Fannie, Freddie and the ‘economics of fear’
The troubles at America’s big, folksy-named mortgage providers are a symptom of today's wider anxiety about the future of society.
Another month, another bailout. Last week, the US Treasury Department and the Federal Reserve put forward trillion-dollar support measures to prop up Fannie Mae and Freddie Mac, the struggling mortgage-finance companies. In doing so, the American authorities made explicit what was an implicit government guarantee behind these two quasi-public, quasi-private companies with folksy nicknames. This move followed a similarly dramatic rescue of the investment bank Bear Stearns in March. At this rate, the US is on its way to forming a new regulatory regime with the nickname Bailouts ‘R’ Us.
Last week also saw the collapse of IndyMac Bancorp, a mid-sized mortgage provider based in California. Long lines of panicked depositors formed outside its San Fernando Valley branch, providing us with the classic image of a bank run.
These events seemed to send tremors throughout the country. Megan Burnett from Portfolio reported that: ‘Nearly a year into the credit crisis and four months after Bear Stearns imploded, panic has officially set in on Wall Street… Investors have every right to be nervous. And the scariest part is there are no signs of abatement anytime soon. Panic only begets more panic.’ This mood was also said to have trickled down from Wall Street to Main Street. Over at Fox Business News, Alexis Glick wrote: ‘These are scary times… You and I read the headlines about bank failures and we wonder whether our money is safe. Rightly so!’ (1)
The discrediting of credit
The Fannie Mae and Freddie Mac bailout is certainly indicative of serious problems in the financial sphere. The difficulties at the two giant mortgage financiers represent a further unravelling of the subprime mortgage crisis that began about a year ago. Fannie Mae - real name, the Federal National Mortgage Association (FNMA) - was set up by Congress in 1938, and was converted from a government agency to a shareholder-owned company in 1968; Freddie Mac - the Federal Home Loan Mortgage Corporation (FHLMC) - was created by Congress two years later to end Fannie Mae’s monopoly (2). The two companies do not directly provide mortgages – they buy mortgages from the original lenders, or provide financial guarantees for them - but they own or guarantee 42 per cent of all home loans in the US. And with the problems in the housing market, they backed an even greater proportion, 68 per cent, in the first quarter of 2008. This duo was held out by the authorities as key bulwarks against the spread of the mortgage chaos, and yet they have become its latest casualties.
The total debt Fannie and Freddie owe, and which the US government now promises to support, comes to a hard-to-imagine $5.3trillion. If the day came when the US had to back up its words and actually take on the full amount of this debt, the overall national debt would double at a stroke.
The troubles at these two mortgage giants also signal the possibility of more acute problems to come. The US currently depends on other countries, especially China, to purchase its bonds (in fact, China buys about a third of Fannie and Freddie’s loans), and America’s financial difficulties raise the spectre of raising interest rates in order to continue to attract these buyers. Combined with other economic concerns, such as increases in the prices of oil and other commodities, the financial crisis in the US (and other major countries like the UK) presents the threat of a severe slowdown in the world economy.
All serious stuff – but, I would argue, not enough to justify or explain all of the doom and gloom and worry about the future.
Fannie and Freddie’s woes indicate the possibility of further problems – but then again, they might not happen. These mortgage companies are well capitalised (as are most banks), and the extra line of credit that the Bush administration has proposed in its rescue package (assuming Congress approves it) may never be utilised. Certainly, from the individual consumer’s point of view, there is no immediate impact from the Fannie/Freddie fallout - no one’s mortgage has been affected.
It’s true that the US economy generally has slowed down, unemployment is rising and increases in gas (petrol) and food have hurt. But this needs to be kept in perspective: the US economy is not in a recession – defined as two consecutive quarters of declining gross domestic product (GDP) – never mind being on the brink of Depression, as some would have it. In response to the haphazard unwinding in the financial sector, commentators are focusing on what might happen, in particular the worst-case scenario, rather than weighing up the relative risks in a balanced way.
Instead of rational assessment, a sense of fear and anxiety pervades. While many recognise that Washington and Wall Street are jittery, the financial crisis is typically presented as the cause of these jitters. But it’s really the other way around: the economy has become another area in which a pre-existing sense of vulnerability and unease is expressed. A free-floating sense of anxiety has reigned in our politics and society for a number of years now, caused by the absence of any great idea or organising principle that could offer a positive view of the future (3). Directionless, we seem to latch on to issues and discuss them in terms our fears – from terrorism and the environment to food safety and parenting. The same applies to the current discussion of the economy.
