Paulson (and Treasury) didn’t absorb Fannie and Freddie to stimulate but to preserve bank mortgage lending. The effect on house prices was not even close to being a factor. He did it to preserve the existing system until Congress decides what to do about it. He did it to bail out the creditors, including a huge chunk the Chinese central bank owns. He did it because otherwise the F&F guarantees of all those mortgage-backed securities (MBS) would be questioned. These MBS would fall in price, and all those institutions that hold them as investments would suddenly have big losses. The dominoes would fall.
The audits showed that F & F were near bankruptcy. Had that occurred, the mortgage market would require a drastic restructuring, because the biggest wholesalers of mortgage-backed securities would be gone. The secondary market would disappear. Banks would have to go back to older methods of holding mortgages or else very quickly start revving up new financing methods (new types of bonds.) The government housing policies would be shown up for the utter failures they are. The Chinese would be very upset and look for another place to invest than U.S. Treasuries and agency (in)securities. Congress would lose one of its prized subsidy toys. The Republicans would look bad.
Paulson had no choice when faced with all these political pressures. Being the company man he is, he could not possibly do the right thing, which is let F&F go bankrupt and let a new system arise. Besides, no new system would arise because the players, all conditioned to the massive government role for 70 years, would sit around waiting or go lobbying to reconstruct the same old thing.
Government has poisoned the housing well for a long time to come.
12:58 pm on September 8, 2008
