"Why did Congress create Fannie Mae and Freddie Mac"?

Government-Sponsored Enterprises (GSEs): An Institutional Overview is one of thousands of documents recently made available on WikiLeaks. A veritable myriad of Congressional Research Service documents offer startling glimpses into the scale and scope of government intrusion into the free markets.

Why Did Congress Create GSEs?
GSEs were not created for the purpose of expanding home ownership by lower- and middle-income members of the public. Rather, Congress established GSEs "to improve the efficiency of capital markets" and to overcome "statutory and other market imperfections which otherwise prevent funds from moving easily from suppliers of funds to areas of high loan demand..."

The economic rationale for GSEs is the belief that, without such government-sponsored institutions, a critical area of necessary debt financing would be underserved or served inefficiently. Government, according to this rationale, should use some of its sovereign powers (e.g., full faith and credit of the U.S. Treasury) to encourage the development of private financial intermediaries to serve selected markets. GSEs are part of a tradition of mercantilist financial institutions. Government assigns them benefits and privileges in their charters that are not available to fully private corporations. In return, the government limits activities and lines of business of GSEs and requires them to promote selected public policy objectives. As a private entity, a GSE is exempt from federal management and staffing laws, which provides additional operational flexibility.

In other words, the GSEs were yet another example of government thinking it could better engineer the debt market than Adam Smith's "invisible hand", the world of free enterprise.

It's a startlingly stupid proposition, when you stop and think about it, but then this is Congress we're talking about.

Questions for Congress

The CRS report concludes with questions for Congress.

• Are GSEs still needed?
• Should the GSE model be replaced with a different type of entity?
• Should GSEs' subsidies be provided in some other form?

Methinks it will be a long while indeed before the likes of Barney Frank and Chris Dodd, architects of the current financial disaster, get around to answering.

The death spiral of the GSEs will have a direct impact on their campaign contributions. The central flaw of the GSEs -- as even a toddler could have predicted -- is that they turned into Democratic piggy-banks for a litany of well-connected liberals. The GSEs provided hundreds of thousands in campaign contributions to powerful Democrats like Chris Dodd, Barack Obama and John Kerry who, in turn, protected, nurtured and sheltered the bureaucracies.

A Democratic Piggy-bank

From 1998 to 2003, Clinton administration officials like Franklin Raines, Jim Johnson, and Jamie Gorelick paid themselves nearly $200 million amidst a massive accounting scandal at the GSEs.

And it wasn't as though no one had predicted the meltdown of the GSEs. A March 2002 Business Week article ("The Homes Keep Selling") sounded one of many alarms.

...gains in home prices are outstripping wage gains. That creates a gold-rush mentality in which potential homebuyers rush to grab a house as quickly as possible, even if they overpay. And mortgage lenders are willing to oblige, even in the case of buyers who might not have qualified before. ....the aggressive tactics of mortgage lenders have been made possible by the automated underwriting systems developed in recent years by the Federal National Mortgage Association (Fannie Mae)…. [These new systems] allow for higher loan-to-income ratios than in the past to encourage home buying. …but the relaxed ratios could pose serious problems in the future...

Serious problems indeed.

Linked by: Paul Ibrahim.