Foot-dragging on Fannie Mae reform

By John E. Sununu

January 31, 2011

WHEN IS a deadline not a deadline? When you are the US government. At least that’s the message from the Treasury Department, which today was supposed to submit a recommendation for restructuring Fannie Mae and Freddie Mac, the government mortgage giants. The date has come, and will pass with a big shrug; and when Treasury finally sends a report to Congress — in a few weeks, or a month, or whenever — it is unlikely to include any real recommendation at all. Instead, Congress will be given a few ideas and some lukewarm encouragement. If you have ever looked back in time and wondered how we manage to miss opportunities to fix festering problems, this is Exhibit A.

Consider the facts: since the beginning of the financial crisis, the two private companies have cost American taxpayers over $130 billion. Last week, adding insult to injury, it was revealed that taxpayers have also been stuck with $160 million in legal bills to defend former executives against fraud claims. By comparison, the Capital Purchase Program, the largest component of the TARP, will ultimately return more to the Treasury than the $205 billion that was originally lent out. In short, taxpayer losses from Fannie and Freddie will dwarf the cost of any other financial bailout by a factor of ten.

With a new Congress comes the opportunity to wipe the slate clean, restructure these companies, and ensure that taxpayers are never exposed to the kind of risks that led to such incredible losses. But Treasury’s procrastination sends the wrong message and jeopardizes chances for reform. As the housing market slowly recovers, the firms’ strength will be restored as will their political clout, making real change even tougher.

Fannie and Freddie didn’t start out this way — in the movies at least, monsters never do. They were supposedly taken off the government books 40 years ago, but retained a government charter to finance mortgages issued by your local bank or mortgage lender. The modest benefits of the charter, including exemption from local taxes and a Treasury credit line, translated into a significant financing advantage over competitors. The two could borrow at favorable rates because investors (correctly) assumed the government would bail them out in a crisis.

This combination of privatized profits and subsidized losses created enormous moral hazard, a concern that led me to join Nebraska Senator Chuck Hagel in 2005 to write legislation strengthening Fannie and Freddie oversight, and reducing their speculative investment portfolios. Critics called our fears overblown, just a

smokescreen to disguise an effort to limit suppo rt for housing. We lost that fight, and the rest is history. The question now is, where do we go from here — back to a world of subsided risk taking, or to one that removes the exposure from the taxpayers’ purse?

Even in today’s weakened state, the two firms still sow fear and uncertainty in the minds of Congress. This is partly due to long memories of their days as a tremendous, and sometimes terrifying, lobbying force. Fannie and Freddie made charitable grants in communities across America, and translated their support for housing initiatives into votes on the House and Senate floor. If a member of Congress took them on, an army of homebuilders or realtors would arrive in their office in what seemed like a moment’s notice. No one wants to be labeled “anti-housing.’’ Add to this the complexity of mortgage finance — the securitization process doesn’t come easily to anyone, let alone a typical politician — and it becomes difficult to explain in simple terms why dramatic changes are needed to prevent another crisis.

Instead, many members of Congress have already begun to look for the easy way out — a restructuring that allows them to say “this time it will be different’’ but still maintains government guarantees and subsidies that flow through to homebuyers. Although an honest return of this business to the private sector would affect mortgage rates, the benefit in lowered mortgage rates produced by Fannie and Freddie in their heyday was estimated by the Congressional Budget Office to be just 0.25 percent. And nothing is free. Most taxpayers would question the wisdom of subsidizing $700,000 mortgages even if the moral hazard hadn’t already cost them $130 billion.

When we finally see the Treasury report, it will be the bureaucratic equivalent of a stern look. It will offer several dry options, stripped of emotion, with vaguely written pros and cons for each. There may well be a choice that truly takes taxpayers off the hook, but no one in the administration will have the courage to push for it. In effect, they will punt the ball back to Congress with serious intonations calling for “timely and expeditious action.’’

Ironically, with a bit of administration leadership, this could have been a chance to work cooperatively with House Republicans. The Treasury staff who understand this issue are much more sympathetic to conservatives’ viewpoint than many of their politically appointed overseers. But there has been no congressional consultation, no public leadership, and no indication that any of this will change in the next few weeks. If you thought a deadline was really a deadline, you were mistaken. Now, sit back and watch as the opportunity for meaningful reform turns into something else as well.

John E. Sununu, a guest columnist, is a former US senator from New Hampshire.