WASHINGTON (AP) -- The last thing the Bush White House and the rest of the country needed in these economically trying times was another financial crisis. But they got one.
Their default would send shock waves through already distressed financial markets, drive the U.S. economy further into recession territory and make it even harder for people to obtain mortgages or refinance their homes.
Under that dark cloud, politicians of both parties rallied behind the two companies Friday, expressing confidence and calling their role in the housing market essential.
Yet if their financial health continues to deteriorate, the government may have little choice but to take them over or bail them out. Or a combination of both.
The two government-chartered, shareholder-owned companies own or guarantee over $5 trillion of home loans -- roughly half of all the mortgage debt that is outstanding in the United States. Their role has become even more crucial as home prices keep falling and mortgage defaults keep rising.
With stocks of the mortgage giants swooning, President Bush and Treasury Secretary Henry Paulson on Friday sought to ease concerns that Fannie and Freddie were headed for insolvency or a government takeover.
"Today, our primary focus is supporting Fannie Mae and Freddie Mac in their current form as they carry out their important mission," Paulson said. "We are maintaining a dialogue with regulators and with the companies."
A short while later, Bush told reporters that Paulson had briefed him on financial markets and "assured me that he and (Federal Reserve Chairman) Ben Bernanke will be working this issue very hard."
"Freddie Mac and Fannie Mae are very important institutions," Bush said.
The two companies' stocks are now at their lowest levels in 16 years, down 80 percent from just a year ago.
Congress set up the companies to ensure that money for home loans would be available. They buy mortgages, turn them into securities and sell them to investors. They also hold some mortgages in their own portfolios.
Because they were sponsored by the government and deemed to be nearly risk-free, they have been able to borrow money at slightly below-market rates.
"These are companies with a solid business plan. They are fundamentally well-run companies, but are the victims of the broad financial downturn. There's been a huge loss of value there," said Peter Morici, an economics professor at the University of Maryland and former chief economist at the U.S. International Trade Commission. "My feeling is that, as long as they can meet their obligation, they shouldn't be taken over."
Because they were deemed safe, stable and chartered by the government, Fannie Mae and Freddie Mac have less restrictive requirements for cash reserves than other financial institutions. They have no explicit government backing despite their charter, but there was always an assumption that the government would bail them out if necessary.
While most of the mortgages they hold are fixed-rate loans to borrowers with good credit, the housing downturn has been so severe that they have sustained gigantic losses in their loan portfolios due to foreclosures -- about $11 billion over the past few months -- pushing them closer to the financial brink.
And because their stock prices have plunged so far, they are hard pressed to raise fresh capital on their own.
Former St. Louis Fed President William Poole this week said Fannie and Freddie were already technically insolvent.
Under a 1992 law, if either becomes heavily undercapitalized, it can be placed into a "conservatorship," a partial federal takeover.
"There's no good news here for the housing market or for the broader economy," said Mark Zandi, chief economist at Moody's Economy.com.
Zandi said he doesn't think the two mortgage companies are yet at the point of default. "Yet, the pessimism is so dark, it can become self-fulfilling."
There's a range of things the government can do short of a takeover. It could lend money to the two companies, it could buy their stock, it could make the implied government guarantee an explicit one with a big line of credit.
These are the kinds of things, presumably, Paulson and Bernanke will be exploring in the coming days in "working this issue very hard," as Bush said.
Source: http://biz.yahoo.com/ap/080711/mortgage_crisis_analysis.html?.v=2&.pf=loans
