Tuesday, July 15, 2008

The flaw that is Fannie Mae

The International Herald Tribune describes the illusion behind Fannie Mae and Freddie Mac:
Over the course of this 18-month financial crisis, we have lurched from land mine to land mine.

Last week it was all about Fannie Mae and Freddie Mac, the giant government-sponsored enterprises set up to provide affordable housing.

By issuing debt, these shareholder-owned companies guarantee or own more than $5 trillion in home mortgages. Got that? $5 trillion.

Because the federal government established the companies, investors view them as backed, at least implicitly, by taxpayers. And that implied guarantee is what drove Fannie and Freddie's business models.

The advantages the companies gained from this unique arrangement were huge.

They had to keep less cash on hand than traditional lenders, for example.

They also made more money on their mortgages than lenders because they paid less to borrow money in the bond market. These profits enriched Fannie and Freddie shareholders over the years and bestowed significant wealth on the companies' executives.

Now it looks as if the bill for that largess is coming due. Of course it will be borne by the usual bag holders: U.S. taxpayers. You and me.

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