting families that don’t need the subsidy. Even if the size of a conforming loan were reduced — a prospect that troubles Mr. Frank — there will still need to be some sort of support for that marketplace because the big banks say they won’t service it.

“A clear government role will be necessary to support lending to lower-income borrowers because it is likely that underwriting standards will become more rigorous and funding for mortgage lending more difficult and costly,” the deputy general counsel of Bank of America, Gregory A. Baer, wrote in a letter to the Treasury. (Critics of the banks will point to language like that to show why the bailouts are not helping ordinary Americans.)

No matter what the ultimate plan, the transition to get there will be painful.

“Were the G.S.E.’s to cease buying mortgages or guaranteeing mortgage-backed securities, financing for buying homes today would be virtually nonexistent until the banks got back up on their feet. This would result in mortgage prices increasing, causing demand for housing to decrease, taking the value of homes even further down,” Anthony Randazzo, director of economic research of the Reason Foundation, wrote in a letter to Mr. Geithner.

Nonetheless, Mr. Randazzo, whose foundation leans toward libertarian views, takes a much bolder step. “This means that prices have not been allowed to reach their natural bottom, from which a sustainable recovery could begin.” And Mr. Randazzo wants to see housing prices truly bottom out.

But allowing the housing market to collapse simply so it can rise again — a very free-market approach — is politically unpalatable, especially as the nation’s unemployment number still hovers near 10 percent.

“It’s intellectually pretty difficult,” Mr. Frank said.