Taxpayers would no longer be on the line for subsidizing home loans.

The Washington Post on Fannie/Freddie:

"By Zachary A. Goldfarb

Washington Post Staff Writer
Monday, December 22, 2008; D01

Policymakers are looking to revamp the nation's home loan system next year after the collapse of U.S. housing and mortgage markets spurred the current economic crisis.

Under one possible approach, Fannie Mae and Freddie Mac, the federally run companies that control half of the nation's $11 trillion mortgage market, would disappear, leaving lending primarily to private banks( YES ). Taxpayers would no longer be on the line for subsidizing home loans( GOOD ). But analysts say it could become much harder to get a mortgage -- at least one with a relatively low interest rate and a 30-year term( AND ? ).

Under another approach, Fannie and Freddie would remain. They could continue as private companies, trying to strike the difficult balance between the demands of profit-seeking shareholders and those of policy-oriented lawmakers. They could also be turned into government agencies. In either of these cases, taxpayers would remain potentially exposed to trillions of dollars in losses( PLEASE NO ).

The debate comes after the nation endured a bruising effort to promote homeownership in the past decade. Fannie and Freddie provided hundreds of billions of dollars in loans to people with blemished credit records or other financial limitations, which led to huge losses and the government seizing the firms in September as the financial crisis escalated. The government agreed to cover as much as $200 billion in losses( TOO MUCH ).

Now policymakers are looking at ways to prevent a relapse while maintaining Fannie and Freddie's charge of supplying consistent funding for mortgages. Fannie, Freddie and government agencies are funding nearly all of the nation's home loans; private lenders have all but disappeared( CROWDING OUT ).

"If we want to divorce the federal government from the risks of the housing system, you would privatize it," said Howard Glaser, a housing consultant who has worked for Fannie and Freddie. "The cost of that is you never know if you'll have mortgage finance available. Case in point: today( NOT SURE OF THAT )."

Fannie and Freddie were chartered by Congress 40 years ago as private companies with a government mandate to buy mortgages from lenders, package them, guarantee them against default and sell them to investors around the world. As a result, borrowers in big cities or small towns could go to big banks or small thrifts and get a 30-year, fixed-rate loan at an affordable rate.

But risks always loomed. Investors assumed that the government backed Fannie and Freddie, even if they did not have such support officially( IMPLICIT GUARANTEE PROVED CORRECT ). As a result, the companies could borrow cheaply and grow big -- with as much outstanding debt as the U.S. government. But the housing crisis crippled the companies, prompting the Bush administration to take them over out of concern they'd severely damage the world financial system.

Some longtime supporters of Fannie and Freddie say they must change, but still see a need for the government to play a role. "The Fannie and Freddie model has to be approached and the private-public entanglement, I think, will be undone," Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee, said in a recent interview. Frank said the reform of Fannie and Freddie is likely to include "some subsidy( THIS IS BETTER ) for enhanced affordability and increasing the flow of mortgages."

But there is little agreement about precisely how to restructure them. While Frank no longer thinks the hybrid model( THANKFULLY ) is viable, another influential lawmaker does. "The hybrid is the best( FOOLISH. ZERO LEARNING CURVE )," said Sen. Charles E. Schumer (D-N.Y.), who leads the Joint Economic Committee. "The hybrid nature should remain."

President-elect Barack Obama has said little on the topic. Obama's chief economic adviser, former Treasury secretary Lawrence Summers, has long been a critic of the risks posed by Fannie and Freddie. In a Washington Post opinion piece this past summer, Summers wrote that the government should use Fannie and Freddie to support the housing market during the crisis and that the government should then "divide their functions into government and private components, the latter of which would be sold off in multiple pieces( NO HYBRID HE SAID )."

One model gaining attention among some top policymakers would incorporate public and private elements, dividing Fannie and Freddie into separate components. One part of Fannie and Freddie's business involves buying mortgage bonds and other assets, holding them in a portfolio and trading them -- much like any other investment fund. This component would be privatized, with no government backing( FINE ).

A much bigger part involves the guarantee business, where Fannie and Freddie pool mortgages and guarantee timely payment of principal and interest. This area would receive explicit government backing( IF SO, IT SHOULD BE EXPLICIT ), possibly from the Treasury if it agrees to insure mortgages( CDSs ) in exchange for a fee.

Other options under discussion include turning the companies into public utilities, which would keep them highly regulated( THEY WOULD HAVE TO BE ), or cooperatives of large banks or of the Federal Home Loans Banks( FINE, IF PRIVATE ).

Some advocates of reducing or eliminating the government's role in the mortgage market argue that policymakers have erred in providing so much support to keeping mortgage rates low over the years -- not just through Fannie and Freddie but with tax breaks and accounting rules that made it easier for banks to own mortgage securities. Low interest rates, they argue, have artificially inflated housing prices and led too many people to buy homes with loans they cannot afford( I DON'T LIKE THE SUBSIDIES, BUT INDIVIDUAL HUMAN ACTIONS ARE RESPONSIBLE FOR BAD LOANS ).

"The problem with subsidizing mortgages is you're subsidizing people getting into debt. You're putting people into houses with no equity( THIS YOU SHOULDN'T DO )," said Arnold Kling, a former economist at both the Federal Reserve and Freddie Mac. "The goal should be getting people to own homes on a sound basis( TRUE )."

Kling would prefer that the government subsidize a down payment on a home, either through a tax-free savings account or another mechanism( I AGREE ).

Lawrence White, a professor of economics at New York University, argues that all the measures focused on the mortgage market have diverted capital from other important parts of the economy( TO SOME EXTENT THAT IS TRUE, BUT THAT'S UP TO INDIVIDUALS ).

"We invest more in residential structures and related things and less in factories and less in human capital," he said. "There are trade-offs. Investors have their choice between investing in a General Motors bond and a mortgage bond( TRUE )."

There are a number of risks associated with the private model. Anthony Sanders, a professor of finance at Arizona State University, argues that there's no guarantee that the private markets would do an adequate job of keeping the system functioning well. "Let's be honest: The commercial banks did not do a very good job since 2003" when they rushed into subprime loans, he said( BUT THEY ASSUMED IMPLICIT GOVERNMENT GUARANTEES ).

But Sanders also rejects the idea that Fannie and Freddie should be turned into a government agency, like the Federal Housing Administration. "If we load everything on the books of the federal government and there's no incentive to perform," he said, "we will see a lack of monitoring, we'll see underperformance( OK )."

In the past, the companies' powerful corps of lobbyists( YES ) could counter efforts to change the way they do business. Their lobbying activities stopped when the government took them over in September. Still, the companies themselves may weigh in.

Top executives at Fannie Mae and Freddie Mac have been assigned to study what the companies and mortgage market would look like if Fannie and Freddie were not what they are today, but they won't be making recommendations.

"I don't have a fixed view on this right now," said Fannie Mae chief executive Herbert M. Allison Jr., whom the government selected to lead the company. "I believe that the approach should be less about Fannie and Freddie and more about how to best meet the needs of the American public and promote responsible homeownership ( GOOD IDEA )."

Staff writer Lori Montgomery contributed to this report."

This report surprised me, given the supposed centrality of the Mayer/Hubbard plan in recent discussions, which would seem to necessitate a government role in the program.