Market Meltdown. “We have Armageddon.”
As many of you know, I was very critical of the lack oversight on government-backed home loans when I ran for office. I made it clear that lawmakers like Congressman Tom Price, who sat on the banking committee, were gambling tax payer’s money guaranteeing home loans with teaser rates and not enough equity to off-set the risk default. The problem was so out-of-control that around 40% of home loans originated fall into this category, leaving tax payers on the hook.
The following are the recommendations I ran on to help off-set loses that lawmakers put on tax payers via bad loans:
1) The Fed should lower interest rates, since this will help make the payments affordable and lower the amount of defaults of the approximate 7 million home owners due for rate adjustments.
2) The Fed should also require a higher amount of equity for tax payer-backed loans on new home loans to increase credit quality of portfolios.
Warning: Even with the above suggestions, tax payers will pay for lawmakers not doing their job. It will come in a combination of ways, from declining home value to more bail-outs… But the longer we wait, the bigger the bail out!
My suggestions are only a way to make the landing softer.
Thus far, federal policy on homes going into default under an adjustable rate mortgage is the same as the federal policy on Katrina victims. They leave it up to states to bail people out, and MA has a limited program to convert these mortgages into fixed ones with a couple months shifted to the end of the loan.
This is really more of a Wall Street blunder than a government blunder, as even without oversight, the street should be creating investment products (bundled loans sold as bonds) that aren’t going to cause investors to lose their entire investment.
I do think that the government’s voice should be heard on how and when credit is being issued, and that is the specific area where the GOP led Congress turned a blind eye.
In fact, they passed legislation making it harder for individuals to file for bankruptcy and start again. This bill was a gift to banks, and conservatives were seeing it as a ’step forward’, a testament to the virtue of ‘personal responsibility’…OH THE POOR BANKERS.
Luckily, a month ago I began shorting Goldman Sachs in a fantasy portfolio…this strategy would have made me rich if I’d been a broker. And anyone interested in this issue should read up on Bear Sterns.
Cramer is ranting because his buddies on Wallstreet are losing money because they made stupid loans. SO WHAT!!!! That’s capitalism!!!! Why should the Fed/government help?
NEW YORK (Reuters) — Bear Stearns (BSC) said Friday that it is weathering the worst storm in financial markets in more than 20 years after a major rating company warned mortgage credit problems could hurt the investment bank’s profits.
Bear Stearns’ chief financial officer said the shockwaves hitting lending markets, triggered by rising mortgage losses, were as bad as crises such as the Internet bubble bursting in 2001 or the 1998 collapse of hedge fund Long-Term Capital Management.
“These times are pretty significant in the fixed-income market,” CFO Sam Molinaro said on a conference call with analysts. “It’s as been as bad as I’ve seen it in 22 years. The fixed-income market environment we’ve seen in the last eight weeks has been pretty extreme.”
Molinaro’s dire assessment of the market rocked stocks, bonds and currencies. U.S. government bonds surged as investors sought the safety of taxpayer-backed debt and stock indexes fell more than 2%. The dollar tumbled against other major currencies.
Shares of Bear Stearns, known on Wall Street as a leader in the $7 trillion U.S. mortgage bond market, dropped 5.9% to $108.85.
Geo Hast
Because the tax payers are on the hook! The loans would not of been made had not lawmakers had tax payers guaranteeing home loans.
Al,
You points are well taken. Especially about Bear Sterns. However, I’m with Geo Hast on this one.
Who took out these ridiculous loans? Should it be up to the rest of us to bail out people who’ve been silly enough to buy homes on cheap credit. I say no!
This is the tip of the iceberg. I have a family living fairly close to me that has a 4400 square foot house they bought with an ARM. The mortgage has gone up over $850 per month. This is where it gets really interesting…..they have THREE cars….a BMW, a Cadillac Escalade and a Mercedes. All are leased and all were “affordable” when the mortgage rates were lower. Now they’re having problems making the minimums on anything.
Is it my fault or YOUR fault these people were irresponsible? Again, the answer is no!
I agree with your comment about the poor bankers, but disagree about bankruptcy. If you can’t afford a particular lifestyle, don’t live it.
I suppose the rest of us will be paying for this family’s health insurance now.
SOCIALIZED MEDICINE WILL BANKRUPT THE NATION!
Chip Rogers for U.S. Senate!
Mac
You ask, “Who took out these ridiculous loans”?
Lawmakers like Congressman Tom Price put you on the hook bottom line and he did not watch the hen house!
John
You may be correct, but only partially. Let’s look at what Mr. Price voted for….to make loans more attractive and available to people. He DIDN’T take out the loan, nor did he FORCE anyone else to take out a loan.
I agree putting the taxpayer on the hook is wrong, but what about putting the RESPOSIBILITY where it belongs – ON THE BORROWER and the BANK.
John, I get the distinct impression there’s a lot of “sour grapes” where you and Tom Price are concerned. Not being from your didtrict, I really didn’t have a lot of interest in that particular campaign, but his victory was nothing short of a landslide. Are you against EVERYTHING he does or is strictly sour grapes?
Also do you support Chip Rogers?
SOCIALIZED MEDICINE WILL BANKRUPT THE NATION!
Chip Rogers for U.S. Senate!
Mr. Konop, these problem loans are caused by the govenment sticking their stupid fingers in free markets. Your solution is more of the same? To have the government stick their fingers in even more?
How much is the government on the hook for?
These stupid loans artifically inflated home values. Atrifically holding down interest rates in the desperate hope that home values will increae to paper over the problem is a dead end. Most teaser rate borrowers are never going to be able to afford real interest rates!!!
Let the markets, not the government solve this!!!
Mac
You are the biggest liberal socialist if you believe a word you wrote.
Bottom line the loans were made because tax payers guaranteed a portion of the loan. Only a liberal drug addict would suggest that Congressman Price who sat on the committee that regulated the guarantee of tax payer’s dollars should not perform oversight.
If it is free market money the government should have very little to say as long as there is full disclosure. That is called capitalism.
What you are advocating is the governments to give out money to debt addicts needing a fix to help the economy.
This crazy thinking is why we are 9 trillion in the red via cash flow and somewhere between 40 to 50 trillion in future debt obligations.
You have the GOD given right to be for irresponsible use of tax payers money with no oversight. But please be clear you are a flaming socialist liberal out of control!
John said:
1) The Fed should lower interest rates, since this will help make the payments affordable and lower the amount of defaults of the approximate 7 million home owners due for rate adjustments.
===============================
If they do, they collapse the currency and hurt all Americans with high inflation. This is a no win situation and the voters have got to understand that all the “government help” over the last 7 decades is coming home to roost.
Less government intervention is needed.
Ultimately, we all have to make the choice of a fixed or ARM and whether they are one of the government backed loans or not, we are personally responsible for the decision.
A banker can tell you rates are going to stay low and the Fed won’t raise rates and you can afford an ARM but, you know you have to make the choice.
If he lies or you lie about the income for the loan, it is still you on the hook when the rates rise. If the economy booms and rates go up, you know going in that is possible.
20,000 illegal aliens got home loans in the Denver area alone. They were government back loans. Whether they were fixed or ARM, I don’t know, nor does it matter. That was due to government being involved in the “home loan market.” It was probably an extension of the war on poverty where the government wanted more “home ownership” to provide an incentive for poor to take part in the “great American dream.”
That role is supposed to be played by the people, not government.
In India, for example, a bank started making tiny loans to people all over India for things like sewing machines the people used to earn money with. They had an almost zero default rate and helped many people raise themselves up to new financial levels. The banks made money and the people improved their lives.
The fed’s job is to control inflation first and foremost. Thus, many say they should be raising rates now, not lowering them. While I disagree, I don’t want them lowering rates either. The nation needs policy reforms instead of lower rates. It needs tax and compliance reform that could raise wages and the economy so that people could afford higher mortgages.
