Shifting Losses: The Impact of Fannie's and Freddie's Conservatorships on Commercial Banks
Hamline Law Review (Symposium Issue), Vol. 35, p.343, 2012
42 Pages Posted: 19 Apr 2012 Last revised: 27 Sep 2012
Date Written: April 18, 2012
In fall 2008, the Federal Housing Finance Agency (FHFA) placed mortgage giants Fannie Mae and Freddie Mac in conservatorship. As conservator, the FHFA has control over the operations of both companies, but it faces conflicting mandates. On the one hand, the FHFA is tasked with stabilizing the secondary mortgage market and providing access to mortgage credit. Achieving this task encourages Fannie and Freddie to absorb some mortgage-related losses. On the other hand, the FHFA is tasked with returning Fannie and Freddie to financial health. For Fannie and Freddie to return to financial health, they must minimize their losses, perhaps by passing those losses along to commercial banks. This Article examines how the FHFA as conservator resolves its conflicting mandates. The Article examines the FHFA’s key loss-shifting decisions and the impact of those decisions on commercial banks. In particular, it inspects (1) the FHFA’s decision to allow Fannie and Freddie to continue their activity in the secondary mortgage market, (2) the FHFA’s decision to allow the Department of the Treasury to recapitalize Fannie and Freddie in a way that resulted in large losses for holders of Fannie and Freddie stock, and (3) the FHFA’s decision to enforce Fannie’s and Freddie’s rights against sellers of mortgages and private-label mortgage-backed securities.
The Article concludes that as a result of its conflicting mandates, the FHFA has allowed Fannie and Freddie to absorb losses — particularly when those losses would otherwise have been transferred to the large, systemically important banks. In other instances, the FHFA has shifted Fannie and Freddie losses to small community banks. Such loss transfer practices have the potential to cause undue consolidation in the banking industry and exacerbate the problem of financial institutions that are too big to fail.
While such loss transfer practices may be consistent with the FHFA’s conflicting mandates, they are troubling because the FHFA’s decisions are often made behind closed doors with little opportunity for the public to determine whether the FHFA is striking the right balance between its market stabilization and loss prevention goals. This Article urges the FHFA to adopt disclosure practices that will allow the public to evaluate the Enterprises’ loss-shifting policies.
Keywords: Fannie Mae, Freddie Mac, Federal Housing Finance Agency, government-sponsored enterprise, bank, mortgage, securitization
JEL Classification: G21, G28, K23
Suggested Citation: Suggested Citation