Posted By thestatedtruth.com on March 13, 2010

Cumberland Advisors

What Is He Thinking?
March 12, 2010

Bob Eisenbeis is Cumberland’s Chief Monetary Economist. Prior to joining Cumberland Advisors he was the Executive Vice President and Director of Research at the Federal Reserve Bank of Atlanta. Bob is presently a member of the U.S. Shadow Financial Regulatory Committee and the Financial Economist Roundtable.

Chairman Barney Frank may be often misguided when it comes to housing and financial institution policy, but he isn’t stupid.  So why did he begin throwing bombs, first arguing that Freddie and Fannie should be abolished and then last week suggesting that Freddie and Fannie’s subordinated debt might not be federally insured? 

What are the facts?  Freddie and Fannie are currently in conservatorship, and they and FHA are becoming the dumping ground for toxic mortgages.  Current estimates are that they will lose nearly a half a trillion dollars, and that number will likely keep growing.  The Fed is now financing Freddie and Fannie’s issuance of new mortgage-backed securities to the tune of an expected $1.25 trillion and holds about $170 billion in agency debt.  Treasury has made capital infusions into Freddie and Fannie of $127 billion and has stated that it will provide whatever unlimited funds are needed to ensure that they remain solvent.  These institutions are being used as an off-budget and off-balance-sheet way of supporting the mortgage market, outside of the Congressional appropriations process.  Indeed, Treasury’s guarantee was slipped in at the last minute last December, on Christmas Eve, under a 2008 law scheduled to expire at year-end 2009 that permitted the Treasury to change the amount of support provided to Freddie and Fannie without Congressional approval.  Treasury has countered Chairman Frank by reiterating that its support is unlimited.  Finally, in terms of outstanding subordinated debt, the amounts are trivial relative to their total liabilities.  As of year-end Fannie had about $10 billion in outstanding subordinated debt against about $900 billion in liabilities, and Freddie had only $700 million in outstanding sub debt against $800 billion in total debt.

Mostly likely, given his long and deep support for Freddie and Fannie, Chairman Frank is using the tack to accomplish both ends, and the implications for debt markets will prove minimal and short-lived.  Freddie and Fannie are clearly a nasty problem that will come home to bite even more than they have, especially if their mortgage defaults continue to accelerate.  Their business model is flawed, they are costing the taxpayer more and more, and their implosion threatens long-term government housing policy.

Bob Eisenbeis, Chief Monetary Economist

Cumberland Advisors

Categories: Commentary, Economy, Finance, Real Estate, Wall Street
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