It needs free trade so we can buy what we no longer make because of bad policies over the last 70 years that raised our prices so high that our businesses can’t compete internationally. It doesn’t need a “North American Union,” or the WTO to have free and fair trade but, it does need free and fair trade.
Other nations are finding ways to do that so that as David O’Rear suggests in another thread, they can export more and strengthen their economy. Those same tactics allow the nations to reduce their debt or slow the growth of it dramatically. They are lowering taxes and sometime compliance costs on business. They are limiting immigration to help wages rise slowly as demand for labor rises and exports and productivity improves.
They are raising interest rates in their central banks to stem inflation that is rising as growth increases demand. Some are looking to move away from the dollar and our debt.
In other words, all over the world nations are doing all kinds of things in the “world economic boom” to be better prepared for the next downturn. Some will succeed, but not all, certainly but, they doing something. WE, however, continue towards the crisis our government says can’t be avoided without serious, tough choices by Congress and the President.
The American people are going to have to pay the price for too much government over the last 70 years at sometime. Will it be now or later. If later it will be even worse. You can’t bail out the homeowners without risking even more damage to all of the nation that lower interest rates will cause.
Maybe Bernanke will stay tough and keep the rates where they are. Yes, a couple million home owners will lose their homes. Yes, millions more will probably just barely save theirs. Yes, still millions more will have less to spend and possibly cause a recession. But, if the world loses faith in our dollar and dumps it because the interest rate for our debt is too low and with all the nations with higher rates available, we could cause even millions more to be unable to maintain their standard of living.
We have to “bite the bullet” sometime and Bernanke, the S.S. Administration, and GAO all say the sooner we do, the less the impact will be. Total reform in many areas of our government is desperately needed but all will cause millions to suffer when those reforms are done.
Geo Hast
I do not know the full extent of the liability because the guarantee portion could trigger bank failures which would double down on loses ie S&L crises. That is why a high failure rate could trigger a further down turn in real-estate value which could cause other problems. All I know is it does not look good and now it will come down to how much is the damage is going to be to tax payers eventually.
Also all of this will affect consumer spending. That is why lower interest rates will help that issue as long as the debt to equity ratio gets back in line. Yet as equity ratio goes up spending goes down as you clean up credit risk. This is a tough balancing act.
That is why I put out general concepts and have an actuary run models to figure best case balancing act.
Jan
The problem is tax payer’s are on the hook for the loans. And the home loans where under written based on lower interest rates. And if the Fed does not lower the rate the tax payers will take it on the chin. This will buy time for home values to rise again and stop a collapse of the market which tax payers will get caught holding the bag.
By raising equity ratios on new originations or charging the proper rate via risk, the credit quality will clean up via the portfolios. This will stop failures at the banks and cool off funny money growth in the market. BTW private equity will pick up the sub-prime market at a higher rate via the risk.
The down side will be consumer spending which cannot be avoided whatever we do. And no matter what, tax payer’s will take a hit on this due to irresponsible lawmakers
Mr. Konop, why do you say “The Fed should also require a higher amount of equity for tax payer-backed loans on new home loans to increase credit quality of portfolios”?
Won’t the banks do that on their own? Why would banks that are already struggling with their govenrment backed loans need the government to tell them not to make more bad loans?
John
Clearly I touched a sore spot mentioning Tom Price. The last time I checked, most people from his district were very happy with his performance. I know I am.
However, that aside, it is NOT a function of government to TELL you to borrow money for anything. Government establishes policies (supposedly) based on the will of the people. THAT, JOHN is exactly what happened here.
Do you want the government to “oversee” everything you do? I know I don’t! I want government as far away from me as I can get it. As Geo Hast stated so well, government needs to keep it’s fingers out of things best left to market forces. Every time the government steps in, it stifles competition resulting in scenarios such as this.
NEITHER YOU, ME, ROVER, BART, are responsible for the irrespponsibility of others. While I agree the taxpayer should not pay the piper, the FACT is the people who opted for cheap credit are the ones who should pay for it. You can spin it any way you like, but I didn’t tell ANYONE to buy a 4400 square foot house and lease three luxury cars, and I shouldn’t have to pay for their stupidity or their new-found lifestyle.
I know you think government is the solution for everything, but again John, CHARITY is not a constitutional function of our government. I know you don’t like it, but get over it.
You still refuse to admit that government is not in the health care business despite undeniable proof and now you expect government to pay MORE Charity for irresponsible people. Are you a Communist, or simply a socialist?
SOCIALIZED MEDICINE WILL BANKRUPT THE NATION!
Chip Rogers for U.S. Senate!
GEO HAST
I do agree the free market system is best. But once you put tax payers on the hook we are not talking free market.
If the interest only loans would have been priced right this would not have been a problem.
The price got out of control because tax payers guaranteeing home loans
I am not talking about private money. But if they are use tax payer’s money and we need to raise the debt to equity ratio. And if we do that we will clean up the risk of the portfolio of tax payer’s backed loans. Also by increasing equity we will off-set the risk of deposit guarantee also by tax payers.
The problem is once we are on the hook it is no longer a free market system. And in a free market system the equity players would require oversight of their money.
Only lunatics guarantee money or lawmakers with no oversight. The reason lawmakers do it because it is not their own money.
Mac,
You do not get it! If finical institution loans money at their risk without the government guarantees that is free market system. In that case you would be right.
What this issue is about the government guaranteeing the loans. Once the government does that lawmakers like Tom Price have a sworn duty to provide oversight. Congressman Price was on the oversight committee.
Why do you think the government should guarantee loans with no oversight?
John
You’re changing the subject now. WHO BORROWED THE MONEY JOHN? It seems to me (and apparently a whole lot of other people) that those who borrowedit should be forced to repay it. It’s really very simple John.
Of course to listen to you, Tom Price is responsible for everything up to and including the McKinley assassination.
SOCIALIZED MEDICINE WILL BANKRUPT THE COUNTRY!
Chip Rogers for U.S. Senate!
Mac
Let me get this straight you are for the government putting out tax payers money at risk with no oversight? And you think this is capitalism?
If you understood the most basic concepts behind lending you would know your question is ridiculous.
In the real world we lend money direct or indirect based on debt to equity ratios. The price is based on risk verse return. Anyone in the private sector of lending requires oversight before putting out the money. That is how we make money!
What you are advocating is bi-passing the free market system of lending for a government backed program with no oversight. As I said you are a radical socialist if you back the above!
John
I’ll ask again.
Who borrowed the money?
It’s a simple question and requires only a simple response.
Question: What is the Armageddon that the woman in the clip is warning crazy what’s-his-face about if the Fed lowers rates?
(Am I missing something or does Crazy Guy want us to feel bad for his millionaire bond trader buddies?)
Mac
The debtor was able to borrow the money based on a guarantee from tax payers. In the private market the debtor would have not gotten the money or paid more for it.
Yet comrade MAC is for big government programs with no oversight and taking on unlimited risk at tax payer’s expense.
The non-GOVERNMENT private lending business is based on understanding the spread you make based on the risk. If the debtor cannot afford the payment you understand we have a problem. And at the end the lender is taking the risk which is why we require oversight.
As you refuse to answer the simpest of questions, I’ll try a different thread.
SOCIALIZED MEDICINE WILL BANKRUPT THE NATION!
Chip Rogers for U.S. Senate!
John said:
The down side will be consumer spending which cannot be avoided whatever we do. And no matter what tax payer’s will take a hit on this due to irresponsible lawmakers
=======================
So, let’s take the hit this way, rather than the hit a collapsing dollar would create because that would cause even more to lose their homes due to the collapse of the economy.
Let’s get the government out of all of this.
