The mis­ad­ven­tures of Fan­nie and Fred­die

Cecil Whig - - OPINION - Ge­orge Will

— Gi­gan­tic gov­ern­ment’s com­plex­ity and opac­ity pro­vide in­nu­mer­able op­por­tu­ni­ties for op­por­tunists to act un­con­strained by clear law or ef­fec­tive su­per­vi­sion. To­day’s ex­am­ple, in­volv­ing the gov­ern­ment’s ex­pro­pri­a­tion of hun­dreds of bil­lions of dol­lars, fea­tures three sets of un­sym­pa­thetic ac­tors — a grasp­ing fed­eral gov­ern­ment, a few hedge funds nim­ble at ex­ploit­ing the co-min­gling of gov­ern­ment and the pri­vate sec­tor, and two anoma­lous in­sti­tu­tions that should never have ex­isted.

The two are the “gov­ern­ment-spon­sored en­ter­prises” (GSEs) Fan­nie Mae and Fred­die Mac. This mad­den­ingly com­plex story il­lus­trates the toll the ad­min­is­tra­tive state takes on the rule of law.


The two fed­er­ally char­tered but pri­vately owned GSEs, which guar­an­tee 80 per­cent of Amer­i­can mort­gages, were cre­ated be­cause Wash­ing­ton wanted to en­gi­neer — what could go wrong? — more home­own­er­ship than mar­ket forces would pro­duce. What could go wrong did, and in 2008 the two GSEs floun­dered. In Septem­ber 2008, the gov­ern­ment res­cued them with $187.5 bil­lion and placed them in con­ser­va­tor­ship, which is sup­posed to be tem­po­rary and re­ha­bil­i­ta­tive. A con­served en­tity should be re­turned to nor­mal busi­ness in pri­vate own­er­ship.

Fan­nie and Fred­die have re­cu­per­ated prof­itably. They also have been na­tion­al­ized.

The gov­ern­ment’s orig­i­nal res­cue terms were for Fan­nie and Fred­die to pay a stiff div­i­dend on the bailout funds — 10 per­cent, amount­ing to $4.7 bil­lion per quar­ter. Then, how­ever, the Trea­sury Depart­ment was told of the GSEs’ strong re­cov­er­ies. Ac­cord- ing to doc­u­ments re­cently un­sealed, on Aug. 9, 2012, Trea­sury was told that the GSEs’ prospects were for strong prof­itabil­ity, re­quir­ing no fur­ther gov­ern­ment as­sis­tance. Eight days later, Trea­sury ne­go­ti­ated with the GSEs’ con­ser­va­tor, the Fed­eral Hous­ing Fi­nance Agency (FHFA), for an as­tound­ing re­vi­sion (called “the third amend­ment”) of pol­icy: In­stead of the agreed-upon div­i­dend, and al­ready en­joy­ing a right to 80 per­cent of the GSEs’ prof­its, the gov­ern­ment would get 100 per­cent for­ever, far ex­ceed­ing the size of the orig­i­nal bailout.

So, the gov­ern­ment (Trea­sury) ne­go­ti­ated with it­self (FHFA) to achieve a wind­fall for it­self. And the con­ser­va­tor aban­doned its duty to safe­guard the as­sets of the en­ti­ties in con­ser­va­tor­ship.

The gov­ern­ment claims it changed the terms in or­der to avoid any need to give the GSEs ad­di­tional funds to pay the 10 per­cent div­i­dend on funds al­ready re­ceived. This claim, how­ever, is not cred­i­ble, given what and when the gov­ern­ment knew about the GSEs’ prof­itabil­ity.

Af­ter the gov­ern­ment “ne­go­ti­ated” with it­self for the GSEs’ prof­its, the value of their shares cratered. Some hedge funds bet that the gov­ern­ment’s trans­for­ma­tion of the GSEs into a rev­enue stream for it­self would not sur­vive ju­di­cial scru­tiny. They added to the GSEs’ shares they had bought be­fore the “third amend­ment” when they mis­tak­enly trusted the gov­ern­ment to act prop­erly as a con­ser­va­tor. They pur­chased ad­di­tional shares for pen­nies on the dol­lar.

Le­gal scru­tiny has ar­rived in the form of law­suits with enor­mous stakes. One hedge fund stands to make $7.5 bil­lion if the gov­ern­ment is found to have un­con­sti­tu­tion­ally taken pri­vate prop­erty with­out com­pen­sa­tion.

A fed­eral judge has sided with the fed­eral gov­ern­ment. (See a pat­tern here?) He made the “ut­terly as­tound­ing” (New York University law pro­fes­sor Richard Ep­stein’s char­ac­ter­i­za­tion) judg­ment — “with­out al­low­ing any dis­cov­ery about the un­der­ly­ing facts” (Ep­stein) — that a fidu­ciary (FHFA) can take pri­vate as­sets of the fidu­ciary’s sup­posed ben­e­fi­cia­ries and trans­fer them to the gov­ern­ment. Ep­stein ex­pects a higher court “to de­cide that gov­ern­ment con­ser­va­tors, like pri­vate con­ser­va­tors, can­not loot the cor­po­ra­tions whose share­hold­ers they are sworn to pro­tect.”

Many in­di­vid­u­als and com­mu­nity banks in­vested in Fan­nie and Fred­die in good faith and have been in­jured by the gov­ern­ment’s profit con­fis­ca­tion. Granted, a few wealthy peo­ple would be­come more so from ju­di­cial in­val­i­da­tion of the “third amend­ment.” This, how­ever, is at most an ar­gu­ment against cre­at­ing the moral haz­ard in­her­ent in GSEs. It is not an ar­gu­ment for al­low­ing the anoma­lous na­ture of these in­sti­tu­tions to jus­tify law­less dis­cre­tion by a gov­ern­ment as self-in­ter­ested as those who would profit from re­strain­ing the gov­ern­ment with law.

Af­ter the Revo­lu­tion­ary War, many state debts were bought by spec­u­la­tors at steep dis­counts from the orig­i­nal pur­chasers, who feared that the states would not pay face value. The buy­ers, how­ever, wa­gered cor­rectly that the fed­eral gov­ern­ment would as­sume the debts and pay at par in or­der to es­tab­lish the na­tion’s cred­it­wor­thi­ness. Alexan­der Hamil­ton suc­cess­fully ar­gued for as­sump­tion. Thomas Jef­fer­son and his al­lies re­luc­tantly ac­qui­esced in ex­change for a more south­ern lo­ca­tion for the na­tion’s new cap­i­tal.

Which is why Wash­ing­ton is where it is. Fan­nie’s and Fred­die’s mis­ad­ven­tures il­lus­trate why Wash­ing­ton is what it is.

Ge­orge Will is a syn­di­cated colum­nist. Con­tact him at georgewill@wash­

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