Alan Greenspan on the Cause of the Crash

[_Analytics]

[The GSAs] were an important "government sponsored" middleman, so while there were certainly other middlemen, I'm not sure the volume of Freddie and Fannie would have been totally replaced by other private firms.

What we know is this: Investors had trillions of dollars they wanted to lend. Home buyers wanted to borrow trillions of dollars. Masters of the universe at both the GSAs and investment banks thought they could use securitization to turn crappy mortgages into AAA bonds. The sophisticated people buying the bonds believed the masters of the universe could deliver. The private companies that evaulate bonds (i.e. credit rating agencies) believed the masters of the universe could deliver. Sure, Fannie and Freddie had certain competitive advantages, but that doesn’t change the fact that investment banks were just as motivated and capable of doing the same thing, and had competitive advantages of their own.

This article has some figures on the subject (although I think they might overstate the degree to which Fannie and Freddie "led" to the collapse):

http://washingtonexaminer.com/conn-carr ... I8yVGeE5U0

Countrywide was a growing force in the mortgage industry when it partnered with Fannie in 1992. But after Mozilo's firm secured a steady government buyer for their loans, business exploded. Revenues went from $92 million in 1992, to $860 million in 1996, to $2 billion in 2000. By 2004, they were the nation's largest mortgage lender.

The secret to Countrywide's success was no mystery: They shredded standard industry lending practices, giving home loans to virtually anybody who asked. Fannie Mae not only knew this, Fannie rewarded it.

In 2000, the Fannie Mae Foundation honored Countrywide for "Outstanding Achievement" in the industry. The foundation's 2000 annual report noted: "When necessary -- in cases where applicants have no established credit history, for example -- Countrywide uses nontraditional credit, a practice now accepted by [Fannie]."

Countrywide continued to be the biggest supplier of loans to Fannie Mae all the way through the height of the housing boom. In 2004, 26 percent of the loans Fannie bought were from Countrywide. In 2007, that number had risen to 28 percent.

The fact of the matter is people with every level of qualification for a mortgage went to Countrywide. If somebody was well-qualified, Countrywide issued a Fannie or Freddie mortgage. If somebody wasn’t well-qualified, Countrywide would either give them a private-label mortgage, or falsify the application to the Fanne and Freddie. Countrywide’s relationship with Fannie and Freddie doesn’t prove that Fannie and Freddie led the breakdown.

As your own graph shows, the GSA went from controlling almost 100% of the MBS market in 1994 to less than 50% in 2004. As the investment banks successfully securitized crappy mortgages, they began to squeeze the GSAs out of the market. In order to stay relevant, Fannie and Freddie lowered their underwriting standards in order to compete with the low underwriting standards of the investment banks. What the facts imply is that the GSAs weren’t leaders in the problem—they were followers.

This chart shows the breakdown between private suppliers of mortgage backed securities and government backed suppliers:



Obviously the private firms were huge participants, but by 2005, why were Fannie and Freddie needed to sell crap mortgage bonds at all? Fannie Mae has received $170 billion in taxpayer funded bailouts so far, with the total number projected to hit $260 billion by 2016.

Yay for government intervention in the mortgage market!

You are right--there wasn’t a need for Fannie and Freddie to be in the market. As the market success of private-label securities proved, investors were quite happy to loan trillions of dollars to unqualified borrowers without any help from the government.

I’m not a fan of Fannie and Freddie, and the truth is I’d get rid of them. While they were involved in the financial crisis, they were followers and not leaders. The boom of irresponsible lending was primarily driven by private investment banks.

I wouldn't say "simply". Their opinions carried an extreme amount of weight, and investments that were highly rated were assumed to have little (if any) risk. Many investment portfolios such as pension funds had a requirement for a certain rating, so a high rating from the agencies allowed pension funds and other investors to purchase mortgage-backed securities on the assumption that they were safe. At one point, mortgage backed securities were rated as highly as US Treasuries!

That’s all true—along with the investment banks, the rating agencies were primary villains in this for the reasons you described. I’m just emphasizing that the name “credit rating agency” is deceptive—they aren’t agencies of the government—they are nothing more nor less than private enterprises out to make a buck by publishing their opinions on the credit worthiness of securities.