Wednesday, June 23, 2010

The Cost of the Fannie Mae and Freddie Mac Bailouts

The NY Times has an interesting story detailing the costs of the bailout. I think such costs are almost inevitable in any situation where the ramifications of success and failure are so asymmetrical (in this case managers, owners and recipients of each company's large political contributions stood to gain in good times, while we poor tax-paying suckers were on the hook when things went wrong). You won't find such situations in private markets, only where the government implicitly or explicitly takes on the risk of failure. Throw that in with government incentives and exhortations to buy homes and you have the makings of a disaster. (Of course the housing boom itself came because of the Federal Reserve, which has all these features on a much larger scale -- plus the ability to distort every price signal via its control of the money supply. But even absent it, the asymmetrical nature of Fannie and Freddie's setup was sure to doom them and us.)

A few excerpts from the article:
For all the focus on the historic federal rescue of the banking industry, it is the government’s decision to seize Fannie Mae and Freddie Mac in September 2008 that is likely to cost taxpayers the most money. So far the tab stands at $145.9 billion, and it grows with every foreclosure of a three-bedroom home with a two-car garage one hour from Phoenix. The Congressional Budget Office predicts that the final bill could reach $389 billion.


Rather than actually making loans, the two companies — Fannie older and larger, Freddie created to provide competition — bought loans from banks and other originators, providing money for more lending and helping to hold down interest rates.

“Our business is the American dream of home ownership,” Fannie Mae declared in its mission statement, and in 2001 the company set a target of helping to create six million new homeowners by 2014.


Prices have plunged. So by the time a home is resold, Fannie and Freddie on average recoup less than 60 percent of the money the borrower failed to repay, according to the companies’ financial filings. In Phoenix and other areas where prices have fallen sharply, the losses often are larger.


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