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Privatization of Fannie & Freddie would put taxpayers on the hook, while banks lose the risk.

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posted on Apr, 29 2014 @ 01:35 AM

President Obama's chief economist, Jason Furman, weighed in behind efforts to privatize Fannie Mae and Freddie Mac last week. The main plan on the table is a bill forward by Senators Tim Johnson and Mike Crapo, the chair and ranking member, respectively, on the Senate Finance Committee.

At the moment, it seems Fannie Mae and Freddie Mac are doing their job just fine. They are issuing mortgage backed securities (MBS) that include more than 60 percent of new mortgages. Interest rates on mortgages are low and both companies are making substantial profits that are refunded to the government. Why is there any need to overhaul this system?

The financial industry is of course unhappy with this situation. It sees the money being earned by Fannie Mae and Freddie Mac as money that could be going into its pockets. Of course there is nothing that prevents Goldman Sachs, Citigroup, and the rest from going out and issuing their own MBS right now.

The problem is that they have a really awful track record. Remember the financial crisis? And of course it is especially hard for them to compete with two relatively efficient government-run issuers like Fannie and Freddie.

Johnson-Crapo solves both problems for the industry. First, it shuts down Fannie Mae and Freddie Mac. This means Wall Street no longer has to worry about competing with them. But, Crapo-Johnson does more than just wipe out Wall Street's competition; it also allows banks to issue MBS that carry a government guarantee.

Under Johnson-Crapo, investors would have 90 percent of the price of a privately issued MBS guaranteed by the government. This means that no matter how much garbage Goldman Sachs or J.P. Morgan threw into an MBS, investors wouldn't have to worry about losing more than 10 percent of their investment. After an initial 10 percent loss, the taxpayers would be on the hook for the rest.

Proponents of Johnson-Crapo argue that the risk of losing 10 percent of their investment will ensure the quality of these MBS. Apparently these people are not old enough to remember back to the days of the housing bubble when investors gobbled up MBS issued by the Wall Street banks even though they could in principle lose 100 percent of their investment.

The moral hazard created by Johnson-Crapo, in which private banks get the profit and taxpayers get the risk, virtually guarantees the sort of abuses we saw during the housing bubble years. In fact, if we feel the need to get rid of Fannie Mae and Freddie Mac as government-run companies, it would make far more sense to just get the government out of the MBS market altogether.

I do not have the time to research more on the matter and do not have any knowledge on how US mortgage market works, although this topics seemed suitable for ATS. I would be interested in the opinions of someone who does understand the system better.

Based on this particular article alone, this seems as a really bad legislation to pass. Considering that the system is working well currently and the interest rates are low, privatisation of it is very unlikely to benefit it. Rather it seems, the someone trying to find another way to make easy money without substantial risks on themselves.

A possible 10% is very unlikely to become the motivation of ensuring the quality of the service. Rather it seems, this could be used for wild bets. If there is a 20% chance of an investment doubling it while the maximum loss for the investor is 10%, there are many who would go for it, but would not when they could lose it all. Low probability, high reward bets would become common considering maximum loss is 10%. Considering that tax-payers have to cover the losses, it seems too risky to pass in my eyes, just too much room for potential abuse.

So far, from personal experience, I have yet to see a privatisation of a policy, which makes the costs lower. So far, every single public system here that has been sold out, has substantially risen the costs, while the profits of the new owners have gone sky-high.

edit on 29-4-2014 by Cabin because: (no reason given)

edit on 29-4-2014 by Cabin because: (no reason given)

posted on Apr, 29 2014 @ 03:29 AM
a reply to: Cabin

The privatization is just the continuum in process
-> banksters go broke
--> governement bails then out
-> governement go broke
--> private funds, citizens, pension funds, etc. bails out the governement
-> citizens go broke
--> armed forces step in and quarantee a "decent job" to everybody who obeys the rule.

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