By: Fan O. Fred (nom de plume for Fannie Mae and Freddie Mac related topics)
September 9, 2015
This blog post is a rework of my blog posting on September 7. This version is written for a different audience and can be reprinted without permission, however I can be contacted at firstname.lastname@example.org.
What is Fanniegate?
Fanniegate is a phrase that pertains to events relating to the Government takeover of Fannie Mae and Freddie Mac. When an issue has the suffix ‘gate’ associated with it, there is usually a suggestion of wrongdoing to the point of being a scandal.
During the height of the financial crisis in 2008, the US Treasury Department implemented a number of initiatives in response to this crisis. This editorial focuses on the actions taken by the Government in 2008 involving Fannie/Freddie and why it has grown into the scandal known today as Fanniegate.
What is Fannie Mae and Freddie Mac?
Fannie Mae is a nickname for a company called Federal National Mortgage Association that was established in 1938 as a part of the US Government. Simply, its mission is to help promote homeownership or the American Dream. Fannie Mae was separated from the Government in 1968 and has been a publically traded company ever since.
Freddie Mac stands for Federal Home Loan Mortgage Corporation and was established in 1970 in order to provide additional resources to expand homeownership. Freddie Mac was never part of the US government and started its life as and publically traded company, which remains the same to this day.
How do the two companies work?
Fannie and Freddie purchase mortgage loans from lenders and then bundle a number of these loans to create a mortgage-backed security. They then either retain or resell that package to institutional investors. This process from homebuyer to bank to Fannie/Freddie to institutional investor is referred to as ‘creating liquidity in the housing market.’
What is an FHA loan and what is Ginnie Mae?
The Government also participates in providing liquidity to the housing market, allowing even more people to buy homes. The Government National Mortgage Association – known as Ginnie Mae – also operates the same type of business as Fannie Mae and Freddie Mac. Government agencies such as the Federal Housing Administration (FHA) and the Veterans Administration (VA) offer governmental assistance programs designed to promote homeownership to certain individuals. Ginnie Mae provides the liquidly in support of these government programs.
What happened to Fannie Mae and Freddie Mac in 2008?
At the time in 2008, banks and other businesses were experiencing financial setbacks resulting in numerous layoffs. Banks reduced or stopped lending money for people to buy homes and the Government forecasted that home loan defaults would increase leading to home foreclosures. Providing that the housing industry represents nearly 20% of the US economy, Government officials in the summer of 2008 were in a panic state wanting to avoid what they feared to be a total collapse of the US economy.
The Government realized that a domino effect might occur with one bank failure leading to another bank failure and that the banking industry failure could lead to other industry failures. Ghosts of the Great Depression, which started in 1929 and lasted a decade, started to haunt Government officials’ minds. In an effort to thwart another depression, the US Department of Treasury and the Federal Reserve Bank worked with the President and Congress on a plan to end or at least lessen the crisis.
One of the actions that the Government took was to take over control of Fannie Mae and Freddie Mac in September 2008.
Why did the US Government “take control” of Fannie and Freddie? Was it legal?
The US Treasury Department, led by Secretary Henry Paulson, developed a plan meant to avert this financial disaster. In hindsight, many experts now believe that Paulson overreacted. Some speculate the overreaction was based on the immediacy of the situation. However, others are more suspicious, viewing Paulson’s actions as deliberate intending to benefit a select number of banking and investment executives. Before joining the Government, Paulson was an executive at a major financial company (Goldman Sachs).
What did happen was Paulson rushed through Congress laws specifically designed to allow him to take the actions he thought necessary at the time. One of these actions was to inject $250 billion into US banks. In October 2008, Paulson summoned the heads of the nine largest banks to Washington and convinced them to accept Government assistance and he wasn’t going to take no for an answer despite many of the banks stating they did not need the cash to continue to operate their business. Paulson viewed the banks as major cogs in the US economic machine and the forced injected cash was the oil he thought necessary to keep the machine running.
But, prior to the forced bank bailouts that started in October 2008, Paulson also forced another part of his plan. In September 2008, Paulson met with James Lockhart to discuss a portion of his plan. Lockhart was the Director of the Federal Housing Finance Agency (FHFA), the federal agency that regulates Fannie and Freddie’s industry. Lockhart had recently provided public assurance that Fannie and Freddie were in stable condition and could make it through the current recession. Incidentally, Paulson also provided Congress and the public with the same assurance regarding Fannie and Freddie’s financial health.
