The Excellent Adventures of Fannie and Freddie
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That wonderful tag-team of Fannie and Freddie have been all over the media the past week with the Treasury stepping in to rescue them, but just who are this Jack and Jill of the financial world? How did we end up with having such organizations as “Government Sponsored Entities?” Do we really need them?
One of the interesting parts about reading the newspaper stories and viewing the cable news reports is that Fannie and Freddie are always referred to as “Fannie” and “Freddie.” Presumably, it’s designed to make them more friendly; somewhat similar to referring to James Earl Carter as “Jimmy”, William Jefferson Clinton as “Bill” and Dwight David Eisenhower as “Ike.” The truth is it just makes their identity more obscure.
When presented with a story about one or both institutions it not only appears that the reading or viewing audience goes into a trance but also the presenters. It’s no wonder that John McCain glazes over when the subject of economics comes up, so does everybody else.
So let’s take “Fannie” first, as it is the oldest and the original institution and it has a real name, not just the one the traders on Wall Street gave it. “Fannie” or “Fannie Mae” is actually the Federal National Mortgage Association (FNMA) and looking at the name and its initials you can undoubtedly see where its “friendly” name came from.
Fannie was born in 1938 as essentially a spin off of the Reconstruction Finance Corporation, one of the many entities established during the Depression to try to get the moribund economy moving again. A few years earlier, the Federal Housing Administration (FHA) had been established for the purpose of insuring residential mortgages, as an inducement for banks to get back into the home lending business. The FHA gave the banking community the security it wanted. Now it was willing to expand its lending and thereby the economy through home building and the related jobs and manufacturing that would result from the creation of new residential communities but it also exposed the banks to a liquidity problem. They were now being asked to make more long term loans but, because of the poor economy, they did not have significant amount of long term deposits to balance against the loans.
The Federal National Mortgage Association (FNMA) was created to solve the bank’s cash shortage problem. Bank’s could now sell their FHA insured loans to the US Government through the Federal National Mortgage Association, which, since it was an actual arm of the Government, would then be able to bundle many of the loans together as a security that could be sold as a tax-exempt investment to individuals, pension funds, and even back to the banks themselves.
This was to be the catalyst that would get the economy moving. More building meant more jobs, which meant more manufacturing, which meant more consumer spending, which created the upward spiral that was needed in 1938 and on into the war years. When peace came, here was the vehicle that created the building boom of the 1950’s and the dream of all those veterans looking to have a family and own their homes.
All seemed fine until we reached the late 1960’s. President Lyndon Johnson had some problems on his hands, not the least of which was the Viet Nam War. It was February, 1968, an election year and he was extremely unpopular, primarily for his handling of the war. He also had serious budget problems that were related to his Great Society programs but he still had a vision of the country that he wanted to see put in place during his time in office - and so was born The Housing and Urban Development Act of 1968. Tucked away in this legislation which focused on urban renewal, the problems of blighted cities, the need for mass transit and crumbling infrastructure was a section called the “National Housing Partnership.” Here was a proposal to “Transfer the secondary market operations of the Federal National Mortgage Association to completely private ownership.”
Now why would the Johnson Administration want to do that? Because of the lack of funds available to prosecute the Viet Nam War, as well as the keep the Great Society going at the same time (referred to at the time as “Guns and Butter”), the plan was to produce some budgetary slight of hand: unload from the budget the operations of the Federal National Mortgage Association yet designate it as a “Government Supported Enterprise” so while FNMA was no longer an actual part of the Government it was implied to have the same support as though it were.
So what about Freddie? Real name: The Federal Home Loan Mortgage Corporation (FHLMC), hence the market’s name of “Freddie Mac.” We are now into the Richard Nixon administration and the Federal Home Loan Bank board, which supervises the Savings and Loan Industry, has been given the mandate to pump up housing construction to get the economy moving during wartime (“Guns and Butter” part two). The answer is to create a private entity as a mirror of FNMA (Fannie Mae) that will make the Savings and Loan industry its focus and buy their mortgages without touching the administration’s budget. However it will also serve as an over line entity for Fannie in that it will also buy up FHA and VA guaranteed loans.
So to those who claim that the U. S. Treasury’s support for Freddie and Fannie is a bailout – think again. Through both Democratic and Republican administrations and Congresses over 70 years, the intention has always been that these agencies (regardless of their form – public or private) are the responsibility of the U. S. Government. The problem has and continues to be that recent administrations have treated them as though they were supposed to be profit making institutions run for the benefit of management and shareholders instead of understanding, regardless of the corporate structure adopted for budget reasons, that they belong to the people of the United States who are the ultimate owners and bear the ultimate financial responsibility for them.
© 2008 Timothy Holland First Published: 09/11/2008
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