Fannie, Freddie Takeover Explained
MELISSA BLOCK, host:
This is All Things Considered from NPR News. I'm Melissa Block.
ROBERT SIEGEL, host:
And I'm Robert Siegel. Here's a passage from one wire-service story about the federal takeover of Fannie Mae and Freddie Mac. The bailout will trigger one of the largest ever payments in the credit default swap market, analysts said. This is the first time a company in the benchmark investment-grade credit derivative index has had a credit event.
I'm reading that to you because, frankly, I would have had an easier time puzzling out a paragraph of Portuguese than explaining what that meant or coming to understand it. And that's true of many statements that I've read or heard about the Treasury's rescue of the mortgage giants. So for those of you who might share a small sense of bafflement at the Fannie, Freddie takeover, our man John Ydstie is here to answer some questions that may pass for basic on Wall Street but not on my street. I won't ask you about what that meant, though.
(Soundbite of laughter)
JOHN YDSTIE: OK.
(Soundbite of laughter)
SIEGEL: But let's start with something more simple. A few weeks ago, the secretary of the Treasury, Secretary Paulson, told us that he needed the authority to do this sort of thing, but he didn't think he'd actually use it.
SIEGEL: It wouldn't be necessary. Assuming that he was sincere and wrong, what happened since then?
YDSTIE: Well, I think, first of all, the housing market continued to deteriorate. It got worse than many people - most people had expected. And as a result, Fannie and Freddie's capital, their cushion against losses in the housing market, got thinner and thinner, so they were looking more and more unstable.
And then foreign investors, including governments, who hold lots of Fannie and Freddie bonds and preferred stock were getting very restless. They had invested in these securities with the belief that the U.S. government would make good on them in a pinch, so the financial credibility of the United States was on the line, and I think it was sort of put up or shut up time.
SIEGEL: Next question, then. The government says it's prepared to put up $200 billion to keep these two mortgage companies going. But the Treasury says that stockholders are not being bailed out. So who is going to get the $200 billion if it comes to that?
YDSTIE: Well, I think - let's start with the bond holders, people who lent Fannie and Freddie money. In a regular bankruptcy proceeding, those people would be the first in line to get their money, but they might only get 10 cents on the dollar. In this case, they're going to be made whole, so they'll get a bailout. The other people being bailed out are the people who bought those mortgage-backed securities that Fannie and Freddie guaranteed. They certainly would have lost money if these companies had failed.
But let's get back to the shareholders. People who own Fannie and Freddie stock will be very badly hurt. The price of their shares have already fallen 90 percent in the market in the past year. They will be deluded even further as the government obtains new shares in the companies, and dividends have been eliminated for them. These stockholders will also have to absorb any losses that might arise before taxpayers take a hit.
So not so good for shareholders, unless Fannie and Freddie manage to weather the storm and become profitable again in the future. But I'll tell you, that could take a long time.
SIEGEL: What about the two CEOs who were sent packing, Daniel Mudd and Richard Syron. Did they get golden parachutes, big compensation packages?
YDSTIE: Well, I'd say they're getting a bailout, too. Yes. They're each getting about $15 million to walk away. Some of that is stock, at least in the case of Mudd. So he could end up with a little bit less.
SIEGEL: Stock at current market value or what it used to be?
YDSTIE: Stock at current market value.
SIEGEL: Not much. What's the ultimate cost to the taxpayer likely to be here, given various scenarios, positive and negative?
YDSTIE: Well, nobody really knows for sure. The Congressional Budget Office took a crack at estimating it back when the Congress was writing legislation on this bailout. With lots of caveats, it settled on an estimate of about $25 billion, but said it could be anywhere from zero to $100 billion. The Treasury says it's now ready to put up $200 billion,but officials don't think that's the cost that it's going to be. It's really there just to convince the markets that they're serious.
SIEGEL: Well, let's say it ends up being somewhere in the $25 to $50 billion range. Where does this one rank in the annals of government bailouts?
YDSTIE: Well, when you look back to the S&L crisis, that cost taxpayers about $125 billion. That's when the government...
SIEGEL: Back when $125 billion was a lot of money...
YDSTIE: Meant something.
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YDSTIE: Right. And they were bailing out 750 savings and loans at the time. That's a lot of money. And this potentially could be that much money, but I think you have to go back to the CBO estimate, maybe $25 billion or so.
SIEGEL: One of the provisions of this takeover is that after increasing their mortgage purchases in the short term, Freddie and Fannie would be forced to shrink their portfolios annually by 10 percent starting in 2010. What's the reasoning there?
YDSTIE: Well, right now, Fannie and Freddie are absolutely critical to the market. They're involved in financing at least two-thirds of the mortgages being issued in the United States right now, and the government wants them to provide even more financing to try to get mortgage interest rates lower, encourage buyers, and try to stop the fall in home prices.
But once things stabilize, they'd like to begin to shrink Fannie and Freddie so they're not so dominant in the market.
SIEGEL: Just to go back to something you said at the beginning, John, you said that foreign governments and foreign banks were among the people holding the debt of Fannie and Freddie, who were getting very anxious. Is this a case of, among others, the Chinese saying, time for you, Washington, to live up to your long, implicit guarantee? We don't want to be left holding the bag with a bunch of worthless securities?
YDSTIE: I think that's absolutely right. And we have seen the Chinese quoted saying almost as much, that it was time for the United States to step up to its obligations.
SIEGEL: John, thank you very much.
YDSTIE: You're very welcome, Robert.
SIEGEL: That's NPR's John Ydstie.