Having said that, it won’t happen. The Armageddon if we lower rates is a “panic.” The fear stressed on the financial news this morning was that if the fed lowered rates now, it would cause a world-wide panic on the dollar and foreign investment in the U.S. They said that with all the choices in the world now, where as the U.S. used to be the main choice, we could end up sending our nation into a severe recession that would last a very long time.
Then with rising unemployment, losses of profits, lack of foreign investment, millions of people would end up losing homes they can now just barely hang on to even with fixed rate mortgages. While ARM’s would drop, the lack of a job would mean they still couldn’t hang on to the home.
That, of course, is just “theory.” What will really happen if they lower rates? Will foreign investors stop buying our debt? Will they stop investing here? Would the world economy also go into recession if we do?
Jan
If you lower rates with out raising equity you would de-value the dollar. The problem is the lack of skin in the game from debtors relative to the rate. Investors do not expect the same return via the equity.
What I fear is they will lower rates and blow off the equity problem. And that will make for a hard landing and tax payers taking it on the chin with bail-out and de-valued dollar.
This is the same argument you lost a couple of weeks ago John. Do you enjoy looking like a fool regarding this subject?
1 — You did not even list this issue on your entire website or brochure during the campaign…I just reviewed both yet again and found nothing about home loans.
2 — Not all home loans are guaranteed by the governemnt (nor should they be). Why do you want govt. to intervene on behalf of borrowers who signed risky loans, saved money over the past few years and now might have to pay the piper?
John, do you believe as almost all your posts suggest that government is the solution to every issue facing America? At what point does personal responsibility become relevant? And last question, why did you ever consider yourself a conservative Republican — seems you’re suffering from the same affliction that infected other ‘GOPers’ like Arlen Spector, Lincoln Chafee and that “highly respected conservative” Dick Lugar.
You really need to sign on with John Edwards…his platform most accurately reflects your view of more government = better QoL for American citizens.
John said:
What I fear is they will lower rates and blow off the equity problem. And that will make for a hard landing and tax payers taking it on the chin with bail-out and de-valued dollar.
=======================
The tax payers are going to take it on the chin no matter what they do. The question becomes when and how hard. We don’t want lower rates since that would make things worse for all of America.
We don’t want higher rates since that would make it worse for all America.
The fed should leave them here and let Congress make reforms to correct the situation. However, if they don’t take action in Congress, the tax payer will take it on the chin, anyway, whether the rates are lowered, raised, or stay the same.
The Fed needs to sit this one out and make Congress start acting responsibly. In the past, we didn’t have the rest of the world as our bankers, our manufacturers, our private mortgage lenders, our business lenders to the degree we have now. They have to remain confident in our monetary policy and the value of our currency. Lowering rates won’t do that.
We the people, taxpayers, should demand the government not bail out anybody with fed rates or loans to unethical businesses that are in trouble, etc. but, we will have to live up to the commitments we have already made where we guaranteed loans. We can change that policy for the future, but not the past. Thus, the taxpayers will be stuck with what has already been done with government backed loans but the majority aren’t government backed loans and I don’t think that it is our taxpayers we have to worry about as much as all the foreign lenders who bought packaged loans and may decide American isn’t the safe place to invest anymore.
Heck, the way our Congress operates, they won’t raise taxes but will borrow more to cover any losses. That too, will eventually come back to bite the taxpayer, but, it does delay it for a couple years.
Bart,
Why do you think the government should guarantee loans with no oversight?
Answer my questions John.
Govt. should guarantee NO INDIVIDUAL HOME LOANS!
Clear enough John?
Now answer my questions.
Interestingly, listening to the dem love fest on MSNBC with prime time pontificator of progressive policies Keith Olberman as ‘moderator’ in front of antiquated union myrmidons reminds me of just how much John Konop follows dem ideals.
Trade – End NAFTA, CAFTA, WTO participation.
Iraq – Surrender
They haven’t discussed healthcare yet, but we all know John’s solution is big nanny replacing the private sector.
John, with all this evidence showing your beliefs fall in line with Barack, Joe, Dennis, John and Hillary, will you finally admit you are a democrat?
Bart
You sound like two year old. The problem is the government already did it. We can fix the problem or you can go home and cry!
You support Congressman Price who wants to give healthcare away and I want people to pay!
WOW Bart I am lost for words as to how foolish you sound!
Not surprised you won’t answer the questions John. You lack the intelligence, creativity and dynamic vision to see beyond the latest poll results.
YES, I proudly support Congressman Tom Price and his GA colleagues including Lynn Westmoreland who will hopefully be the first Republican Governor of Georgia since reconstruction. When you criticize Price, you by association cast aspersions at Westmoreland, Deal, Linder, Gingrey, et al who generally vote together for smaller government, less spending and lower taxes. Sorry you don’t have a big union, big nanny legislator representing your district (but you could move just a few miles south and join with your like-minded representative John Lewis when you get tired of being exposed as a liberal in conservative Cherokee County…just a humble suggestion).
Nah – I sympathize with people who got burned w/ an adjustable rate mortgage. Buying a house is a huge moment in one’s life, as it was for me, and ever since we closed, there has been a non-stop heap of refinance offers in the mail every day…they are falsely advertised as one thing, and you have to really dig into the fine print to understand what the scam is.
I wanted to pull some equity out of our home, and two companies I dealt with, the salesmen were lying to me about adjustable rate mortgages, as I was insisting on a fixed rate.
Another quoted 6.5% and I got closing papers for a loan at 10.25%!!!
I’ve got a good education and some common sense, but to me, the industry shouldn’t be allowed to do these kinds of things. As someone with kids who is maybe 2 months behind on their bill, might be too worried about being kicked out, too tired from working, etc…they make a mistake.
It is unethical to market these types of products to people who aren’t likely to pay.
Look for some class action suits on these companies. Also, the states these companies are operating in should have their Att. Gen. looking into them as well.
I have no problem with “national standards” but, enforcement and regulation should primarily be a state responsibility. Also, people who have been swindled and some have, should be using the state laws, state system for civil action, and also, the media to broadcast what these companies did to unsuspecting buyers.
Also, we need to do a better job of teaching our young that government is no substitution for getting the education you need to know when you are making bad financial decisions. If it is “too good to be true” then it probably should be avoided because it really is too good to be true and if not illegal, may be unethical.
John,
Bush just announced on Cavuto that he will NOT bail out homeowners scheduled for foreclosure. Hillary put forth a $1B bailout program today.
Who do you agree with; Bush or Hillary?
Bart
If Bush made the comment he does not understand how the product works. We are on the hook for part of the loans under his leadership.
As far as Hillary her idea does not fix the fundamental problem.
The basic problem is simple we have people on payments they can not afford. The homes do not have enough equity for them to downsize and not leave tax payers holding the bag.
The fed controls interest rates and debt to equity ratios on products the government ie tax payers guarantee.
As I said now it is only a matter of time of how much tax payers get stuck with the bill.
That is why I said the softest landing will be lower the FED rate and raise equity requirements for tax payer backed loans.
BTW the reason Hillary solution will not work a short term temporary payment help only delays tax payers getting stuck with the bad loan. It does nothing to fix the fundamental problem of Lawmakers guaranteeing loans with tax payers money and no oversight!.
Bart
Why do you proudly support Congressman Tom Price who will have lost billions of tax payer’s money due to lack of oversight from him being on the banking committee that allowed this fiasco to happen.
Also you must add on jobs, real-estate equity down turn, consumer spending…….
John,
Please once and for all cite a credible source showing the government will be on the hook for these loans. I have provided numerous sources indicating how wrong you are, but you continue to act as if you know something nobody else knows (including the President, Hillary and every reliable financial source).
You did not mention this issue in your campaign materials. When do you tell the truth?
