Tags: mortgages

Poole: Fannie, Freddie Should Be Dumped

Thursday, 31 Jul 2008 03:55 PM

Given recent government mistakes, Fannie Mae and Freddie Mac have to be saved now to avert a global financial crisis, says William Poole, former president of the St. Louis Federal Reserve Bank.

But once the current credit crunch ends, the two government-sponsored enterprises should be eliminated, argues Poole.

"Congressional inaction over the past 15 years had already committed taxpayers to the bailout," Poole wrote in The New York Times.

"To permit the two mortgage giants to default would set off a worldwide crisis," says Poole.

That's because central banks and private financial institutions around the world have loaded up on Fannie and Freddie paper, assuming the two institutions had de facto government backing.

"But we can decide what should become of Freddie and Fannie after this crisis," Poole notes. "The best option is one getting little mention in Washington: get rid of them."

Because the government must back Fannie and Freddie, the national debt amounts to double the stated figure of $5 trillion, as the two giants hold that much in mortgage paper, he points out.

"For now the Congressional Budget Office has entered a 'place holder' of $25 billion to cover the bailout costs over the next two years, but recognizes that this is a guess," explains Poole.

"The important issue is not the 2009 outlay, but the total that will be required eventually. Even if the two firms are technically insolvent, the market will continue to buy their obligations readily, for it understands that they are fully backed by the government."

As a result of this confidence, there's no need for the government to give Fannie and Freddie more capital, Poole maintains.

"The situation is similar to the one in the 1980s, when many savings and loans were technically insolvent yet had no difficulty attracting deposits, as they were covered by federal deposit insurance," Poole says.

"So the federal government has the option of delaying any ultimate resolution of the Fannie-Freddie mess, as it did with the savings and loans 20 years ago, in hopes that the two giants can dig themselves out of the hole."

But the longer the government waits, the higher the final cost will be, Poole says. "The eventual losses could run to several hundred billion dollars" for the two mortgage lenders.

Solution: put Fannie and Freddie to death.

"Fannie Mae and Freddie Mac are not essential to the mortgage market," Poole contends. "If they were put out of business in an orderly fashion over five to 10 years, the market would pick up the business they abandon."

Fannie and Freddie simply provide insurance to the mortgage market, and insurance markets work fine without any government-sponsored enterprises backing them, Poole notes.

"The long-term health of the mortgage market is too important to be left to only two firms."

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Given recent government mistakes, Fannie Mae and Freddie Mac have to be saved now to avert a global financial crisis, says William Poole, former president of the St. Louis Federal Reserve Bank.But once the current credit crunch ends, the two government-sponsored enterprises...
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Thursday, 31 Jul 2008 03:55 PM
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