With their hands on about 50 percent of all mortgages in the United States at an estimated $5 trillion, lending giants Fannie Mae and Freddie Mac have a huge impact on swinging the housing pendulum. The Federal National Mortgage Association, nicknamed Fannie Mae, and the Federal Home Loan Mortgage Corporation, or Freddie Mac, were created by Congress decades ago to provide a steady stream of money for home mortgages.
Impact on first-time homebuyers
If you already have a mortgage and don't need a new one and don't own shares in Fannie or Freddie, then recent news of a government bailout of the two lenders may not keep you up a night. But if you're thinking on getting a mortgage anytime soon, then you need to start paying close attention to what the future holds for these two financial giants. Fannie and Freddie borrow money in the bond markets to buy mortgages from lenders. They're unusual entities, private companies traded on the stock market, but also operating as government-sponsored enterprises, or GSEs, with a widespread sense that they have the guarantee of the government behind them.
Treasury Secretary Henry Paulson announced the plans to bailout Fannie Mae and Freddie Mac on Sunday.
Because of the implicit guarantee that they're backed by the U.S. government, Fannie and Freddie can borrow at very low interest rates. But the housing collapse and a skyrocketing foreclosure rate have undermined the financial markets' confidence in the two companies that underwrite half the nation's mortgages. The result will be higher mortgage interest rates, according to members of the Federal Housing Finance Board.
If prices are going to stabilize, the market needs to produce more first-time home buyers than new houses. It is through increased affordability in homes that will bring this breed of buyers back to the market. When entry-level buyers flood the market, they not only stimulate production of new homes, they purchase existing homes. Those purchases, in turn, allow the sellers to move up to bigger houses. Without first-time home buyers, the food chain is frozen, and the glut of homes continues to pile up. But if mortgage rates increase, the likelihood of these first-time buyers will continue to shrink.
Necessary evil
In an National Public Radio (NPR) broadcast last Friday, Douglas Elmendorf of the Brookings Institution, argued that a government bailout "will give Fannie and Freddie a steady source of cheap money, the lower cost of borrowing would be passed on to future home buyers. That could prove necessary now that the growing number of mortgage defaults have made private lenders extremely skittish."
On Monday, days after insisting that a bailout of Fannie Mae and Freddie Mac wasn't necessary, the Bush administration announced an unprecedented plan to support the mortgage giants, reported NPR Monday morning. Regulators unveiled steps Sunday night aimed at reassuring investors that the companies are still healthy.
Bailout plan
Under the plan, Treasury Secretary Henry Paulson announced, "The companies would be allowed to borrow from the Federal Reserve's discount lending window if they need to. The Treasury Department said it would also ask Congress for permission to buy shares of the companies' stock (this would involve using tax payer dollars). It also increased the line of credit available to them. The message to investors was that the companies have all the money they need and aren't going to collapse anytime soon, so they shouldn't be afraid to buy their securities," reported NPR.
As of March 31, the two companies combined had over $500 billion of short-term debt outstanding. If the companies can't persuade investors to give them money, they have no way of paying off that debt.
While the Bush administration had fervently argued that the government would not tap taxpayer coffers to bailout lenders, they are doing just that with this new plan. But due to the shear magnitude of a possible Fannie and Freddie collapse, government officials say their main goal right now is to prevent the housing market from sinking deeper into the abyss.
Do you think the government should bailout Fannie and Freddie? Or do think the market should be left alone to correct itself?
Got hot local housing tips or a story you want to share? Contact Amy Le at openingdoorsblog@homescape.com
Comments (5)Subscribe to CommentsComment