Click here to listen. It’s 20 minutes in. July 14, 2008.
Robert says the government is bailing out Fannie Mae, Freddie Mac. "They are providers of mortgage credit. If you are as old as I am, you remember the days when home mortgage loans were primarily provided by savings and loan associations and banks. You went to your local bank, they looked at your credit records, looked at the value of the home you wanted to buy, they looked at whether you were a reliable borrower, and whether the home was worth as much as you thought, and then they made you a loan. Those loans were financed by deposits to the banks.
"Over the last 30 years, we’ve had a revolution in finance. Most mortgages today are not financed by depositors to banks and savings and loans. They are financed by pooled securities that are then purchased by pension funds, insurance companies, mutual funds, sovereign wealth funds… There are a number of different financial institutions that put together these pools of mortgages and sell them. Fannie Mae and Freddie Mac are the largest of those.
"You go to a mortgage broker or bank. They process your application. They may initially advance the funds to you but they immediately sell the mortgage to someone else, usually Fannie Mae or Freddie Mac. They have guidelines for what kind of mortgages they will accept. They will either keep them for their own portfolio or sell them to somebody else with a guarantee that if you the homeowner default on the mortgage, they will make up the difference to the lender.
"They are the mechanism by which 30-50% of mortgages are normally financed. In today’s market, they are now the financing mechanism for 70% or more of U.S. homes."
Dennis: "If they know if they just irresponsibly buy loans irresponsibly made and it won’t matter because if they go down, the country goes down and the world economy goes down, what stops them from acting irresponsibly?"
Robert: "Both of these enterprises were set up by the government."
"They are now publicly traded companies. They are overseen and regulated by OFEO so they don’t do what you say. In practice, some of what you describe did happen…because of the general climate between 2002-2006 that the housing market was going to go up forever. Almost anybody could borrow because the homes were presumed to go up in value. It was make believe. A lot of bad loans were made."
Dennis: "The interest in giving these weak loans was that the more loans we give, the more our shareholders profit?"
Robert: "People profited by doing more business. The incentive to do this was straight forward. It did reveal the weakness of this new system of financing by securitizing these loans. When the local bank held the loan, it had an interest in making sure the borrower could perform. The more people you put between the original borrower and original lender, the less the interest that any one of those middlemen has insuring the borrower could pay the loan. Most of these middlemen weren’t holding the loan at the end of the day."
"In retrospect, everybody failed. Was OFEO’s failure the central cause? No.
"The central cause was the political and popular climate that favored home ownership so much so that almost anything done in favor of home ownership was regarded as good. As the home ownership rate edged up, people congratulated themselves. The American dream was spreading… There was a climate that mitigated at looking at these things and asking if these people should be home owners. Were the documents they presented reliable? Many people could buy a home without putting down a down payment."
Dennis: "What do you recommend?"
Robert: "The public want two mutually exclusive things to happen. They want housing prices to stay up because homes are the biggest asset most people have. On the other hand, we want the housing market to start up again and homes to be more affordable. This effort to prop up housing prices, which is what is going on in Washington today, is really opposed…to the housing market to reinvigorate itself."
Robert Samuelson writes July 15, 2008 for the Washington Post.
