When Government-Sponsored Enterprises Falter

By September 7, 2008Economy, General

Not exactly manufacturing-related fare, but still big, big economic news….

Treasury and the just-created FHFA have taken control of Fannie Mae and Freddie Mac, acting on a Sunday — in and of itself, unusual enough – in a culmination of statutory and now regulatory steps responding to the mortgage crisis.

  • Treasury Secretary Paulson’s statement is here.
  • Federal Housing Finance Agency Director Lockhart’s statement is here.
  • As of 2:45 p.m. Sunday, neither Freddie Mac nor Fannie Mae has a statement up on their respective websites.

The Financial Times reports what seems to be the consensus media assessment, with the word “bail-out” in the lead sentence. 

The US government on Sunday seized control of Fannie Mae and Freddie Mac in what could end up being one of the world’s biggest financial bail-outs as it tried to prevent the mortgage groups suffering a catastrophic failure.

While the US government stopped short of using the word “nationalisation”, analysts said the moves amounted to de facto government control if not full ownership. Fannie and Freddie have $5,400bn in outstanding liabilities, mostly guarantees on mortgages.

“Fannie Mae and Freddie Mac are so large and so interwoven in our financial system that a failure of either of them would cause great turmoil in our financial markets here at home and around the globe,” said Hank Paulson, US Treasury secretary. “Fannie Mae and Freddie Mac are critical to turning the corner on housing,” he added. He indicated that the US authorities will direct the companies to cut their fees to help bring down the cost of mortgages.

The Wall Street Journal story includes other startling developments:

Mr. Paulson, discussing the effect on holders of the companies’ common and preferred shares, was adamant they “bear both the risk and the reward of their investment.”

“While conservatorship does not eliminate the common stock, it does place common shareholders last in terms of claims on the assets of the enterprises,” Paulson said. “Similarly, conservatorship does not eliminate the outstanding preferred stock, but does place preferred stock shareholders second, after the common shareholders, in absorbing losses.”

Other changes include an immediate suspension of the two firms’ political activities — including all lobbying.

Serious, serious moves, but Paulson and Lockhart’s statements certainly make the case. The consequences for manufacturing are the same for the entire economy, probably: Roiled markets, doomsday scenarios and finger pointing — all occuring in the highly charged campaign season. Who’s to blame, whom can we blame, blame must be apportioned!

Perhaps we should look for more than just current culprits, considering the possibility of historical errors in the creation of GSEs. In any case, next on our reading list is “Government-Sponsored Enterprises: Mercantilist Companies in the Modern World (Aei Studies on Financial Market Deregulation).” And whatever Peter Wallison has to say.

Because, as it turns out, they were right all along.

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