Saturday, November 12, 2011

Conn Carroll: Facts show Fannie, Freddie led mortgage market to the collapse

At  The Washington Examiner:

"We are delighted to participate in this historic event, and we are particularly proud that a substantial portion of the $8 billion commitment will directly benefit lower income Americans," Countrywide Financial President Angelo Mozilo said at a July 8, 1992, press conference.
"We look forward to the rapid fulfillment of this commitment so that Countrywide can sign another record-breaking agreement with Fannie Mae," Mozilo finished.
Mozilo's almost 20-year-old quote is relevant again thanks to the uproar New York Mayor Michael Bloomberg caused last week when he criticized Occupy Wall Street's view of the financial crisis.
Bloomberg said, "it was not the banks that created the mortgage crisis. It was, plain and simple, Congress, who forced everybody to go and give mortgages to people who were on the cusp. ... They were the ones who pushed Fannie and Freddie to make a bunch of loans that were imprudent, if you will."
The usual suspects on the left went crazy. The New York Times Paul Krugman called Bloomberg an "ignoramous," citing liberal blogger Mike Konczal's Fannie defense:
"The first thing to point out is that the both the subprime mortgage boom and the subsequent crash are very much concentrated in the private market ... [Fannie and Freddie] were not behind them," Konczal said.
Is Konczal right? Are Fannie and Freddie innocent of causing the mortgage crisis?
This we do know: Thanks to the widespread belief that the federal government would bail them out, Fannie and Freddie were able to borrow money at below-market interest rates.
This gave them a significant competitive advantage over private-sector firms which, by 1992, the two government-backed corporate entities had turned into an almost 70 percent share in the mortgage securitization market.
That same year, at the direction of the Congress, the Department of Housing and Urban Development began setting "affordable" mortgage goals for the agencies.
Countrywide was a growing force in the mortgage industry when it partnered with Fannie in 1992. But after Mozilo's firm secured a steady government buyer for their loans, business exploded. Revenues went from $92 million in 1992, to $860 million in 1996, to $2 billion in 2000. By 2004, they were the nation's largest mortgage lender.
The secret to Countrywide's success was no mystery: They shredded standard industry lending practices, giving home loans to virtually anybody who asked. Fannie Mae not only knew this, Fannie rewarded it.
In 2000, the Fannie Mae Foundation honored Countrywide for "Outstanding Achievement" in the industry. The foundation's 2000 annual report noted: "When necessary -- in cases where applicants have no established credit history, for example -- Countrywide uses nontraditional credit, a practice now accepted by [Fannie]."
Countrywide continued to be the biggest supplier of loans to Fannie Mae all the way through the height of the housing boom. In 2004, 26 percent of the loans Fannie bought were from Countrywide. In 2007, that number had risen to 28 percent.
In his 1993 Nobel Prize lecture, economist Douglass North said, "If the institutional framework rewards piracy, then piratical organizations will come into existence; and if the institutional framework rewards productive activities then organizations -- firms -- will come into existence to engage in productive activities."
From 1992 through the height of the housing bubble, Fannie Mae and Freddie Mac used their monopoly position in the mortgage securitization industry to reward firms like Countrywide for making bad bets in the housing market. Countrywide's success was a signal to other market participants to lower their standards as well.
Wall Street banks are not blameless for the financial crisis. But they were only responding to the incentives set up by the federal government. Ignoring this history will help no one.
Conn Carroll is a senior editorial writer for The Washington Examiner. He can be reached at

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