Examining bailout's fallout

The Star-Ledger, September 9th, 2008

The Star-Ledger Archive COPYRIGHT © The Star-Ledger 2008

Date: 2008/09/09 Tuesday Page: 023 Section: BUSINESS Edition: FINAL Size: 717 words

Examining bailout's fallout

Weighing the future of Fannie-Freddie plan By SAM ALI STAR-LEDGER STAFF

Like it or not, today, every man, woman and child in America became a Fannie Mae and Freddie Mac shareholder.

From the get-go, the two quasi-government entities, which purchase over 70 percent of all new home mortgages in the United States, had an implicit guarantee taxpayers could be on the hook if things went awry.

That day has arrived. The federal government, through an agency called the Federal Housing Finance Board, is taking over the management and control of Fannie and Freddie in hopes of stabilizing the housing and financial markets.

"The treasury is giving Fannie and Freddie a vitamin B12 shot," said Tracy Cavanaugh, a mortgage planner who runs Neptune based the CS Advisory Group.

Mortgage rates did fall on the news, but the long-term effect isn't as clear. The Star-Ledger asked a number of experts to discuss the affect of the move on taxpayers, consumers and shareholders. Here's what they had to say.

  1. How does a government takeover of Fannie and Freddie benefit consumers?
  2. The current lack of mortgage bond buyers in the market has dried up liquidity for mortgage lenders, driving mortgage rates higher.

Now that the U.S. government will be creating more demand in the marketplace by purchasing Fannie and Freddie mortgage bonds, homeowners and buyers should start seeing lower mortgage rates and enhanced mortgage options."

– Gibran Nicholas, chairman and chief executive of the CMPS Institute in Ann Arbor, Mich., and a certified mortgage planning specialist

  1. What can the government accomplish that Fannie and Freddie couldn't on their own?
  2. Without (Fannie and Freddie) buying up pools of home loans as they used to, mortgage credit availability has cratered in recent months, one of many factors pressuring home prices. In their stead, the Treasury will now buy those securitized loans, taking the risk those loans will be paid off by borrowers.

With a still-falling real estate market and delinquency rates on the rise, it's a bet that only the government would make today.

– Chip Hanlon, president of Delta Global Advisors, based in Huntington Beach, Calif.

  1. Where is the government getting the money?
  2. It's borrowed money and these activities will add to the growing federal budget deficit. However, taxpayers will profit from the spread between U.S. government debt and debt issued by Fannie and Freddie.

The government is currently only paying around 4 percent when they borrow money. If the government invests these borrowed funds by purchasing Fannie and Freddie bonds at say, 6 percent, they will earn a 2 percent profit on the difference between their cost of funds and the return on investment.

Therefore, consumers benefit twice from this plan: first from lower mortgage rates, and second, from the government making a profit on their investment." – Nicholas

  1. Will it work?
  2. This "temporary" government intervention will probably go on for years, if not decades. This move proves that free markets have failed and that our government regulatory system has also utterly failed.

We shouldn't even pretend we have a capitalist society or even a democratic one, since only a couple of individuals who are not democratically elected are wielding so much power over the economic lives of everyone in our nation and the world." – Ann Lee, adjunct finance professor at Pace University's Lubin School of Business in New York

  1. What's the biggest problem with this plan?
  2. The government does not have a plausible exit strategy. Just as the United States has become addicted to artificially low interest rates, unable to raise them without seriously hurting the economy, we now have most likely permanently socialized a good portion of the real estate market and the economy.

– Michael Pento, senior market strategist, Delta Global Advisors

Sam Ali may be reached at sali@starledger.com

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