Fannie and Freddie’s collapse was predicted 5 years ago

Ron Paul in the House Financial Services Committee, September 10, 2003

Mr. Chairman, thank you for holding this hearing on the Treasury Department’s views regarding government sponsored enterprises (GSEs). I would also like to thank Secretaries Snow and Martinez for taking time out of their busy schedules to appear before the committee.

I hope this committee spends some time examining the special privileges provided to GSEs by the federal government. According to the Congressional Budget Office, the housing-related GSEs received $13.6 billion worth of indirect federal subsidies in fiscal year 2000 alone. Today, I will introduce the Free Housing Market Enhancement Act, which removes government subsidies from the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), and the National Home Loan Bank Board.

One of the major government privileges granted to GSEs is a line of credit with the United States Treasury. According to some estimates, the line of credit may be worth over $2 billion. This explicit promise by the Treasury to bail out GSEs in times of economic difficulty helps the GSEs attract investors who are willing to settle for lower yields than they would demand in the absence of the subsidy. Thus, the line of credit distorts the allocation of capital. More importantly, the line of credit is a promise on behalf of the government to engage in a huge unconstitutional and immoral income transfer from working Americans to holders of GSE debt.

The Free Housing Market Enhancement Act also repeals the explicit grant of legal authority given to the Federal Reserve to purchase GSE debt. GSEs are the only institutions besides the United States Treasury granted explicit statutory authority to monetize their debt through the Federal Reserve. This provision gives the GSEs a source of liquidity unavailable to their competitors.

The connection between the GSEs and the government helps isolate the GSE management from market discipline. This isolation from market discipline is the root cause of the recent reports of mismanagement occurring at Fannie and Freddie. After all, if Fannie and Freddie were not underwritten by the federal government, investors would demand Fannie and Freddie provide assurance that they follow accepted management and accounting practices.

Ironically, by transferring the risk of a widespread mortgage default, the government increases the likelihood of a painful crash in the housing market. This is because the special privileges granted to Fannie and Freddie have distorted the housing market by allowing them to attract capital they could not attract under pure market conditions. As a result, capital is diverted from its most productive use into housing. This reduces the efficacy of the entire market and thus reduces the standard of living of all Americans.

Despite the long-term damage to the economy inflicted by the government’s interference in the housing market, the government’s policy of diverting capital to other uses creates a short-term boom in housing. Like all artificially-created bubbles, the boom in housing prices cannot last forever. When housing prices fall, homeowners will experience difficulty as their equity is wiped out. Furthermore, the holders of the mortgage debt will also have a loss. These losses will be greater than they would have otherwise been had government policy not actively encouraged over-investment in housing.

Perhaps the Federal Reserve can stave off the day of reckoning by purchasing GSE debt and pumping liquidity into the housing market, but this cannot hold off the inevitable drop in the housing market forever. In fact, postponing the necessary, but painful market corrections will only deepen the inevitable fall. The more people invested in the market, the greater the effects across the economy when the bubble bursts.

No less an authority than Federal Reserve Chairman Alan Greenspan has expressed concern that government subsidies provided to GSEs make investors underestimate the risk of investing in Fannie Mae and Freddie Mac.

Mr. Chairman, I would like to once again thank the Financial Services Committee for holding this hearing. I would also like to thank Secretaries Snow and Martinez for their presence here today. I hope today’s hearing sheds light on how special privileges granted to GSEs distort the housing market and endanger American taxpayers. Congress should act to remove taxpayer support from the housing GSEs before the bubble bursts and taxpayers are once again forced to bail out investors who were misled by foolish government interference in the market. I therefore hope this committee will soon stand up for American taxpayers and investors by acting on my Free Housing Market Enhancement Act.

Dr. Ron Paul is a Republican member of Congress from Texas.

sign right here, and here, and here

If anyone has been through the mortgage process lately you know exactly what I mean.

I love flow charts, so I am going to try to create a flow chart that follows what happens after you sign those documents.  Feel free to comment as you see fit.

Step 1:      An honest hardworking American chasing the American dream finds the house of his dreams and is run through an inquisition to prove his worthiness.

Step2:      Yea, your approved.  Sign right here.  You occupy your home and take possession of a 30 year mortgage.

Step 3:     Your bank takes your signature to the Federal Reserve, who promptly prints money out of thin air in the amount of the entire loan and gives this new money to the bank to be used as capital to create more loans.

step 4:    Your bank then sells the interest payments part of your contract to a mortgage consolidate company like Fannie Mae or Freddie Mac.

step 5:     Fan.Fred buy thousands of these mortgage contracts and piles them into multibillion dollar funds.  (Now remember there is no money in this pile, only the potential money of your interest payments.)