However, shortly after these public, positive endorsements of Fannie and Freddie, Paulson convinced Lockhart to agree to a plan for the Government to take over control of these two private companies. Lockhart resisted at first, but Paulson was determined to have it his way, as usual. Lockhart reluctantly agreed and the Board of Directors for Fannie Mae and Freddie Mac were called to meetings on September 6, 2008 with Lockhart, Paulson and Ben Bernanke, Federal Reserve Chairman.
Official records of these meetings have not been released, but according to comments and actions after these meetings there is reason to believe that the Government coerced the Board Directors of both companies to agree to a takeover – a deal they could not refuse. Some people familiar with the meetings state that the Government threatened to put the companies out of business if they did not agree. Others have speculated that the company executives were threatened with personal criminal charges if they did not agree and were offered personal immunity from charges if they did agree to the plan.
Both companies’ Board Directors needed to provide an immediate decision to the Government’s demand – surrender or be killed… No deliberation…no discussing with other company management…no discussion with company shareholders, whom the Directors represented. Their answers needed to be given immediately. Accept now, or suffer the consequences – both as a business and personally. Both Boards agreed to Paulson’s plan with the records indicating both meetings lasted only one hour.
One hour does not seem like enough time to deliberate handing control of a private company to the federal regulator who had just recently declared the company to be in stable financial health. Comments from company executives and government officials present at the meetings stated there was no real choice. If these claims are true, the Board Directors’ consent was sought through intimidation and provided under duress.
Congress had just recently passed a law that Paulson requested providing authority for the Government to takeover Fannie and Freddie. In order for the Government to takeover Fannie or Freddie, one of several criteria needed to be met. None of the criteria was met except for one: consent of the board of directors. However, the consent needed to be done in good faith. Receiving consent through means of threats and coercion does not qualify as “good faith.” Therefore, if these assertions are accurate, the takeover of Fannie Mae and Freddie Mac was an illegal action by the Government.
The following passage appears on FHFA’s website:
How were the Federal Housing Finance Agency conservatorships established?
Pursuant to authority granted under Housing and Economic Recovery Act and the Safety and Soundness Act, on September 6, 2008, the Boards of Fannie Mae and Freddie Mac both assented to the order of Federal Housing Finance Agency Director Lockhart appointing the Federal Housing Finance Agency as conservator of Fannie Mae and Freddie Mac.
Notice the phrase “assented to the order.” The Board Directors did not approach the Government for help. The Government did not convince the Directors their companies would need assistance. Rather, it appears that the Board Directors were intimidated into making an immediate decision and ultimately assented to the order of the Government. Paulson wasn’t going to take no for an answer.
How is the takeover being managed and how long is it supposed to last?
Congress provided Fannie and Freddie’s regulator, FHFA, the ability to legally assume control of the companies through a process call conservatorship. Both Fannie and Freddie were placed in conservatorship on September 6, 2008 and have been in that state ever since. FHFA acts as the conservator of Fannie and Freddie, effectively managing both companies. However, both companies are still owned by shareholders and both companies’ stock has continuously traded on the stock market since before and after September 6, 2008.
Despite Lockhart and Paulson assuring Congress that they would not place Fannie and Freddie into conservatorship, they did just that. And immediately after Lockhart and Paulson placed the companies in conservatorship they assured Congress that the action would be temporary. Actually, the law allowing for conservatorship (or Government takeover) states that it can only be temporary. Seven years is not temporary…and there is no end in sight…
Did the taxpayers lose money in “bailing out” Fannie and Freddie?
The Government, euphemistically calling itself “the taxpayers” when it describes their actions with Fannie and Freddie, has not lost any money. In fact, “the taxpayers” (which more accurately should be called “the tax collectors”) have made billions of dollars on the takeover of Fannie Mae and Freddie Mac.
We know that Paulson and Lockhart stated the Fannie and Freddie were financially stable up until they were illegally seized. We also know that the management of both companies did not want to be taken over by the Government, as they too believed their companies to be financially solvent without need for unwanted Government interference.
Further, the former CFO for Fannie Mae has stated Fannie Mae did not need a cash infusion from the Government. Additionally, independent accounting experts have reviewed the public financial records of Fannie Mae and have concluded that Fannie Mae did not need financial assistance from the Government.
If Fannie and Freddie did not need a bailout, why did the Government invest billions of dollars into those companies?
Here are the facts:
- Treasury Department injected billions of dollars into Fannie and Freddie – it’s widely reported to be $187 billion, though this figure includes $55B which is money loaned from Treasury to be paid back to Treasury. Therefore, others believe the actual total amount injected to be $132 billion.
