Posts Tagged ‘Business’

Fatal fall guys : Fannie & Freddie

16 July 2008

USA Federal Reserve & Treasury department had to act twice on a Sunday in last 4 months to stem a free fall on stock markets & thereby try to save financial system in USA & rest of the world from ruinous damage. Or so went the official apology. First it was to stop the collapse of Bear Stearns. Present attempt is to save Fannie Mae & Freddie Mac (FM & FM) – the two largest home mortgage financing giants holding a combined portfolio in excess of USD 5.2 trillion. Imagine State Bank of India or ICICI bank failing & multiply it by may be 100,000 to get a feel for the magnitude of likely disaster. Put another way, the debt exposure of FM & FM is roughly half the combined GDP (USD 12 trillion) of 27 members EU in 2006. They are too big to fail, chime in officials & media, meaning not that they can’t fail, but consequences of their failure are unimaginable. Rescue must be launched whatever it takes.

Like Bear Sterns & several other highly reputed Wall Street banks, was FM & FM too peddling exotic financial instruments termed collateralized Debt Obligations (CDO)? Incidentally not.

Fm & FM are special creatures, created by the act of Congress, & are called government sponsored enterprises (GSE). The debt securities they issue to finance their operations are widely owned by foreign governments, central banks, pension funds, mutual funds, big companies and other large institutional investors. Both the firms have been held by some critiques to be heavily undercapitalized (USD 81 billion) & ultra leveraged (USD 5.2 trillion) riding on the comfort of GSE. While they are chartered to financing home mortgages exclusively based on strict federal lending norms, the borrowings of these firms most believed are federally guaranteed too (implicit guarantees) using taxpayers money. However the ownership of these GSE is in private hands. A well practiced subterfuge wherein the risks are socialized while the profits are privatized. Ethical persons will find this unpardonable & legally exceptionable, but still some argue that the ‘sub prime mortgage bombs’, which have started exploding, were not principally of their making. Rather than being pure perpetrators, they too are largely victims like the rest. FM & FM have become the fall guys they argue in the collateral damage inflicted by the shenanigans in Wall Street (over sub prime crisis) & White House (over Iraqi & M.E. oil). Their failure will be fatal, whatever the cause, even to those who have never heard of them. Impact would be too deep & wide.

Alas, they are too big to rescue. But rescued they must be. A few will fault fed & treasury on that. Yet no one talks of criminally prosecuting & penalizing those who have caused this havoc with no end in sight. There is also a systemic issue central to capitalism to address. So long as profits remains the only motive, unbridled consumerism the only means to reach it, & stock markets the sole criteria of success; the end of this game is unavoidable. Notwithstanding the dangers staring in the face, the great game continues unabashed at the cost of everybody else except the super rich. Spin doctors artfully conceal the truth in the deceptive trail of self serving half-truths & beguiling mumbo-jumbo.

The Fed said that it had made its decision “to promote the availability of home mortgage credit during a period of stress in financial markets.”

“Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies. Their support for the housing market is particularly important as we work through the current housing correction.”

“The Treasury’s plan is surgical and carefully thought out and will maximize confidence in Fannie and Freddie while minimizing potential costs to U.S. taxpayers.”

“This affirmation of the important role of the G.S.E.’s, and that we should continue to operate as shareholder-owned companies, should go a long way toward reassuring world markets that Freddie Mac and Fannie Mae will continue to support America’s homebuyers and renters.”

“I see very clearly that the way to minimize the chance that this facility will ever be called upon will be to take any questions off the table and provide as much flexibility as possible.” – Paulson’s testimony.

“I’m not here recommending putting taxpayer money into these institutions at this time. I am recommending we increase the backup facility temporarily to minimize the chance that the taxpayer will be involved. If you have a squirt gun in your pocket, you may have to take it out, but if you’ve got a bazooka in your pocket, you may not have to take it out.”

See the carefully rehearsed & highly nuanced statements aimed at obfuscating the real issues & portraying the very perpetrators as innocent victims. Crisis in financial systems is passed off as inevitable & spontaneous. Pointed questions about assessed magnitude of ‘tax-payer’ bailout are stonewalled with fear psychosis. All this when havoc has been wrecked on the functioning of world economy & financial system by the greed for profits, more profits, still more profits. Partying that began in 2002 & lasted until mid last year was attended in full strength by commercial, investment & merchant banks; pension, mutual, hedge, & sovereign funds; financial institutions & even famed rating agencies. Prudence & caution were thrown to wind by not only rating agencies, but even regulators & overseers. Even reputed names outside USA (UBS, SG, North Rock etc.) were swooned. Real estate market was hyper inflated by this maniacal euphoria. All on the back of asset backed securitization that allowed endless leveraging.

Home owners sought mortgages,

Mortgages released money,

Money bought real estate,

Real estate represented an asset class,

Asset class after clever mixing was issued as high yielding & low risk securities,

Securities received platinum or super sovereign ratings,

Rated bonds were sold for money to greedy but credulous institutions & funds,

Money thus released chased more mortgages,

Next cycle of revelry began.

– A happy party no reveler wanted to end, or imagined would end. End it did. It always does. A drug-addict reveler ends in hospital on way to jail. A profit-addict reveler survives & thrives with people’s money through government bailouts. This is quintessentially a case of ‘socialist-rescue’ to resuscitate capitalism.