Why The US Doesn't Need Fannie Mae And Freddie Mac

Shareholders arguing for the preservation of Federal National Mortgage Association FNMA and Federal Home Loan Mortgage Corp FMCC say the U.S. housing market needs Fannie Mae and Freddie Mac’s services and their roles as government-backed aggregators.

However, in a recent story for American Banker, Whalen Global Advisors chairman Christopher Whalen says it’s not Fannie and Freddie that are important to the U.S. homebuyer — it’s the government’s guarantees.

GSE Roles

Fannie Mae and Freddie Mac are not mortgage originators, but rather mortgage aggregators. These government-sponsored enterprises buy mortgages from originators, such as banks, and free up liquidity on bank balance sheets that can be used to make more loans. In addition, they guarantee these mortgage loans and repackage them to sell to investors on the secondary mortgage market.

Whalen says there are several key aspects of this process that are crucial to preserve when it comes to making sure middle-income Americans have access to affordable housing. Fannie and Freddie are not among those critical aspects.

“The implicit government guarantee for securities issued by Fannie and Freddie is important, but the two corporate entities themselves are irrelevant to the future of housing finance,” Whalen wrote. While investors may argue that Fannie and Freddie play a vital role in facilitating mortgage bond investment, Whalen said Fannie and Freddie’s bonds are AAA-rated only because of the implied government guarantee, not because of anything unique that Fannie and Freddie are doing.

“Much of the focus of the GSE reform debate has been on Fannie Mae and Freddie Mac, but a system that maintains but recalibrates the government backstop can be achieved without the two mortgage giants,” Whalen said.

He added that mortgage bond investors couldn’t care less whether or not Fannie and Freddie are “capitalized” or even if they exist. All they care about is the government guarantee.

Related Link: The Many Facets Of Mae And Mac

Picking Up The Slack

If Fannie and Freddie are wound down, Whalen says the Federal Housing Administration and cousin Ginnie Mae GNMA) could step up and take over the role of government-backed mortgage aggregators. In fact, he sees a handful of advantages to the Ginnie Mae system.

“By paying private investors and financial institutions to take a large portion of the first-loss risk on MBS, an expanded Ginnie Mae could protect the taxpayer while providing a catastrophic backstop against severe economic downturns,” he wrote.

Eliminating Fannie and Freddie would also simplify and consolidate the current MBS market, a change Whalen says could encourage investment.

Developing Story

Last week, a new batch of government documents were released related to ongoing Fannie and Freddie shareholder lawsuits. The U.S. Treasury is currently receiving 100 percent of Fannie and Freddie’s profits as part of the amended terms of the GSE’s financial crisis bailout agreement, leaving common shares of their stock theoretically worthless. A number of shareholder lawsuits have challenged the legality of the Treasury’s “net worth sweep,” but the lawsuits have been unsuccessful up to this point.

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Image Credit: Carol M. Highsmith [Public domain], via Wikimedia Commons