- The terms of the payment state that Fannie and Freddie can never repay this money
- Fannie and Freddie have returned $239 billon to the Treasury Department
Again, Treasury injected billions of unneeded funds into Fannie and Freddie. The companies returned $239 billion to the Treasury Department, yet none of that returned money can be used to repay the original debt…sounds unbelievable, but it’s true.
Not to get too technical here, but the money injected by the Treasury was not to cover operating losses, rather it was based on accounting adjustments.
The Treasury deal states that all of the profits of these two private companies will continue to be paid to the Treasury Department…forever.
Many believe the Government takeover was merely a cover for a “back-door” bailout of banks that were failing at the time. Public sentiment against the Government bailing out the banks that caused the financial crisis was high. Some suggest that the money funneled to Fannie and Freddie was all in an effort to ultimately assist failed banks.
With its actions, the Government created an enormous phantom debt – one that wasn’t needed and one that has been repaid — effectively creating unending indebtedness. With its actions the Government has also profited to the tune of billions of dollars. The Government wants this money in part because of the enormous public debt that it has created.
When Fannie and Freddie’s profits increased in 2012, the Government unilaterally changed the terms of their agreement with the companies. This change was the third change or amendment to the agreements and is referred to as the Sweep Agreement. In 2012, the Government made the companies hand over to it nearly all of their quarterly profits (and will be all by 2018) versus what had previously been a fixed rate of return on the injected money. The Treasury Department at the time explained this change was meant to accelerate the wind-down (or put them out of business) of the companies. That was a pretty bold admission considering that the Executive Branch lacks the authority to unilaterally put companies out of business…in other words the action appears to be illegal.
Why did the Government set-up a deal that effectively nationalized (makes them a part of the Government) Fannie and Freddie?
The Treasury has been explicitly clear that their intention was to “wind down” both companies in anticipation that Congress would pass a law to replace the companies. The problems with this plan is a) Treasury lacks the authority to confiscate a private company with the intent of putting it out of business (while reaping huge profits in the process) and b) Congress has not passed a law to replace Fannie and Freddie in the past seven years, nor is it likely that Congress will pass any legislation soon.
Basically, the Government made a mistake. However, the problem is growing because the Government will not admit to making a mistake, fails to correct the mistake and is withholding public records that would clearly identify the mistake.
Why would the Treasury Department and Congress desire to put Fannie Mae and Freddie Mac out of business if they are so successful?
In one word: Politics!
In eight words: To Give the Mortgage Business to Large Banks!
It’s no secret that big banks have influence over many politicians. Banks contribute to politicians – and give them jobs after they leave Washington – in return for those politicians supporting legislation that promote big bank interests. It appears that some banks may want to eliminate a large portion of the financial sector that they do not control – Fannie and Freddie’s business.
What about the shareholders of the companies’ stock? Were they compensated when the Government took over the companies?
No, shareholders were not compensated. Many people lost a large sum of money that they were counting on for their retirement. While the shares still exist and continue to be traded on the stock market, their value is nowhere near the pre-takeover worth of the companies. The Fifth Amendment to the US Constitution states that Government cannot take people’s property without fair compensation. However, that’s exactly what the Government did in Fanniegate.
There appear to be several lawsuits involving Fannie/Freddie and the US Government. What are the lawsuits about?
Several lawsuits have been filed in different jurisdictions resulting from the Government’s actions in Fanniegate. Under review are issues pertaining to the legality of the takeover/conservatorship, the associated financial terms and overall shareholder rights.
Some view the takeover of Fannie Mae and Freddie Mac as a struggle between ordinary Americans, many of who had their retirement funds wiped out, versus an overreaching Government. Many pundits on the side of the Government claim these legal challenges are merely greedy hedge fund managers looking to take advance of the situation.
Our Government is supposed to be “for the people, by the people” but these lawsuits unveil a current Government that is clearly entrenched in their position to win this battle. The developments in many of these lawsuits have added to the frustration in the search for truth and justice. The people’s day in court has been met with: “sorry, you’re in the wrong court” and “sorry, your claim is not ripe (not ready to be heard)” and “sorry, Congress passed a law that says illegal actions by the Government cannot be taken to court.”
In order to understand all of the facts related to the Fanniegate scandal, the lawsuits have asked to review all relevant official public records. Our Government has fought this effort with every legal maneuver possible – including the use of executive privilege –resulting in over 10,000 documents being withheld from public scrutiny. Regardless of who initiated the lawsuits, what should prevail is the rule of law. And until the Government stops hiding behind their fortress of secrecy, the Fanniegate scandal will continue to simmer.
Seven years for these companies to be “temporarily” controlled by the Government is unprecedented and President Obama’s time remaining to resolve this issue continues to run out.