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Wednesday, October 06, 2010

"The Future of Fannie and Freddie"

Edward Glaeser says Fannie and Freddie should become public companies:

The Future of Freddie and Fannie, by Edward L. Glaeser: In the past, Fannie Mae and Freddie Mac operated as profit-making entities backed by an implicit government guarantee. That toxic combination always seemed designed to lose billions of taxpayer dollars, and that is exactly what happened.
Looking forward, the best option is to replace them with an entirely public entity that enables securitization by guaranteeing 30-year fixed-rate mortgages and that charges a high enough premium to stay solvent. We then should hope that private competitors will eventually put the public entity out of business. ...
The free-market friends of privatizing those entities envision a bold new world where the government no longer stands behind their debt. But if the last three years have taught us anything, it is that the government is not going to sit by and let a major part of the financial system fail.
So ... Fannie-Freddie ... will be bailed out. If the government is going to bear the costs of any future catastrophe, then it might as well ... ensure that the entity is as prudent as possible. Such prudence is far more compatible with a slow-moving public bureaucracy than with a nimble, profit-seeking private company.
The case for keeping Freddie and Fannie public reflects an even deeper problem: wealthy, powerful private companies that are deemed to have public missions find it disturbingly easy to subvert the political process. A century ago, progressives supported public ownership of streetcar lines and utilities because they believed that the owners of those companies had far too much power over local governments. ... Public ownership was seen as a way of limiting the corrupting influence of private money on local politics.
Before the crash, the political clout of Freddie Mac and Fannie Mae was legendary. If they are reformed as private entities, that influence will re-emerge and any attempt to keep them in check will fail. It is far safer to keep them profitless and public. ...
A purely public entity that charges a serious insurance fee would ensure that Americans can still get mortgages. ... Over time, we can then evolve to a healthier model...

I don't have much to add. I agree that a privatized Fannie and Freddie will be bailed out in a crisis, so they have insurance already, implicitly at least. If the companies are made public, the insurance is explicit, and an insurance fee plus regulation can offset the incentive to take on too much risk that the insurance brings about. As for the public versus private question, if there are large losses and the private insurance is insufficient to cover them, the government will have to step in anyway (as it does in natural disasters when private insurance can't cover the losses). Also, the private insurance companies would need to be large making the regulatory capture argument given above persuasive. So I'm not sure the private sector option is viable.

    Posted by on Wednesday, October 6, 2010 at 01:59 AM in Economics, Housing, Regulation | Permalink  Comments (8)


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