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Weiss Fires Blanks at Investors

Yesterday, the Treasury Department’s “Counselor” Antonio Weiss came out guns blazing against recapitalizing Fannie and Freddie, but after reading his op-ed, we’ve concluded that Weiss is shooting intellectual blanks.

Full of intellectual dishonesty and false statements, Weiss’ piece in yesterday’s Bloomberg View began by claiming that shareholders want the government to cede control of the mortgage finance companies to private shareholders.

“Cede control?” Mr. Weiss, since when is it unusual for control of a company to rest with its shareholders? That is the way the free market operates. What is unusual is the government’s nationalization of these two companies, which it has effectively done by enacting the Third Amendment Sweep. Weiss’ comments belie a fundamental misunderstanding of free market capitalism, and continue the Treasury Department’s Orwellian disregard for the statute that governs the conservatorship of Fannie and Freddie. The Housing and Economic Recovery Act (HERA) reformed Fannie and Freddie, and it requires the government (specifically the Federal Housing Finance Agency and not Treasury) to act as a conservator of value for private shareholders.

Weiss is also wrong when he says that “recap and release” could raise the cost of mortgages for Americans, and potentially expose taxpayers to another painful bailout. Why would Fannie’s and Freddie’s funding costs go up if they retain their own capital and a government backstop after reforming their businesses? Weiss doesn’t provide any explanation for this claim. Further, it is comical for him or any Treasury official to publicly worry about a taxpayer bailout when it is the Treasury Department’s continued sweep of 100 percent of the companies’ profits that has exposed taxpayers in the first place.

Weiss also reflected on lessons learned about the unworkability of “privatizing gains while socializing losses” and insisted the Administration wants to transition to a system that “provides broad access to housing supported by a sound and robust mortgage market, without exposing taxpayers to another rescue.”

But here is another important lesson the government should have learned: Privatizing losses while socializing gains does not work very well either. Fannie and Freddie have paid taxpayers almost $50 billion MORE than they were ever loaned in the first place. That is a far greater return for taxpayers than any other rescue made by the government during the crisis. And after seven years of conservatorship, no one, including Weiss, has come up with a workable substitute for the time-honored principle that regulated entities should have sufficient capital to bear risk. By vacuuming up Fannie and Freddie’s profits every quarter, the Treasury Department seems to have forgotten this principle.

Weiss delved into some specifics about why “recap and release” wouldn’t create the new world the Administration envisions. He asserts that recapitalization would do nothing to increase access to the housing market for creditworthy borrowers. He reasons that “recap and release” would subject Fannie and Freddie to demands of greedy investors who he implied don’t care about the “duty to serve” part of the GSEs’ mission. But he offers no evidence whatsoever that “investor pressures” have ever undermined those requirements. Plus, he offers no plan of his own to fulfill the government’s “duty to serve” obligations, other than giving Fannie and Freddie’s business away to Too-Big-To-Fail banks.

Weiss disputes the undeniable fact that taxpayers have been fully repaid for the risk they took in the crisis. He accurately points out that Treasury injected $187 billion in capital in 2008 and committed to providing another $258 billion, if needed. But he omits two key facts: First, the companies have paid $239 billion against the $187 billion – for a taxpayer profit of $51 billion. Second, in addition to this profit, the taxpayers own 79% of the common stock through warrants, which, if exercised as part of a recapitalization, would yield an additional $100 billion in profit for the government. There is plenty of private capital – in the form of shareholder value that would be realized in a recapitalization – for Fannie and Freddie to operate. In contrast, it’s not clear where the capital for an alternative platform would come from.

Without providing any specifics, Weiss dreamily envisions a new housing finance market in which private capital would take most of the risk and taxpayer exposure would be limited to an “explicit, appropriately-priced guarantee to ensure against catastrophic risk.” But who will guarantee the nation’s $9 trillion mortgage market? How will affordable housing programs be protected? Weiss offers no details.

There is a way forward: GSE recapitalization, with the sale of common stock from exercising the warrants and proper regulation under HERA, would, in fact, mean that private capital would take most of the risk. Taxpayer exposure can be limited by decreasing the current arrangement to paid-for “catastrophic” levels, and Fannie and Freddie could return to their historic mission of providing affordable housing for all Americans.