Who's to Blame for the Financial Mess? Not Fannie and Freddie!

Here's a lovely picture of our super heroic former Fed chairman Alan Greenspan. In October of 2008 he testified before Congress that the current 'Great Recession' had caused him to question the narrative underlying his entire life. Must be painful to realize that Ayn Rand was maybe, kinda, sorta WRONG! The market didn't self correct -- it hit a wall, HARD! Without heroic intervention we'd be selling apples on the street. So who's to blame?

Here's my take.

A conservative free-marketer friend sent me an article blaming Fannie Mae and Freddie Mac for the financial meltdown. Ah! How lovely to assign blame so neatly!

Too bad it's objectively untrue.

(Before I begin I must mention that I worked in corporate planning and then investor relations for Fannie Mae for eight years ending in 1993.)

I've heard these blame-Fannie-Mae voices for 20 years. It's hogwash!

I guarantee these people have been screaming bloody murder about Fannie/Freddie and the 'over allocation' of capital to the middle class ever since they graduated as 'legacies' from their Ivy League schools and started managing their parents' money.

Here's what really happened:

The Chinese held down the value of their currency to keep the price of their products artificially low. Sales skyrocketed and the Chinese were awash with dollars -- in unprecedented amounts. Those funds came rushing into the international investment markets -- a market ripe for the picking thanks to a plethora of toxic derivative investments, which had been ginned up by the Wall Street hoi polloi. All this made possible by irresponsible deregulation over the last generation. The influx bid up the price of a whole range of investments including mortgage backed securities. (Also see Credit Default Swaps.)

Here's proof that Fannie and Freddie weren't at the core of this problem: the quality spreads between the 'nonconforming' and conforming [FNM, FRE] had disappeared by the middle of the decade. That is -- the much riskier part of the market (those mortgages lacking government guarantees) traded on par with the conforming market. It was a clear indication that all those investor dollars were chasing a pool of potential investments that wasn't growing fast enough. The higher prices made it ever more profitable to be 'in' mortgages for a whole range of market participants -- primary lenders, mortgage brokers, rating agencies, and investment banks. Fannie and Freddie are partially to blame but they're way down the list.

I forgot where I read it but there's a story that Anthony Mozilo the boss -- and I mean boss -- of Countrywide (the nation's largest mortgage lender) strutted into the chairman's office at Fannie and threatened that if Fannie didn't lower its underwriting standards they would become 'irrelevant' in the market place. Not sure, but it sounds like Fannie blinked and became part of the problem but hardly the driver thereof.

With the secondary mortgage market in tow everyone lowered the underwriting bar to allow for more mortgages to be made -- assuming that prices would never fall across the board. But the influx of easy money brought more home buyers than ever before, which helped create a market bubble. Indeed President Bush himself encouraged the trend saying in his 2004 state of the union address that he hoped America would become an 'ownership' society touting the positive societal impact of increasing home ownership. (Notice I'm not blaming him. He's too stupid to blame.)

Check the press in September of 2008. Way before the facts were available these clowns were saying the same thing -- again: don't believe it!