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Regulating Fannie and Freddie

John Steele Gordon Dec 19, 2011

Kai Ryssdal: It’s gonna be years yet before the effects of the financial crisis work their way out of the economy. Same can well be said for the justice system, too.

On Friday, the Securities and Exchange Commission charged the former CEOs of Fannie Mae and Freddie Mac for their role in the subprime mortgage scandal. They’re accused of intentionally understating how exposed Fannie and Freddie were to mortgages we now know were bound to go bad. Those losses led to the government takeover of Fannie and Freddie and a call for more regulation of the financial industry.

But commentator and business historian John Steele Gordon says there’s still unanswered questions.

John Steele Gordon: Fannie Mae started out as one of the New Deal’s better ideas: a means of freeing up the mortgage money banks could lend so that more people could become home owners instead of renters. It did exactly that for more than 30 years. Tens of millions of families joined the middle class.

But in 1969, Lyndon Johnson sought to make the federal deficit look smaller. He spun Fannie off as a so-called “government-sponsored enterprise.” Together with its baby brother, Freddie Mac, it then slowly morphed into a monster that devoured American prosperity. By 2007, Fannie and Freddie held or guaranteed $6 trillion in mortgages. That’s an unprecedented concentration of risk.

What happened? Simple: Politicians prevented the proper regulation of Fannie and Freddie in pursuit of short-term and partisan political advantage. They made a fantasy home ownership for everyone sound like good public policy.

Fannie and Freddie were, in theory, independent corporations. They were listed on the New York Stock Exchange. But real corporations can go broke — just ask the stockholders of Lehman Brothers and Bear Stearns — but everyone knew that the government in the last resort would stand behind these government sponsored enterprises. And it did.

Here’s something that’s vital to understand. Fannie and Freddie had their very own set of regulators — just for them. The Office of Federal Housing Enterprise Oversight allowed them to take on ever more risk, while their top executives cooked the books to ensure big bonuses for themselves. They hired lobbyists by the hundred, and made large, and often illegal, political contributions. Banks knew they could off-load to Fannie and Freddie much of the risk in giving mortgages to people with dubious credit and they began to do so with a vengeance.

Yes, the Dodd-Frank bill regulates the banks. But who is going to regulate the politicians in Washington who put their own interests ahead of the country’s? The law doesn’t do that at all. Indeed, Dodd-Frank doesn’t even mention Fannie and Freddie.

Ryssdal: John Steele Gordon’s most recent book is called “Empire of Wealth.” Got a comment? Write to us.

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