Who Killed Frannie?

Bethany McLean, from her new perch at Vanity Fair, has delivered a 10,762-word magnum opus on Fannie Mae (FNM) and Freddie Mac (FRE), which spends most of its time giving a detailed history of what Hank Paulson called the "Holy War" between the companies' proponents and opponents in Washington.

McLean is good on what did and did not happen at the beginning of September, when the government decided to take Fannie and Freddie into conservatorship. But was the decision payback for all the bullying that various Washington politicians had suffered, over the years, at the hands of Fannie Mae? I doubt it -- especially given that the prime decision-maker, Paulson, was closer to the pro-Fannie than the anti-Fannie side of the debate. (Legendary Fannie boss Jim Johnson was chairman of Goldman Sachs's compensation committee during Paulson's tenure as CEO, for starters.)

I suspect that for all McLean's narrative skills, the truth of the story is simply that, as Don Rumsfeld might have put it, "stuff happened". The conservatorship of Fannie and Freddie was not the culmination of decades of Washington infighting, it was just another case of Paulson's ad hoc style of policymaking, where he would make a big decision over breakfast and then move on to the next crisis.

What's more, as McLean shows, the decision was actually much less momentous than many people thought at the time. Sure, the shareholders were pretty much wiped out -- but most of that wipeout had already happened before the conservatorship was enacted. But the government guarantee didn't change much: it went from "we'll pretend there isn't a guarantee" to "we'll pretend there is a guarantee", and the spreads on Frannie's debt actually went up rather than down. And Frannie's business model didn't actually change at all. "Steve Ashley, former chairman of Fannie's board, asked what the government wanted Fannie to do that it wasn't already doing," reports McLean, and to this day no good answer has been given to that question.

In the present market, it's very easy for Fannie and Freddie to get bigger -- and that's exactly what they have been doing, as banks are increasingly reluctant to write mortgages they can't turn around and immediately sell to the GSEs. But under the terms of the conservatorship, they have a bit of time to get bigger, and then -- in some vague and undefined manner -- they have to turn around and become much smaller, very quickly.

When has any government agency ever voluntarily shrunk itself so much? I feel that Paulson ordered Frannie to do the impossible, and then happily left the implementation of that order to his successor. Which only means that this story is far from over, and that McLean will have more to tell in future.

Comments

[Poor Dude]

Yep. For less than $1.00 per share, I'm going to own roughly 75 percent of all the privately-owned real estate in America. Given the uncertainties surrounding our economic future (and yea, even the future of what we today call the "United States of America"), I still think it's a worthwhile bet. If America survives, I'll get rich!


P.S. - Don't bet more than 5 or 10 percent of your total portfolio on it. At this point, anything is possible.


;)

2008 Dec 31 12:47 AM

[Augustus]

No,
You will only hold a mortgage on all that privately owned real estate. You get some interest payments, maybe. The property owners get the gains. Don't spend your hoped for wealth from your analysis on this one.

2008 Dec 31 10:45 AM

[speculari]

Ms. McLean's writing skills notwithstanding, this piece is unlikely as magnum opus or, even opus magnum. When all the dust settles around the Fannie & Freddie debacle - someone will write a major work ( likely 600 to 800 pages) on the roles of the CRA, The Congress, Fannie & Freddie. The stink of rotting fish will be palpable!
Additionally, Felix, your parthian shot at Paulson seems terribly weak. You appear to be trying to hang Mr. Paulson for more of the ills that are endemic to the GSE's, and not of his doing. Perhaps, again, you are hung by your own petard!

2008 Dec 31 11:50 AM

[Steve J. Nelson]

I think when the history of the collapse of Fannie Mae and Freddie Mac is written thirty years from now, historians will identify foreign investors who held US agency debt as the hidden hand that tipped the former GSEs into conservatorship, with the implied threat that if the US government didn't clean up this mess and backstop debt that had previously been considered second to US Treasuries in terms of their solidity, than the Treasury itself could be next in terms of the Chinese, Japanese, Russians (yes the Stabilization Fund of the Russian Federation had SEVENTY BILLION in US agency paper) and Gulf Arab SWFs pulling their money out.

In a certain respect, perhaps this may prove to be a tipping point when Washington realized who is really now paying the bills for all of its foreign policy "indispensable nationhood" and domestic vote-buying/wealth redistribution schemes. In a sense, you could say it was the moment the U.S. found out it that our national credit card has a limit. But most likely the Obama Administration will pretend that none of this ever happened, given how Obama was Fannie and Freddie's no. 2 recipient of campaign donations in the GSEs final two years as quasi-independent Beltway bandits.

2009 Mar 08 01:58 AM