The discussion about the economy follows patterns existing in other fields. In this fearful mindset, individuals are considered to be isolated and utterly vulnerable – for example, borrowers who have difficulties paying off their mortgage are now portrayed as sad dupes who have been fooled by wicked lenders. Politicians and campaigners, perhaps concerned about a lack of interest in political life, ask us to join their cause by exaggerating fears and raising the prospect of doom – witness how, even though only a small minority are affected by house foreclosures, this issue is considered by both parties to be a major one in this year’s election. The fear-mongers think scare stories will be a motivating factor - think of the environmentalists’ siren warnings - when, in fact, fear is more likely to increase a sense of vulnerability and resignation. And indeed, we see little anger among the general public about the Fannie/Freddie business; as James Grant plaintively asks in the Wall Street Journal: ‘Why no outrage?’ (4)
In many areas, including but not limited to scientific matters, there is the tendency today to focus on the worst-case scenario in the future, rather than undertake a sober assessment of today’s situation. In response, we are meant to take pre-emptive action, just in case – as with Iraq (to pre-empt the possibility of Saddam’s ‘weapons of mass destruction’ and the spread of al-Qaeda) and climate change (to pre-empt the possibility of global warming). This is the outlook driving economic policy: in proposing measures to support Fannie and Freddie, Treasury Secretary Henry Paulsen and Federal Reserve Chairman Ben Bernanke are similarly taking precautionary steps.
A nation of whiners?
In today’s environment, it is harder and harder to put an argument that we should buck up, steady our nerves and hold the line. Phil Gramm, a former senator and adviser to the Republican presidential candidate, John McCain, found this out the hard way last week. In an interview, Gramm said: ‘You’ve heard of mental depression; this is a mental recession’, before adding that ‘we have sort of become a nation of whiners’ (5). Politicians from all sides came down on Gramm like a ton of bricks, and McCain forced him to resign his campaign post. His treatment shows that it is now taboo in America to say that the state of the economy is less than disastrous.
Barack Obama, the Democratic candidate, thought he was being witty when he said in response, ‘You know, America already has one Dr Phil’ – referring to the TV celebrity therapist who made his name on the Oprah Winfrey show - ‘when it comes to the economy, we don’t need another’. Yet it is Obama, whose message on the economy is essentially ‘I feel your pain’, who is the one who has adopted the Dr Phil approach, not Gramm. As New York Times columnist David Brooks noted, Gramm is not ‘the poster boy for emotional intelligence’; he is a ‘smart guy’ but ‘he’s not going to succeed Oprah on her show’.
Brooks thinks that’s a flaw, and Gramm should have kept quiet: ‘The economy is not fundamentally unsound. We’ve got these gigantic problems which are causing a lot of anxiety, but to go out and say it in that way is the height of insensitivity.’ (6) So, Gramm is correct, but he should not say it because some people’s feelings might be hurt? Gramm may have phrased his point crudely, but the only problem with his formulation as far as I can see is that he implied that it was the population at large, rather than the political leaders, who were the ones doing the whining.
‘I thought I woke up in France’
Speaking of leaders, it was noticeable how the current president, as well as the two contenders for his job, had nothing much to say about the Fannie and Freddie rescue that was dominating the news. George W Bush said the country’s financial system is ‘basically sound’, but since he is blamed for the economy’s troubles – and is treated as a lame duck – his pronouncements are now largely ignored. Obama and McCain didn’t even try to make sense of the issue, never mind take a lead on it; their campaigns ‘released terse statements about the mortgage giants, then went nearly silent’, as the Washington Post put it (7).
More generally, at a time when a Reuters/Zogby poll finds that just 18 per cent of Americans say the country is on the right track and only 10 per cent express confidence in US economic policy, the candidates have not put forward concrete, comprehensive measures. In the week that the news about Fannie and Freddie hit, McCain and Obama preferred to spar over US strategy in Afghanistan ahead of Obama’s photo-op trip there (perhaps giving us a preview of the role of foreign policy in the next administration, whoever heads it).
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But while the candidates kept quiet, Democrats in congress saw the Fannie/Freddie bailout as a reason to shout from the rooftops about the end of Republican free-market ideology. Representative Barney Frank, Democratic chairman of the House Financial Services Committee, giddily threw an old Ronald Reagan line back at the Republicans: ‘The top financial officials from George Bush’s administration have come before the public and said “we’re from the government, and we’re here to help you”.’ (8) Frank and other Democrats believe the latest actions will lead to broader support for government intervention in the economy, as well as votes for their party in November.
It is certainly true that economic liberalism – the prevailing ideology since Reagan – has taken blows from the Bear Stearns and Fannie/Freddie bailouts. The US, which is supposed to be the land of free markets in contrast to ‘statist’ Europe, ended up relying on a rationale used by state interveners everywhere – that these financial institutions were ‘too big to fail’. Which is why some Republicans found the bailouts hard to swallow. ‘When I picked up my newspaper yesterday, I thought I woke up in France’, said Senator Jim Bunning. After the latest events, it will be hard for the US to lecture Europe, China or the developing world about the virtues of a market-led approach.
