Fannie Mae and Ginnie Mae are Private Corporations

Fannie Mae and Ginnie Mae are Private Corporations

By Andy Gause

Fannie, Ginnie and Friends

Ginnie Mae
Ginnie Mae [Public domain], via Wikimedia Commons
Fannie Mae (FNMA) and Ginnie Mae (GNMA) are private corporations with a unique advantage. The largest, FNMA has become a $4.5 trillion company that pumps cheap money to primary market lenders by paying cash for the mortgages which these companies originate. Once a large quantity has been accumulated, they bundle these mortgages into Mortgage Backed Securities, (MBS), for sale through securities dealers.

To aid in their marketing is an implicit Government guarantee that investors will receive principal and interest payments regardless of what happens to the underlying mortgages. This transfers that risk effectively into the Treasury of the United States. According to their own financial records, Fannie Mae’s loan volume grew at a compound annual rate of 13.8 percent during the third quarter of 2002. They ended the period at $1.742 trillion. But against this enormous figure, the FNMA allowance for loan losses totaled a mere $812 million as of September 30, 2002. Hardly an adequate reserve for a commercial bank, but this business hybrid is not subject to regulatory scrutiny. It is a Government Sponsored Enterprise or GSE.

This is the ultimate secret control corporation. These corporations receive favorable treatment and special benefits under charters granted by Congress. In a May 12, 2000 Moody’s press release, the credit rating agency touted that these GSEs had “good financial fundamentals, the strong implied Government support of the enterprises, and the competitive advantages they enjoy as a result of their special status”. A special status we would all like to have.

Congress created Fannie Mae in 1938, ostensibly as a vehicle to keep the commercial banks honest. Now that commercial banks had the power to monetize bonds, it was felt that an agency with the GSE advantages could set the benchmark for the commercial bankers to compete against. It would be the mortgage source for the common man.

A generation later, in 1968, when no one was alive who remembered why FNMA came in to being, it was “privatized”. Today, these mortgaged based GSEs exist to create a pool of money in the secondary market for the commercial banks. These agencies issue the bonds, which are then turned into money or monetized as eligible collateral for Federal Reserve Bank discount loans.

These hybrid securities are then eligible for Federal Reserve open-market purchases. They are U.S. Government securities for purposes of the Securities Exchange Act of 1934. Yet, they are exempt from registering under the Securities Act of 1933. If you have followed along the money creation trail with us, you will quickly realize that this capital is then used to buy predefined mortgages from original mortgage lenders. They in turn reinvest that money by making more loans.

Is it any wonder interest rates have fallen so low? The rest of the financial markets view these as U.S. Treasury Securities. They are eligible for unlimited investment by national banks and by federally insured thrifts. Investors have become more market savvy, the demand for these securities has greatly enlarged. Many financial institutions even resell these securities to ordinary depositors as safe and secure widow and orphan type investments. Incidentally, these securities do not have to be registered with the Securities and Exchange Commission (SEC).

This one regulatory pass alone is easily worth billions. Some estimates suggest this exemption is worth $280 million a year to FNMA. As previously mentioned, these agencies are also exempt from paying state or local income taxes. Can you put a value on that? As any small business person could explain, this is an extraordinary advantage. In 1999, this tax exemption reaped an extra $690 million for these private conglomerates. The most troubling exemption is that the capital requirements imposed on other financial institutions are routinely ignored in a GSE environment.

Commercial Banks are thoroughly scrutinized for sufficient pre-established reserve requirements. The GSEs are exempt from this scrutiny. Far from maintaining adequate reserves, Fannie Mae refers instead to a $2 billion line of credit from the U.S. Treasury Department. This advantage means they can have all the capital they need. Fannie Mae is viewed as too big to fail, even if these credit lines were exhausted. This attitude creates even greater financial risk. This is why Fannie Mae’s carelessness threatens taxpayers, not just private stockholders.

Because these agencies are creatures of Government, it should be no surprise that they are sympathetic to the needs of the politically connected. Five of Fannie Mae’s eighteen directors serve at the pleasure of the President of the United States. Is it any surprise that former Government officials populate the halls of these Government sponsored enterprises? Consider the case of Franklin Raines, the former director of the Office of Management and Budget in the Clinton Administration. All of the budget surpluses reported by former President Clinton came with support from this man’s office. He was made CEO of FNMA. His compensation package topped $8 million a year.

