Dear Mr. Obama

More Liberals Connected to Fannie and Freddie

Here's another Heritage Foundation piece from July 2008 on the criminal actions by employees and members of Congress related to Fannie and Freddie. Check out the hyperlinks for more background. As I said last week on R.C., if these were Conservatives involved, the Lib-led Congress would stop everything else to start investigations...

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In 2004, after a tip from a whistleblower who was later fired, the Office of Federal Housing Enterprise Oversight (OFHEO) issued a report finding that the government-sponsored entity Fannie Mae had engaged in Enron-like accounting machinations that allowed Fannie to overstate its earnings and underestimate the risk the company faced. The accounting wizardry Fannie engaged in was designed so that Fannie could meet profit targets to maximize bonus payments to company executives like Clinton administration deputy attorney general Jamie Gorelick and Carter administration assistant director for domestic policy Franklin Raines.

For years, conservatives have been critical of how Fannie, and Freddie Mac, have leveraged their government-sponsored advantages (including exemptions from state and federal taxes, lower capital requirements, and the ability to borrow at rates well below those paid by private companies), to create a co-monopoly in the housing finance sector. When Fannie’s accounting scandal came to light in 2004, conservatives pushed hard for reforms to phase out Fannie and Freddie. Led by former Walter Mondale and Barack Obama campaign adviser James Johnson, Fannie and Freddie pushed back hard, raising millions of dollars for members of the relevant oversight committees and opening up “Partnership Offices” that funneled money into various housing projects in districts of key members of Congress.

Fannie also bought off activist groups such as the corrupt Association of Community Organizations for Reform Now (ACORN), which has been indicted, multiple times across the country, for vote fraud (Obama worked closely with ACORN as a street organizer in Chicago). Fannie’s lobbying efforts paid off as liberal politicians such as Sen. Chuck Schumer (D-N.Y.) and Rep. William Clay (D-Mo.) worked to kill any real reform of Freddie and Fannie. The Washington Post reports: “In an internal memo in 2004, Fannie Mae executive Daniel H. Mudd affirmed what the company’s critics had long contended: In the political arena, ‘we always won’ and ‘we took no prisoners.’”

Fannie was created during the New Deal to make homes more affordable for lower- and middle-income Americans. Freddie was added years later for the same purpose. Fannie and Freddie have long outlived their purpose as the market for repackaging loans as securities is now well developed. When the housing market is booming, they are not needed, and they have both gone well beyond their original mission and are now backing loans for wealthy (witness Speaker Nancy Pelosi’s continued efforts to raise the cap on the size of the loans that Fannie and Freddie can buy).

Many parts of the bill the Senate passed last week only continue the worst aspects of the crony capitalism at the hard of Freddie’s success. This is especially true of the Community Development Block Grant funds that have long been a goal of partisan housing activist groups like ACORN. There is an opportunity here to use the recapitalization the White House is now proposing to re-organize housing finance by breaking up Fannie and Freddie and creating several smaller truly private entities that can compete.

Heritage Foundation Weighs In on Today's Financial Situation

In what some observers are calling a reshaping of Wall Street, two of the world’s largest investment banks, Merrill Lynch and Lehman Brothers, are set to disappear. Lehman has announced it will file for Chapter 11 bankruptcy protection, and Merrill Lynch was bought by Bank of America. For all the complicated financial instruments and relationships involved in the current financial turmoil, the underlying cause is still relatively simple: the bursting of the housing bubble.

One market strategist told The New York Times: “We are in the grip of a vicious circle and the only thing that to me will break that is for home prices to stop going down.” The most dangerous thing we can do right now is to assume that massive government intervention is needed to shore up home prices. After all, massive government intervention is what caused the housing bubble in the first place.

Fannie Mae and Freddie Mac were created by Presidents Franklin D. Roosevelt and Lyndon B. Johnson to make homes more affordable for Americans. They accomplish this by buying, repackaging and then selling home loans that other institutions make, thus freeing institutions to offer more loans. Contrary to what some defenders of big government assert, Fannie and Freddie were also key players in the sub-prime mortgage market. In 2004 alone, they bought 44 percent of all sub-prime securities. Every dollar that Fannie and Freddie gave to companies like Countrywide Financial for bundled sub-prime mortgages was another dollar Countrywide gave out in new sub-prime mortgages.

