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Property Rights of Fannie and Freddie Shareholders—Including Small Investors—Must Be Respected

Today CEI is releasing my new study, “Fannie Mae and Freddie Mac Still Endanger the U.S. Economy.” In it, I discuss two issues that, on first appearance, seem to be in conflict, but in reality, can both be resolved according to free market principles.

These issues are reducing the role of the government-sponsored enterprises Fannie Mae and Freddie Mac in the housing market and ultimately phasing them out, and making sure the property rights of the GSE’s private shareholders are respected.

As I point out in the paper, Fannie and Freddie have long received indirect subsidies from the government even before they were taken taken over and placed into a federal conservatorship in 2008. Many investors took these privileges into account when they purchased shares of Fannie and Freddie before the crisis.

But there occurred a painful irony for these shareholders after the government took a 79.9 percent ownership stake in Fannie and Freddie in exchange for bailing them out. Beginning in 2012, Fannie and Freddie surprisingly began to turn a profit. They would soon pay the government back the entire amount—nearly $200 billion—that it had provided to keep them afloat.

But the shareholders who had bought the GSE stock for a measure of safety (and in the case of community banks, had even been urged to buy the stock by their regulators), saw none of the new profits even after the government was paid back. This is because (also in 2012) the Obama administration promulgated the so-called Third Amendment to the bailout agreement which gave the Treasury Department the right to siphon off 100 percent of the GSEs’ profits in perpetuity.

Private investors should never be guaranteed any type of government bailout. At the same time, however, they should not have their property and contract rights violated, even if their companies received government privileges in the past.

Two wrongs don’t make a right, and many businesses in this mixed economy are subsidized some way. If we start allowing property rights to be violated to make up for subsidies, no shareholders will be safe from having their rights abrogated by the government.

Also, as I argue in the paper, if the mortgage market is seen as a place where the government can violate investor contract rights when things go south, private investors will never come back to replace government entities in mortgage financing.

Those defenders of the Third Amendment profit grab who can’t argue its merits instead assert that it is not a matter of concern because it is mostly hedge funds that are affected. Even if that were true, there is no exception made in the Constitution that allows the government to tread on the rights of investors in hedge funds. And some of the investors in hedge funds include pension funds that serve ordinary workers.

Also, one of Fannie and Freddie’s biggest shareholders are the Fairholme Funds, a group of mutual funds available to all retail investors. They are plaintiffs in one of many lawsuits against this illegal government “taking.” All supporters of property rights and the Constitution should wish these shareholders well in their legal challenges.