Blame Fannie Mae and Congress For the Credit Mess
And then of course, we're told that Gummint regulation would have kept all bad things from happening. But in the real world, from 2005 on, concerns were repeatedly raised about the Government's own implicit support of derivatives through their GSEs.
Fannie and Freddie dominate the mortgage market, but they don't originate home loans. Instead, they make their money in two major ways. One is conservative: They get a fee for guaranteeing the payments on mortgages they buy, which they then resell to investors, usually in the form of mortgage-backed securities. The more aggressive way is to hold on to the mortgages, assume all the inherent risk, and make money on the spread between their low cost of capital and the higher yield of the mortgage portfolio. (Alan Greenspan would later call this "the big, fat gap.") The more mortgages the GSEs buy, the faster their profits can grow. Since 1995, Fannie and Freddie's holdings of residential debt have grown an average of 20% a year, and together they now carry $1.5 trillion in home loans and mortgage securities on their books--more than the top ten commercial banks combined. Thanks in large part to this growth, Fannie has had double-digit profit gains for the last 17 years--and an average return on equity of 25%. But the GSEs' size has people increasingly worried about what might happen if anything went wrong--and not just to Fannie and Freddie but to the entire financial system.
There is one additional concern: derivatives, which institutions rely on to hedge interest rate risk. Over time, Fannie and Freddie became two of Wall Street's top users of derivatives. Of course, derivatives have their own risks--as America discovered in 1998 when hedge fund Long Term Capital Management blew up--and very nearly brought down the U.S. financial system with it. The idea that its activities might pose a danger infuriates Fannie Mae, which describes itself as "a bulwark of our financial system." For some of its critics, though, Fannie's refusal to acknowledge that its portfolio posed any risk would become the scariest thing of all.
That was written in 2005, BTW.
Anyway, even leaving aside the private market, we can dip into the congressional testimony video where Congress repeatedly shrugged off warnings about what was coming down the road for the supposedly 'regulated' Government Sponsored housing entities.
But our Unicornian Utopian Progressives will continue to tell us if we just leave everything up to Dawd, Fwank and Fwends (again) nothing bad will ever happen.