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Mission Stumbles: How Fannie and Freddie Put Homeowners and Taxpayers at Odds

| February 3, 2012

Before the crash. Lichtenstein's 'Bedroom at Arles' (1992)

Earlier this week, ProPublica and NPR detailed how Freddie Mac placed bets against homeowners that paid off if borrowers were unable to refinance their mortgage loans. The story highlighted the conflicted role of the huge and now government-controlled Freddie Mac and Fannie Mae: They are supposed to maximize their profits and thus pay back taxpayers, while many feel that, as government wards, they should also be helping millions of struggling Americans stay in their homes.

Here’s our attempt to explain Fannie and Freddie’s role in the housing market, and why it seems as if their actions often go against the interests of homeowners.

What are Freddie Mac and Fannie Mae supposed to do?

Fannie and Freddie were created to make homeownership more accessible. They are Government-Sponsored Enterprises — private companies chartered by the government to expand access to credit, particularly for low- and middle-income homeowners, and to foster stability in the mortgage market. Fannie Mae was founded as a government institution during the Great Depression and privatized in 1968. Freddie Mac has been private since it was founded in 1970. (Freddie was started in part to divide responsibility in the mortgage market, but there’s no real difference between the two now, except that Fannie is larger.) But “private” is not exactly the right word — Freddie and Fannie are exempt from most state and local taxes, as well as some SEC regulations, and they have access to a credit line from the federal government. And they still have their chartered obligation to make mortgages more available.

Fannie and Freddie can’t make loans directly. Instead, they guarantee existing mortgages, and repackage and pool them into bonds called mortgage-backed securities. Someone who buys the bonds from Freddie gets the interest and the original principal even if a homeowner defaults. In exchange for that guarantee, Freddie collects a fee from the buyer of the bonds and can use that to guarantee more mortgages (or to buy mortgages that stay in their portfolio). This handy New York Times graphic shows the various flows of debt: The idea is that by basically ensuring that someone (often Freddie or Fannie) will guarantee a mortgage, it becomes easier for anyone to get a mortgage.

So, how did they get so big?

Because Fannie and Freddie have been able to borrow lots of cheap money.

For years, investors have loaned them money at lower-than-average interest rates, allowing Fannie and Freddie to expand their portfolio of mortgages and securities. As a history compiled by the Congressional Budget Office shows, investors have treated Fannie and Freddie as essentially risk-free. The assumption, which has turned out to be correct, was that the government would never let Fannie and Freddie fail. The two companies used that windfall not only to invest in more mortgages but to try to increase their profits by pouring money into a variety of fancy financial instruments.

Fannie and Freddie became, as The New Yorker’s James Surowiecki described them, the “duck-billed platypuses of the financial world” — strange institutions with the perceived safety of a government guarantee and the high-risk strategies of a private corporation. And that led them to become the giants of the mortgage market, managing a massive portfolio of debt. In 2008, they had a combined $5 trillion in debt and guarantees.

Why are taxpayers on the hook for their mistakes?

The bubble burst — and Fannie and Freddie’s execs had overreached.

In the last stretch of the boom, the two companies had loaded up on iffy mortgages. When the housing market began to turn in mid-2006, delinquency rates rose, increasing the chances that Fannie and Freddie would have to make good on their guarantees. Compounding their problems, it became harder for Freddie and Fannie to borrow money as concerns mounted about the companies’ health. In the mid-2000s, they admitted to overstating earnings and making billions of dollars’ worth of accounting errors.

By 2008, they were in trouble. That $5 trillion in debt and guarantees was backed by only $80 billion in core capital. The federal government took them over, becoming the major shareholder of both companies, while the Federal Reserve bought up most of their debt and the Treasury Department pledged to cover their losses. The taxpayer buyout of the two companies has cost roughly $169 billion.

The SEC filed a lawsuit against the companies’ executives in December, accusing them of misleading investors about the riskiness of their investments.

The companies’ high compensation of their executives has also been under fire from Congress. Although the bailout calls for Fannie and Freddie to wind down their portfolios of mortgages, they continue to make billions of dollars’ worth of risky investments like the “inverse floaters” we described.

So, do Fannie and Freddie actually help homeowners? And why can’t the government force their hand?

The companies say that by bolstering their finances, they are helping to stabilize the housing market as a whole, but Freddie and Fannie have hampered many of the administration’s plans to provide relief for struggling homeowners.

The two report to a regulatory body called the Federal Housing Finance Agency, which has acted since the bailout as their board of directors and shareholders, making their major decisions. In the wake of our story, the White House and several senators have called for more oversight and an explanation as to why Freddie’s investment strategy seems to run counter to the mandate to help homeowners.

More broadly, the Obama administration and the acting head of FHFA, Edward DeMarco, have often clashed over the goals of the companies.

This week, President Obama outlined a new set of initiatives aimed at making it easier for homeowners to refinance and encouraging loan forgiveness. But Fannie and Freddie have previously refused to participate in loan forgiveness programs, and they continue to tussle with the administration on the issue. (It seems unlikely that any of Obama’s proposals will get through Congress, and ProPublica has documented extensive problems with similar programs aimed at preventing foreclosures.)

