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Explanation of Fannie/Freddie, and the bailouts

Ironslave

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This is a great article for understanding the mortgage crisis, and how it happened. Hopefully one mecca member chooses to not selectively ignore this :carduindisguise



In one word, the market approach to the financial problem is bankruptcy. Firms go bankrupt when they do not have enough revenue to pay their bills. Banks make money by borrowing from lenders at a low interest rate and lending to borrowers at a higher interest rate. If banks make bad loans and borrowers quit repaying, banks go bankrupt.

Insurance firms help people avoid risk, collecting premiums to pay those who suffer bad luck. If the premiums collected by an insurance firm are less than what it has to pay, it goes bankrupt. AIG sold insurance policies to stockholders that banks and other firms would not go bankrupt and could not pay the policies when that happened.

Bankruptcy is a normal part of economic life, covered by laws that guarantee stockholders will be compensated as much as possible. More efficient firms move in to take over what is left of bankrupt firms, buying what can be put to productive use. There is no crime in bankruptcy and, if handled quickly, little economic harm. When the largest US energy company Enron went bankrupt a few years ago, there was not even a ripple in the energy markets, much less the economy. Bankruptcy is not criminal and should not be a surprise, but it can be unnerving if large, well-known firms go bankrupt.

Banks and insurance firms are careful when lending or selling policies because they want to ensure their revenue will pay their bills. Government involvement, however, provides a cushion for failure and allows banks and insurance firms to be careless. This carelessness occurred with the government-sponsored mortgage bank, the Federal National Mortgage Association.

Fannie Mae provides backing to mortgage banks, more or less encouraging them to make bad loans. Fannie Mae makes subsidized loans to mortgage companies when they are short of cash. Freddie Mac is a government mortgage bank that sells mortgages without the usual worry of making a profit, given its taxpayer backing. The government has taken over these two losing mortgage banks, and losses will be paid by taxpayers.

The government provides subsidized mortgage insurance in case home buyers cannot pay. This insurance lets commercial mortgage banks relax and make loans to people who might not be able to pay. Government support for people wanting to buy a house elevated demand for houses and pushed up prices. Rising prices made home buyers confident they could buy a house they could not afford and sell it soon for a profit, counting on a "greater fool" to come along. Realistically, people should only buy a house when they plan to live in it and can actually pay for it. Greater fools do not always come along.

The result of government meddling in the mortgage market is that people have bought houses they cannot afford. When prices quit going up, people were left owing more on their house than it was worth in the market. With their subsidized mortgage insurance and little penalty, people defaulted on their mortgages. The mortgage banks are left without income. This mortgage mess is the root cause of the present financial crisis.

One part of the evolving financial bailout is the government using taxpayer money to help people who have not been able to pay their mortgage. The government is taxing those who have paid their mortgages and transferring the money to those who have not. It is not a good idea to reward inefficiency.

The government is also giving money to select financial and insurance firms, rewarding their poor performance with taxpayer money. Better advice is, "Don't throw good money after bad." The failed firms should go bankrupt.

Another part of the bailout plan is that the Treasury will actually buy houses with defaulted mortgages that the failing banks are holding — the overpriced mortgages that people quit paying. The Treasury has become a realty speculator, hoping to sell these overpriced houses sometime in the future for an even higher price. It is much more likely that taxpayers will pay the losses. The bailout money will purchase 6% of the houses in the United States — not such a large amount and only a very small part of the total real-estate market. The bailout money, as large as it is, will have little effect on the aggregate housing market.

As another part of the bailout, the Federal Reserve will make short-term loans to troubled banks and insurance companies to meet their payroll or other bills. The Fed's job is to make loans to banks and buy or sell bonds to control the money supply. Certainly the bankrupt firms will be first in line to borrow such short-term funds. These loans are likely to go unpaid and be written off at taxpayer expense. It is easy for the Fed to make loans since it is in charge of the money supply.

In the bailout, the Treasury also plans to buy a stake in the failed firms, using taxpayer money to become part owner of second-rate mortgage banks and insurance firms — your tax dollars at work.

The underlying goal of the financial bailout is not to keep the economy "healthy" but to keep a few Wall Street firms, mortgage banks, and insurance firms in business. Never mind that most mortgage and insurance firms in the country are profitable; the government wants to support the inefficient, large, high-profile firms. If these firms were allowed to go bankrupt, the economy would recover quickly. Other firms, not necessarily with an address on Wall Street, would step in and buy them out. Wall Street is much less important now than in the past, due to national and global financial competition.

Profit motives in business are clear, but governments have no profit motive and are able to collect taxes, print money, and borrow against future taxpayer money to pay their bills. Mortgage and other financial-market firms will wait to see what the government agencies do in the market and then generally do the opposite, playing against taxpayer money. The rules are changing with more government involvement, but competition will continue. The situation would be like the government making delivery of packages less than 5 pounds illegal except by the US Post Office.

