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Home >> Keeping Your Money Safe
Why Government is Bailing Out Fannie Mae and Freddie Mac
Why is the government using billions of taxpayer dollars to take over Fannie Mae and Freddie Mac? |
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 Banks bring borrowers and savers together to create economic activity. It would be very hard for a borrower to find a saver willing to lend him $300,000 to buy a new home. However, a bank can “pool” the savings of lots of savers who are at no risk of losing money (FDIC insured) and lend the money. Suppose the bank’s supply of savers’ money runs out. That could make it impossible for the bank to make more mortgage loans.
Yet there are other savers and investors who are interested in lending money or investing for mortgages, perhaps in other areas of the country (or other parts of the world). How does the bank tap into that supply? It sells some of its own mortgages to those third-party investors. FNMA and FHLMC (“Fannie Mae” and “Freddie Mac”), which are government-sponsored entities (GSEs), created a marketplace for that purpose, and established mortgage standards designed to create uniformity in the mortgage investments. They have effectively become “middle men” for the continued growth of the mortgage lending market.
But Fannie and Freddie both have to work toward opposing goals – Income for their stockholders and investors on the one hand and maintenance of a pipeline of investment dollars for mortgage loans on the other. When mortgage borrowers began defaulting on their loans, the investors who provide those dollars for the Fannie/Freddie pipeline pulled back, concerned about the rapidly growing risk that their investments might plummet in value.
The takeover took stockholders of Fannie and Freddie out of the picture for now, but put a support under the creditworthiness of Fannie and Freddie so that they can continue to purchase mortgages and securitize them as investment-grade bonds. Without the takeover, the investment community would have written off the GSEs’ obligations as junk, effectively shutting down the pipeline and further mortgage lending.
Published on BankingQuestions.com 9/09/08
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