The two aims of Fannie and Freddie are continually at odds — policies encouraging refinancing and forgiveness for more mortgage holders can increase costs to the taxpayer-owned companies. While the administration has made relief for homeowners their priority, DeMarco says his agency’s priority is to protect Fannie and Freddie’s profits, aka taxpayers’ assets. Of course, many of those taxpayers are struggling homeowners, and that is at the heart of the dilemma over Fannie and Freddie’s future.

Sen. Barbara Boxer, D-Calif., told NPR she was shocked by a recent meeting with DeMarco. “It was the worst meeting I’ve ever had in my life,” said Boxer. “His interest is making sure Fannie and Freddie do well financially.”

Will they be around much longer?

Probably, even though there’s rare bipartisan consensus that they shouldn’t be.

Both the Obama administration and congressional Republicans want to get rid of Fannie and Freddie. Obama’s plan gradually winds them down to a position equivalent to private-sector mortgage companies while giving the market time to adjust to their removal. Republicans want a more immediate rollback of their influence.

These plans were unveiled almost a year ago, but the companies are still massively important to the mortgage market, guaranteeing approximately 70 percent of the country’s home loans. Their elimination might make it more difficult to get a mortgage loan, and it remains unclear what kind of assistance for homeownership could, or should, replace them.

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9 Responses for “Mission Stumbles: How Fannie and Freddie Put Homeowners and Taxpayers at Odds”

  1. Linda says:

    I thought this was all George Bush’s fault???

  2. NortonSmitty says:

    As badly as these bastardized agencies were in both policies and execution, the absolute worst contribution they made to this global financial goatfuck was to allow the right wing media machine a sliver of blame to be placed on a quasi-governmental agency.
    The actual blame traceable to these two is just a small turd when compared to the septic tank of shit caused by the shady, greed fueled illegal and so far unprosecuted crimes of Wall Street, banks and insurance companies. But you can’t turn on the Tube or talk to a “Conservative” financial expert on the barstool next to you without hearing “Yup, all ’cause the gummint made them give money away to all the Ni… Lazy unemployed, now we gotta pay for it.”

    We are sure to see a lot of it coming to a comment section near you.

  3. Layla says:

    The right wing media put the blame right where it belongs, on Barney Frank and Chris Dodd. They knew the situation every step of the way. And continued to lie about it, all while others were making huge profits.

    These two really need to be tried and sentenced.

    • Doug Chozianin says:

      … and both placed in gibbets hung from poles at the congressional entrance to the Capitol Building.

      (A live TV feed to the White House would be a nice touch.)

  4. palmcoaster says:

    Some very revealing disclosures are about to be published soon about the shameful for profit fraudulent maneuvers of Wall Street crooks that precipitated our current economic tragedy since 2007. Lets be alert of incoming news. It was time!,16641,20120213,00.html

  5. Liana G says:

    This is similar to the what happened with Wall Street businesses making the same bets with the House of Saud. The House of Saud took on the bet feeling secure that the American gov’t would not let the housing market crash destroying the life/dream of the American people. Wall Street won the bet but the House of Saud refused to accept the losses. They were played and duped and they were not having any of it. And you don’t mess with the people who are responsible for the decision to allow oil to be traded in US currency. If the US loses that stronghold, the picture is too mind-boggling to comprehend, even The Times Business News cannot wrap their heads around it, chosing to dismiss the notion as “nonsense”.

    What if oil weren’t priced in dollars? (

    The demise of the dollar :
    In a graphic illustration of the new world order, Arab states have launched secret moves with China, Russia and France to stop using the US currency for oil trading
    ( )

  6. Oneofthe10%whovoted. says:

    Palmcoaster, you are too intelligent to think that did not happen without Congress.

  7. palmcoaster says:

    @Oneofthe10%. Thank you and for sure I believe that some in Congress were involved as well, that is why the proposal presented now regarding rules to forbid politicians investing on stocks or companies, while in office is correct. My concern is that unfortunately their mutual/hedge funds investments are being exempted form the proposed rule….? Who are they kidding? Looks like they forget that the John Paulson Hedge Fund, Goldman Sachs and many others, betting hundreds of millions and winning many billions, against the house mortgage lending institutions, was closely embroiled in this mortgage default Armageddon. They only mention the home loans that had the house as collateral but keep mute about the commercial loans defaulted, almost without collaterals given to the big boys more costly even than all the home loans defaulted. What about the largest bailout given to AIG for 180 billion? Many are brainwashed only to persue the information of the maybe 30 billion given to the auto industry to save thousands of jobs and no one screams for the AIG $$$, did they give any back….? Because the auto industry gave most back. When it comes to the Wall Street crooks unfortunatly they caught so far the little fish only. The big ones still running loose.

  8. palmcoaster says:

    @ Liana you are correct! When they approved in 1982-83 the oil to trade as a future that same trading day barrel went up 10 times the price….that administration approval was vital and fateful for us all, at the pump and the reason we are being gouged today at all time high, bankrupting our airlines and our pockets paying the transport increase for anything we consume, so Wall Street speculators make gazillions. The biggest speculators of oil price gouging next: \
    We are still being bleed by the Wall Street crooks again; We need trading limitations and regulation to stop the gougin.

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