The United States likes to think of itself as a model of free markets. Unfortunately, in far too many sectors of the economy the reality is that the federal government already plays a huge role. Housing is a perfect example. The two Government Sponsored Enterprises (GSE) created to help the feds muck around in the housing market, Freddie Mac and Fannie Mae, already dominate the mortgage industry, handling more than 80% of all mortgages bought by investors in the first quarter of 2008. At the urging of politicians determined to increase homeownership rates, the Federal Housing Administration (FHA) has increased the number of exotic mortgages in its portfolio from 2% in 2000 to 35% in 2007.
Don’t let anybody fool you, federal market intervention is at the core of the nation’s mortgage meltdown and the bottom lines of the government entities doing the intervening reflect it. If current mortgage default rates continue, the FHA will face a $1.4 billion deficit in 2009 and Freddie Mac and Fannie Mae already racked up $9 billion in mortgage-related losses last year and have another $19.9 billion in unrealized losses still on their books. So what are lawmakers doing in the face of these federal government failures? Like a degenerate gambler, Congress is on the brink of taking taxpayer money and doubling down.
The FHA Mortgage Bailout: Since its creation, the FHA has never experienced a financial shortfall. However, since its creation the FHA has never been as neck deep in risky mortgages as it is today. As mentioned above, in 2000 exotic mortgages accounted for less than 2% of FHA-insured loans; today they account for 35%. The borrowers in these riskier loans are defaulting at rates two to three times the rates of traditional mortgagors. Rep. Barney Frank (D-Mass.) claims his housing bill will protect taxpayers from the increased risk of default by imposing fees for each mortgage writedown the FHA will insure under his bill. The problem is there is simply no market mechanism to determine the proper size of these fees. It is complete guess work. Make the fee too high and Frank’s bill helps nobody. Make the fee too low and the FHA will not be able to cover its losses from higher mortgage default rates. The CBO estimated Friday that Frank’s bill would cost American taxpayers $2.7 billion.
Supersizing Freddie and Fannie: The other major element of Frank’s housing bill is the relaxing of financial restrictions on Freddie Mac and Fannie Mae to allow them to buy and resell “jumbo” mortgages as high as $730,000 (the current limit is $417,000). Frank seems completely unconcerned that, as mentioned above, Freddie and Fannie racked up $9 billion in the mortgage market losses last year and has $19 billion more in unrealized losses still on the books. Frank told the New York Times: “I want these companies to help with affordable housing, to help low-income families get loans and to help clean up this mess. Otherwise, why should they exist.” Never mind that Freddie and Fannie already have guaranteed or invested in $717 billion in subprime loans or that combined the two companies already have over $5 trillion in debt and other financial commitments. Frank, along with Freddie and Frannie, are all betting that the housing market will rebound strongly by 2010. If not, the New York Times reports: “If the housing market lasts longer, unexpected losses could overwhelm their reserves, starting a chain of events that could result in a federal bailout. Again, that would be a federal bailout in the trillions.”
Gamblers always seem to take bigger risks when they are playing with house money. Do the American taxpayers really want Congress playing this fast and loose with the U.S. treasury?
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