BART
About the FHA
The Federal Housing Administration (FHA), an agency of the federal government, insures private loans that are issued for new and existing housing, and loans that are approved for home repairs. Created by congress in 1934, the FHA became part of the Department of Housing and Urban Development’s Office of Housing (HUD) in 1965. Today the mission of the FHA includes helping borrowers get amounts they qualify for, and assisting lenders by reducing their risk in issuing loans. To find out if you might be eligible for an FHA-insured loan, contact us.
Where FHA Mortgages Come From
FHA loans do not come directly from the FHA. The FHA guarantees home loans, reducing the risk to lenders and offering increased borrowing power to qualified applicants. You may bet better interest rates thanks to FHA home loan insurance. FHA loans are particularly helpful for who want a home, but have little or no money saved for a down payment; including those just graduating college, newly married couples, and also those who have had credit problems in the past because of foreclosure or bankruptcy. Check out your credit rating and get a list of lending limits for FHA loans in your area which vary from state to state, and may even vary by county
Bart,
If a major bank goes under due to Congressman Price not doing his job the FDIC could get wipe out. Rumors are flying major players may go under! The consumers are all have guaranteed deposits up to 100K!
And if a big guy goes down this would be bigger than the S&L mess. That is why that guy is screaming on the video. This is no joke.
The Federal Deposit Insurance Corporation (FDIC) is a United States government corporation created by the Glass-Steagall Act of 1933. The vast number of bank failures in the Great Depression spurred the United States Congress into creating an institution which would guarantee deposits held by commercial banks, inspired by the Commonwealth of Massachusetts and its Deposit Insurance Fund (DIF). The FDIC provides deposit insurance which currently guarantees checking and savings deposits in member banks up to $100,000 per depositor.
Mr Konop says, “The loans would not of been made had not lawmakers had tax payers guaranteeing home loans. ”
Geo Hast says, “Mr. Konop, these problem loans are caused by the govenment sticking their stupid fingers in free markets. ”
Folks, better quit before you dig yourself in any deeper. If you don’t know anything about the issue, it is better not to opine.
—This isn’t a government-guaranteed loan crisis.
—This isn’t an FDIC issue.
Got it?
John,
The FHA will not be on the hook…that is a totally bogus reply — from your link:
FHA Mortgage Insurance
Mortgage insurance is a policy that protects lenders against losses that result from defaults on home mortgages. FHA loans require mortgage insurance primarily for borrowers making a down payment of less than 20 percent.
Mortgage insurance is charged to the homeowner each month at the rate of .5 percent per year of the total loan amount. FHA also charges an upfront mortgage insurance premium of 1.5 percent.
Just admit you are wrong John. You are trying to pin something on Congressman Price that is not deserved. You want government to be big nanny for homebuyers who took advantage of low interest loans and now may have to pay the piper (just like Hillary).
Hillary proposes a $1B bailout. How much do you want to provide to these homebuyers John?
Bart
The system does not have the money for this size of a problem. And at the end the money comes from deposits which the government will have to bail out!
As I said Bart I will not repeat the names but we are talking about major banks failing.
Also as real-estate declines it throws off the debt to equity ratios at all banks. This is a major league screw up!
Congressman Tom Price was given warnings about this issue by think tanks like the Heritage foundations.
The Zero Down Payment Act of 2004, introduced by Rep. Pat Tiberi (R-OH), would require the Federal Housing Administration (FHA) to offer federally insured mortgage loans to certain eligible households to buy a house without a down payment. Although the bill could lead to a very modest increase in the homeownership rate, it would do so by exposing the FHA—and ultimately taxpayers—to major losses stemming from high default rates, as evidence from similar FHA programs shows. The Congressional Budget Office estimates that the new program would cost the government $618 million from 2006 through 2009.
In addition, the bill would continue the process, begun last year with the enactment of the American Dream Down Payment Act[1], of undermining financial self-reliance among middle class families.
Risky Incentives
The Zero Down Payment Act (H.R. 3755) would require the FHA to allow eligible first-time homebuyers and “displaced homemakers” to buy a house without having to provide a down payment. Under this plan, buyers would be able to borrow more than 100 percent of the purchase price of the house, and the FHA would insure the lender up to the full amount of the loan in the event of borrower default and foreclosure.
These mortgages are risky because of the absence of an owner-provided down payment requiring some personal sacrifice to accumulate. Without a financial stake in the house, subsidized buyers have less incentive to be responsible owners. Such owners see themselves as little different from renters and often act accordingly. Indeed, one financial analyst contends, “A home without equity is just a rental with debt.”
Advocates for the bill contend that the absence of the money to provide the required down payment deters many otherwise eligible households from becoming homeowners. Current rules for most FHA loans—and common practice for most conventional lending—require the borrower to provide a down payment of between 3 to 5 percent as an equity cushion against potential loan loss through default. Under FHA’s most popular program, the required down payment is three percent of the purchase price. With today’s median-priced existing home selling for $183,600, half the homes for sale in America can be purchased with standard FHA financing for a down payment of $5,490 or less.
Although FHA’s required down payment is 3 percent of the house’s value, borrowers are permitted to finance all their closing costs through the mortgage, including FHA’s upfront insurance premium. The consequence of these added costs is that the mortgage amount often exceeds 97 percent of the house’s value. Similar cost shifting privileges will be available to borrowers under the Zero Down Payment program, meaning that these FHA loans will be insured for more than 100 percent of the purchase price of the house. As a result, FHA’s insurance exposure will exceed the value of the collateral by several thousand dollars on such loans.
Poor Performance and Worse
Evidence, including several reports from the HUD Inspector General, suggests that no-down-payment mortgages have significantly higher default rates than those where borrowers were required to use their own funds for a down payment.
Recent performance shows that all types of FHA mortgages suffer from higher default rates than other mortgage loans. During the first quarter of 2004, conventional mortgages experienced a default rate of 2.25 percent, meaning that payments due on 2.25 percent of these mortgages were past due by 30 days or more. In contrast, FHA mortgages experienced a default rate of 11.66 percent in that same quarter, nearly five times greater. Disturbingly, the default rate on FHA loans also exceeded the default rate of conventional loans rated as “sub-prime,” defined as a loan made to a borrower with a below average credit record.
Reflecting a long-term deterioration in FHA loan performance, FHA’s most recent default rate of nearly 12 percent compares poorly to the 1998 default rate of 8.5 percent and the 1980 default rate of 6.6 percent. In contrast, over that same period default rates on VA mortgages increased from 5.3 percent to 7.4 percent, while conventional mortgage default rates actually fell slightly, from 3.1 percent in 1980 to 2.25 percent in early 2004. These contrary performance measures suggest that the rising default problem is unique to the FHA, whose underwriting standards were significantly liberalized during the Clinton Administration, and not related to any economy-wide problems that would have affected all borrowers.
As evidence from existing “no down payment” FHA programs reveals, lowering the down payment to zero and insuring mortgages with negative equity will lead to even higher default rates than those typical of traditional FHA programs. In March 2000, the HUD Inspector General reviewed the performance of several special “down payment assistance” programs in which FHA participated in partnership with not-for-profit organizations that provided prospective borrowers with a gift of cash to cover the down payment. The best known of the nonprofit partnerships is the Nehemiah program that operates in four cities.
In its analysis of these programs, the Inspector General reported, “Empirical information developed during the review shows higher default rates for loans involving down payment assistance gifts provided by nonprofit organizations than for other FHA loans.” A follow-up report released in September 2002 was even more critical, noting, “The defaults on these 2,261 loans have risen dramatically and, as of February 15, 2001, the default rate increased to 19.39 percent compared to a 9.7 percent default rate for FHA loans without Nehemiah assistance in the same four cities.”
