So we're told that the world faces a financial meltdown unless Congress spends over 700 billion dollars of our money right now to buy up bad debts from financial institutions that never should have made the loans in the first place. It's a terrible idea for several reasons. The taxpayers should not be forced to bail these companies out of loans they agreed to make. Will the taxpayers repay me if I gamble away my savings? The government should not take over the entire loan industry, which would be the effect of its bailing these companies out and then, as they put it, "increasing oversight." More regulations and restrictions and oversight committees equal a larger, more powerful government, with more control over who gets a mortgage and who does not. I don't want Harry Reid and Nancy Pelosi to make the decision on whether I can buy a house any more than I want them deciding whether I can get an operation. Most important of all, free-market capitalism is already overly restricted, and nationalising an entire sector of the market would be a huge move towards Socialism that we cannot afford to make.
How did we get into this mess? The Democrats and other Socialists are blaming the problem on free markets and capitalism run amok, for which the answer is (of course) more government interference. But that makes no sense, if you know the history of the situation. The Federal National Mortgage Association (Fannie Mae) was created in 1938 as part of the New Deal to help more people buy homes. It's not the free market at work. It was technically privatised by Lyndon Johnson in 1968 to remove it from the federal budget, and the Federal Home Mortgage Corporation (Freddie Mac) created in 1970 to expand the business of reselling mortgages. Though they are run as private corporations, they are in fact funded and controlled by the federal government. They operate by buying loans from banks, bundling them together and selling them with the guarantee that they will be paid. They have a line of credit with the US Treasury. The banks are more likely to take risks when loaning money, as they know they can sell those loans to the government. When bundled with other loans, a bad one or two doesn't make that much difference. That works very well as long as the vast majority of loans are made to those who will definitely pay them back -- the only kind of loans banks would normally make, if left alone.
But they haven't been left alone. The Democrats have spent the last seventy years using Fannie Mae and Freddie Mac to push banks into making increasingly risky loans to people who should never have been able to get them. In 1977 President Carter signed the Community Reinvestment Act, which required banks to make sub-prime loans to people in low-income areas, who couldn't afford to pay them back. The process drastically accelerated in 1999, with the appointment of Franklin Raines (Bill Clinton's White House budget director) as its CEO. Jamie Gorelick -- Deputy Attorney General under Clinton and author of the infamous "wall" that prevented the CIA and FBI from sharing information regarding terrorists loose in this country -- served as Vice Chairman of Fannie Mae from 1997 through 2002. The free market would never in a million years have led major banks to give low-interest loans with no money down to people who could not put up the collateral or prove they could pay the loan back. It's not just the poor -- plenty of people have been living way above their means for far too long, and now the proverbial piper must be paid. But in order to continue operating as though they were financially solvent, and in order to guarantee huge bonuses to their officers, those responsible for Fannie Mae and Freddie Mac lied. And those appointed as watchdogs over the two mortgage companies also lied.
Fannie Mae, it turned out, overstated its earnings by $10.6 billion from 1998 through 2004. Franklin Raines was finally fired, and is now a "financial advisor" to Barack Obama. Freddie Mac was discovered to have understated its profit by nearly $5 billion from 2000 through 2002, after which it went through more high-level turnovers than the late Roman Empire. Senator Chris Dodd (D-CT), head of the Senate Banking Committee, received an incredibly sweet deal on his mortgage from Countrywide Financial, from which Fannie Mae buys more loans than any other single company. Coincidentally, former Fannie Mae head Jim Johnson received a similar deal from Countrywide, and decided to step down from his position as advisor to Barack Obama when that became public. Dodd, however, still chairs the committee which writes laws governing the operation of mortgage companies, which is exactly like hiring a fox to guard the henhouse. Dodd has also received $165,400 in campaign donations from Fannie Mae and Freddie Mac over the years.
In 2003, the Bush administration recommended creating "a new agency ... within the Treasury Department to assume supervision of Fannie Mae and Freddie Mac." The weak proposal was shot down by Rep. Barney Frank of Massachusetts, who said bluntly, "I do not think we are facing any kind of a crisis." In 2004, Alan Greenspan warned that the rapid growth of both companies, not based on a solid financial footing but on "cooked" books and falsified earnings statements, would cause a collapse of the financial market. After widespread reporting of the financial scandal in 2005, Sen. John McCain attempted to introduce a bill calling for oversight of Fannie Mae and Freddie Mac, but the bill never made it out of committee. So nothing was done, and now that the housing market has taken a downturn, the investors who bought those bundled loans suddenly found themselves holding either debts they can't collect, or overpriced property they can't resell. But then came the federal government, like a white knight, and re-absorbed both agencies. Now the government is promising to buy up all those bad loans and set everything right. And nearly everyone's acting as though that's a good thing.
Listen, the fact that the government wants to buy up those bad debts does not mean they will go away. Those people still owe that money, only it's the government that's going to own everything when they lose their homes, businesses and properties. The companies from which the government will buy those debts, the banks that made those risky loans in the first place, and Fannie/Freddie executives which bought them up and then sold them as assets, are the only beneficiaries of this buyout deal. If the government bails them out, they will continue to make the exact same mistakes. If we do not allow them to fail now and face the recession that would likely follow, they will inevitably fail a few years from now anyway and cause a worldwide full-blown depression.
On the other hand, the government will have plenty of homes available for tens of millions of new immigrants to buy after amnesty is enacted, with no money down and at low, low interest rates.
30 Sept 08 UPDATE: Read an editorial by Jeffrey A. Miron, a senior lecturer in Economics at Harvard who opposes the idea of the government bailing out mortgage companies.