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How big a mess are we in?
Posted by: Lance on Wednesday, July 23, 2008

Certainly not one our Congress can't make worse. We have a market where housing prices are in free fall, where the last thing we want shaky institutions to have more exposure to is mortgages that are almost guaranteed to be at risk.

How shaky an institution? How about Fannie Mae or Freddie Mac, which operate at stratospheric levels of leverage, 40 to 1.

Think about that. The most important financial institutions in our country operate at levels above those that brought Long Term Capital to its knees as a matter of course. That means the slightest mismatch between their assets and liabilities results in massive losses. So, faced with this crisis and the massive, shaky, highly levered institutions which undergird it, what do our leaders do? Let the lovely Megan McCardle take it from here:
The GSEs got into an enormous mess because their special status allowed them to take an unsafe chunk of the market, its executives were rewarded for risk-taking, and its management was excessively entangled with the government, which made it hard for them to say no when the regulators asked them to take on even more loans. Congress's plan is . . . more of the same. Instead of moving to put FM/FM into a more easily understood model—either nationalizing them, or privatising—they're making the GSEs even weirder, and of course, piling on more debt.

It's time for Congress to bite the bullet: nationalize them, or take them private. But keeping pet companies on a leash so that you can use them as a sort of housing market slush fund, while pretending that the liabilities you thereby create don't really affect the government, is the kind of thing one expects to see in a banana republic, not a free and prosperous nation.
How prosperous we will stay with leadership like this is open to question. Note, while House Democrats are decrying the high risk idiocy of our financial leaders (and I won't argue with them) they are telling the GSE's to do the exact kinds of things they have been decrying. In fact, they wanted to give them more leeway to increase risk and debt:
The deal includes several compromises. It would allow Fannie Mae and Freddie Mac to purchase loans of as much as $625,000 in high-cost areas of the country, a lower number than many House Democrats wanted but higher than some Senate lawmakers originally envisioned.
The enormous implications of encouraging the kind of behavior that got us into this in the first place, with government guarantees to stiffen their resolve when they go into the maw of the housing crisis, boggles the mind.
 
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Are housing prices REALLY in a free-fall, mayhap in CA, Las Vegas, and places like that a 30% driop is free fall, but nationally the numbers aren’t anything close to a free fall.
 
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