The $187 Billion Fannie-Freddie Bailout Is a Big Half-Lie

Real money talks. It says the oft-repeated meme about Fannie Mae and Freddie Mac—that they ran a, “failed model of private gains and public losses that once forced taxpayers to write a $188 billion bailout check”—is a big fat lie.  If I wrote the Fact Checker column for The Washington Post, I would assign four Pinocchios to the above quote by Sens. Bob Corker and Mark Warner.  The claim is indefensible because the so-called losses, which triggered the so-called bailout, were bogus. Those massive non-cash accounting provisions, booked for fiscal years 2008-2011, were reversed by the end of 2013. Absent those illusory losses, the bailout of both companies would have approximated zero. Which is why the GSE business model never, “forced taxpayers to write a bailout check.”

There is no room for debate on this point. One can argue that the initial over-inflated provisions, booked under the auspices of GSEs’ regulator, were fraudulent. Or one might presume that the non-cash provisions were initially calculated in good faith and later corrected. (Though $130+ billion in loss reversals, booked within an 18-month timeframe in the absence of restated financials, seem highly suspicious.) But no one, at least no one who is qualified to discuss the matter—meaning no one lacking a good grasp of the rules of accrual accounting for financial institutions—can argue that the initial “losses” were real. They were as illusory as the evidence of Saddam’s nuclear weapons lab.

The private-gains/public-losses lie is deceitful in other ways. It ignores the substantial public benefits provided by the GSEs. For decades now, Fannie and Freddie have stabilized one of the world’s largest credit markets, simply because their loan performance is vastly superior to anyone else’s. (Comparative loan performance is a verboten topic among most GSE critics.) And in the wake of private market failures over the past few decades, most recently with the collapse of the private label securitization market, the GSEs liquefied the mortgage market the way no one else could.

Yet the private-gains/public-losses lie is still repeated endlessly by the Department of Treasury, by the Republican Party, and by the usual suspects affiliated with conservative think tanks. It is echoed in the Lex column of The Financial Times and, of course, on the editorial page of The Wall Street Journal.

The private-gains/public-losses lie is usually presented in the guise of opinion or analysis. Whereas the so-called  $187 billion bailout of Fannie and Freddie is often cited without further clarification in the context of news reporting. This is a dangerous half-lie, which showed up recently in The Wall Street Journal, CNNMoney and The New Yorker. First, it fails to mention the spurious pretext for the initial bailout. Second, it fails to mention that the taxpayer draws were fully repaid, or that, so far, another $60+ billion in cash and equity has been drained out of the companies. I would assign this half-lie three Pinocchios.

The big half-lie about the $187 billion bailout, like the big lie about private-gains/public-losses, leaves the false impression that Fannie and Freddie operated a failed business model and/or they were mismanaged. These two deceptions are also used to attack lawsuits alleging that the government’s decision, to drain all cash and equity out of both companies in perpetuity to make sure that preferred and common shareholders never recover a nickel, was illegal.

The Washington Post editorial board is a big booster of both deceptions.  The board was incensed at the idea that the companies, “could exit the regulatory control known as ’conservatorship’ that has constrained them since 2008 — and resume bundling home loans and selling them, as if it had never been necessary to bail them out to the tune of $187 billion in the first place.” The Post invoked a half-lie written by columnist Robert Samuelson, who misled readers into thinking that $241 billion in GSE profits forwarded to Treasury were disconnected from the loans booked before 2008. Those same loans ostensibly triggered $200 billion in losses during 2008-2011 and then suddenly earned $130+ billion in 2013. (You would be surprised how many economists can neither analyze a financial statement, nor understand timing differences under GAAP. And you’d be surprised how many simply repeat what they’re told, instead of figuring things out for themselves.)

Look at how Lex misled his readers in The Financial Times a few weeks ago. He pulled out all the stops and wrote, “In 2008, in exchange for $187bn bailout, the Bush administration Treasury department took warrants worth 80 per cent of the company, plus preferred stock.” Everything about sentence demonstrates Lex’s contempt for fact checking. How was he disingenuous? Let’s count the ways:

1.     In 2008, the Bush Treasury Department contributed zero dollars to the GSEs. And yet, for an unfunded commitment, plus a $2 billion “investment” that could not be used to benefit either Fannie or Freddie, it got warrants for 79.9% of the common shares of each company.

2.     But Lex leaves the impression that the GSEs required a massive cash infusion, comparable to those extended to AIG, Citigroup and Morgan Stanley. This is 100% false. He leaves the impression that the GSEs, like the Wall Street banks, needed a bailout to shore up their failing liquidity. Indeed, the entire financial crisis is defined by a succession of financial crises tied to private label mortgage securitizations. Prior to the government takeover, the GSEs had robust liquidity and unfettered access to the debt markets. To state otherwise is to lie.

3.     The $187 billion bailout was funded in quarterly increments beginning five months after the GSE takeovers, when, beginning in February 2009, the companies’ new boards declared non-cash losses that exceeded book equity. None of those $187 billion dollars was ever used to fund cash shortfalls or operating expenses. Which is why any attempt to conflate the bailout of Wall Street with the bailout of the GSEs is highly deceitful.

4.     The word bailout can have variable meanings, but any “bailout” to fund  cash dividends debases the word beyond all recognition. Once again, money (cash) talks, doublespeak walks. The GSEs didn't have retained earnings to pay cash dividends. If the GSEs had paid Treasury dividends in kind, those dividends would not have reduced equity or impaired the GSEs' solvency. But instead FHFA dictated that cash dividends shall be paid, which would reduce equity and thereby trigger an additional bailout. Treasury would send funds to the GSEs, the GSEs would then send funds back to Treasury. The net result would be that the GSEs’ cash and equity position would be unchanged and Treasury’s cash position would be unchanged. But the GSEs were "bailed out" to the tune of $36 billion for the solitary purpose of financing cash dividends that never should have been paid in the first place. (See Freddie's and Fannie's draw requests below.) In other words, if you're going to be honest, the GSE bailout was never more than $151 billion.

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