If you're looking to understand today's announcement about the U.S. government swooping in to rescue mortgage agencies Fannie Mae and Freddie Mac, you could start with a New York Times article that appeared on Friday:
The story detailed the problems that China's central bank faces as its investments in the American economy have turned out poorly. In a bid to finance its ongoing industrialization, China has bought some $1 trillion worth of Treasury bonds and debt from U.S. agencies. A lot of that investment has come in so-called mortgage-backed securities issued by Fannie Mae and Freddie Mac.
With Fannie and Freddie (more on them later) in serious trouble, China's central bank has also felt the pinch. At home, Fannie and Freddie's problems look like blocks of foreclosed homes in new developments. For the global economy, they look a lot scarier than that.
"Fannie Mae and Freddie Mac are so large and so interwoven in our financial system that a failure of either of them would cause great turmoil in our financial markets here at home and around the globe," Treasury Secretary Henry Paulson told the nation. "This turmoil would directly and negatively impact household wealth: from family budgets, to home values, to savings for college and retirement. A failure would affect the ability of Americans to get home loans, auto loans and other consumer credit and business finance. And a failure would be harmful to economic growth and job creation."
It's a frightening prospect, for sure, if not a very clear one. You can follow the coverage on this blog and at npr.org/economy. After the jump, we'll provide a quick primer -- 10 links to stories that need reading now.
The News About Fannie Mae and Freddie Mac:
The gist: Advisers to the federal government found the situation worse than they expected. Now the government is booting the top executives of Fannie and Freddie and moving to calm frazzled investors.
- 3). The Giant Pool of Money ($0.95 for This American Life audiobook) (Shorter free one from NPR)
- 4). The Subprime Mortgage Crisis
The gist: From 2000 to 2007, Wall Street sold gajillions in mortgage-backed securities to investors who just couldn't get enough. In order to have enough of those securities to sell upstream to Wall Street, banks gave home loans to people who were iffy bets. When the loans went bad, the market went into crisis -- the subprime mortgage crisis. The housing market fell, taking with it the value of Fannie and Freddie's assets.
So What Are Fannie Mae and Freddie Mac?
The gist: The Federal Home Mortgage Corporation and the Federal National Mortgage Association are members of that rare species known as government-sponsored enterprises, or GSEs. Private shareholders own and run the companies, but they're backed up by the federal government. Fannie Mae was part of the New Deal, a Depression Era move to increase home ownership. Freddie Mac came along in 1970 to create competition.
How Big a Player Is China in Fannie and Freddie?
The gist: China is a really, really big player. The Chinese are the largest holder of Fannie Mae and Freddie Mac bonds -- the official U.S. figure on that tops $420 billion. One economist, Brad Setser of the Council on Foreign Relations, has been obsessively following China's investment in American debt. Setser writes that the real number is much higher: "Based on the pattern of revisions in past surveys and the scale of China's foreign asset growth, I would guess that China now holds between $500 and $600b of Agencies -- or about 10 percent of the outstanding stock." That would be more than 10 percent of China's gross domestic product.
How Much Will It Cost to Bail Out Fannie and Freddie?
The gist: Whatever enormous-sounding number eventually rests at the bottom line, policymakers argue that acting now will be a lot less painful than the consequences of not acting would be later. Just imagine the American economy with severely curtailed access to credit. Slate writer Daniel Gross takes the view that with the U.S. government's pledge to back Fannie and Freddie loans, millions of Americans got relatively good deals on mortgages. Now, he writes, it's time to make good on that promise. "[M]erely by signaling to the markets that it might back the GSEs' debt, the government has, over the past few decades, helped tens of millions of homeowners save some serious money," Gross writes. "Until this week, the cost of this benefit has been effectively nothing--save for some foregone taxes and the cost of regulating the companies."
Has the U.S. Economy Ever Seen the Likes of a Fannie/Freddie Bailout?
The gist: The mechanics are different, but the shock was the same in 1980, when the federal government swooped in to save the Federal Savings and Loan Insurance Corporation. Economist Bert Ely details 15 public policies that set the stage for the S&L implosion -- to the tune of $175 billion in taxpayer money. "The extraordinary cost of the S&L crisis is astounding to every taxpayer, depositor, and policymaker," Ely writes. Bailing out Fannie and Freddie could be much, much cheaper, at least relative to the current overall economy.
Where Can I Learn More?
The gist: Big news organizations like National Public Radio will continue to cover the Fannie Mae and Freddie Mac bailout. At Planet Money, we draw on the expertise of economists like Brad Setser and the blog Calculated Risk. Their work can be dense and difficult -- that's why part of our work is in translating theirs -- but it's worth the attention.