FANNIE and FREDDIE, FRANK and DODD

Central to the recent financial industry troubles are two Government Sponsored Entities (GSE’s) affectionately known as Fannie and Freddie. The formal first name for each is “Federal”, befitting their intimacy with federal folks like Frank and Dodd.

Both of these governmental failures (Fannie and Freddie, not Frank and Dodd) were conceived and created by Congress. They were not the progeny of entrepreneurial private industry.

As one of their own, Congress exempted them from the federal banking regulations applicable to the private sector. The Senate and House banking committees, recently chaired by Frank and Dodd, were given the responsibility for oversight of these, the legislatures own creations.

A shoe store buys shoes at one price and sells them for more. In like manner, F&F borrow money at one price and lend it for more. Their cost to borrow is dependent upon their credit rating. Their credit rating was set by agencies they hired and paid to set their credit rating. The rating agencies decided AAA would be appropriate. Is a picture beginning to form?

A sub-prime loan is by definition one of low creditworthiness. The government was mandating the making of loans to people ill-equipped to meet the payments. In 1999, 42% of mortgage loans were sub-prime. In 2000 Andrew Cuomo, appointed as Secretary of Housing and Urban Development by Bill Clinton, mandated a quantum leap in the number of sub-prime loans that federally chartered banks must award. Forty-two percent was not enough bad loans to satisfy him.

Chairman Greenspan and the Federal Reserve kept interest rates lower than they might have been, which made borrowing attractive. It was generally thought the loans were guaranteed through F&F. Traditional lenders, backed, encouraged, even intimidated by the government enthusiastically joined the fray. The two GSE’s approved loans and provided the money with near total disregard for the ability of the borrower to pay. At the height of the bubble these Government Sponsored Entities were providing mortgage money to applicants called NINJA borrowers, no income, no job, no assets.

Eventually the bubble burst, as all bubbles do. Barney Frank said, read the fine print the loans are not guaranteed.

This was a government sponsored crisis. Don’t ever, ever let anyone convince you this fiasco was the result of anything, anything at all, other than government interference with the free market system.

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