The biggest taxpayer bailout in the history of the United States is inevitable.
The inevitability of a taxpayer-funded bailout of Freddie Mac and Fannie Mae, the hobbled mortgage behemoths, shook investors last week, and shares in both companies plummeted on fears that existing stockholders would be wiped out.
These government-sponsored entities guarantee or hold $5.2 trillion in mortgages and have been hammered by defaults across the nation. Fannie Mae’s shares closed on Friday at $5, down from almost $70 a year ago. Freddie Mac fell to $2.61, which is down from about $65. Their heavily leveraged balance sheets magnify even a small rise in delinquencies.
Irresponsible loans given by government using money guaranteed by the taxpayers of America are defaulting and someone has to lose.
ON its Web site, and in language that only a lawyer could love, Fannie Mae describes some terms of its subordinated debt. For the debt to qualify for capital calculations, it must require the deferral of interest payments “for up to five years if (1) Fannie Mae’s core capital falls below minimum capital and, pursuant to Fannie Mae’s request, the secretary of the Treasury exercises discretionary authority to purchase the company’s obligations under Section 304(c) of the Fannie Mae Charter Act, or (2) Fannie Mae’s core capital falls below 125 percent of critical capital.”
Here’s a translation: A bailout could mean no interest payments on the subordinated debt.
“If we reasonably assume that the Treasury would only intervene in the event that Fannie or Freddie is declared significantly undercapitalized by its regulator,” UBS analysts wrote, “then interest payments on the qualifying subordinated debt is automatically deferred for up to five years.”
Only government can do this – write arbitrary rules stating that if it is irresponsible the rest of us must suffer, since government ultimately draws all its funds from our pocketbooks and bank accounts.
The complex nature of the way government protects its own deals means that no one really understands what is going to happen next. What is certain is that the taxpayers and those foolish enough to invest in Fannie Mae or Freddie Mac stand to lose the most. Even more certain is that the stakeholders (the taxpayers) will not be asked for their opinion when the government makes its move.