Big Decision Looms on Fannie, Freddie

The U.S. Treasury faces a decision by year end on whether to increase its bailout of Fannie Mae and Freddie Mac beyond the $400 billion it has already committed.

So far, the companies have taken $112 billion in capital infusions from the government, and most analysts believe they are unlikely to use up the full $400 billion.

But some analysts say the Treasury and regulators should take precautions, in case losses run higher than expected. After Dec. 31, the U.S. government would have to seek congressional approval for any increase. Until then, it can increase its commitment unilaterally.

The politics of any decision are thorny. If the Treasury doesn't increase the reserves now but needs to do so next year, it would have to appeal to a bailout-weary Congress in an election year. But upping its reserves now could remind taxpayers they still bear significant risk for the government's rescue of the financial system.

If the companies were to exhaust their reserves and Congress didn't authorize an increase, Fannie and Freddie would be placed in receivership, a form of bankruptcy restructuring.

"The fact is, this is a free option for them," said Rajiv Setia, an analyst at Barclays Capital. "Why involve Congress in it when the politics are obviously going to be more difficult?"

It is completely irrelevant what congress votes on the matter. The financial reality is they only needed $115 billion of the $400 billion authorized to support them. They might conceivable tap up to $200 billion before all of the losses in the cycle are done, but more likely it tops out somewhere between where we are right now at $150 billion. All of it equity on their books, by the way, not actual permanent losses. All of it will be repaid to the treasury and pays more than the debt costs the treasury in the meantime.

Once again, all we have here is men who predicted doom from TARP searching for any possible spin trying to allege that it can still arrive, when it fact it has all worked. The auto boon doggle and the mortgage relief idiocy will lose money, none of the rest of it will. This is now clear to anyone objectively looking at the actual accounting. Which, of course, nobody interested in all of it purely as a stick to beat up ideological opponents, actually does.

Anyone actually concerned about the treasury and its the actual performance of the policy knows this. But I've yet to find a single populist-right ideologue willing to admit it, or to admit it means they were wrong about the specifically *Bush* portions of TARP (as opposed to the stuff Obama added in 2009). They've been screaming themselves hoarse about it without any distinction for a year straight. Are any honest enough to admit they were wrong?

Don't hold your breath...

One additional concern, true for many government agencies, is that the government does not charge an insurance premium for its implicit guarantee of GSE‐issued debts that varies with the riskiness of the investment decisions being made. Moreover, the rate charged is not a market rate at all but one negotiated politically between regulatory agencies and the companies. Wall Street Journal, October 2, 2008, “What They Said About Fan and Fred” http://online.wsj.com/article/SB122290574391296381.html Putting these three systems together creates a volatile mix. The government insures a set of activities but doesn’t charge the right cost for the insurance and allows the companies to be highly leveraged. Politicians press for possibly risky loans, ironically increasing the economic cost of the guarantee. Private managers get to place bets with high potential personal payoffs and government guarantees. Frankly, it is not surprising that these organizations got into trouble when housing markets began to falter. Effectively, they are set up to thrive in rising markets and to fail miserably in declining ones. http://www.hbs.edu/research/pdf/10-033.pdf

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