In Shaky Ground Bethany McLean explores what she believes to be one of the biggest unresolved issues remaining from the 2008 financial crisis, namely what to do about the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac). While large banks have generally repaid the U.S. government for funds received during the financial crisis and companies such as Chrysler and General Motors have exited bankruptcy, Fannie Mae and Freddie Mac still remain in conservatorship.
Although Mclean’s focus centers on what to do now about the fate of Fannie Mae and Freddie Mac, she also provides interesting insights into events relating to the U.S. Treasury Department’s $187.4 billion bailout of these institutions. For example, she reports how approximately $45 billion of this amount related to dividend payments back to the Treasury Department and she examines details of how the Fannie and Freddie 2007 through 2011 recorded provisions for losses ended up far exceeding the adverse cash impacts actually incurred.
McLean highlights the threefold tension making resolution of Fannie’s and Freddie’s ultimate fate so challenging, namely interest in ensuring viable U.S. mortgage and home ownership markets, concern about impacts to foreign investors holding Fannie and Freddie issued securities, and interest in keeping Fannie and Freddie liabilities off of the federal government’s balance sheet.
Of particular interest is McLean’s analysis of the three alternatives outlined in a 2011 study relating to Dodd-Frank related legislation: first, replace Fannie and Freddie with a private system and have the government provide only narrowly targeted mortgage guarantees for low income individuals; second, establish a flexible mortgage guarantee program that would expand and contract depending on the strength of the economy; or third, turn to private capital to assume the “first loss” position on mortgages, whereby any government exposure would not arise until after private investors had absorbed initial losses.
Unfortunately none of these three alternatives has been implemented and McLean points to the 2012 so-called “Third Amendment” (referring to the third time the government amended rules relating to the Fannie and Freddie bailouts) as a major stumbling block. Now instead of requiring Fannie and Freddie to pay the Treasury Department the originally required 10% dividend, the Third Amendment requires all Fannie and Freddie generated profits to be turned over to the government, helping to reduce the federal deficit but limiting reserves available for Fannie and Freddie to weather any future downturns.
McLean’s in-depth examination of tensions relating to this Third Amendment provides readers with her most interesting insights on how Fannie and Freddie still represent “… a huge, consequential, and fundamentally unstable part of the American economic system.” McLean outlines very clearly why the fate of Fannie and Freddie remains in limbo and why this is an ongoing, though perhaps currently less visible, challenge for the economy and a concern for the country overall.
