Sunday, September 07, 2008


Apocolypse Now

And no, I am not talking about the experiment at the LHC this coming Wednesday. I am talking about the gov't bailout of Freddie Mac and Fannie Mae, the Gov't Sponsored Enterprises (GSE) that are insolvent and were going to collapse before the end of the year. We don't have to worry about that now because their problems are now the problems of the U.S. taxpayer. Congratulations, you are responsible for the incredible stupid lending policies of the GSEs.

That's the surreal theme of a story in last week's New York Times titled "At Freddie Mac, chief discarded the warning signs" (registration required). The subtitle wasn't "Gee, who'd have guessed?" but it should have been.

To wit: "Mr. Syron received a memo stating that the firm's underwriting standards were becoming shoddier and that the company was becoming exposed to losses. . . . David Andrukonis (Freddie's former risk officer) recalled telling Mr. Syron in mid-2004 that the company was buying bad loans that 'would likely pose an enormous financial and reputational risk to the company and the country.' "

Well, so what? The gov't throws a few billion at the problem and it goes away. Au contraire, mon frair. (Hey John O, please correct my French.) Fannie and Freddie have about 5 TRILLION dollars of mortgages on their books. A total that dwarfs the U.S. gov'ts balance sheet. A small fraction of these loans going bad will put a real strain on the budget. And then there is the problem of who steps in to replace the GSEs.

They are involved in about 40% of all mortgage origination, securitizing loans and mortgage insurance, in the country so removing the capital they represent puts further strain on the housing market.

As I have said before, I am very wary of the gov't taking the risk of taking over the balance sheets of Freddie and Fannie because we are now talking about enough risk to put U.S. sovereign debt into doubt. It remains to be seen if this effort at market stabilization will work, and we should all pray it does. It would be a real bitch to have a world wide depression right before a quasar tears our planet apart.

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