Fannie Mae and Freddie Mac (the Agencies) were taken over by the government back in 2008 when it appeared that their cash reserves would not be sufficient to make their payments to the bondholders who lent them the money that they lent to homeowners. There was no explicit guarantee that U.S. taxpayers would make good on the debt, but the administration at the time decided to do a government takeover, and then provided (taxpayer) funds to boost the reserves of the agencies.
Once housing prices bottomed out and defaults leveled off to normal levels (around 1% for Fannie Mae and 2% for Freddie Mac) the agencies started making money again. Of course, that money was used to pay back the taxpayers. Well, it was put in the general fund, which is the same thing. Well, it wasn’t earmarked for anything so politicians could use it for whatever they wanted, but at least we got it back.
So, obviously, once the taxpayers were paid back then the agencies would be turned back over to the investors who had their property taken from them. Right?
Well, the taxpayers – or at least the Ways and Means Committees – have long been paid back. The Agencies now write most of the mortgage loans in the United States, and are wickedly profitable. Fannie Mae earned a net profit of $11 billion in 2015, and Freddie made $6.3 billion. Together, they have turned over almost $246 billion to the Treasury, far more than the $187 billion “bailout” they received when they were taken over.
But there’s more. The Agencies provide the lowest cost mortgage financing available to consumers by a long ways. How is this? Two reasons:
- Agency loans are bundled into pools and used to secure loans (bonds, or mortgage-backed securities) from institutional lenders who (for now) know that there investment is explicitly backed by the full faith and credit of the U.S.
TaxpayerGovernment. therefore, the institutional lenders are willing to take a low return because their investment is essentially guaranteed.
- But to sweeten the deal, the Federal Reserve is still buying up most of the mortgage-backed securities available in the American market every month and accepting a lower yield than most institutional investors demand, thus driving interest rates down. They are favoring agency securities (as opposed to private securities.) Because more lenders chasing the same number of borrowers always means lower interest rates, rates on Agency loans are driven down.
Now, if you’re a thinking person, you’re thinking “Wait. The government is selling U.S. Treasury bonds to borrow money, and then using that money to buy mortgage-backed securities, thus making Fannie and Freddie more attractive to homeowners and therefore much more profitable, and then the profits are going back to the U.S. Treasury…my head hurts.”
You might think this is a Ponzi scheme, but it’s really more of a shell game. Just like a shell game, you don’t know which shell is hiding the ball, but the other guy does. Just accept it, because, for now, you have really low interest rates.
Many bills have been proposed in Congress to re-privatize the Agencies, but none has even made it to the floor of either house. You might ask “Why can’t they get this done?” And then you would think “Oh, that’s right. They can’t get anything done.” And you would only be partly right.
If the agencies are turning over a combined $16 billion per year to the Treasury (that doesn’t feel like a tax to anyone) then privatizing the Agencies would be sort of killing the goose the lays the golden egg. A lot of golden eggs, actually. Big ones.
Besides, this goose lays golden eggs for more than just Congress. Anyone with an interest in the real estate market wants to see low interest rates with low down payments and 30-year fixed-rate mortgages continue. So Congress has a lot of support to continue making a lot of noise, as long as they don’t actually change anything.
So Fannie and Freddie continue happily along, funding by some estimates more than 90% of the mortgage loans written in America, and turning over all of the profit to Congress. I think we can plan on the status quo being stable for quite a while.