Richard X. Bove, Vice President Equity Research at Rafferty Capital Markets, discusses the nationalized mortgage market and how Fannie Mae and Freddie Mac’s profits are going to the Treasury.
This is the Monster
The current issue of the Economist Magazine screams in large red letters on the cover NIGHTMARE ON MAIN STREET. The subtitle is The Horror Underlying America’s Housing Market. In its lead editorial and in a 3 page briefing report, the magazine outlines what this horror is.
“What are the most dysfunctional parts of the global financial system? … if sheer size is your yardstick, nothing beats America’s housing market.”
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… the mortgage system … is very badly capitalized. … It is also barely profitable, largely nationalized and subject to administrative control.
… until America’s mortgage monster is brought to heel, the task of making finance safer will remain only half done.”
The magazine argues that the greatest pool of wealth in the world is American housing which it sets at $26 trillion in value. It speculates that the largest pool of private debt is the mortgage market which has $11 trillion outstanding. It suggests that 65% to 80% of this latter market is controlled by the United States government. In a particularly enlightening paragraph the magazine outlines how detailed this control is.
“There are at least 10,000 relevant pages of federal laws, regulatory orders, and rule books.
… They stipulate the profile of the borrower (a debt-servicing-to-income ratio of more than 43% is a poor lookout) and, indeed, the dimensions of the house (if prefabricated, it must be at least 12 feet, or 3.6 meters, across). They define the documentation required. They specify the design of mortgages; balloon payments (whereby repayment of the principal is pushed back to the end of the loan period) are a no-no, as are some fee structures. They impose rules on counter-parties: mortgage insurers, for example, must have over $400m of assets at hand. Although there are no government quotas for the volume of new loans there are soft targets.”
Fannie Mae & Freddie Mac – Defining the Mortgage Market
Simplifying the issue it may be stated as follows:
- The Federal Reserve
- Sets short term interest rates; and
- Collects seigniorage on the money it manufactures.
- The government insurance agencies provide initial guarantees
- Federal Housing Administration collects fees providing this service, fees which can be given to the government.
- The Veterans Benefits Administration does the same
- Secondary market agencies
- The Government National Mortgage Association buys mortgages outright for its own portfolio; it is wholly owned by the United States government.
- Fannie Mae (FNMA/$1.99/Buy) and Freddie Mac (FMCC/$1.86/Buy) package and guarantee mortgages; all of their profits go directly to the Treasury.
- Other agencies that are wholly operated by the United States government also get involved such as the Farmer’s Home Administration.
The Economist is suggesting that 80% of the home mortgages in the United States go through one of these agencies. The profits are in the hundreds of billions of dollars. The government takes this money for its own use. It also forces Fannie Mae and Freddie Mac to give a portion of their revenues to the government for use by other non-housing agencies as in the Highway Transportation Act.
Socialism Does Not Work
The United States owns and controls the mortgage industry completely. It takes the profits from this business and uses it for general government purposes. An analogy would be how the Venezuelans use their oil industry. They take the industry’s profits and distribute them for other government uses. This is exactly what the United States is doing with the mortgage industry’s profits.
In Venezuela the lack of reinvestment in the oil sector has resulted in a crisis in that country’s ability to generate greater output. In the United States, the confiscation of mortgage profits has resulted in home ownership dropping to the levels of 50 years ago.
Same methodology in both countries equals the same result. The industry providing the profit does not reinvest it in the source of the profit but places the funds elsewhere. Thus, the industry providing the profit shrivels. This is the greater housing crisis that the Economist (the Congress, the court system or the media in this country) has not even thought about.
The National Association of Realtors claims that 28.6% of houses bought in America are by Chinese who may be using cash. The average price of these homes is $832k.