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1Center or American Progress | 7 Things You Need to Know About Fannie Mae and Freddie Mac
7 Things You Need to Know AboutFannie Mae and Freddie Mac
By John Griffith September 6, 2012
Exacly our years ago, during he early days o he nancial crisis, he ederal govern-men ook conrol o morgage nanciers Fannie Mae and Freddie Mac hrough a legalprocess called conservaorship. Since hen, he wo companies have required roughly $150 billion in axpayer suppor o say solven, while he governmen has kep hehousing marke aoa by backing more han 95 percen o all home loans made in heUnied Saes.
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Fannie and Freddie remain wo o he larges nancial insiuions in he world, respon-sible or a combined $5 rillion in morgage asses.
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Sill, ew Americans undersand wha Fannie and Freddie acually do or homeowners, wha par hey played in herecen housing crisis, or wha role hey’ll have in he morgage marke o he uure. Onhe ourh anniversary o heir conservaorship, here are seven hings you need o know abou he wo morgage gians.
1. What do Fannie Mae and Freddie Mac do?
Te primary uncion o Fannie Mae and Freddie Mac is o provide liquidiy o he naion’smorgage nance sysem. Fannie and Freddie purchase home loans made by privae rms(provided he loans mee sric size, credi, and underwriing sandards), package hoseloans ino morgage-backed securiies, and guaranee he imely paymen o principal andineres on hose securiies o ouside invesors. Fannie and Freddie also hold some homeloans and morgage securiies in heir own invesmen porolios.Since morgage lenders don’ have o hold hese loans on heir balance shees, hey havemore capial available o make loans o oher crediworhy borrowers. Lenders also havean added incenive o oer sae and susainable producs—namely long-erm, xed-raemorgages—because hey know Fannie and Freddie will likely purchase hem. SinceFannie and Freddie guaranee paymens in he even o a deaul—or a ee, o course—invesors don’ have o worry abou credi risk, which makes morgages a paricularly atracive invesmen.
 
2Center or American Progress | 7 Things You Need to Know About Fannie Mae and Freddie Mac
Under his sysem, morgage credi was coninuously available well ino he lae-1990sunder erms and a prices ha pu susainable homeownership wihin reach or mos American amilies. By he end o ha decade, however, Wall Sree had gured ou how o purchase and securiize morgages wihou needing Fannie and Freddie as inermedi-aries, leading o a undamenal shi in he U.S. morgage marke.
2. What role did Fannie and Freddie play in inflating the housing bubbleof the mid- to late-2000s?
Conrary o conservaive alking poins, he answer is very litle. During he bubble,loan originaors backed by Wall Sree capial began operaing beyond he Fannie andFreddie sysem ha had been working or decades by peddling large quaniies o high-risk subprime morgages wih erms and eaures ha drasically increased he chanceo deaul. Many o hose loans were predaory producs such as hybrid adjusable-raemorgages wih balloon paymens ha required serial renancing, or negaive amoriza-ion, morgages ha increased he unpaid balance over ime.
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 Wall Sree rms such as Lehman Brohers and Bear Searns packaged hese high-risk loans ino securiies, go he credi-raing agencies o bless hem, and hen passed hemalong o invesors, who were oen unaware or misinormed o he underlying risks.I was he poor perormance o he loans in hese “privae-label” securiies—hoseno owned or guaraneed by Fannie and Freddie—ha led o he nancial meldown,according o he biparisan Financial Crisis Inquiry Commission,
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among oher inde-penden researchers.
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In ac, Fannie and Freddie los marke share as he bubble grew: Te companies backedroughly hal o all home-loan originaions in 2002 bu jus 30 percen in 2005 and2006.
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In an ill-aed eor o win back marke share, Fannie and Freddie made a ew ragic misakes. Saring in 2006 and 2007—jus as he housing bubble was reaching ispeak—Fannie and Freddie increased heir leverage and began invesing in cerain sub-prime securiies ha credi agencies incorrecly deemed low-risk. Fannie and Freddiealso lowered he underwriing sandards in heir securiizaion business, purchasing andsecuriizing so-called Al-A loans. While Al-A loans ypically wen o borrowers wihgood credi and relaively high income, hey required litle or no income documena-ion, opening he door o raud (which was oen perperaed by he morgage brokerraher han he homebuyer).
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Tese decisions evenually conribued o he companies’ massive losses, bu all hishappened ar oo lae o be a primary cause o he housing crisis.
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3Center or American Progress | 7 Things You Need to Know About Fannie Mae and Freddie Mac
3. Why did Fannie and Freddie require a taxpayer bailout?
Fannie and Freddie ailed in large par because hey made bad business decisions andheld insufcien capial. Also, unlike mos privae invesmen rms, Fannie and Freddiehad only one line o business—residenial morgage nance—and hus did no haveoher sources o income o compensae when home prices began o all.In 2008 Fannie and Freddie los a combined $47 billion in heir single-amily morgage businesses, orcing he companies o dig deep ino heir capial reserves. Nearly hal o hose losses came rom Al-A loans, despie hose loans accouning or jus 11 percen o he companies’ oal business.
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Bu hose losses were only he beginning: Beween January 2008 and March 2012, Fannie and Freddie would lose a combined $265 billion, more han60 percen o which was atribuable o risky producs purchased in 2006 and 2007.
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By lae summer in 2008—abou a year aer he sar o he housing crisis—Wall Sreerms had all bu abandoned he U.S. morgage marke, while pension unds and ohermajor invesors hroughou he world coninued o hold large amouns o Fannie andFreddie securiies. I Fannie and Freddie were allowed o ail, expers agreed ha hehousing marke would collapse even urher, paralyzing he enire nancial sysem. TeBush adminisraion in Sepember 2008 responded by placing Fannie Mae and FreddieMac ino governmen conservaorship, where hey remain oday.
4. Did affordable housing goals for Fannie and Freddie play any role inthe subprime crisis?
No.In 1992 Congress esablished he “aordable housing goals,” which were numericalarges or he share o Fannie- and Freddie-backed lending ha wen o low-income andminoriy borrowers. For years conservaive analyss have alsely poined o hese goalsas a caalys or he housing crisis, claiming hey pushed Fannie and Freddie o ake onunprecedened levels o risk, creaing a bubble and a bus in he subprime housing mar-ke ha sparked he nancial caasrophe.Ta’s simply no rue. A recen sudy rom he Federal Reserve Bank o S. Louis oundha he aordable housing goals had no observable impac on he volume, price, ordeaul raes o subprime loans during he crisis, even aer conrolling or he loan size,loan ype, borrower characerisics, and oher acors.
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Federal Reserve Economis NeilBhuta reached a similar conclusion in 2009, nding ha he aordable housing goalshad a negligible eec on Fannie and Freddie lending during he housing bubble.
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