Yet another part of the “Stuff That’s Not Quite Right In America” series…

As I turned on my computer and saw this headline, “FDIC may borrow money from U.S. Treasury,” glaring at me, I thought, “Wow! This just keeps getting better and better!” [Small hint of sarcasm]. The article on forbes.com stated, in part, that, “Federal Deposit Insurance Corp (FDIC) might have to borrow money from the Treasury Department to see it through an expected wave of bank failures, the Wall Street Journal reported.” Isn’t that just great?

So, let me see if I have all of this right: Fannie Mae and Freddie Mac, you know the government-sponsored-public-private partnerships that you and I are required to financially back via our contributions through the IRS in an enterprise that is able to take on the riskiest of loans without fear of loss because it is all guaranteed by Uncle Sam, are essentially broke because they took on too many risky loans. They also sold many of these loans to other banks that took them, presumably, because they are guaranteed through Freddie and Fanny to be backed by the government. So, the mortgage bubble bursts and banks begin to fail, but that’s OK because they’re just the smaller Mom & Pop banks – Oh. Wait! All, that is, except IndyMac in California… But that’s OK, because there are only a few that failed, right?

Wrong. Though only a few failures have resulted the dollar value has apparently exceeded the $45.2 billion FDIC Deposit Insurance Fund used to repay insured deposits at failed banks has been drained. What this essentially means is, you choose a bank to deposit your money in and then deposit it. The bank takes your money that you deposited and loans it out to other parties and entities in various ways in order to make more money for itself, all the while giving you – the people who make it possible for the bank to make more money in the first place by entrusting them with your money – a small percentage of interest. The bank makes more, likely because it can pool more money together to loan out than you can as an individual. So, then the people or entities default on the loans they took out from the bank – again using your money. The bank loaned them your money and now it no longer has your money because those who took out the loan couldn’t pay it back. So, the bank no longer has your money. It no longer has any money with which to repay those who deposited money there in the first place. This is a problem – especially when it is your money and you show up at the back to collect it, wait in a line for over eight hours and then see the manager put up a sign in the window – from behind locked doors of course – that the bank is closed and will re-open under the control of the Federal government as soon as the FDIC figures out what to do. 

FDIC is the Federal Deposit Insurance Corporation. According to the FDIC website, “The FDIC receives no Congressional appropriations – it is funded by premiums that banks and thrift institutions pay for deposit insurance coverage and from earnings on investments in U.S. Treasury securities. With an insurance fund totaling more than $49 billion, the FDIC insures more than $3 trillion of deposits in U.S. banks and thrifts – deposits in virtually every bank and thrift in the country.” Receives NO Congressional appropriations – that’s good, right? On the surface, yes, but…

Now I’m no economist, but to me this is a bit misleading. FDIC says it “is funded by premiums that banks and thrift institutions pay for deposit insurance coverage and from earnings on investments in U.S. Treasury securities.” [Emphasis mine] This is, I think, a more intelligent sounding way of saying that the banks themselves pay for the FDIC insurance. Here’s where I get confused, I think… “With an insurance fund totaling more than $49 billion, the FDIC insures more than $3 trillion of deposits in U.S. banks and thrifts – deposits in virtually every bank and thrift in the country.” See my point? They have $49 billion to cover $3 trillion. I guess they don’t think it possible for much more than $49 billion to go into default. I hope they’re right, but I think they’re wrong, as evidenced by the very fact that FDIC needs a bailout.

FDIC Chairman Sheila Bair said that with a rise in the number of troubled banks, the FDIC's Deposit Insurance Fund used to repay insured deposits at failed banks has been drained.

“In a bid to replenish the $45.2 billion fund, Bair had said on Tuesday that the FDIC will consider a plan in October to raise the premium rates banks pay into the fund, a move that will further squeeze the industry. The agency also plans to charge banks that engage in risky lending practices significantly higher premiums than other U.S. banks, Bair said.” [Thomson Financial News] This hasn’t been done since the savings and loan crisis in the 1990s.

According to the Wall Street Journal, “The fact that the agency is considering the option again, after the collapse of just nine banks this year, illustrates the concern among Washington regulators about the weakness of the U.S. banking system in the wake of the credit crisis.”

This is the way I see it: Freddie and Fannie get away with doing what they want, investing in riskier loans for increased profits because their original private funding is guaranteed by the government – so why not take the risk. They can then sell those loans to other banks that also understand the risk involved – and the potential payout. If the loans are defaulted on, no problem for Freddie and Fannie – Congress to the rescue! For everyone other than Freddie and Fannie, they count on FDIC. Obviously a problem arises when the FDIC fund is spent and lots more money is needed to stabilize the banks, so FDIC NOT being funded by Congress goes to the Treasury to borrow money. That would be the same Treasury that has to auction off U.S. debt to anyone who is willing to hold it in order to keep the government running. So, now we are at the point to where the agency that insures our banking system – a rather important aspect of the overall economy- is broke and needs a bailout from a Treasury that doesn’t have any money. 

