Slate business columnist Daniel Gross was online at Washingtonpost.com on March 27 to chat with readers about the Roosevelt-era safety net that is saving the economy from itself. An unedited transcript of the discussion follows.
Daniel Gross: Hi everyone—Dan Gross here, the Moneybox columnist at Slate and Money Culture columnist for Newsweek. Happy to entertain questions on the recent volatility on Wall Street, the candidates' economic plans, and anything else on your mind.
Anonymous: Just a comment, We are ignoring the role that Fannie, Freddie and FHA all played in running up the housing market. Fannie and Freddie were the largest single buyers of subprime MBS, helping to drive that market. FHA continues to lose money, and started the trend toward low or no down-payment lending. It is insane that the House has passed a bill allowing FHA to insure zero down-payment loans—it is the lack of equity and extreme leverage on the part of borrowers and lenders that got us where we are today.
Daniel Gross: There's no question that Fannie Mae and Freddie Mac played a significant role in contributing to the boom—by essentially guaranteeing that they would purchase mortgages that conformed to their standards. And there's no question they did end up with a big chunk of subprime debt on their books, much of which was rated AAA (thank you, credit rating agencies.) But as a total percentage of all assets, subprime was a drop in the bucket at Fannie & Freddie. In addition, while it's easy and popular to bash the two GSEs, it is worth noting that their presence in the marketplace does result in lower interest rates for people who qualify for so-called conforming loans.
Re: the FHA. It has emerged as one of several levers the government is now pushing in an effort to bring some life back to the mortgage market.
Silver Spring, Md.: More of a personal finance question but it ties into some recent trends: I am about to take out loans to pay for business school abroad, after which I'll hopefully repay them on a Euro- or Pound-denominated salary... Should I go with a government-backed Sallie Mae loan, or succumb to the low interest rates of private loans? How stable is the student loans market going to be in the next few years - not very, right?
Daniel Gross: An interesting dilemma, and I'm no way qualified to give advice on something like this. The student loan market isn't particularly stable right now, but that is something that is likely affecting investors and the issuers more than people who are getting MBA programs. When comparing loans, I don't think the source matters as much as the fees, the interest rates, etc.
Chicago: In his commentary on the Federal Home Loan Banks, the author might have confused the action taken this week. The regulatory change allowing "member banks ... to double the number of mortgage-backed securities issued by Fannie Mae and Freddie Mac that they can hold on their books for the next two years," was taken by the Federal Housing Finance Board, which regulates the FHLBs. Thus, the 12 FHLBs were extended this authority, not their commercial bank and thrift members.
Also, as correctly noted, the FHLBs are creatures of Herbert Hoover, not President Roosevelt. Freddie Mac, however, was created in 1970 by the FHLBs and later spun-off as its own entity in 1989. At that time, the FHLB underwent a significant transformation, shedding their regulatory oversight of the thrift industry and emerging as purely wholesale lenders to their member financial institutions, which now include commercial banks and credit unions, as well as thrifts and insurance companies.
When Fannie Mae was created in 1938, it was today's Ginnie Mae, charged only with purchasing government-guaranteed mortgages. The current Fannie Mae, created in 1968, is a publicly-traded, privately-capitalized, profit-making corporation—a corporate form seemingly at odds with the New Deal philosophy.
As these three entities exist today, they are unique examples of quasi-governmental organizations that successfully blend both free-market and liberal attributes to perform their missions of promoting housing finance while generating reasonable profits for their shareholders.
Daniel Gross: Thanks for the comment. And, yes, my sentences on the FHLB could have been more clear. In referring to "member banks" I was referring to the actual Federal Home Loan Banks, not to the private banks that access credit through them.
I agree with everything you say, with the possible exception of the last line about Fannie & Freddie generating "reasonable profits" for their shareholders. Of late, they've been generating truly massive losses, with the possibility of more. And it's worth noting that the market's implicit assumption that the government—i.e. the taxpayers—will stand behind the GSEs should they fail, keeps their borrowing costs low and prevents the type of confidence-draining actions that hampered Bear, Stearns.
