Saturday, February 05, 2005

Atlanta Fed raises possible collapse of home-loan giants

By James Tyson in Washington, Fairfax Digital


A possible failure of one or other of America's home-loan megabanks, the so-called Fannie Mae and Freddie Mac, has been publicly mooted for the first time by senior monetary officials.

The two institutions - household names in the US - have admitted accounting errors totalling $US14 billion ($18 billion) all up. Together they have $US1700 billion of debt and underpin home loans worth more than $US7600 billion. A collapse of either would rock world financial markets.

The failure of Fannie Mae or Freddie Mac would force Congress to rush through a taxpayer-financed bail-out to reduce the threat of "substantial" financial market instability, the Federal Reserve Board's Atlanta branch says. The Congress should deter such disruption by giving a regulator power to close the government-chartered companies and sell their assets in the event of default, the Atlanta Fed says in a report presented at an American Enterprise Institute meeting in Washington by Robert Eisenbeis, the Atlanta Fed's research director. The institute advocates eliminating federal benefits for Fannie Mae and Freddie Mac.
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"It is clear to me they [Congress] would have to engage in a taxpayer bail-out at a great cost to the country as a whole," Mr Eisenbeis told the meeting.

Freddie Mac spokeswoman Sharon McHale declined to comment, as did Fannie Mae spokeswoman Janice Daue.

The Senate Banking Committee and House Financial Services Committee said they planned in coming weeks to consider legislation backed by the Bush Administration that creates a regulator with receivership power over the two largest buyers of US mortgages.

Fannie Mae and Freddie Mac oppose receivership, saying it would provoke doubts among debt investors about their ability to receive their money back in the event of default. Such doubts would increase borrowing costs for the companies and for consumers, they said.

Congress created Fannie Mae and Freddie Mac to expand home ownership by acquiring mortgages from banks with the proceeds from bond sales.

The two institutions enjoy government benefits giving them a borrowing advantage over rivals that averaged 0.4 of a percentage point from 1999 until the first half of 2003, according to a Fed study in December 2003.

The total windfall was between $US119 billion and $US164 billion.

While affirming the companies' safety and soundness, the Office of Federal Housing Enterprise Oversight last year told Fannie Mae and Freddie Mac to raise their reserve capital 30 per cent beyond the required minimum because of accounting errors.

On December 21, Fannie Mae's board ousted chief executive Franklin Raines and chief financial officer Timothy Howard after the Securities and Exchange Commission ruled that the Washington-based company had made mistakes in accounting for contracts designed to protect its more than $US900 billion portfolio of mortgages from swings in interest rates. Fannie Mae has estimated it will have to restate earnings by about $US9 billion from 2001 until mid-2004.

Freddie Mac disclosed in 2003 that it had understated profits from 2000 until 2002 by $US5 billion in an effort to reduce earnings volatility.

The Government needs "to have an explicit, carefully thought through plan" for managing the companies in the event of insolvency, including ranking the order in which different categories of investors would recover their assets, the Atlanta Fed says.

"Uncertainty in the priority of claims is the enemy of market discipline," Mr Eisenbeis said.

With the Office of Federal Housing Enterprise Oversight lacking full authority to resolve a default, such power falls to Congress. This "reinforces the market perception of implied government support" for the companies, the Atlanta Fed says in the report. "The current set-up appears designed more to create substantial spillover effects and force Congress to mitigate the problems by providing the creditors of a failed housing enterprise with a bail-out," it says.

2 Comments:

At 9:16 AM, Blogger Empowerqueen said...

When it all comes crashing down we hope congress changes the process of reclaimation of the assets from aution to this.......www.economicengine.blogspot.com
Your blogs are informative and helpful.
Thank You

 
At 9:20 AM, Blogger Empowerqueen said...

When it all comes crashing down we hope congress changes the process of reclaimation of the assets from auction to this www.economicengine.blogspot.com
Your blogs are informative and helpful.
Thank You

 

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