Such problems have characterized other HUD no-down-payment mortgage programs in the past, most notably the infamous Section 235 program of the late 1960s. Among the many financial disasters that have befallen HUD over the years, the Section 235 program was one of the worst. Exceptionally high default rates, property abandonment, and costly foreclosures led to budget outlays well in excess of the amount of subsidies provided to buyers. These losses were largely a consequence of foreclosures that amounted to less than the dollar amount of the outstanding mortgages. Since FHA insured these mortgages—as it will do under the new programs—the federal government was ultimately responsible for these losses.
The Section 235 program was such a disaster that it was canceled in the mid-1970s by a bipartisan majority in Congress, and by 1979, 18 percent of the program’s mortgages had been foreclosed. The painful lessons of the experience were so enduring that no president or congress since has seriously contemplated the creation of a similar program, until now.
Conclusion
Although homeownership is, without doubt, a valuable policy goal, policies to promote it should create opportunity and encourage individuals to save, not seek handouts. By contrast, the American Dream Down Payment Act and the Zero Down Payment Act reject these approaches and instead foster the kind of dependency that characterized the failed programs of President Lyndon Johnson’s Great Society, inlcuding the disastrous Section 235.
For that reason, Congress should be skeptical of such proposals. A better course would be to focus on the growing obstacles to ownership created by the extreme land-use restrictions that are increasingly common in many communities. As studies by a number of researchers reveal, minorities and others with moderate incomes are being excluded from homeownership by these restrictions and regulations.
And at a time when the U.S. homeownership rate is the highest in history and several federal home-loan programs for lower-income and savings-impaired families already exist, the Zero Down Payment Act would be a waste of public resources.
Ronald D. Utt, Ph.D., is Herbert and Joyce Mor¬gan Senior Research Fellow in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.
Time to Reform Fannie Mae and Freddie Mac
by Ronald D. Utt, Ph.D.
Backgrounder #1861
In late 2004, the leadership of the Federal National Mortgage Association (FNMA or Fannie Mae) was accused of having engaged in a series of questionable accounting practices that led to an overstatement of its earnings and an understatement of its risk. Although Fannie Mae’s top officers denied the accusations, a careful review by the U.S. Securities and Exchange Commission confirmed the allegations. Within a few weeks, Fannie Mae conceded the charges and its top officers were forced to resign. Any doubts about the seriousness of the company’s shaky finances were laid to rest on January 19, 2005, when Fannie Mae cut its dividend in half to bolster its cash reserves.
Since then, Congress has held a series of hearings on Fannie Mae’s predicament and how to reform it. In the last week of May 2005, the House Committee on Financial Services proposed a series of regulatory changes that it claims would rectify the problem. However, critics of the FNMA, many of its private-sector competitors, and White House officials contend that these proposals are too timid and that the new regulatory environment would sustain the powerful co-monopolistic position that it shares with the Federal Home Loan Mortgage Corporation (FHLMC or Freddie Mac), which suffered its own accounting and ethical lapses in 2003.
A better and more effective alternative is to phase out their generous federal credit privileges, allowing these financial giants time to adjust to a more competitive environment. To implement this orderly withdrawal of federal support, Congress should:
Phase out Fannie Mae’s and Freddie Mac’s lines of credit with the U.S. Treasury over five years in annual increments of $500 million for each government-sponsored enterprise (GSE),
Eliminate immediately the Federal Reserve’s authority to buy their debt, and
Eliminate the GSEs’ exemption from state and local income taxes.
As the phaseout proceeds, Fannie Mae and Freddie Mac should:
Conduct an orderly reduction in their holdings of residential mortgages (the profits from these investments depend largely on their ability to borrow at subsidized rates) and
Concentrate their skilled workforces on securitizing residential mortgages in fair and open competition with the private sector.
These legislative changes would greatly reduce the risk to financial markets and taxpayer exposure. They would also restore competition in residential mortgage markets while leaving the housing industry and homeownership opportunities unaffected.
Making the Most of the Opportunity
While Members of the 109th Congress are to be commended for taking on these two political powerhouses, the legislative package reported out by the House Committee on Financial Services in late May 2005 (H.R. 1461) falls short of what is needed. It will do little to address the fundamental problems associated with these federally supported financial monopolies that provide limited benefit to the housing finance market or homeownership opportunities.
Notwithstanding press reports that the new legislation would “create a new more powerful regulator for financial services giants Fannie Mae and Freddie Mac,”[1] some GSE reform advocates and Bush Administration officials view it as too weak and contend that the new regulatory system is less restrictive than the current one.[2] In addition, the new proposal would require Fannie Mae and Freddie Mac to use 5 percent of their profits to fund “affordable” housing programs. This is a clumsy and costly effort to contrive a public purpose for these enterprises, which have long outlived any justification for the valuable privileges that they receive from the federal government.
The failure of Congress to address these broader issues stems from a flawed reform process that focused on Fannie Mae’s Enron-like behavior instead of the statutory privileges that have allowed it to amass enormous market power. Together, these two GSEs control half of the residential mortgage market, deterring competition and forcing the housing and housing finance markets to rely on two financially unstable co-monopolists. With such market power concentrated in the hands of only two companies, the stability of U.S. financial markets could be undermined by financial problems in just one of them. Of course, if a bailout ever becomes necessary, the taxpayers could end up paying the bill.
In recent years, there have been a number of proposals to reform these GSEs. Some involve more regulation, others urge the creation of more GSEs to foster competition among government-subsidized entities, and still others would eliminate the statutory privileges that tie the GSEs to the taxpayer.
New regulations have attracted the most support, but this could turn out to be a useless and counterproductive approach. If the GSEs provide little or no benefit to society—beyond enriching their leaders and the various contractors who serve them—there is little point in trying to limit their risk with regulations and expose the taxpayers to a costly bailout. The co-monopolists would likely survive and thrive under a regulatory solution that would preserve the unhealthy concentration of risk, privilege, and power in the two companies.
Both Fannie Mae and Freddie Mac have proven exceptionally adept at lobbying Congress to preserve and enhance their privileges. Any effort that relies on new regulations will likely perpetuate the risk to the financial market and preserve their dominant influence. Indeed, if Armando Falcon, director of the Office of Federal Housing Enterprise Oversight (OFHEO), had not courageously persisted in exposing Fannie Mae’s suspect operations, often in the face of congressional hostility, former Fannie Mae President Franklin Raines would still have his job and Fannie Mae’s shaky finances and fabricated earnings would still be hidden.
Instead of adopting compromise regulations, the government should begin an orderly process of severing all ties with the GSEs. Their most valuable federal privileges are their $2.25 billion lines of credit (for a total of $4.5 billion) with the U.S. Treasury and the Federal Reserve’s authority to buy their debt as part of its open market operations. These privileges allow Fannie Mae and Freddie Mac to claim an implicit federal guarantee of their outstanding obligations, which in turn makes them a popular investment for many major institutions, pension funds, and even foreign central banks. By lowering their borrowing costs and giving them access to subsidized credit, this implicit guarantee has allowed them to outcompete their private-sector rivals and establish a monopoly presence in the financial markets.
Losing Their Sense of Purpose
Fannie Mae was created in 1936 during the Great Depression to provide a secondary market to encourage greater use of the innovative long-term, fixed-rate, level-payment, fully amortized mortgages that the newly created Federal Housing Administration (FHA) was insuring against loss of principal and interest. The exercise was a success, and this type of innovative mortgage became the standard means of financing the postwar housing boom that raised the homeownership rate from 44 percent in 1940 to 69 percent by 2004.[3]
By the 1970s, the basic purpose of the GSEs had shifted to the role of adding more funds to the housing market by connecting prospective homebuyers with major capital markets. To accomplish this goal, the GSEs use their preferred credit rating to borrow in major financial markets and use the funds raised to acquire residential mortgages from brokers and other mortgage originators, earning profits and covering expenses on the difference in the interest rates earned and paid. The GSEs also package mortgages acquired from originators into “pass through” securities that are collateralized with qualified residential mortgages. Payments of principal and interest made by the homeowners are then “passed through” to the investors holding the securities.
