CEI’s Coalition Letter to Prevent New Bailouts of Fannie and Freddie

As the Dodd-Frank “financial reform” celebrated its fifth anniversary this summer, just about every financial business—as well as many nonfinancial firms—have come under its thumb. This is true whether or not these companies had anything to do with the financial crisis.

Community banks and credit unions that had nothing to do with the subprime mortgage meltdown suddenly found that they couldn’t issue mortgages to creditworthy borrowers, thanks to provisions such as “qualified mortgage” and “qualified residential mortgage” mandates enforced by the Consumer Financial Protection Bureau, the unaccountable new agency created by Dodd-Frank. Stable insurance companies such as MetLife that never faltered during the crisis and served policy holders for decades suddenly found themselves subject to bank-like capital requirements that even liberal Democrats like Sherrod Brown said was inappropriate.

(MetLife is currently challenging the authority of Dodd-Frank’s Financial Stability Oversight Council (FSOC) in a lawsuit. The Competitive Enterprise Institute (CEI) has a separate lawsuit challenging the constitutionality of both FSOC and the CFPB that garnered a partial victory recently in the D.C. Circuit Court of Appeals.)

Yet Fannie Mae and Freddie Mac, the two government-sponsored enterprises that many observers—from American Enterprise Institute scholar Peter Wallison to New York Times business columnist Gretchen Morgenson—say were the proximate cause of the crisis still face no requirement for any type of capital cushion.

Fannie and Freddie were chartered by Congress around 45 years ago as companies with private shareholders but lines of credit with the government. In 2008, Fannie and Freddie were taken into conservatorship by the federal government to prevent them from collapsing. Pursuant to the Obama administration’s 2012 “Third Amendment” to the conservatorship, all of Fannie and Freddie’s net profits have been swept back into government coffers, leaving them with virtually no capital.

This arbitrary action has spawned more than 20 lawsuits from Fannie and Freddie’s private shareholders. The suits charge the administration with everything from violating the Administrative Procedure Act to unconstitutionally taking property without “just compensation,” a violation of the “Takings Clause” of the Fifth Amendment. Richard Epstein—New York University law professor who has championed property rights of everyone from farming and ranching victims of environmental overkill to urban homeowners facing condemnation due to politicians’ declaration of “blight”—calls the Third Amendment a “giant heist.”

But in addition to shareholders, the Third Amendment also leaves taxpayers in the lurch. The profit sweep is leaving Fannie and Freddie with very little capital reserves, and instead the money is being diverted for general government spending and to political housing “advocates” through the Affordable Housing Trust Fund. This stripping of their capital furthers the chance for more taxpayer bailouts of Fannie and Freddie should something go awry with the housing market again.

Fortunately, there is legislation that will at least put the brakes on this sweep of cash and help prevent another bailout of Fannie and Freddie:

H.R. 1673, the “Enterprise Secondary Reserve Taxpayer Protection and Government Accountability Act of 2015,” introduced by Rep. Marsha Blackburn (R-Tenn.). The bill create a reserve fund using profits generated by the GSEs. If Fannie and Freddie experienced significant losses, they could draw down this reserve fund, rather than going back to the Treasury—i.e., taxpayers—for additional resources. Once the government’s conservatorship of Fannie and Freddie ends, the reserve fund would dissolve.

Leaders of 15 Center-Right groups recently signed a letter, put together by CEI and the National Taxpayers Union, urging Congress to “pass H.R. 1673 as a standalone bill or as part of other legislation.”

In the letter, we conclude that H.R. 1673 is only a “first step” to comprehensive reform of Fannie and Freddie.  The bill, we write, “highlights the need for Congress to reduce dramatically the role of government in the housing finance system. In particular, Fannie and Freddie’s government support—implicit and explicit—should be phased out.”

As CEI founder Fred Smith urged Congress in testimony in 2000—to mostly deaf ears—policymakers should “develop a divestiture or breakup plan for Fannie and Freddie.” And in such a plan, as in traditional bankruptcies, the rights of both taxpayers and private investors should be sacrosanct.