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Fannie And Freddie: Where Do We Go From Here?

Freddie Mac and Fannie Mae are quickly becoming the most expensive part of the financial meltdown. As of April, the two companies were sitting on more than 160,000 foreclosed homes. (Getty Images)

There are two really big things that the sweeping financial regulation bill doesn't even begin to tackle -- Fannie Mae and Freddie Mac.

At $145 billion and counting, bailing out the mortgage giants is turning out to be the most expensive part of the financial meltdown.

Critical Components

Fannie and Freddie are basically expensive wards of the state. And yet, they are critical components of the housing market recovery -- such as it is.

"Right now they're responsible for the financing of roughly three out of every four mortgages," says Ed DeMarco, the government's conservator who oversees Fannie and Freddie.

We don't need this huge government presence. It's done very few positive things. And it has created this huge liability. That's no way to run a business.
Tom LaMalfa, a 30-year mortgage industry analyst

In September 2008, the federal government stepped in to save the firms from insolvency. And the U.S. Treasury is backing up the firms' losses -- some estimate the total bill could reach $400 billion. Fannie and Freddie's future is in doubt, but DeMarco says one thing is certain: "We cannot do this indefinitely."

'No Way To Run A Business'

Fannie and Freddie were created by Congress to expand home ownership. But they were also private companies with shareholders -- a strange blend of public and private.

What these companies did, and still do, is buy loans from banks, bundle them up into securities and then sell the securities to investors -- with the promise that if the loans go bust, the firms will take them back.

And go bust they have. As of April, the two firms were sitting on more than 160,000 foreclosed homes, each home representing more money down the drain.

"That's unstoppable because those liabilities are sitting with Fannie and Freddie and taxpayers," says Tom LaMalfa, who has been a mortgage industry analyst for 30 years. "So irrespective of what we do, the bill is continuing to grow."

LaMalfa is among a growing chorus of people who say the government should get out of the mortgage business.

"I really believe we don't need the government," he says. "We don't need this huge government presence. It's done very few positive things. And it has created this huge liability. That's no way to run a business."

"We tried, it was a dismal failure, and we're never doing that again," is what Dwight Jaffee says he would like to see on Fannie's and Freddie's tombstones. He's a professor of finance and real estate at the Haas School of Business at the University of California Berkeley.

"The only role of Fannie and Freddie is to be an intermediary between the Main Street lender who makes the loan and the Wall Street investors who buy the mortgage-backed securities," he says. "There's plenty of private investment banks that will serve that role just as well as Fannie and Freddie."

Of course, he says, there would be a transition period. But not everyone is ready to write that obit just yet.

Long-Term Effects

"The last time the government was completely out of housing finance was the 1920s, and that didn't work really well," says Richard Green, a professor of policy and business at the University of Southern California. "That imploded."

Green says the debate is really about what types of loans will be available to consumers. He says we need Fannie and Freddie or something that resembles what they were like in the 1990s.

"I'm reasonably convinced that we would not have 30-year, fixed-rate ... pre-payable mortgages without them," he says. "If we want to have sort of the standard American mortgage, I think we need to have institutions like this."

Dealing with Fannie and Freddie could mean rethinking the entire mortgage system. And maybe that's why lawmakers decided to put this one off for later.

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Transcript

ROBERT SIEGEL, host:

From NPR News, it's ALL THINGS CONSIDERED. I'm Robert Siegel.

MICHELE NORRIS, host:

And I'm Michele Norris.

It's now known simply as the Dodd-Frank Bill, an effort to make sure that what happened in the financial markets in the fall of 2008 never happens again. House and Senate negotiators hammered out a compromise early this morning that could land on the president's desk by the Fourth of July. In a few minutes, we'll hear directly from Congressman Barney Frank, one of the architects of the plan about what exactly is in the bill.

First, though, what to do about Fanny Mae and Freddie Mac? Taxpayers have so far spent about $145 billion bailing them out, and that number is expected to keep rising. NPR's Tamara Keith reports the bill doesn't say much about the mortgage giants.

TAMARA KEITH: Fanny and Freddie are basically wards of the state, expensive wards of the state. And yet right now, they're a critical component of the housing market recovery, such as it is.

Mr. EDWARD DeMARCO (Acting Director, Office of Federal Housing Enterprise Oversight): Right now, they're responsible for the financing of roughly three out of every four mortgages.

KEITH: Ed DeMarco is the government's conservator who oversees Fannie and Freddie. The federal government stepped in back in September of 2008 to save the firms from insolvency. The U.S. Treasury is backing up the firms' losses, but some estimating the total bill could reach $400 billion. Their future is uncertain, but DeMarco says everyone agrees on one thing.

Mr. DeMARCO: We cannot do this indefinitely.

KEITH: Fannie and Freddie were created by Congress to expand home ownership, but they were also private companies with shareholders, a strange blend of public and private. What these companies did and still do is buy loans from banks, bundle them up into securities and then sell the securities to investors with the promise that if the loans go bust, they'll take them back. And go bust they have.

As of April, the two firms were sitting on more than 160,000 foreclosed homes, each one representing more money down the drain.

Mr. TOM LaMALFA (Mortgage Market Consultant): That's unstoppable because they've - you know, those liabilities are sitting with Fannie and Freddie and taxpayers.

KEITH: Tom LaMalfa has been a mortgage industry analyst for 30 years.

Mr. LaMALFA: So irrespective of what we do, the bill is going to continue to grow.

KEITH: LaMalfa is among a growing chorus of people who think we should hurry up and get the government out of the mortgage business.

Mr. LaMALFA: I really believe we don't need the government. We don't need this huge government presence. It's done very few positive things and it has created this huge liability. That's no way to run a business.

KEITH: We tried, it was a dismal failure, and we're never doing that again. That's what Dwight Jaffee would like to see on Fannie and Freddie's tombstone. He's a professor of finance and real estate at the Haas School of Business at U.C. Berkeley.

Professor DWIGHT JAFFEE (Finance and Real Estate, Haas School of Business, U.C. Berkeley): The only role of Fannie and Freddie is to be an intermediary between the Main Street lender who makes the loan and the Wall Street investors who buy the mortgage-backed securities. And there's plenty of private investment banks that will serve that role just as well as Fannie and Freddie.

KEITH: Of course, he says, there would be a transition period, but not everyone is ready to write that obit just yet. Richard Green is a professor of policy and business at USC.

Professor RICHARD GREEN (Policy and Business, University of Southern California): The last time the government was completely out of housing finance was the 1920s, and that didn't work really well. That imploded.

KEITH: Green says the debate is really about what types of loans will be available to consumers. He says we need Fannie and Freddie or something that resembles what they were like in the 1990s.

Prof. GREEN: I'm reasonably convinced that we would not have 30-year fixed-rate pre-payable mortgages without them. If we want to continue to have sort of the standard American mortgage, I think we need to have institutions like this.

KEITH: Dealing with Fannie and Freddie could mean rethinking the entire mortgage system, and maybe that's why lawmakers decided to put this one off for later.

Tamara Keith, NPR News, Washington. Transcript provided by NPR, Copyright NPR.

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