Over much of this period, Fannie Mae and the federal government were minor players in the process. By 1965, the homeownership rate had risen to 63 percent, but Fannie Mae and the other sources of federal mortgage credit support accounted for only 6 percent of outstanding residential mortgages.[4] Savings and loan associations, savings and commercial banks, and life insurance companies accounted for most of the rest.[5]
Fannie Mae was restructured as a federally chartered corporation in 1968, and its shares were sold to the public a year later. Initially, Fannie Mae was limited to investing in residential mortgages insured by the FHA or guaranteed by the Veterans Administration so as to maintain its public purpose of assisting entry-level homebuyers.
A few years after Fannie Mae’s “privatization,” Congress authorized the creation of another government-sponsored mortgage credit facility, Freddie Mac, as a federally chartered corporation to provide a secondary market for the conventional mortgages written by savings and loans and other lenders and brokers. Over time, the mandates guiding the FNMA and FHLMC were liberalized, and the scope of their activity was expanded substantially to the point that they and the other federal housing finance programs now account for more than half the residential mortgage market in the United States.
Although structured as private companies, both the FNMA and the FHLMC operate with valuable federal privileges that give them a significant competitive advantage over other participants in the housing finance market. In particular, they are exempt from state and local income taxes; more important, they have exclusive access to lines of credit from the U.S. Treasury and the U.S. Federal Reserve System. Under current law, each is permitted to borrow up to $2.25 billion from the Treasury, and the Federal Reserve is authorized to purchase their debt as part of any “open market operation.” Although neither of these privileges has ever been requested, the fact that the federal government is authorized to assist these GSEs is interpreted by investors as an implied federal guarantee of their debt, and this interpretation allows them to borrow at interest rates well below those paid by private companies with the best credit ratings and only slightly higher than what the Treasury pays on its own full faith and credit debt.
As quasi-private companies obligated to enrich their shareholders with ever-increasing earnings and dividends, and operating with an implicit federal interest rate subsidy as well as a federal mandate to promote homeownership, Fannie Mae and Freddie Mac had every reason and opportunity to grow rapidly. By the 1980s and early 1990s, they dominated the housing finance market. By parlaying their subsidized borrowing advantage into lower-rate mortgage lending, they gradually pushed life insurance companies and commercial banks out of the less profitable residential mortgage market and squeezed the earnings of the already wobbly savings and loans, which by law could invest only in residential mortgages. While homebuyers benefited from slightly lower borrowing costs, financial markets were put at greater risk as more and more of the housing finance system was concentrated in the hands of two highly leveraged, unsupervised, federally chartered financial institutions.
Concerns Met with Public Relations
Many policymakers soon recognized the risk to financial markets posed by such a concentration of market share. In the late 1970s and early 1980s, Fannie Mae made a bad bet on interest rate trends that left the institution technically insolvent as its net worth briefly turned negative, raising fears of a financial collapse. Fannie Mae later recovered when the Federal Reserve’s monetary policy of the early 1980s led to dramatic declines in market interest rates, restoring the value of Fannie Mae’s loan portfolio.
After implementing new financial controls and investment practices, Fannie Mae came out of its near-death experience as a better-managed operation. Nonetheless, the possibility that it might fail could disrupt financial markets in general and mortgage markets in particular. This, in turn, led to calls to limit its size, scope, and privileges.
In response to growing concern and criticism, Fannie Mae adopted an aggressive public relations program that was quickly copied by the Federal Home Loan Banks (FHLBs) and Freddie Mac, the other housing-related GSEs. With executive pay, bonuses, expense accounts, and other top management perks, and by promoting its stock to Wall Street analysts, Fannie Mae presents itself to investors as a hard-charging, profit-minded growth company.
Wall Street brokerage firms and investment banks earn more than $100 million in fees annually from the issuance of Fannie Mae and Freddie Mac debt instruments and mortgage-backed securities.[6] Wall Street returns the favor with enthusiastic endorsements of their role in the economy and financial markets. However, when protecting itself against the few congressional reformers and marketplace competitors and selling its debt to foreign central banks at favorable interest rates, Fannie Mae poses as a public-purpose government entity that helps America’s disadvantaged to become homeowners.
As part of this effort to garner influence, Fannie Mae has hired lobbyists by the score and created the Fannie Mae Foundation, which over the past five years has pumped $500 million into highly visible and heavily promoted local projects and grants.[7] In the process of spreading its message, every interest group is cultivated.
Even America’s college professors became objects of Fannie Mae’s affection when it created and financed two academic journals—Housing Policy Debate and Journal of Housing Research—that focus (with a notable exception) on a wide range of housing issues. The exception is that both journals generally avoid discussing the GSEs’ role in the mortgage market and whether they make much of a difference. With many professors still confronting a publish-or-perish environment in pursuit of tenure and promotion, common sense argues against irritating a wealthy and influential publisher. As a result, academia has not been a reliable source of dispassionate inquiry into the GSEs’ role in America’s housing market.
Is Fannie Mae Really Needed?
However, independent analysts have looked into the matter and have found little evidence that the FNMA, FMLMC, and FHLB make much of a difference in how many new homes are built or how many Americans become homeowners. In fact, a broad review of the evidence accumulated in the postwar era suggests that their impact on homeownership is inconsequential.
Specifically, in 1965, when the GSE presence in the mortgage market was slightly above 6 percent, America’s homeownership rate was 63.3 percent. In 1990, after outstanding residential mortgage credit had expanded more than tenfold from $220.8 billion in 1965 to $2.6 trillion in 1990 and after the federal and GSE presence in the residential mortgage market had grown from 6 percent in 1965 to 48 percent in 1990, America’s homeownership rate was at 63.9 percent—virtually identical to the rate 25 years earlier. Expressed another way, the $1.24 trillion increase in federal and GSE involvement in the mortgage market was associated with an increase of less than 0.6 percentage points in the homeownership rate.[8]
In this regard, it is worth noting that America’s greatest surge in homeownership took place between 1946 and 1960, when homeownership jumped from the mid-40 percent range at the end of World War II to 62 percent in 1960, when the FNMA’s activity was still limited and the FHLMC did not yet exist.
From 1990 to 2003, GSE involvement in outstanding mortgage credit expanded substantially, from $1.0 trillion in mortgages in 1990 to $3.4 trillion in 2003. During the same 13 years, total outstanding residential mortgage loans increased almost threefold, from $2.6 trillion to $7.3 trillion,[9] and the homeownership rate increased from almost 64 percent in 1990 to 68 percent in 2003.
However, this does not mean the GSEs finally made a difference. Credit instead goes to the Federal Reserve’s anti-inflation, pro-growth monetary policies, which drove down the AAA corporate bond rate from 9.32 percent in 1990 to 5.67 percent in 2003 and the home mortgage rate from 10.05 percent in 1990 to 5.80 percent in 2003. With the mortgage rate falling to half of its peak level, housing demand soared as monthly mortgage payments fell accordingly. Housing markets in the 1990s also benefited from the significant rise in employment and incomes over the decade, which allowed more families to accumulate the money for a down payment and qualify for a mortgage. As a consequence of these favorable macroeconomic developments, homeownership rose to record levels, independent of anything Fannie Mae and Freddie Mac did over the same period.