Who will pick up this debt? Who knows? Undoubtedly the lowest bidder. At present, over 25 percent of our entire debt is being financed by foreign interests and of that, over 20 percent is held by the Communist government of China. Suffice it to say that there is indeed a rather high probability that the Chi-Comms will pick up the tab for this one too – at least for now.

With the economy in a shambles, the government rescuing banks from liquidation and the housing market all but collapsed, it might be a good thing that Pelosi and the rest of her minions are on vacation. Seriously. They are the ones responsible for getting us into this mortgage mess in the first place – can you imagine how completely screwed up it will be when they go back to “work” and try to “solve” the problem? I mean, we all know how great the Federal Government is at fixing things and getting stuff done in a timely manner and on-budget. Yeah, right. Budget –a word that nowadays seems even more elusive to our increasingly incompetent representatives in Washington. The sad thing is that when they come back from vacation they will try to fix the mortgage problem. Guess how? Yup! You guessed right! – They’ll just do what they always do and what never works: they’ll more money that the Treasury doesn’t have at a couple of the primary culprits, Freddie Mac and Fannie Mae. 

The more I learn about these two institutions, the more upset I become. I’ll only deal with Freddie Mac in this post, because the two are, for all intents and purposes, identical. The following comes from the Freddie Mac website:

Freddie Mac “is a stockholder-owned corporation established by Congress in 1970 to provide liquidity, stability and affordability to the nation's residential mortgage markets. Freddie Mac raises capital on Wall Street and throughout the world's capital markets to finance mortgages for families across America. Over the years, Freddie Mac has made home possible for one in six homebuyers and more than five million renters.” [Emphasis mine]

“As a government-sponsored enterprise with an important public mission to make housing finance more accessible and affordable, Freddie Mac is unique. We have special responsibilities to the American people. It's incumbent upon us to carry out these responsibilities to the best of our abilities.” [Emphasis mine]

This part of a letter from Richard F. Syron, Freddie Mac's Chairman and CEO is almost comical, in a very dark way, in light of what is going on in the housing market:

“Freddie Mac plays a critical role in financing homes for America's families and providing strength and resiliency to America's economy. I aspire to no greater legacy than to build public trust in an institution chartered by Congress to ensure the stability, liquidity and accessibility of the nation's mortgage markets.” [Emphasis mine]

All of this leads to several concerns.   First and foremost, since when does the Congress actually have the Constitutional authority to charter an institution to ensure the stability, liquidity and accessibility of anything? This is not the function of Congress, it is the function of the market – you remember, the FREE market, where people set prices they think people will pay for stuff they think people will want to buy, all without government rushing in to “fix” things that would balance themselves anyway? As a student of government I was blissfully unaware that the government had any obligation or authority to “raise capital on Wall Street and throughout the world's capital markets to finance mortgages for families across America.” Aha! So, this is how Freddie Mac is simultaneously a stockholder-owned corporation established by Congress as well as a government-sponsored enterprise. Wait a minute – I think I get it! 

Correct me if I am wrong, but my understanding of this example of a “public/private partnership” goes something like this: A bunch of Congressmen and Senators get together with some representatives of banking and mortgage lending special interests [yes, really] and figure out that they can: 1. violate the limitations on governmental authority and scope set forth in the Constitution; 2. Set up a “corporation” with private money and private investors to engage in high risk loans and activities that could potentially turn a tremendous profit, but that no one would be foolish enough to undertake unless, of course, the investment was guaranteed by the Federal Government; 3. Use this new “corporation” as a place to reward their political hack buddies with nice, high paying jobs. Wow! That really takes the risk out of “high-risk” now, doesn’t it?

Of major concern ought to be this: Freddie and Fannie are both a stockholder-owned corporations established by Congress as well as a government-sponsored enterprise. That means they are “run” essentially by the government – worse, the Congress, - and are accountable to no one – just like the Congress. It also means that those investors have no risk, for given the fact that these “corporations” were created by Congress, it stands to reason that they would be the largest monstrosity in the mortgage industry. And, given that fact, if either one collapsed then the entire housing market, and then other segments of the economy, would likely be dragged to the bottom. Get the picture? If you have the capital to invest, theoretically you can’t lose – the Government will not let Freddie or Fannie collapse because they can’t. 

Now, given the fact that the housing market has been in an abysmal state for months, if not years, and seems only to be getting worse, there has been speculation over the last several months about what is to be done to correct the situation. Oh, the Fed, you know – our Soviet-style central bank that all the Founding Fathers except Hamilton warned against - tweaked the interest rates again and then didn’t tweak them again, and we all got some of our money back from our dear friends at the IRS, and guess what? It didn’t work! 

