America's Fannie Mae and Freddie Mac vs China's Sanlu

The collapse of Fannie Mae and Freddie Mac marks the turning point of the sub-prime crisis, escalating it to a financial tsunami that has since swept the financial markets in U.S. and the world. Fannie Mae and Freddie Mac used to be real estates bellwethers in America worth more than US$5 trillions. In fact, the two companies were widely touted as blue-chip investments by senior American financial officials during their trips to China a few years back. Today, Fannie Mae and Freddie Mac turn out to be the key engine of destruction that triggered the global financial catastrophe. The burning question on everyone’s mind : Why couldn’t the U.S., with its close-to-perfect regulatory regime and press freedom, prevent the failing of Fannie Mae and Freddie Mac?

In fact, the problems of Fannie Mae and Freddie Mac surfaced as early as 1988. Twenty years has elapsed since. Time, the best medicine in the world, could do nothing to defuse the housing disaster. There must be some interesting forces at work.

Twenty years ago, economics professor, Thomas Stanton, a research fellow of the Center for the Study of American Government at John Hopkins University, pointed out the fallacies of Fannie Mae and Freddie Mac and pushed for more stringent regulations on them. For more than 6 months that followed, he and his team testified before various Senate committees, including the Joint Economic Committee and the Banking, Housing and Urban Affairs Committee. In the process, Fannie Mae and Freddie Mac did whatever they could to set up the necessary road blocks. They were so effective that Professor Stanton and his team were gagged at certain hearing sessions. At the end of the whole exercise, a regulatory body was set up. This offers little consolation because the body has little power over the two mortgage giants. As recent as August 2007, Professor Stanton continued to publish papers highlighting the dangers of Fannie Mae and Freddie Mac. After the collapse of the two companies, Professor Stanton could not help but admit, “While we have a good system, it is a messy one, too. While it allows freedom of speech without the fear of retaliation and persecution, the government has not actualized what it told me. In the end, the crisis could not be averted.” In short, the complexity of Congress legislation and hearings and the lobbying machination by interested groups have engendered the fall of Fannie Mae and Freddie Mac. Their debt instruments, which the U.S. government spared no effort in promoting at one stage, are wreaking havoc around the world.

Coincidentally and almost concurrently, a food-safety saga with widespread effects on the Chinese and international markets took place in China. Sanlu, a dairy bellwether in China at one time, found its products contaminated with melamine which poisoned tens of thousand of Chinese babies and killed a few of them. The melamine-tainted products were exported to Taiwan, Southeast Asia, Americas and Europe. In retrospect, there were internet reports and consumer feedback on the irregularities more than half a year ago. Sanlu had kept things under wraps by buying off the reporters, media and local government before the New Zealand government informed the Chinese Central Government. Further investigation revealed that Sanlu was involved in the “big-head babies” case that erupted 4 years ago. (Around 200 babies in Anhui province were fed formula milk of little nutritional value. These babies developed what doctors called “big head disease” where infants’ heads appear abnormally large in comparison to their bodies.) As a result, it was blacklisted by the authority and media. Again, Sanlu managed to maneuver itself out of the list quickly. Such condoning practices have eventually led to a calamity of a greater scale at both the national and international level. Drawing an analogy from American toxic fudge, China has failed to leverage on its regulatory system and timely reports by watchdogs to put a stop to Sanlu’s malpractices. However, the “Sanlu” and “Fannie Mae/Freddie Mac” incidents have different repercussions. First, the Chinese leaders have not promoted Sanlu to the world. Secondly, penalties have been dished out in China. Two senior officials and the mayor of Shijiazhuang (where Sanlu is based) have been removed and numerous have been punished. Sanlu has been ordered to stop production and its Chairman has been arrested. In contrast, Fannie Mae/Freddie Mac have received no punishment but huge federal financial assistance.

While the systems in the U.S. and China are different, “Fannie Mae/Freddie Mac” and “Sanlu” sagas have a lot in common. Both have demonstrated the power of capitalism that has brazenly risen above the existing regulatory framework to maximize returns in its take-no-prisoner way. The challenge of effective control and taming of a beast named capitalism is staring all in the face, be it a new-comer like China or the 300-plus year old system itself.

Song Luzheng in Paris