[1]A former U.S. Senator and a former chairman of the Federal Deposit Insurance Corporation (FDIC [2]) have issued a white paper [3] detailing why they believe the Federal Housing Finance Agency (FHFA [4])'s conservatorship of Fannie Mae [5] and Freddie Mac [6] is a barrier to progress in the housing industry and why taxpayers are the ones who are going to pay the price.
In "How the Fannie and Freddie Conservatorship Has Undermined the Resolution Process - April 2015," Bill Isaac, who served as chairman of the FDIC from 1981 to 1985, and Bob Kerrey, who served as a Democratic U.S. Senator in Nebraska from 1989 to 2001, contend that the FHFA's conservatorship of Fannie Mae and Freddie Mac continues after six and a half years despite failing to achieve its objectives of “preserving and protecting the assets and property” of the GSEs and taking necessary actions to put the GSEs in a "safe and solvent" condition.
"With no hope of recapitalizing without extraordinary intervention, the secondary mortgage market remains in a state of suspended animation, lacking private capital, exposing taxpayers to future losses, and raising the cost of mortgage credit and reducing its availability to creditworthy borrowers," Isaac and Kerrey wrote.
Fannie Mae and Freddie Mac required a combined bailout of $188 billion in 2008, at which time they were taken into conservatorship by the FHFA. The government amended the terms of the bailout agreement in 2012, and since then, nearly all GSE profits have been swept into Treasury – a practice which has prompted several lawsuits from GSE investors who claim they are being shortchanged and that the so-called "profit sweep" is unconstitutional. Isaac and Kerrey say the profit sweep violates the terms of the Home and Economic Recovery Act of 2008 and not only ignores the shareholders' rights, but puts the GSEs at risk of another taxpayer bailout.
Isaac and Kerrey contend that the FHFA's conservatorship of Fannie Mae and Freddie Mac was not intended to be a long-term solution to the problem, yet the enterprises are in a "state of limbo" because no end is in sight to the conservatorship.
"Congress and the Administration will eventually decide what to do about Fannie and Freddie, and whether or not these institutions should have any role in the future of housing finance," the white paper stated. "Until that time, the government must follow the law, and not undercut its ability to act decisively in times of crisis."
Further, Isaac and Kerrey write that the profit sweep weakens the resolution process because private parties will not risk their capital if they believe the government can take it away at any time in a conservatorship or bankruptcy.
"Contrary to these rules of the financial markets, the profit sweep had Treasury 'jump the line' of legal priority ahead of Fannie and Freddie shareholders, in direct contravention of FHFA’s legal obligation 11 to respect those stakeholders," the authors wrote. "These actions establish a precedent now that is likely to have a chilling effect on future resolutions, as they undermine the integrity of the resolution process while introducing significant uncertainty into the process in terms of creditor administration."
The authors summarized by saying the profit sweep has prevented the GSEs from raising capital and at the same time put the taxpayers at risk – and it also undermines the government's role in times of crisis.
"If private capital can’t count on the rule of law, it won’t participate in the future and taxpayers will have to pick up the pieces of what’s left of the financial system," Isaac and Kerrey wrote.