U.S. to Challenge Consequences of its Own Policies

Washington is said to be seeking compensation from its banks, accusing them of swindling mortgage lenders Fannie Mae and Freddie Mac. However, buying up bad loans had always been part of the business models of both partly state-owned institutions.

Four years after the financial crisis emerged, the U.S. government appears to be planning a bit of a spring cleaning. According to information obtained by the New York Times, the Federal Housing Finance Agency, a supervisory body, is preparing to unleash a flood of lawsuits against major banks, accusing the top names on Wall Street, as well as international finance groups such as Deutsche Bank, of having palmed off junk on Fannie and Freddie.

There is no denying the fact that many of the mortgage-based securities snapped up by the mortgage lenders turned out to be junk. Ultimately, both institutions suffered such heavy losses during the crisis that they had to be propped up with around $150 billion in taxpayer money. It is no surprise, then, that the FHFA should at least want to claw back the cash lost due to the junk securities — especially since the banks are actually alleged to have concealed risks during the sale.

However, Fannie and Freddie have to ask themselves how they fell for this particular scam. After all, these two institutions in particular must have been aware that Americans with tight purse strings also received generous loans at the height of the real estate boom. Ultimately, they were created precisely for the purpose of opening up the possibilities of home buying to those U.S. citizens who would have been unable to secure a bank loan in a purely private market.

Although, up until the crisis, Fannie Mae and Freddie Mac had been organized under private law, they did benefit from a state guarantee, making them government-sponsored enterprises. The guarantee enabled them to buy up large quantities of securitized homeowner loans from banks and thus stimulate further lending. The GSEs thus inflated the bubble that ultimately scuppered them. Of course, the fact that a system invites abuse does not justify it. If it is proven that the banks were negligent when determining borrowers’ credit ratings, then they should have to pay for their sloppiness. But it is hard to escape the feeling that one wrongdoer is attempting to shift the blame onto the shoulders of another.