- The Washington Times - Wednesday, January 13, 2010

A recent move by the Treasury Department to remove $200 billion caps on assistance to Fannie Mae and Freddie Mac eliminates any doubt that taxpayers will pay for all their losses for the next three years and appears to be a major step toward formally nationalizing the housing enterprises, analysts say.

The government took control of the companies, and effectively much of the U.S. mortgage market, in September 2008 and started purchasing all their mortgage-backed securities. But the Treasury previously used the $200 billion caps on aiding each company to try to limit taxpayer exposure to their mounting losses.

Republicans charge that Treasury has given the Depression-era companies a “blank check” to pay for burgeoning losses on defaulting loans.

The two housing enterprises last year guaranteed and secured nearly 70 percent of new mortgages, primarily made to “prime” borrowers with the best credit ratings, while the Federal Housing Administration insured most loans to subprime borrowers, leaving only a tiny share of the mortgage market in private hands.

In its Christmas Eve statement announcing the little-noticed changes, the Treasury insisted that it wants to preserve “an environment where the private market is able to provide a larger source of mortgage finance.”

But analysts say Treasury’s move may push off any return to a normal mortgage market for years — possibly forever. Treasury removed the liability caps for three years and loosened restrictions on Fannie’s and Freddie’s purchases of their own mortgage securities — enabling them to maintain their dominant share of the mortgage market.

“These actions would preserve and strengthen the governments involvement and control over the countrys housing finance system and make it harder to reintroduce substantial private-sector involvement later on,” said Edward Pinto, a housing consultant and former chief credit officer at Fannie Mae.

When combined with a separate move by regulators not to provide common stock as part of executive compensation at Fannie and Freddie, the administration’s recent actions suggest that it is moving to nationalize the companies, Mr. Pinto said.

Nationalization, or total government control and ownership of the companies, would wipe out the value of Fannie and Freddie stock, making it worthless as a way to pay executives. The value of the stock has plummeted to between $1 and $2 a share in the wake of the government’s takeover.

Treasury spokesman Andrew Williams declined to elaborate on the Treasury’s actions, but denied that nationalization was the goal.

The administration is preparing to present its proposals for governing Fannie and Freddie in the future — a major question not addressed in financial reform legislation pending in Congress — when it presents its budget in February. Options range from fully nationalizing the enterprises to reprivatizing them or turning them into public “utilities” like the closely regulated gas and electric companies.

Sen. Bob Corker, Tennessee Republican, questioned whether the administration was moving toward nationalization in a letter to Treasury Secretary Timothy F. Geithner this week, urging the Treasury to incorporate fully in its February budget the cost of any additional Fannie and Freddie liabilities the government is acquiring.

“Due to the level of support that this administration and the previous one have created for Fannie Mae and Freddie Mac, would you not consider your latest move an effective nationalization?” asked Mr. Corker, a member of the Senate Banking, Housing and Urban Affairs Committee. “If so, then the liabilities of these two firms should absolutely be reflected on the balance sheet of the U.S. Treasury.”

Fully nationalizing the enterprises would permanently increase costs for taxpayers and would bloat the government’s balance sheets. Fannie and Freddie currently guarantee about $5.5 trillion of outstanding mortgages and debts — nearly as much as the Treasury’s own public debt. If the companies were fully nationalized, the government’s books would have to reflect both the revenues and losses from those obligations.

But even if the administration and Congress stop short of formally incorporating the enterprises into the federal government, the removal of the caps at least for now has eliminated any doubt that the government stands behind all Fannie and Freddie obligations and will cover their losses for the next three years.

Treasury reportedly told Mr. Corker that the move was needed to calm markets.

Apparently, it deemed the certainty of government backing to be critical at a time when the Federal Reserve has announced that it will end its program of purchasing $1.25 trillion in Fannie and Freddie mortgage bonds in March. The Fed’s program — another unprecedented federal intervention in the mortgage market — provided most of the funding to finance prime mortgages in the past year.

Many housing analysts and economists worry that the Fed’s withdrawal from the mortgage market will cause a sharp rise in 30-year mortgage rates of as much as one percentage point from 5 percent to 6 percent as private investors demand higher yields to compensate for the increased likelihood of defaults on mortgages.

Nearly one in eight mortgages is in default, with prime mortgages guaranteed by Fannie and Freddie having taken over subprime last year as the principal source of delinquencies.

Rapidly rising delinquencies have prompted some analysts to predict a collapse in the mortgage market once the Fed stops buying most of Fannie and Freddie’s debt. The Treasury’s move appears designed to reassure investors and prevent that from happening.

“When you have someone as big as the Fed was in 2009 walking away cold turkey, there have to be bumps along the road,” said Ajay Rahadyaksha, managing director at Barclays Capital. But he expects investors to be enticed back into the mortgage market because they have “massive amounts of cash” to invest.

While full nationalization of the enterprises would be controversial, and likely provoke overwhelming Republican opposition, most parties agree that after the massive efforts to prop up the mortgage market in the past two years it would be difficult for the government to entirely extricate itself in the future.

Former Treasury Secretary Henry M. Paulson Jr. said he intended to keep the government’s options open when he designed the plan to take 79.9 percent control of Fannie and Freddie and put them under government conservatorship.

But he said they should not be returned to their previous ambiguous structure, where they were owned by private stockholders even as they carried out a government mission. He said the best structure in the future might be to turn them into public utilities that funnel the government’s guarantee on mortgage-backed securities for a fee.

The Mortgage Bankers Association and other private groups have endorsed a permanent federal role in guaranteeing pools of prime mortgages, perhaps through a revamped Fannie and Freddie.

One reason heavy government involvement is likely to continue is that Fannie and Freddie — unlike many banks that received bailouts from the Treasury — likely will never be able to fully repay the nearly $100 billion in assistance they have received so far from taxpayers, analysts say.

Their losses are growing by the day, and many of them now are incurred as a result of new mandates from the Treasury and Congress to spearhead the government’s efforts to alleviate the home foreclosure crisis and make credit available as widely as possible.

For example, Fannie recently said it may liberalize its rules for mortgages used to buy condominiums in Florida — an area that has been plagued with high rates of default and foreclosure, while it is giving preference to homeowners over investors when it sells foreclosed properties, even if investors offer a better deal.

Many analysts expect the administration to soon increase the subsidies the enterprises are providing to homeowners and banks that renegotiate mortgages to try to avoid foreclosure, and some suspect it already is using Fannie and Freddie to make loans available to riskier borrowers.

Mr. Corker said the proliferation of government mandates for the enterprises has essentially turned them into “a direct extension of the Treasury Department.”

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