Falls Church, Va.: So, does whatever help that the FHLB is providing in this economic crisis make up for the huge damage it did to the economy (and taxpayers) in the S&L crisis? Essentially, it stood by while the industry developed a huge mismatch between loan interest received and deposit interest paid out, and then it failed so badly in the handling of this crisis that a whole new agency (the RTC) had to be created to fix the mess, essentially by spending a vast amount of taxpayers' money.
Daniel Gross: I'm not sure how one would compare the costs of the S&L crisis with today's subprime crisis. There were definitely multiple government agencies involved in both.
Arlington, Va.: What New-Deal style agencies would you suggest setting up today?
Daniel Gross: One possibility would something like a Resolution Trust Corp. (from late 1980s or early 1990s) that would buy up the bad debt and take ownership of foreclosed properties—and work them out or sell them over time, rather than dumping them on the market en masse as is being done today. The way the foreclosure dynamic works in the private sector, there's no way the lenders can handle the sort of one-on-one negotiations necessary to modify mortgages, etc.
Harrisburg, Pa.: If we are going back to the New Deal, might it also be worth noting that if Americans are ready to sacrifice for war that we don't accept tax cuts during wartime?
Daniel Gross: Definitely a point worth noting.
Capitol Hill: Would it be fair to say the housing-market collapse also serves as a sort of market correction? Ultimately as a result of this downturn, real-estate prices will drop, which needs to happen because home prices had been allowed to get too high, leading people to take out excessive mortgages for homes that they couldn't really afford.
Daniel Gross: There's no question that the collapse—which in most markets has been a relatively small decline—is functioning as a needed correction. Prices rose at an unsustainable pace for several years. The problem is that housing—unlike stocks, or other assets—is almost always bought with a huge amount of leverage (i.e. debt), which means that prices only have to fall a small amount in order for people's equity to get wiped out, with all the negative consequences that brings.
Chicago: As your article points out, Fannie Mae was created in 1938 as a government agency. But in 1968, under LBJ, it split into two parts: Ginnie Mae, which remains a government agency, and Fannie Mae, which is a publicly-traded, shareholder-owned corporation. What would FDR think about the current structure of Fannie, under which taxpayers bear the risks, but private shareholders reap the profits?
Daniel Gross: There's no question that Fannie Mae evolved in a way that would have surprised FDR. His preference at the time was obviously for the government to handle this. And this situation in which profits go to shareholders while liabilities revert to the taxpayer probably wouldn't have pleased him.
Boston: Do you see an expanded role for the FHLBanks going forward?
Daniel Gross: I think their role has been expanded a great deal already. Further expansion depends a great deal on how things pan out. Countrywide, as I noted in my article, accessed tens of billions of dollars of credit from FHLB. If Countrywide (or Bank of America, which is about to acquire Countrywide) doesn't make good on that debt, I think there will be widespread calls for FHLB to rein in its activities.
Baltimore: It is my understanding of financial conservatism that the U.S. government is, per our Constitution, only charged with printing money, managing national defense by paying for and managing an army, etc., and the regulatory type functions provided by government that we are discussing here (the government backing bank loans, the government backing student loans, the government managing health insurance through Medicaid and retirement through SSA) are anti-free market and anti-Constitutional.
What would REALLY happen if the government discontinued "big government" as we know it ... ended transfer payments to individuals in the form of SSA payments, food stamp and other welfare payments, discontinued HUD and the Dept of Education (which was a goal of the Contract with America in the 1990s) as well as discontinued all of the regulation of markets which came out of the post Depression era?
Daniel Gross: What would really happen? In a word, chaos! The practices you describe may be anti-free market in some sense, but I don't see them as being unconstitutional.
I don't have much to comment on with today's column...: but just wanted to say I enjoy your writing and always appreciate your ability to break down fairly complex financial issues so they can be understood easier.
Daniel Gross: thanks, mom!
Daniel Gross: Thanks for all the questions!