Vice Chairwoman Jamie Gorelick was a Deputy Attorney General under Janet Reno. During the FBI files scandal in the Clinton White House, conversations concerning improper requests between the White House and the Justice Department were subjects of hot debate. Gorelick and Jack Quinn, according to depositions, “…had notice of this information and obviously were communicating back and forth.” Ms. Gorelick in her position was hospitable to Jack Quinn and President Clinton’s White House. Ms. Gorelick got a nice space at FNMA. She made over $2 million in her first year on the job. Not bad for a person with no previous experience in housing finance.

Vice President at FNMA, John Buckley was press secretary for Congressman Jack Kemp (R-N.Y.). Vice President Duane Duncan was staff director for Congressman Richard Baker, the Louisiana Republican who chairs the House subcommittee that monitors them. What a convenient arrangement. Lest you figure it’s a one way street, occasionally things go the other way. For example, Fannie Mae has almost two dozen flashy law firms on retainer to help spend $4 million a year lobbying Congress.

The former director of the Congressional Budget Office, Dan Crippen, was a former Fannie Mae lobbyist. Under his tenure, the Congressional Budget Office did an analysis of President Clinton’s budget proposals. In these projections it was assumed that the stock market would yield an average return of 7 percent annually. Many prominent economists assailed these projections, suggesting that a 3 percent rate would have been a far more plausible assumption.

One hand does wash the other. Using the optimistic assumptions provided by the stalwart Mr. Crippen, the books were cooked projecting balanced budgets and a generation of surpluses. These surpluses have of course, vanished, being replaced by deficits as far as the eye can see. Meanwhile, these entities have multiplied their debt by 600 percent since 1992, from $196 billion to nearly $1.5 trillion as of the third quarter of 2002. Yet despite their stated goal of providing a source of mortgage funds for low to moderate income families, these agencies are purchasing fewer loans than the private mortgage market as a whole.

The lawyers at Housing and Urban Development have proposed regulations that would require FNMA to increase their commitment to lower income borrowers. The evidence reveals that these “public service agencies” are buying instead, mortgages that were issued to the middle and upper class borrowers. These mortgages would willingly be bought by any secondary market investors. The benefits Fannie Mae and other GSEs collect from indirect Government subsidies go primarily to their top executives and stockholders, not to the lower income mortgage seeking public and certainly not to benefit the taxpayer. Fannie Mae wants to provide life insurance for its borrowers. They have invested in providing automated underwriting services to lenders.

Because of their Government sponsored advantages, they can offer these services at prices way below the actual cost of providing them. The risks of failure would fall on the taxpayer. In an effort to counter these charges, FNMA has begun to advertise their intention to purchase more lower income mortgages that have a higher default risk. Ultimately, FNMA and other GSEs will end up with a large portfolio of risky loans combined with insufficient capital, a recipe for financial disaster. None of these liabilities are included in the Government’s budget or debt reporting formulas.

A general downturn in economic conditions could send these institutions into insolvency. Fannie Mae will inevitably follow the path of the Savings and Loan bailout. Like the S&Ls, they use short term debt to buy long term mortgages. If the cost of short term borrowing rises, these agencies will quickly be swamped. If history is any indication, investors will continue to lend money in the belief that the Federal Government will step in to protect Fannie Mae. This is precisely the scenario observed during the S&L crisis.

S&Ls lost money due to abnormally high interest rates, but they were kept alive by Federal deposit insurance. Rather than closing, as a private business might do, the S&Ls took on greater risk in order to increase returns, using insured depositors’ money. A 1990 report by the Congressional Research Service stated,

“Deposit insurance meant that depositors had nothing to lose as a consequence of risky lending by thrifts. S&L owners had nothing else to lose as a result of risky lending either. This left the Federal Government as the only party involved that had anything to lose as a consequence of risky lending by the thrifts.”

Wow, did we lose. it seems we never learned the $1 trillion lesson that the Savings and Loan crisis should have taught us. Following the same formula, Fannie Mae is becoming the largest issuer of debt in the country. How much will it cost this time?

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