While these anecdotes are less than perfect proof of FNMA ineffectiveness, more comprehensive studies by the Federal Reserve Board and the Congressional Budget Office have come to similar conclusions. In 2003, Wayne Passmore, a Federal Reserve economist, wrote that “the GSE’s implicit subsidy does not appear to have substantially increased home-ownership or homebuilding” and argued that the GSE’s activity slightly lowered mortgage rates for some homeowners.[10] More recently, an article in the prestigious Journal of Economic Perspectives contends that “it does not appear that the companies’ activities have appreciably affected the rate of homeownership in the United States” and cites several other studies that support that view.[11]
One reason for the tenuous connection between a general increase in mortgage credit and increased homeownership is that beyond some point, an increase in mortgage credit availability mostly makes itself felt in higher loan-to-value ratios (lower down payments), higher home prices, and/ or a diversion of mortgage credit to non-housing investments. As the early postwar record indicates, existing private credit markets were perfectly capable of driving the homeownership rate into the mid-60 percent range. However, as more credit is forced into the system through the creation and expansion of subsidized GSEs, mortgage interest rates may fall somewhat, but this encourages private financial institutions that provide housing credit to look elsewhere for investments with better yields. While the slightly lower interest rates encourage and/or allow some moderate-income borrowers on the margin of eligibility to become homeowners, this stimulative effect may be partly or wholly offset by a credit-induced rise in home prices in excess of the growth in personal incomes.
While finding ways to assist the marginal buyer to become a homeowner has been one of the federal government’s important public policy goals for much of the postwar era, relying on the GSEs to help achieve that goal is not an effective way to boost homeownership. As currently configured, the GSEs do not target the loans of marginal buyers but rather provide secondary market support to qualifying or conforming mortgages, most of which are secured by property owned by middle-income and higher-income households that are capable of buying and borrowing without federally sponsored support.
Despite its claims to the contrary, Fannie Mae’s basic operating procedures do not target any particular type of buyer/borrower. Indeed, evidence from the federal government indicates that Fannie Mae and Freddie Mac are in fact neglecting first-time homebuyers in comparison to the entire private conventional mortgage market. Between 1999 and 2003, 9.0 percent of the conventional conforming loans (the type the GSEs are authorized to buy) made by the private mortgage market were to first-time minority homebuyers. By contrast, only 4.7 percent of Fannie Mae loans and 3.5 percent of Freddie Mac loans over the same period were to first-time minority homebuyers.[12]
Although one could give Fannie Mae the benefit of the doubt and view this failing as simply one of neglect, other actions by Fannie Mae in late 2004 and early 2005 suggest both that the neglect may be willful and that it reflects the company’s bias against prospective lower-income, entry-level homebuyers. In January 2005, coalitions of low-income housing advocacy groups[13] published reports that challenged the value of policies promoting and encouraging homeownership among poor and moderate-income neighborhoods, arguing that homeowner “benefits may have been overstated” and that “rentals, public housing and other options may make better economic sense.”[14] Although these organizations had previously published a number of papers and reports expressing skepticism about the value of homeownership, the two most recent reports, published in January 2005, were funded by the Fannie Mae Foundation.[15]
Suspiciously, the release of these anti-homeownership reports by the Fannie Mae-assisted advocacy groups was followed one month later by the release of a new rule from the Department of Housing and Urban Development (HUD) requiring Fannie Mae and Freddie Mac to improve mortgage availability to minority and moderate-income-buyers. In effect, while Fannie Mae was conducting a massive and costly public relations campaign to present itself as the benefactor of moderate-income and minority homebuyers, it was funding studies that undermined that very goal. In a town awash with insincerity, the ambidexterity of Fannie Mae’s principles is in a class by itself.
As for the GSEs’ ultimate value, competitive improvements in the residential mortgage market have further undermined the connection between mortgage credit and homeownership as the availability of second mortgages on attractive terms and the refinancing of existing first mortgages, combined with the provisions of federal tax law, have encouraged the redirection of mortgage credit to non–real estate purchases. With mortgage interest payments still deductible from income for state and federal tax purposes, more and more households use mortgage credit obtained through a mortgage refinancing to buy a car, conduct home improvements, consolidate personal debt, or pay for a college education because the interest payment that would otherwise be incurred on debt accumulated directly for these reasons—such as a car loan from a dealer or a student loan from a bank—is not tax-deductible. In part, this privileged use of debt, combined with substantial home price inflation, explains why outstanding residential mortgage credit has nearly tripled since 1990 while housing production and homeownership have expanded at a much slower pace.
Understanding the Real Problem
With little compelling evidence to indicate that four and a half decades of intrusive GSE activity has made much of a difference in homeownership rates, housing production, or helping the marginal buyer to become a homeowner, one has to wonder whether the costs and risks associated with these enterprises are justified.
Regrettably, from the extensive discussions, hearings, proposals, and counterproposals, it appears that Congress and the White House gave little thought to asking whether these entities should exist in the first place or why these for-profit entities should continue to enjoy the extraordinary federal privileges that allow them to maintain their monopoly status at the potential expense of the taxpayers.
The evidence reveals that Fannie Mae’s management team appears to be the chief beneficiary of the federal privileges and the accounting irregularities that were recently uncovered. For example, in 2003, 749 members of Fannie Mae’s management team received a staggering $65.1 million in bonuses, a portion of which was attributable to the overstated earnings that followed from the accounting irregularities.[16] Over the past five years, the top 20 Fannie Mae executives reportedly received combined bonuses of $245 million.[17] This disconnect between reward and mission suggests that any reconciliation with the Securities and Exchange Commission should also require that the FNMA’s management return their bonuses to a fund administered by a bona fide not-for-profit entity, such as Habitat for Humanity, for the purpose of assisting prospective homebuyers of modest means.
Although management’s unearned bonuses have generated most of the headlines, the real cost to the nation is not the tawdry looting of the company by its top management team. The real problem is the concentration of risk in the hands of two massive and privileged companies that now dominate America’s housing finance markets.
Ironically, Fannie Mae’s management has attempted to use the prospect of such risk to protect itself from better government oversight. In response to the U.S. Treasury’s effort to improve oversight, former FNMA President Frank Raines admitted in a letter to U.S. Treasury Secretary John Snow that financial market instability could occur if even the slightest concern about the FNMA’s operations were openly discussed: “From the beginning of our discussions, you and I have agreed to avoid disrupting the capital markets by indicating a wish to change Fannie Mae’s charter, status, or mission.”[18]
Lest one think that such an occurrence would be a distant possibility, the record reveals that federally sponsored financial institutions, including those that the federal government closely regulates and insures, have a knack of frequently exploding in hugely horrific and costly ways. Since the mid-1980s, massive losses have occurred in the federal Farm Credit System, the Federal Deposit Insurance Corporation, and the Federal Savings and Loan Insurance Corporation. Worse, the heavily regulated and supposedly closely supervised savings and loan industry collapsed more than a decade ago, and repairing the residual damage cost the U.S. taxpayers $130 billion.
What Should Be Done
Ideas have consequences, as the saying goes, but the process is seldom instantaneous. In June 1990, echoing earlier HUD recommendations, a Heritage Foundation research fellow recommended that Fannie Mae “[c]ease payment of dividends to shareholders, so that all earnings can be applied to reserve accumulation.”[19] In January 2005, nearly a decade and a half later, amidst the worst financial scandal in the company’s history, Fannie Mae announced that it would cut its dividend in half.
To date, the Bush Administration, through the leadership at the U.S. Treasury and OFHEO, has done an excellent job of exposing the corruption in the GSEs and setting in motion an effective process of improvement. In both the FHLMC and the FNMA, problematic leadership has been forced to resign and the companies’ boards of directors have been required to make overdue changes in corporate governance. The January 2005 FNMA agreement to cut its dividend to build reserves will add stability to the system.
But much more needs to be done, and most of the responsibility will fall on Congress because the laws governing the GSEs are flawed and need to be changed. The proposals endorsed by the House Committee on Financial Services do not go nearly far enough, and the White House has expressed concern with the timid reform package under consideration.