Worse yet, there has been much speculation about the possibility of a Government bailout for these two pillars of socialism. In fact, there was an article in the International Herald Tribune [the international edition of the New York Times]:

“Financial conditions are continuing to worsen at Fannie Mae and Freddie Mac, leading some investors to prepare for a government bailout of the U.S. housing giants even as the Treasury Department and the companies say such government intervention will not be necessary.

"The markets are acting like a bailout is inevitable," said Sean Egan, managing director of Egan-Jones Ratings, an independent credit ratings firm.

Egan said he believed the federal government would need to help pump about $20 billion into each company, possibly through a government guarantee rather than through a direct injection of capital.

"We believe Treasury is going to be forced to act within the next couple of weeks," he added. "Probably some time after Labor Day, when investors are back from vacations so that the bailout has the biggest possible positive impact."”

Calls for a bailout by Uncle Sam! Imagine! For those of you who are not yet sufficiently cynical about this kind of stuff, let me assist you on your way to my happy place: This is a classic example of cronyism. It is special interests making deals with our elected officials who, incidentally know they don’t have to be accountable for their actions because even if they get voted out by an angry electorate, there’s always work at Freddie and Fannie. These two bastions of Government waste and excess cannot be allowed to collapse because there are too many politicians and hacks dependent upon them for their living. Now, here’s the best part – at least if you’re a politician who may be in need of a job come November: “With an implicit promise of federal backing, Fannie and Freddie have borrowed money at low rates and used these funds to purchase and hold large portfolios of mortgages and mortgage-backed securities, now totaling $1.4 trillion.” Did you get that number? In case you didn’t, that was $1.4 trillion, as in $1.4 trillion in addition to the massive deficit we are already carrying that is going to bring about the economic collapse of an economy that was once the most vibrant in the world.

Just to make sure you get the idea, here are some excerpts from a piece called Crony Capitalism Meltdown published 18 July:

“Fannie Mae and Freddie Mac are called government-sponsored enterprises. At times, Congress has seemed a Fannie Mae- and Freddie Mac-sponsored enterprise. The companies spent $200 million on lobbying and campaign contributions during the past decade. They lavished dollars on members of Congress, hired key Washington players for lucrative executive positions and extended the largesse to nonprofits through a charitable foundation and to congressional districts around the country through so-called partnership offices.

For a senator or congressman to get on the Senate Banking or House Financial Services committees was a guaranteed ride on the Fannie and Freddie gravy train. With their sharp lobbying elbows, sometimes it was unclear who was doing oversight on whom.

Whatever the question, the answer in Congress was always forestalling significant tightening of Fannie and Freddie’s operations. After the savings and loan debacle in the early 1990s, the institutions fought off meaningful new regulations. After Fannie was caught cooking its books to the tune of $6.3 billion a few years ago, the institutions still escaped reform. With the subprime mortgage market in meltdown lately, Congress has wanted Fannie and Freddie to assume even more risk.

Fannie and Freddie exist to bolster mortgage lenders — and therefore homeownership — by buying mortgages, guaranteeing them and selling them on the secondary market. With an implicit promise of federal backing, Fannie and Freddie have borrowed money at low rates and used these funds to purchase and hold large portfolios of mortgages and mortgage-backed securities, now totaling $1.4 trillion. In short, the government gets the risk, the executives and shareholders get the profits.

“Unlike many well-capitalized savings and loans and commercial banks,” Alan Greenspan warned in 2004, “Fannie and Freddie have chosen not to manage that risk by holding greater capital.” Why would they, if Uncle Sam is underwriting them? Fannie and Freddie kept Congress from limiting their expansion and from tightening their capital requirements. Instead, Fannie and Freddie have been recklessly undercapitalized at debt-to-equity ratios of 20-1 or more, when Bank of America and J. P. Morgan are at roughly 4-1.”

Good stuff, eh? Are you mad yet? You should be, because when Congress comes back into session after their break you can bet that Pelosi will rally her minions – with little opposition from Republicans, I should think – and have the issue of a massive trillion-dollar bailout on the floor for a vote in record time. Then you and I will be charged with yet another couple of trillion dollars we’ll have to pay off – that is, unless the Chi-Coms lend it to us. You know, this could easily surpass the monumental achievements of this Congress in their previous session – even the whole thing about apologizing for slavery. Big stuff.

And so it is. But why? It just doesn’t make sense to me. A Congress with a %14 approval rating, and Madame Speaker with a 9% approval rating. And the people will re-elect them all. And if they do, the people will get exactly what they deserve. Empty promises, flowery rhetoric, and screwed.