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David M. Abromowitz

David M. Abromowitz

Posted: September 19, 2008 09:50 AM

When In Doubt, Yell "Fannie Mae"

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There must be a Republican playbook circulating widely with a chapter entitled, "What to say if asked who's to blame for the foreclosure mess." Because an awful lot of Republican candidates are all suddenly yelling "Fannie Mae, Fannie Mae, Fannie Mae" whenever plunging home prices and the housing crisis comes up. John McCain runs ads trying to tie Obama to Fannie Mae, John Sununu points to his legislative agenda on these GSEs a central campaign theme in New Hampshire, and the RNC website plays up every Fannie Mae political contribution it can find (to Democrats only, of course.)

Today, almost 1 out of 10 Americans with a mortgage loan is in serious financial trouble, anywhere from a few payments behind to standing on the brink of foreclosure. And this is after several million families have already lost their homes.

So their plan seems to be to chant Fannie Mae often and loudly enough, and hope the public will get confused about who really caused this huge national calamity. It is always a good political story to just blame a bad guy who has something to do with the same topic. After all, invoking "Iraq" every time this administration talked about who attacked us on 9/11 worked pretty well for a while.

The problem is, blaming Fannie Mae/Freddie Mac for the millions of foreclosures and trillions in lost home value is just plain wrong, and in fact has the story pretty much backwards.

How did we get here? It is a complicated story, but a quick summary goes like this: When the Bush administration took office in 2001, most home borrowers got conventional ("prime") loans or they could not buy. Subprime lending was still a relatively small part of the total mortgage market. But a combination of a hands-off regulatory approach to the mortgage industry, a low interest-rate environment maintained by the Greenspan Federal Reserve, a president cheering on an "ownership society", and Wall Street firms rushing in to pool together prime and subprime loans and challenge the dominance of the existing Fannie Mae and Freddie Mac home mortgage securitization system, set the stage for an explosion of higher risk lending.

Mortgage companies capitalized on pent up housing demand among many moderate income and minority borrowers. The subprime lending market soared, becoming nearly half of all new mortgage loans by 2006, and fueling huge bonuses among Wall Street investment firms like Bear Stearns.

But as has become apparent, these subprime loans were almost designed to go into default in massive numbers. Interest rates on adjustable mortgages spiked as low teaser rates rolled over and borrowers could not refinance their way out of trouble. Foreclosures started to come in waves in late 2006 and early 2007, so widespread and prevalent that the housing appreciation bubble burst, prices dropped sharply in dozens of states, and the epidemic spread.

When prices drop in a neighborhood, they don't just fall on homes with subprime loans. Everyone gets hit hard. For the first time since the Great Depression, American home values nationally fell nearly 20% since their peak, and in some places much more. Plunging prices trigger more foreclosures. The infection is still spreading even today. Even for those staying out of foreclosure, home equity has been wiped out -- and with it the equity to pay for a college education, or a new car, or to fall back on when medical bills come due.

Now, as even Wikipedia will tell you, "the term 'subprime' refers to loans that do not meet Fannie Mae or Freddie Mac guidelines." So how can Republicans point to Fannie and Freddie to lay blame when asked about the current housing crisis? Only to change the subject and point away from the inevitable outcome of pervasive underregulation.

The shoddy, even predatory mortgage lending that led first to the sub-prime meltdown, then to the national foreclosure crisis and loss of trillions of dollars in home value, was brought to American families primarily by private investment companies, not government sponsored ones.

There were plenty of laws and regulatory tools on the books which might have prevented this, if the current administration had wanted to use them.  Just this past July 14th, the Federal reserve finally cracked down on "unfair, abusive or deceptive home mortgage lending practices and restricts certain other mortgage practices." Under the Home Ownership and Equity Protection Act of 1994, they finally prohibited practices which they had allowed for years, like making a loan without verifying a borrowers' ability to repay from income and assets apart from the home's value, or charging exorbitant prepayment fees.

Of course, many of the same Republicans today blaming it all on Fannie and Freddie stood by, or even applauded, when in 2002 the Fed rejected most of these same protections urged by many consumer groups. For example, a coalition of advocacy groups in 2001 implored the Fed to use the power of HOEPA to protect borrowers, pointing out that "access to predatory lending is not a benefit to consumers. Destructive credit is worse than no credit at all.  This is evident in light of the increase in foreclosures, the disintegration of many low income and minority neighborhoods, and the erosion of the tax base of cities due to foreclosures."

Other regulators, and the Republican Congressional oversight committees charged with looking over their shoulders, sat on their hands as new and risky products were rolled out. Wall Street stampeded into the home lending market with pools of mortgage-backed securities that ratings agencies stamped blessed as AAA. The SEC did nothing to police the spread of risk.

When the Senate held oversight hearings on ratings agencies in 2006, well into the era of massive subprime securitization, Senator Sununu among others was for holding off greater oversight with statements such as " I don't see the problem as being one of a lack of regulation or need for additional regulation in the area of particular business practices as much as it is a question of a lack of competition, and I think that competition is lacking in part because there are a number of barriers to entry and one of the most significant barriers to entry are regulatory, and they're the barriers that have been created by -- unintended but have been created by some of the existing regulations and we need to look carefully at those."

To be sure, for years there has been much to criticize about Fannie Mae and Freddie Mac -- issues with transparency, misstated earnings, aggressive lobbying, and more fundamental questions about whether the public was getting full benefit in how they carried out their mission in exchange for an implicit governmental guarantee -- and commentators across the political spectrum have raised such questions. But laying the blame at their doorstep for today's boom and bust turmoil that is devastating hundreds of previously stable communities around the country, and spreading instability worldwide through the global financial markets?

Then again, if just mentioning their names change the subject away from the Republican record of "deregulate here, deregulate now", maybe Fannie and Freddie can't be all bad.