Some people named Freddie and Fanny destroy us
I can't claim to know too much about this, but basically here is what I have discerned (please correct me if I am wrong). A couple companies who sell bonds backed by the US government, base those bonds off mortgages. They bought a whole bunch of overextended ARM mortgages (and in general other unqualified mortgages), and now the value of those is way less than the bonds they sold. So either our government (tax dollars) bail them out, or the government will be forced to pay the bonds and get what they can from the mortgages (reduce the value of the dollar). So basically the whole country pays for these companies because they are government backed, but there was no over sight to tell them not to buy candy from a van down by the river?
kind of embarrassing when two government backed institutions are nearly insolvent.
They are Government sponsored enterprises (GSE's), and are not backed by the full faith and credit of the US treasury as T-Bills are.
However, it is widely assumed that the govt. would bail them out if it came to that, providing an implicit guarantee.
The stock prices plummeted recently because if the govt. does assume their loans, the equity becomes worthless.
I still think that mortgage backed securities are excessively written down, and will be eventually written back up. It is also my belief that access to govt. capital is much more likely then a full-scale bailout - but my opinions aren't as important as getting the story right.
+1 for actually knowing how shit works.
" It is also my belief that access to govt. capital is much more likely then a full-scale bailout" Agreed. Paulson has already said that a bailout would fly in the face of how the system is supposed to work.
" It is also my belief that access to govt. capital is much more likely then a full-scale bailout" Agreed. Paulson has already said that a bailout would fly in the face of how the system is supposed to work.
come on though, if they are essentially insuring the equity or providing liquidity against insolvency, this is just a save face against a collapse.
Agreed, ZBarry.
The vast majority of all mortgages out there are still fixed-rate conforming mortgages, meaning that they meet certain criteria set by Fannie Mae.
What has been surprising to many commentators is that despite the relatively low percentage of defaulting mortgages (I think I read 0.1% for Fannie and 0.08% for Freddy) the losses for the two GSEs are piling up. And those losses are bigger than expected.
The signals I've read about are that a full bailout is not coming, again as ZBarry points out.
What the weak dollar types in the Fed have demonstrated is that we will devalue our currency and act as a backstop at the slightest hint of danger -- $29B of loan guarantees to JP Morgan to acquire Bear Stearns. Fannie and Freddie pose a much greater risk. While the guarantee may be implicit technically, in actuality, it is damn near explicit, its just that the mechanism isn't spelled out.
The American tax payer will foot this bill in two different ways. One, through access to government capital (the Fed is going to grant access to Fred and Fan to the same lending channels commercial banks have, discount window, etc.) and take the risk associated with the collateral the two will post (illiquid mortgages and mortgage backed securities, most likely the riskiest Fred and Fan can pass off). And two, by continuing the weak dollar policies in order to inflate our way out of this mess that was actually caused by loose credit. The easy money/weak dollar policies lead to the housing boom and bust and have been a major cause of the "non-core" inflation in food and energy. That is effectively a tax on everyone as it saps our purchasing power.
What the weak dollar types in the Fed have demonstrated is that we will devalue our currency and act as a backstop at the slightest hint of danger -- $29B of loan guarantees to JP Morgan to acquire Bear Stearns.
I stopped reading there, but if you think Bear Sterns about to shut down is only the "slightest hint of danger" then you are out of your mind.
It isn't called the Greenspan (now Bernacke) Put by accident. The Fed has taken moral hazard out of the equation, and this is driving ever riskier behavior in search of a few bps of yield.
It has nothing to do with morals. Bear Sterns shareholders got hosed. Fannie and Freddy will also have shareholders take a bath. Lehman might be next. If the shareholders were getting bailed, the put would exist, but since the banks and their owners are taking 98% of the pain, it's fine.
Moral hazard has been nearly eliminated by the Greenspan Put. Yes, the Bear Stearns (BS) shareholders had terrible outcome, but it can be argued that the risk and leverage BS placed on its balance sheet was only justifiable in a realm where they believed that at the first whiff of danger, the Fed would cut rates to inflate away the immediate risk.
Over time, the Fed has shown such a willingness to cut rates to fend off most downside risk to the market, not just the financial system, that they have lost credibility on price stability. Now we are in an era where rate cuts don't jump start the economy because the world doesn't believe that the Fed is concerned about inflation. We are going to be forced to pull a Volker #2 and demonstrate our belief in price stability at the risk to economic growth in the short run.
And the mess Fan and Fred are in has a lot to do with the complete lack of oversight. These are two organizations that have spread donations all around the beltway. They get caught in accounting scandals, but there is no real punishment. Barney Frank and Co. are in the process of granting even more power to Fan and Fred in exchange for congress taking a slice of every mortgage the two organizations purchase. (Reference WJS Editorial either Wednesday or Thursday.) This is a glaring example of the problem with what is effectively a government backed financial company. They lack oversight. They have been able to grow to enormous proportion because investors are granted a US Taxpayer security blanket.
It is a true mess and the politicians have led us right into it. And now they think that they can clean it up. At the same time, the pols are leaning heavily on Fan and Fred to purchase even more crap mortgages to put more price stability in the housing market. These companies don't work well under ideal circumstances, now we expect them to perform in a crisis?? Good luck to us...
"Now we are in an era where rate cuts don't jump start the economy because the world doesn't believe that the Fed is concerned about inflation."
YES! FINALLY, someone actually said this. Every time Bernanke opens his mouth, market pukes. Total vote of no confidence in what this guy is saying, it's almost like double speak.
I feel for Bernacke. Greenspan set up this entire situation and retired, leaving his replacement to deal with it. I find it funny that Greenspan has written a book and is on the book circuit trying to revive his bruised reputation.