Welcome to the world of TINA
But it would be wrong to get carried away about the supposed ‘end of the free market’. Economic liberalism definitely represented a break from the Keynesianism of the postwar period, but Reagan (and those who followed him) could not fully separate the government from the economy. Fannie and Freddie themselves serve as a good example of this. These companies are so-called ‘government-sponsored enterprises’ – hybrids that combine private shareholders with government support. You might wonder why the heartland of capitalism would have such entities, but home-owning would not be as widespread if they did not exist.
Many have pointed out that Fannie and Freddie contain inherent flaws – with a government guarantee, they were able to take risks other lenders could not; moreover, the public purse bears the risk, while private investors take the gain. Yet, despite these apparent defects, both political parties were complicit in sustaining, and not providing for strong regulation of, these mortgage financiers. So today, as the Treasury steps in to rescue, it is not a straightforward case of bailing out a private company; it is more like the government is trying to salvage one of its own state agencies.
More to the point, it is hard to get worked up about the ‘end of the free market’ when there is nothing substantial being put forward to replace it. What Barney Frank and other Democrats offer – greater regulation of the financial sphere – is hardly something to get excited about. It is not part of a broader programme of reform, nor an alternative ideology, like Keynesianism was. So, after the demise of laissez-faire, we’re left with… the market. Or, in Margaret Thatcher’s terms, ‘there is no alternative’ - otherwise known as TINA. And in a TINA world, we watch as grey bureaucrats like Paulsen and Bernanke are deemed to be in charge of the economy, which is considered simply a technical affair rather than a domain in which competing political visions might be implemented. Our political leaders hide behind them and say there is nothing they can do, because ‘there is no alternative’ – and thus they run from accountability. The Democrats’ new dawn of regulation, if it ever arrives, would not change this.
The blame game
In fact, to see how the ‘end of the free market’ is not giving rise to a positive alternative, you need to look no further than the explanations given for the current troubles in the economy. Again, the climate of fear dominates. Today, instead of explaining the market according to supply and demand or some other laws of capitalism, we are told the problems are due to evil conspirators working out of our sight.
You can take your pick of villain. Many members of Congress (including Obama and McCain) blame oil speculators for high prices. The US Securities and Exchange Commission, among others, blames so-called ‘short sellers’ for spreading false negative rumours which lead to falling stock prices. And members of both parties blame lobbyists for Fannie and Freddie for the continued existence, and problems with, these mortgage organisations. Karl Rove, Bush’s former adviser, believes Fannie and Freddie have ‘fostered a network of co-conspirators’, among them Acorn, a low-income advocacy group that Obama used to work for and that now supports his candidacy. Ironically, the man that liberals view as the one-time dark puppetmaster behind Bush is himself identifying dark forces at work behind the scenes (9).
In all of these examples it is leading political figures, rather than marginal groups, who seek to explain financial problems by reference to rogue characters rather economic theories.
No American political leader of any standing seems willing and able to stand up and give an FDR-like promise that ‘we have nothing to fear but fear itself’. But even if someone did make such a pronouncement, it would fall flat. Not because it’s unoriginal, but because such a statement, in itself and without some sense of broader direction, would not address the widespread anxieties that exist in society. People will not be sure-footed in the present if they do not have a clear idea of where they want to go in the future.
There are new lines of demarcation being drawn in our politics, supplanting the old right v left divide. One of them is between those who utilise the politics (and economics) of fear, and those who put up a challenge to them. Identifying that the discourse of fear itself is a problem is not enough, but it is a good place to start.
Sean Collins is a writer based in New York.
(1) Widespread Panic, Portfolio, 11 July 2008; Scary Times, The Glick Report, 15 July 2008
(2) For the basics about the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”), see Q&A: How Fannie, Freddie and IndyMac affect you, CNN and Q&A: Freddie Mac and Fannie Mae, BBC News
(3) See Frank Furedi, Politics of Fear, Continuum, 2005
(4) Why no outrage?, Wall Street Journal, 19 July 2008
(5) McCain adviser talks of ‘mental recession’, Washington Times, 9 July 2008
(6) Shields, Brooks assess struggles in the economy, campaign news, Online Newshour, 11 July 2008
(7) Figures in both campaigns have deep ties to mortgage giants, Washington Post, 17 July 2008
(8) GOP warns against fast mortgage action, politico.com, 15 July 2008
(9) Voters want economic leadership, Wall Street Journal, 17 July 2008