Rescue or folly? Analysts debate Fannie-Freddie takeover (AFP)
13.09.2008 20:10 Finance
The dramatic government takeover announced September 7 has elicited a range of responses, from unqualified praise to criticism that it creates a socialist-style bailout that puts US taxpayer funds at risk.
Some argue US Treasury Secretary Henry Paulson, the architect of the plan, had little choice but to step in to avert a further meltdown of the mortgage market, which would have rippled through the US and global economies.
Economist Richard Berner and his colleagues at Morgan Stanley, a firm that advised the US Treasury on the plan, argue it will help promote a recovery in housing and the economy.
"We believe that this rescue package will help restore confidence among global investors" in mortgage securities, Berner and his colleagues said in a note.
The impact will "likely ease the credit crunch that has so far blunted the stimulative effect of an easier monetary policy and lower interest rates," the Morgan Stanley group said.
"And it would begin to reduce the intensity of the 'adverse feedback loop' that runs from the credit crunch to lower home prices, thus to a weaker economy, an undermining of credit quality and a worsening credit crunch."
"The mortgage market will breathe a sigh of relief. Without Fannie and Freddie buying or guaranteeing 70 percent of new mortgages, the market would be paralyzed," said Sung Won Sohn, a professor of economics and finance at California State University.
"With government backing, the institutions should be able to borrow money at rates close to what the Treasury pays in the marketplace. The mortgage rate should be lower than it would be without the government guarantee."
Under the plan, the former government-sponsored enterprises (GSEs) got government-appointed chief executives and shed their mission of shareholder profit. The Treasury agreed to inject 100 billion dollars (707 million euros) in each if needed.
In what is likely the largest US government intervention in the private sector, the plan effectively adds some 5.4 trillion dollars in potential liabilities from the two firms to the Treasury -- equivalent to the entire federal debt.
Some say the plan may simply put off the day of reckoning.
Greg Mankiw, a Harvard economist and former chairman of President George W. Bush's Council of Economic Advisors, believes the plan is a dangerous gamble.
"I am saddened whenever any private profit-seeking enterprise gets bailed out, whether it is Chrysler, Long-Term Capital Management, Bear Stearns, or the GSEs," he said.
"Such bailouts sow the seeds of the next financial crisis by fostering expectations of future bailouts and encouraging excessive risk-taking."
Nouriel Roubini, a New York University economist who has been warning about a deeper crisis, writes the move "is the most radical regime change in global economic and financial affairs in decades."
"Comrades Bush, Paulson and (Fed chairman Ben) Bernanke have now turned the USA into the USSRA -- the United Socialist State Republic of America," Roubini said.
"Socialism is indeed alive and well in America; but this is socialism for the rich, the well-connected and Wall Street. A socialism where profits are privatized and losses are socialized."
Senator Jim Bunning, who criticized the rescue of Bear Stearns earlier this year, offered harsh words on the latest action.
"This takeover of Fannie and Freddie is a calamity for our free market system. This arrangement just props them up when they should be dismantled," Bunning said.
"By directly investing in the mortgage market, the Treasury Department is acting like it is a hedge fund.... Simply put, it is socialism."
Cary Leahey, senior US economist at Decision Economics, says the takeover is both a blessing and curse.
"It certainly was a bold stroke and one can hope it will mitigate the worst-case scenario for the economy," he said.
"But at the same time it is a boondoggle. An industry that is known for making people rich is getting a lot of help from the federal government."
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