Fannie and Freddie ‘ticking time bomb’ for U.S. economy

Fannie Mae, the biggest source of money for U.S. home loans, said last week it will need another $7.8 billion in federal aid following a third-quarter loss of more than $5 billion. As long as Fannie Mae and Freddie Mac are receiving subsidies, say banking experts at Washington University in St. Louis, there exists potential for another economic meltdown.

“What will make the situation worse is that as long as Fannie and Freddie keep receiving government subsidies, the housing market will never reach a sustainable economic equilibrium,” says Anjan Thakor, PhD, the John E. Simon Professor of Finance at Olin Business School.

“The potential for another crisis will continue to be a ticking time bomb,” he says.

Fannie Mae has received more than $112 billion in bailout money from the Treasury Department since being taken over by the government in 2008.

“Unfortunately, there are no two sides to this story,” says Radhakrishnan Gopalan, PhD, assistant professor of finance.

“Housing prices are still declining and defaults are still high,” Gopalan says. “Fannie and Freddie are still financing a very large fraction of mortgages being originated.

“The recent government efforts to make refinancing easier for government-owned mortgages is only going to compound this problem,” he says.

“This is because a number of high-cost mortgages will be refinanced at a lower interest rate, thereby reducing the revenue for Fannie and Freddie,” Gopalan says. “Thus, subsidizing Fannie and Freddie’s losses is another way the government is pumping money into the economy or specifically into the mortgage market.”

Thakor says government subsidies should be gradually phased out over a period of two to five years.

“Eventually these institutions should be privatized and not kept on permanent taxpayer support,” he says. “However, the timing for such a move is hard to prescribe because it depends on a complex interaction of many factors.”