Step 6:     Fan.Fred prints and sells capital bonds to foreign investors.  These are basically borrowing money, at interest, from China, Japan, Sadi Arabia and others using your signature as collateral. 

step 7:     As you pay your interest payments, fan.fred will have the money to buy back the bonds, right??

step 8:     banking industry was deregulated in the 1980s allowing very creative ways to collect promissory signatures from US citizens.  These creative loans were doomed to fail.  Now that they are failing fan.fred are not collecting enough from you to buy back the bonds, so international investors become anxious.

step 9:     The US government (with your money)  steps in to secure these promises to foreign investors.  So foreign banks that bought risky bonds from a private bank, now are secure in their profits.

step 10:    Everybody wins, the banks got the cash up front from selling your signature to the federal reserve, then more cash when they sold the mortgage to fan.fred.  Fan.fred makes obscene profits when they sell the bonds, and make more money when you pay your interest payments.  The foreign banks make money on the interest from the now gaurenteed bonds they purchased.  Oh, what about you?  Well, you get to live in your house as long as you pay your mortgage payments plus the property taxes levied against you for assuming that you could live the American dream plus the additional taxes now needed to give to the foreign banks.

Don’t waste your vote on either of the banker backed republicrats.  Vote 3rd party!

Should we let them fail?

Should Fannie Mae and Freddie Mac Be Saved?
Written by Darrell Castle
Constitution Party 2008 Vice Presidential Candidate

 

Should Fannie Mae and Freddie Mac be allowed to fail? That is the question that the United States Government (USG) faces today along with the consequences of failure or the consequences of takeover which is essentially nationalization.

 

These two private companies guarantee $5.3 trillion of the $12 trillion US mortgage market. They are privately owned and disclaim government backing, but they are called government sponsored enterprises (GSEs). They have always been considered safe investments almost as if the USG does guarantee their safety. Since May, their common and preferred shares have each lost more than half their value which is a big problem for many banks which are heavily invested in their common shares. The decline sinks the banks’ capital base and restricts, even more, the credit once available to the American consumer. The credit market is already restricted to the point that the producing economy is grinding to a halt. This is happening because banks have restricted credit so that they will have money available to cover mortgage losses lest they be nationalized by the USG. In other words, the financial economy which has carried the American economy since the Reagan era is now destroying the consumer economy upon which our entire economic system is based. We all remember President Bush’s advice after 9-11 to ‘go shopping’.

 

The problem is that shopping is becoming impossible for most people without incurring new debt and sources of credit are drying up. The M1 figures which is all the money held in the American economy such as savings accounts, checking accounts, etc. with which American consumers can purchase without additional debt is about $1.3 trillion. This isn’t nearly enough to purchase the American production (GDP) of $13.8 trillion based on 2007 numbers. The American people fall further and further behind. Their wages are stagnant but inflation is not stagnant which constantly erodes their standard of living. They have the appearance of wealth, but it is all an illusion.

 

What would be the consequences of the USG’s proposed takeover of Fannie and Freddie? Will the already strapped American taxpayers have to absorb the $5.3 trillion of their debt thus almost doubling the public debt? Probably not, because not all of the Fannie and Freddie mortgages are junk. Those that are junk will have to be separated and dealt with. The common stockholders will probably take a bath but the preferred stockholders such as China with almost $400 billion and Russia with almost $100 billion can remain dirty. The companies can be run by a conservator such as that appointed in Chapter 11 bankruptcy cases to run failing companies and recover them while writing down the necessary amount of debt within classes. This Nationalization or takeover could save Fannie and Freddie and with them the entire system for a period of time, but a day of reckoning is coming and coming soon. This will add at least $10s of billions of debt to the American taxpayer each year for many years and cause even more inflation and a lower standard of living.

 

What would be the consequences of allowing Fannie and Freddie to fail? More than likely the consequences would involve a world wide catastrophic collapse of the international financial system. This would mean the end of our debt based economy because no foreign government would buy our debt. Foreign trade based on a trade deficit would dry up and the United States would enter a time of economic depression which would probably be worse than 1929 at least for a short time.

 

What then should we as a nation do in response to the decision that lies before us? The first order of business is to elect wise, honest, and ethical leaders to lead us through the crises and to make sure the American Republic as originally founded emerges on the other side. I have no doubt that Chuck Baldwin is such a leader, but I have grave doubts about Senators McCain and Obama. If we had a leader such as Chuck Baldwin, I would advise letting the system fail and dealing with the consequences. This is a chance to purge the system of debt which can never be paid, and thus remove the yoke of debt from the necks of the American people. It is a chance to return to a sound money system based on gold and silver as originally proposed. It is a chance to be free of the Federal Reserve and of the income tax. In short, we could restore our system to what it was designed to be and the American people could live in peace, prosperity, and liberty.

 

The collapse of the current debt pyramid system is inevitable. The USG and even the Federal Reserve cannot repeal the laws of economics no matter how much they want to. The question before us is will we choose to continue the present course which will lead to a hyperinflationary event such as what happened in Weimar Germany in 1933 and led to the rise of Hitler and WWII, or will we suffer a depression which could prove to be worse and of longer duration than the great depression of 1929. It is incumbent, therefore, upon this generation which has enjoyed the false benefits of this system for so long and which has been so profligate in its ways, to bare this hardship so that future generations, yet unborn, will not have to bare them. If we act quickly, we have the ability to control events and make our own decisions, but soon someone or some event will make the decision for us. This is the system that has been bequeathed to us.

 

Constitution Party of Missouri  • •  info@constitutionpartymo.org

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