Smart Borrower Blog

Fannie And Freddie In Free Fall

Jul 11th, 2008 @ 6:09 PM by Alden Smith

The NBC Nightly News tonight was all atwitter with the latest news about Fannie Mae and Freddie Mac, the lending giants that handle $5.1 trillion in loans and mortgages.  Backed by the Fed, the two giants are in free fall with over $11 billion in loss this year.  Senior Bush officials are looking to place the two in conservatorship if the bleeding continues.  There is no hope in sight that it won’t.

Current worries are that these two giants will default on payment.  If that were to happen, the economy of this country goes in the crapper.  Bush officials are fearful, but not as fearful as the boys on Wall Street, who are watching shares plummet in price.  Under a conservatorship, the shares of Fannie and Freddie would be worth little or nothing.  In default, this would effectively put the loss on the backs of American taxpayers – something we can little afford right now.  Government officials said that the administration has also considered calling for legislation that would offer an explicit government guarantee on the $5 trillion of debt owned. Doing so would effectively double the size of the public debt.  Although government officials say not to worry, they are holding conferences and setting contingency plans.  The last time we saw something like this situation, folks on Wall Street went to work on Friday, and Bear Stearns went belly up on Monday.  Will the same happen with Fannie and Freddie?

One of the thing s most people fail to understand it that these two are public owned, and are not a government entity.  The government has its hand in, with guarantees on loans, but they do not fully subsidize them.

The down side of this whole situation is this – if Freddie and Fannie can’t borrow money from the Fed, then they will not be able to buy mortgages from commercial lenders. If this happens, anyone attempting to get a loan or mortgage will be effectively out of luck.  If banks know that Fannie or Freddie can’t pick up the paper, then they hold on to their money.  It’s as simple as that.

It will be interesting indeed to see how this plays out.  With the pair holding $1.5 trillion in securities, things could get a bit desperate if there is no intervention.  From my point of view, conservatorship appears to be a good thing now, instead of when the other shoe falls.  Let’s keep a close eye on this one!

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