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No more need for Freddie and Fannie

Published: August 20 2008 19:53 | Last updated: August 20 2008 19:53

Freddie Mac and Fannie Mae are the platypuses of the financial world. As shareholder-owned companies which rely on state guarantees, the two government-sponsored enterprises are neither public fish nor private fowl. They are also evolutionary relics from another time. The US Treasury looks increasingly likely to bail out the two mortgage giants. But before it does so, Hank Paulson, the Treasury secretary, must think about an intelligent design for what he would like the GSEs to evolve into.

Fannie and Freddie are vast institutions, guaranteeing $5,300bn of US mortgages, of which 15 per cent are from riskier categories of lender. The credit squeeze and the housing slump mean borrowers are defaulting and Fannie and Freddie have run up significant losses.

Last month, responding to fears about their solvency and liquidity, the Federal Reserve gave the GSEs permission to borrow from the Fed’s discount window. Mr Paulson sought powers from Congress to allow him to, one day, bail out Fannie and Freddie, making their implicit state guarantee explicit. It had been hoped this would be enough to save them and that action would not be necessary. This bluff, alas, does not seem to be working.

Indeed, Freddie and Fannie are now finding it hard to raise new capital precisely because investors are worried about losing out in the event of a public bail-out.

The lumbering GSEs are too big to fail several times over. If Mr Paulson needs to save them, he may need to act very quickly. But he should not be thinking about simply keeping them as they are but on tighter regulatory leashes. The GSEs are set up to socialise losses and privatise profits. This is clearly ridiculous. In the short term it would be better to nationalise them to align risk and reward. In the long run, the government should get rid of Fannie and Freddie.

There is no need for the government to engage in the secondary mortgage market, not least because doing so provides perverse incentives for the state to prop up US house prices. The GSEs should be cut into small-enough-to-fail pieces before a real privatisation. Winding down the GSEs as we know them need not be immediate or rapid, but it should begin now, when it is easier to gather the will for reform.

The Federal Reserve and the Treasury are right to try to prevent the collapse of the GSEs. But they must now work to get rid of them. Conservation efforts have kept the duck-billed platypus alive. Freddie and Fannie do not deserve the same protection.

  • News results for fannie & freddie

    Washington Post






    Sir, We should all calm down about Fannie Mae and Freddie Mac. There may be “No more need for Fannie and Freddie” (editorial, August 21) but there is no ...

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