Politics, shaky economy create no rush to restructure Fannie and Freddie

By Zachary A. Goldfarb
Washington Post Staff Writer
Thursday, March 11, 2010; A01

The federal government has spent the past half year seeking to roll back its emergency efforts at propping up the financial markets -- with the notable exception of its involvement in mortgage giants Fannie Mae and Freddie Mac.

As the government has pledged more and more money to cover the companies' losses, it has assured the public that planning was underway for overhauling the firms so the bailouts would end. As recently as December, the Obama administration said it expected to release a preliminary report on how to remake Fannie Mae and Freddie Mac around Feb. 1.

But no plan was produced, and in response to questions from lawmakers, Treasury Secretary Timothy F. Geithner clarified last month that it would be another year before the government proposes how to restructure the firms.

Sixteen months after they were seized to prevent their collapse, the companies remain wards of the state, running a tab that has now exceeded $125 billion in what has become the single costliest component of the federal bailout for the financial system.

Some members of Congress have complained that the huge public commitment is unsustainable. But the administration has been reluctant to start reforming Fannie Mae and Freddie Mac, officials and analysts say, because the firms in their current form play an essential role in supporting the housing market at a time when it is still under severe stress. As other financial firms have exited the market and credit has seized up, Fannie and Freddie have been behind the vast majority of mortgages made since the start of the financial crisis. The companies now own or back more than half of all U.S. home loans.

Moreover, the companies are helping the administration pursue policies designed to make new homes more affordable, ease the burden on struggling borrowers and direct funding to parts of the country especially hard hit by the downturn. Any initiative to remake the firms could distract energy from these programs or, in some cases, put an end to them.

The political angle

Nor is the administration eager to foster a debate over Fannie Mae and Freddie Mac in an election year, according to analysts and lawmakers. The pair have long been lightning rods for criticism by many Republicans, who call them an intrusion into the free market and a Democratic patronage haven. Many Democrats, even as they faulted companies' excesses, have defended the firms' role in fostering home ownership.

And with Obama's campaign to overhaul financial regulation facing resistance on Capitol Hill, administration officials don't want to add another divisive issue to the mix.

"We've obviously had our hands full, as has the Congress," said Michael Barr, assistant Treasury secretary for financial institutions. "We're just beginning to see some positive signs in the housing market, but we're not out of the woods yet and so we want to be careful to be sure that we had an appropriate, paced process."

Barr said Treasury officials have been meeting informally with their counterparts at the White House and the Department of Housing and Urban Development and exchanging policy papers to develop principles for overhauling Fannie Mae and Freddie Mac. These principles include, for instance, that the government ensure borrowers could still get mortgages even when the private market is no longer offering loans. But whatever replaces Fannie and Freddie, it should not be allowed to grow so large that its failure could threaten the financial system.

So far, Barr said, the administration has been too busy to build out the principles.

The government's extended involvement in the companies has opened the administration to criticism from both parties that it has failed to begin winding down Fannie Mae and Freddie Mac fast enough.

"They weren't planning to do much about it," said Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee, in an interview. "They're busy, and it's hard and it's complicated and they're trying to put it off." Frank said he is "forcing" the issue by scheduling a committee hearing later this month, summoning Geithner and other officials to discuss options for reforming the firms.

Once among their strongest supporters, Frank has more recently called for their abolishment. But he said he still expects the government to play a role providing funding for low-income housing and subsidies for home ownership.

Future scenarios for reforming Fannie Mae and Freddie Mac range widely -- from total privatization to total nationalization. But no consensus has emerged over the best fix.

Spokesmen for Fannie Mae and Freddie Mac said their current focus is on keeping funds flowing into the mortgage market and helping distressed borrowers remain in their homes. The companies did not address the question of how they should be restructured.

The firms' regulator, the Federal Housing Finance Agency, agreed they have to help support the market and help struggling borrowers in the short-term. FHFA added that the administration and Congress must still come up with a long-term solution for the companies.

The record of Fannie Mae and Freddie Mac under government control has been mixed. The companies, with support from the Treasury Department and the Federal Reserve, have been able to keep mortgage interest rates low by providing substantial amounts of money to lenders. This has kept the struggling housing market from declining even more, in turn helping to stabilize the wider financial system.

The companies have also been tapped by the Treasury Department to rewrite the terms of home loans for struggling borrowers facing foreclosure. But this program -- carried out by Fannie, Freddie and other firms -- has had less success. Although 1.3 million borrowers have been eligible, only about one-tenth have had permanent mortgage modifications.

And keeping the companies solvent has been costly. To cover their losses, the firms have both said they will need additional federal money beyond the more than $125 billion already committed. They are ramping up purchases of bad mortgages in an effort to keep borrowers in their homes.

When the Bush administration seized the firms, it said it would make $200 billion available to them. The Obama administration a year ago doubled that figure, then decided late last year to offer them unlimited financial assistance as a signal to investors that the companies' solvency was guaranteed.

But critics warn this has given Fannie Mae and Freddie Mac a blank check.

"This idea of having money laying around that they can spend on whatever they think politically makes sense is certainly consistent with what we've seen from this administration," said Rep. Jim Jordan (R-Ohio), a member of the House Oversight and Government Reform Committee who has called for an investigation into the delay in planning for the companies' future. "This is just one more example of ridiculous government spending and huge losses to the taxpayer."

Delicate timing

Some analysts say it's an inopportune time to wind down the companies -- or even hint at major change -- while the housing market and economy remain in bad shape.

"Any suggestion now about future changes could destabilize the market," said Karen Shaw Petrou, managing director of analysis firm Federal Financial Analytics and a longtime observer of housing finance policy. "The U.S. mortgage market is so fragile that all Treasury needs to say is 'boo' and it could fall apart."

But time could be tight. Under the firms' agreement with the Treasury Department, they must shrink their mortgage portfolios every year, eroding their ability to support the market.

James Lockhart, a former top regulator of Fannie Mae and Freddie Mac, said the administration is erring by waiting another year to begin the reform process.

"The clock is ticking. We need to reinvigorate the private mortgage market and create something new and we know how long Congress takes," Lockhart said. "It's unhealthy to have as much government involvement in the mortgage market as we have in this country."

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