donsutherland1

The move by the federal government to take over Fannie Mae and Freddie Mac is not really a surprise. The fundamental challenges affecting the two GSEs did not change over the past two months. That the takeover didn't occur until now largely reflects a calculation that an earlier move when market psychology was fragile could have had a destructive impact.

Now, the move might well yield to a situation whereby the market rallies strongly on its first trading day following the news albeit with some exceptions i.e., for the two GSEs and for some firms that might have held a disproportionate amount of shares in either GSE. The persistent uncertainty concerning the two GSEs amounted to a slow-motion cancer that was eating away at confidence in the financial markets. The move to amputate that cancer is not a bad one. If anything, it might reduce the magnitude of taxpayer costs had the move been much delayed.

In my view, once the firms have been stabilized, it would still be useful to break them into pieces and then privatize those pieces. Smaller market players would spread out the risk that was concentrated in two mega firms.

For more details from the Treasury, one can go to: 2008-9-7-11-17-22-17483: Treasury and Federal Housing Finance Agency Action to Protect Financial Markets and Taxpayers

Diogenes

Agreed that they should be privatized. If they are reconstituted in their old form, the only uncertainty will be how long until they crash again.

Onion Eater

There was considerable uncertainty: uncertainty between whether we were moving towards fascism or socialism, as I discuss at http://www.debatepolitics.com/econom...reholders.html (Fascism: Socialism with Shareholders) Nobody seemed to consider the third option, returning to a free market.

I agree (with Diogenes) that Fannie and Freddie should be broken into pieces and then privatized. But I also agree with donsutherland1 that privatizing them is a touchy situation that requires good timing and will not happen all at once. It has taken half a century for GSEs to become so dominate and one cannot expect to be able to just flip a switch and - Presto! Chango! - we've got a free market again. That's a recipe for collapse and collapses have a nasty habit of resulting in totalitarianism, not libertarianism.

donsutherland1

With the immediate uncertainty concerning the timing of the federal government's taking over and placing Fannie Mae and Freddie Mac into conservatorship resolved, U.S. stocks soared. The Dow Jones Industrials rose 290.43 points (2.59%) and the S&P 500 rose 25.48 points (2.05%). Nevertheless, the more difficult work is now commencing.

The road ahead will involve at least a number of critical tasks:

• Immediately addressing Fannie Mae's and Freddie Mac's liquidity needs. The two firms were dangerously undercapitalized leading up to the federal government's move.

• Developing a path toward a gradual deleveraging of the two giant GSEs. Even as it is important that both entities continue to play a central role in the housing market, they will need to chart a course that leads to a healthier balance sheet. That will mean higher quality assets, greater liquidity, and reduced leverage. In my opinion, it would be prudent for both GSEs to focus strictly on working with conforming mortgages and to refrain from the riskier practice of purchasing jumbo mortgages. If they wish to purchase jumbo mortgages, perhaps a mechanism in which they purchase only the share of such mortgages up to the earlier conforming mortgage ceiling should be pursued. That way, the GSEs would limit their exposure to such mortgages and would lead to a spreading of such risk associated with those mortgages.

• Avoiding the temptation to use access to federal funds to promote robust growth in the mortgage industry. Sustaining mortgage market function is imperative. Underwriting aggressive mortgage-related growth is not.

In fact, the U.S. has a real need to reduce outstanding mortgage debt as a share of its GDP. Previously, such debt amounted to under 70% of GDP at its peak. Currently, outstanding mortgages amount to more than 100% of GDP. The least painful way to bring about a material reduction in such debt would be to adopt practices/criteria that lead to growth in mortgage debt lagging overall economic growth. Otherwise, the two GSEs will remain exposed to the risks associated with a broader credit bubble.

The above very general steps could be key to how quickly and thoroughly the troubled GSEs recover. Much risk will remain until that task is accomplished, and it could take several years or longer before the turnaround is successfully engineered. What is certain is that the turnaround needs to be successful. Otherwise, the economy will remain exposed to systemic risk.

Finally, in my view, once the two GSEs have regained financial viability, it would be prudent to break them into smaller entities and then to privatize those entities.

Onion Eater

The Dow falls by 300ish points as often as it rises by that much - I wouldn't read too much into day-to-day stock market fluctuations.

Indeed.

The fact is, we've just got too darned many houses in America now - some of them 30 or 40 miles from the nearest place of employment. Calling home ownership the "American Dream" is fine, but we must also recognize that, for a lot of people (e.g. ones without jobs) it's going to - and must - remain just that: a dream.

There's nothing wrong with living in apartments, you know. In fact, if one can find a nice apartment five miles from work, one's quality of life is actually better than living in a McMansion 40 miles out in the boonies. Not only is one's own commute cheaper and less time-consuming, but it is a heck of a lot easier to get everything from pizza to repairmen when one lives near the center of town.

People need to think for themselves and stop letting the government tell them what their dreams should be. Just because the existence of Fannie and Freddie have bankers are waving mortgage papers under your nose does not mean that you have to sign them. Don't be a sheep!

Very prudent. It's easy for politicians to talk about a transition to the free market but, unless they really mean it, we'll wind up like Poland and other former Soviet satellites that got stuck in the transition period for decades. As one Polish commentator put it, what they needed was not so much an invisible hand to guide them in new ventures as an invisible foot to kick out the massive industries that hadn't been profitable in decades.

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donsutherland1

I don't. I merely wanted to verify my speculation in the opening message in this thread that "...the move might well yield to a situation whereby the market rallies strongly on its first trading day following the news..."

In the larger macroeconomic environment, the fundamentals have not changed materially. Significant headwinds continue to buffet the financial sector and corporate earnings might well come under pressure should real personal consumption expenditures decline later this year and into next year. The drop in oil prices has eased some pressures on that front. A continuing credit squeeze has persisted. Hence, today's big reversal of Monday's rally is not really all that surprising. Furthermore, a challenge to the July 15 lows cannot be ruled out at some point in the coming months.

Mach

It appears to be true that some companies apparently get so large that if they fail, they bring, and could again bring, the entire U.S. market, and potentially most of the international markets, down with it.

It should be within our right, and our belief in our society, for us to accept that, and limit it. If anyone one corporation, a small number of people at the helm, have the power to take down our entire economy or the world economy, - that is too much power. This is supposed to be a society where power is spread out, because the accumulation of power = we are screwed by definition.

That's what was supposed to happen with a democracy, splitting up the power. Why is this not our practice with our markets?

I would argue the reason we don't do that, is probably related to the fact that we don't really have a democracy, it's an oligarchy/plutocracy, that as a result, would not support any limits on it's power (self preservation).

Bear Stearns, Freedie/Fannie...soon to be lehman bros?
Are you kidding me?

These corporations, and the government, are basically BLACKMAILING the citizens. They are too big to fail, we let them get too big, they made their profits over years, and when they fail because they are too big and vulnerable, you will then give them more money so they can continue their rule. (or they cashed out years or months ago and will happily jump to the next ship).

That's what it seems to be to me, what's wrong with my picture?

Please note I believe free markets work wonders, but within a slice of the range they should operate in. At the low end it must be easy to enter the market, and transparent. At the upper end, no single individual in the market should have the power to remove free market forces from itself, i.e. could take the entire market down (that removes ALL forces!), remove competition, etc. Between that range is where it flourishes. At the ends, it can appaerntly, based on economist views, destroy our market.

-Mach

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