Enhanced regulations have attracted the most support, and the House Committee on Financial Services has proposed changes in how the GSEs are regulated, but a regulatory approach to GSE problems could easily become useless and counterproductive. With substantial evidence suggesting that the GSEs provide little or no benefit to society, trying to prop them up with new regulations makes little sense. The latest congressional strategy essentially compels taxpayers to bear the risk of a new regulatory regime that would perpetuate the commanding market position of these ineffective co-monopolists.
However, the greater risk is not that additional regulation of the GSEs will render them merely useless, but that it will render them both useless and dangerous. As past practices reveal, it is likely that Fannie Mae and Freddie Mac will soon co-opt the regulators as they have done so adeptly in the past. The Fannie Mae Foundation’s $500 million of goodwill spending will buy the company helpful and influential supporters by the trainload. One merely needs to read the transcript of a recent congressional hearing for a sense of the loyal following that Fannie Mae has assembled in Congress.[20]
To correct the situation, Congress should:
End all of Fannie Mae’s and Freddie Mac’s federal privileges. It would be better for all if the government began an orderly process of severing all of its ties with the GSEs invested in the residential mortgage market.
Immediately eliminate the Federal Reserve’s authority to buy their debt as part of its open market operations.
Phase out their U.S. Treasury credit lines over five years. Phasing out Fannie Mae’s and Freddie Mac’s $2.25 billion credit lines with the U.S. Treasury in annual increments of $500 million would give them the opportunity to reduce their holdings of residential mortgages in an orderly manner. The profits from these investments depend largely on their ability to borrow at subsidized rates. This plan would also leave them with skilled workforces that could then concentrate on securing residential mortgages in fair and open competition with new entrants from the private sector, which would be attracted to the market by the level playing field.
Limit diversification until privatization is complete. In the event that the GSEs choose to use the opportunity to reform themselves by diversifying their investment portfolios beyond the residential mortgage market, such diversification should be contingent upon the immediate termination of these privileges to avoid the cross-subsidization of new lines of business by federally supported profits, as occurred during the recent de-federalization of Sallie Mae (the Student Loan Marketing Corporation).
Conclusion
Congress has an opportunity to reduce financial market risk and taxpayer exposure and to restore competition in the residential mortgage market. At the same time, the housing industry and homeownership opportunity will remain unaffected.
As I said read the above and you will see Congressman Price hands are all over this fiasco! In fairness Clinton and Bush and many other lawmakers’ irresponsible behavior of gambling tax payer’s money to pump the economy for short term gain was the problem.
As with the S&L crisis once you get on this gravy train getting off is the problem. Now it is just a matter how much tax payers will get hit with and how much damage it will do to the economy.
I still remember your buddy Dick Hall and you getting all upset when I talk about this issue years ago. Instead of dealing with the truth and doing something about this issue you and Dick called me “chicken little”.
Now you and Dick Hall as leaders of the GOP and who supported gambling tax payer’s money will also have your hands on this fiasco!
Is this “Armageddon” for everyone or just part of some kind of “Elite Meltdown”?
http://www.freemarketnews.com/WorldNews.asp?nid=46376
In the article Bill linked to -
quote:
…once American voters could begin to understand what was going on, they would discover they were neither Democratic nor Republican but Libertarian, wanting the government out of both their bedrooms and their pocketbooks. The false choice is that the two parties offer alternative views of the world. In fact, they just offer more and more corrupt government and Americans – citizens of the most powerful country in the world – are “getting it.”
========================
The “Armageddon” currently is for the “Elite” but, could easily spread to all Americans. Since, as the article points out, much of this is tied to central banking, not just here, but around the world, cutting off the loans to America could crash our currency and our economy. While most only say recession, a few are saying depression if that happens.
Our government keeps warning Congress the crisis is coming and can’t be avoided without “tough choices.” What are the “tough choices” they are talking about.
First, they are talking about Social Security and Medicare. They are also probably talking about the sacrifices massive cuts in spending would cause since so many jobs are tied to government spending and not just in the 10’s of thousands tied to defense spending. Medicare/Medicaid spending employees 10’s of thousands more as does education, homeland security/police/fire/IRS/military/parks/etc.
All of those people buy goods and services that when laid off will have to cut back dramatically on their spending causing even more of a ripple effect.
Just as they now see the “housing crisis” ripple effect, there are many other crisis waiting in the wings once our “boomers” start retiring or when they start immigrating the 67 to 100 million workers they claim will be needed when the “boomers” retire.
The problem with an “elite” meltdown is that many of them are the ones that create jobs or make funds for home available or manage other things a society depends on. Much of our “tax revenue” depends on the “elite” and the businesses they influence.
But, there is some time for Congress to act. Let’s hope they do.
Quote:
MBS MONETIZATION & US DOLLAR
by Jim Willie CB
August 9, 2007
Fannie Mae is being groomed to be the central clearing house for mortgages and their bonds, sponsored by the USGovt and the US Federal Reserve. Fannie Mae (FNM) just requested permission to take on much greater volume of mortgages, in order to alleviate the secondary market flow of capital funds. Since the accounting scandal which peaked in September 2004, a limit was imposed on FNM on its holdings at $727 billion. In today’s climate, marred by credit seizure to some degree, FNM is deeply missed in its former prominent centrifuge role. A key question arises on the general inflation impact, if and when FNM expands its role and is the nexus (surely a hidden basement) of grandiose illicit monetization of mortgage bonds. If the banking maestros undertake to put a secretive floor on mortgage backed securities (MBS), a solid bid to prevent further breakdown, then vast amounts of new printing press money will enter the system. The mortgage finance sector desperately needs a bid on subprime MBS bonds so as to clear them upon liquidations. The bank wizards could start monetizing them, and work their way up the quality ladder toward Alt-A loans which are also in trouble.
### OVERNIGHT PANIC UPDATE ###
Overnight, in the US wee hours of Thursday morning, the Europeans suffered a shock wave. The Euro Central Bank added €94.8 billion (US$130.2 billion) into the money market funds as retail depositors forced a run on their banks, in a MILD PANIC. The overnight rates that banks charge each other to lend in dollars jumped to the highest level in six years. The dollar London Interbank Offered (LIBOR) rate rose to 5.86% today from 5.35% and in euros rose to 4.30% from 4.11%. The ECB response to the fastest increase in the dollar bank rate since June 2004 signals that lenders are reducing the supply of money as losses triggered by the US mortgage slump spread worldwide. In addition to BNP Paribas halting withdrawals, and Dutch investment bank NIBC Holdings said it had lost at least €137 million on subprime investments, more evidence that credit markets are not stabilizing. A Commerzbank commercial bond trader summed it up. “Liquidity in the market has completely dried up as investors are not recycling their money back because of subprime concerns. Levels have shot up dramatically since yesterday as issuers are trying to entice investors back.” The ECB provided the largest amount ever in a single fine-tuning operation, exceeding the €69.3 billion provided on 12 Sept 2001, the day after the terror attacks on New York. The US Federal Reserve accepted $12 billion in overnight repurchase agreements overnight simultaneously.
PNB Paribas, the French bank conglomerate closed three funds associated with US subprime toxic mortgages. The company made a bold plainly worded comment, a severe criticism of this fraud-ridden credit sector. “The complete evaporation of liquidity in certain market segments of the US securitization market has made it impossible to value certain assets fairly regardless of their quality or credit rating. The situation is such that it is no longer possible to value fairly the underlying US ABS assets in the three above mentioned funds,… therefore unable to calculate a reliable net asset value (NAV) for the funds.” Export of US bond fraud to Europe has led to renewed shock waves.
http://www.financialsense.com/fsu/editorials/willie/2007/0809.html
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I am watching to see if we get a “last half hour” buying spree or not, in the Dow that is down 300 pts. on this news.