When President Bill Clinton took office, Fannie and Freddie were viewed as “key” to Clinton’s plans to expand home ownership. The Washington Post reports: “The result was a period of unrestrained growth for the companies. … The companies increasingly were seen as the engine of the housing boom.” As the companies grew, conservatives repeatedly warned that their size posed a systemic risk to the financial system. As Sarah Palin put it, thanks to the implicit federal guarantee of their debt, Fannie and Freddie had become too big and too expensive to the taxpayers.

But Fannie and Freddie pushed back hard, turning to friends on the left for protection. Former Walter Mondale and Barack Obama campaign adviser James Johnson led a fierce lobbying campaign to fight reform of Freddie and Fannie. Clinton administration OMB director Franklin Raines told investors when he was Fannie Mae CEO in 1999: “We manage our political risk with the same intensity that we manage our credit and interest rate risks.” Fannie and Freddie’s lobbying power over the left continues to be strong to this day. According to the Center for Responsive Politics, the top three recipients of campaign donations from Freddie and Fannie’s PACs and employees are all Democrats. From 1989 through today, Sen. Chris Dodd received $165,400, Barack Obama $126,349, and John Kerry $111,000. The Washington Post concludes: “Blessed with the advantages of a government agency and a private company at the same time, Fannie Mae and Freddie Mac used their windfall profits to co-opt the politicians who were supposed to control them.”

Nobody wants to see anybody lose their home. The current Wall Street turbulence will not settle until home prices do. But before we move to some new massive government spending effort to prop up home prices at some artificial level, we should also remember what the historical record teaches us about the unintended consequences of well-meaning market interventions.

The Basics on Fannie and Freddie and What Happened

What are Fannie Mae and Freddie Mac?
They are called government-sponsored enterprises because they initially were formed by the federal government. Fannie Mae is a common name for Federal National Mortgage Assoc. in Washington, D.C. Freddie Mac is a common name for Federal Home Loan Mortgage Corp. in McLean, Va.

What do Fannie Mae and Freddie Mac do?
Fannie Mae and Freddie Mac buy mortgages from savings and loans, banks and other lenders to generate more cash for those lenders to make more home loans. Together they hold or guarantee $5.4 trillion of mortgages, about half of the US's outstanding home loans.

What happened?
As home prices fell, foreclosures went up, and lenders ran into trouble, so did Fannie and Freddie. Loans they backed went bad, capital became harder to come by and it was harder for Fannie Mae and Freddie Mac to sell their loan packages. Thus, like any desperate, compromising soul, they lowered their standards and backed riskier mortgages and all this came back to bite them.

What effect on mortgage rates?
Like many Americans having trouble selling their homes, Fannie and Freddie have been having trouble selling their packages of loans. The investors who typically buy from them have become much pickier about what they’ll buy - with good reason - they were worried about increased risk as mortgage defaults rose and home prices fell. Since the two companies own or insure about $5 trillion in mortgages (nearly half of the nation’s total), the world has been watching them very carefully. Especially the American government.

In the opinion of the government leaders, Fannie & Freddie were headed toward failure. Since they’re so big, their failure would have dramatic (likely worldwide) consequences. So Uncle Sam officially stepped in.

So why are mortgage rates falling now? Fannie and Freddie are like big insurance companies. Before the federal bailout, investors worried that Fannie or Freddie might not be around to pay if mortgages they bought went sour. Worried investors = high mortgage rates for consumers. Now that Uncle Sam has stepped in, mortgage bond holders feel much safer. Happy investors = lower mortgage rates for consumers.

Who are the losers?
Us, the American taxpayers. This bailout is not free. No one knows the final damage this bailout will do to the Treasury, but most believe that the losses will be in the hundreds of billions. Considering that Fannie and Freddie holds approximately $5 trillion in home loans and currently more than 9% of loans are in the process of defaulting, then simple math tells us that these two companies could potentially lose $450 billion. Additionally, taxpayers will have to pay for the upkeep and operations of these companies so the costs will keep on increasing for years to come.

Who are the winners?
Banks that invested in Fannie and Freddie's debt. Fannie and Freddie sold trillions of dollars in mortgaged backed securities to central banks all around the world. For example, China's People's Bank owns more than $300 billion in Fannie and Freddie's mortgage backed securities. If both of these companies defaulted on all of these securites the Chinese national bank may have gone bankrupt.

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