DON'T BAIL OUT FANNIE AND FREDDIE
November 29, 2007
With portfolios of almost $3 trillion, capital of $65 billion, and no obvious end to the fall in home values, the continued solvency of Fannie Mae and Freddie Mac has to be in question, says Peter J. Wallison, senior fellow at the American Enterprise Institute.
If insolvency does in fact happen, there are only two courses available, says Wallison:
- The Office of Federal Housing Enterprise Oversight (OFHEO) could step in as a conservator, a power it has under the current government-sponsored enterprise (GSE) chartering legislation.
- Conservators can take control of failing companies and operate them in a way that preserves their assets and whatever value remains for their shareholders.
- Unlike receivers, however, conservators have no authority to reorganize or wind down an insolvent company by selling its assets and paying off its creditors.
The alternative to conservatorship -- allowing them to roll over their debt -- is worse, says Wallison:
- Even if Fannie and Freddie are insolvent, they will not become illiquid; the capital markets will continue to fund institutions they believe are backed by the federal government.
- Thus, it will be tempting for all concerned simply to wait for things to improve, leaving the GSEs' current managements in place.
Allowing either of these GSEs to continue operating would be a disaster for the taxpayers, says Wallison. However, there is a responsible solution. Beginning with the Senate Banking Committee, it could adopt, unchanged, the legislation passed by the House last May. With the powers of a receiver, the GSEs' regulator could if necessary reorganize the companies, reduce their assets and liabilities, and possibly keep them afloat. If Congress fails to act, and the worst occurs, taxpayers are unlikely to forget who let it happen.
Source: Peter J. Wallison, "Don't Bail Out Fannie and Freddie," Wall Street Journal, November 29, 2007.
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