Foreign spigot off for US consumers
By Max Fraad Wolff
As US public attention shifts from the Olympics to running mates and the
celebrity "news" de jour, the infrastructure beneath your house is
termite-infested. Just beneath the nicely painted exterior and behind all the
new appliances, doubt is boring through the beams, gnawing at the studs.
Alongside falling prices, rising mortgage rates, stricter credit conditions and
general malaise, the structure that supports American home ownership is being
condemned by market valuation. Fannie Mae and Freddie Mac have nose dived and
been downgraded toward a smaller future - and these are more important names
for your future than Joe, Sam, Kathy, Mitt, Meg ...
Fannie Mae was created in the depths of the Great Depression to
decrease foreclosure and increase home ownership. In 1968, it was re-chartered
as a public company, removed from within official government agency status.
Freddie Mac, since its inception in 1970, has financed 50 million homes.
Fannie and Freddie mission statements make clear, they exist to facilitate,
ease and cheapen home ownership. They do this by acting as liaisons between
international capital markets and mortgage seekers. They borrow at preferential
rates - based on the implicit/explicit - assurance of the US government.
Borrowed funds are used to buy mortgages and bundles of mortgages. They provide
credit guidelines and purchase mortgage issued by banks. This reduces banks'
risk and provides banks with more cash, more quickly to make more loans at
lower costs. These firms, then, exist to facilitate, ease and accelerate bank
lending for home purchase.
Fannie and Freddie form a central hub between lenders and investors. After they
buy American mortgages, they bundle sell and guarantee repayment. This
transforms mortgages into investments for banks, corporations and governments
all over the world. Your home mortgage, bundled with many other folks'
mortgages, is sold, repackaged and assured by Fannie and Freddie. This reduces
risk and assures global savings flow in to support American purchases of homes.
International investment is the foundation on which our home ownership was
Well over US$1 trillion of our mortgages have been sold to foreign investors
this way in the recent past. As you sit down and read this, your mortgage may
well be "owned" by a firm, individual or central bank thousands of miles away.
This relationship is neither healthy nor sustainable in its present form.
Rising defaults, falling dollars and the sheer size of past borrowing are
turning people off to American mortgages. The foundation below our houses is
What we are witnessing is the breakdown of the link between middle-class
America and the global financial markets it has over-tapped across the last
several decades. Fannie and Freddie were the support infrastructure connecting
houses to capital market access. They have been caught with weak financials,
swollen balance sheets and escalating default, just like the home owners they
assist. The size of their retained mortgage portfolios is truly gigantic.
The extent of the firms' guarantee commitments is global in scope. Sixty-six
global central banks buy loans bundled and or backed with Freddie Mac and
Fannie Mae involvement. As of June 30, 2007 foreign entities and individuals
held over $1.4 trillion in securities of US agencies such as Freddie and
Fannie Mae's June 2008 statement declares a gross mortgage portfolio of $750
billion and guarantees of mortgage backed securities and loans of $2.6
trillion. Freddie Mac's June statement details a retained portfolio balance of
$792 billion and a total mortgage portfolio balance of $2.2 trillion. These two
giants have retained interest in over $1.5 trillion and guaranteed over $4.5
trillion in mortgages, mortgage backed securities and loans. There are $11
trillion in outstanding mortgage liabilities in the US.
The US housing market continues to melt down with dire consequence. In the
seven years from 2001 through late 2007, household real estate value increased
by $8.873 trillion to $22.495 trillion. It has since fallen by $426 billion.
Many claim we are at or a near a bottom. These claims should be viewed with
extreme weariness. The housing downturn is not over and it will take a while
after it is over to judge the damage.
The search for parallels with today yields little. The closest one finds is the
interesting decline in home ownership across the period 1905-1920 followed by a
surging rise across the '20s and then collapse across the 1930s. Fannie was
born of this collapse, the ideology of The New Deal and sense that
government-driven market interventions could broaden home ownership in America.
This was a success. Home ownership did grow spectacularly across the period
from 1938-2007. It is falling now as Fannie and Freddie flounder.
In 1940, US home ownership stood just below 44%. At the start of 2008 68% of
Americans owned their home. Over the decades, Fannie and Freddie changed,
middle-class America changed and the global financial realm underwent several
revolutions. The last and most transformative revolution involved the rise of
securitization and integration of global financial markets.
Securitization involves transforming assets and promises of future payment into
financial products for sale to investors. International financial integration
tears down the walls between national banking systems and allows savings, loans
and payments to be gathered and transferred across international boundaries.
A world of wealth poured into US real estate through securitization and
deregulation. This flow was channeled and molded by the actions of Fannie Mae
and Freddie Mac. The decline of these firms will have dramatic and long-lasting
implications for home mortgage finance. This will impact the price of American
homes, the cost and ease of borrowing for home ownership.
Housing prices have further to fall and global savings will likely never be
lent to American consumers at recent percentage levels. Across the past few
years America has been borrowing over 50% of the world's internationally
available savings. The diminishing role of Fannie and Freddie will impact more
people, for far longer than presidential running-mate selections. Policy makers
and managements in Fannie and Freddie are stuck. Today's consumer strength,
their missions and international financial realities no longer align.
We face a housing finance future different from the recent past. Fannie and
Freddie will not be able to function in the same way, or to the same extent.
The debates about and plans for these firms will touch millions of families
through housing prices, finance terms and cost. Fannie and Freddie are much
more important than Joe, Sam, Kathy, Mitt, Meg ...
Max Fraad Wolff is a doctoral candidate in economics at the University of
Massachusetts, Amherst, and editor of the website GlobalMacroScope.