The present financial problems would disappear quickly if the government let the markets operate and let inefficient firms go bankrupt. The irony is that the government is stepping in to solve the problems it created. The solution might "work," but the underlying disincentives in the mortgage and insurance markets will persist. Increased government meddling in the financial markets will only make the financial problems linger.
 
Ironslave

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:carduindisguise:
 
TJ

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I've heard that the government is thinking of bailing out the auto industry, too. I think we should also help bailout any other big business, even over seas, because these bailouts clearly help the situation and better the world.
 
Ironslave

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I've heard that the government is thinking of bailing out the auto industry, too. I think we should also help bailout any other big business, even over seas, because these bailouts clearly help the situation and better the world.



 
Oloz

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I've heard that the government is thinking of bailing out the auto industry, too. I think we should also help bailout any other big business, even over seas, because these bailouts clearly help the situation and better the world.

Yep. I'm watching Bloomberg right now and they briefly talked about China doing a stimulus package that is totaling at about.. ~~$685 Million dollars? I'll see if I can dig up more info.
 
Ironslave

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Bulkboy is suspiciously absent with claims of deregulation in this thread :dunnodude:
 
TJ

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Yep. I'm watching Bloomberg right now and they briefly talked about China doing a stimulus package that is totaling at about.. ~~$685 Million dollars? I'll see if I can dig up more info.

I don't really know what to say anymore. I was being sarcastic in my last post but it seems like some people think this type of regulation works (printing money, bailouts, stim packages, etc).
 
Ironslave

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I don't really know what to say anymore. I was being sarcastic in my last post but it seems like some people think this type of regulation works (printing money, bailouts, stim packages, etc).

Yet Another GM Bailout
http://mises.org/story/3202#


General Motors has once again approached the federal government with its hand out. It should not be forgotten that in September of 2008, Congress gave the "big three" automakers a loan totaling $25 billion. Now they are back. This time they say that with a mere $50 billion they can turn things around and become profitable in the future. The management of GM and Ford as well as the UAW have been meeting with Nancy Pelosi to arrange a deal. GM claims that if the government does not give them the money they demand it will spell doom for the company and thus the entire US economy.

Let's consider the impact of GM ceasing to exist — highly unlikely even if they declare bankruptcy. Hypothetically, GM would close its doors and all 266,000 workers would be unemployed, never to find work again, or so GM would have the public believe. GM maintains that it is really in the best interest of the country and economy to continue to support their failing business model. After all, in what kind of a world would the government allow a company that employs 266,000 workers to fail?

Descending into an abstract economics lesson about shifting resources to marginally more productive activities may be ineffective; therefore, I will approach this issue from a more philosophical angle.

The basis of GM's claim is essentially that they are too big or too important to fail due to their massive labor force. But how massive is their labor force relative to other American companies? It may be surprising that the following companies employ a larger number of workers than GM: Target, AT&T, GE, IBM, McDonalds, Citigroup, Kroger, Sears, and Wal-Mart. It is also worth noting that Home Depot, United Technologies, and Verizon all employ nearly as many workers as GM.

The question must be posed: Should the government bail out all 12 of these companies and, if so, at what cost? I doubt that if Wal-Mart, with their 2.1 million employees, went to the government or the American people and demanded a bailout that they would receive much sympathy, let alone money. But if we are going to base worthiness of bailout on number of employees alone, then Wal-Mart is almost 7 times more worthy than GM.

(I have largely neglected Ford, whose executives are also demanding a bailout. I believe that it is enough to simply state that Abercrombie & Fitch employs almost 7,000 more workers than does Ford. Would the failure of Abercrombie & Fitch's threaten the economy? I think not.)

It is unethical to force taxpayers to pay billions of dollars in order to bail out a company with a failing business model. After all, they cannot even claim, as banks did, that it is an industry-wide problem. Because if it were industry-wide, Toyota, Hyundai, Honda, Volkswagen, etc. would all be joining their American counterparts on Capitol Hill with their collective hands out.


For years GM and Ford have produced a product that consumers do not value as much as the product provided by their competitors. Rather than changing their products or business model, they instead spent small fortunes on lobbyists. If the government does bail out GM, rest assured that this will not be the last time. But even if the government gives GM a check every week, there will come a time when no amount of government money will be enough to save them.

What is the best solution? In a word, bankruptcy. By filing for bankruptcy protection, GM can escape the death grip the UAW has on the business. Bankruptcy would allow for restructuring on an unprecedented scale. There is a good chance that a highly competitive company could rise from the ashes of what we today call GM. Even if GM itself was unable to survive bankruptcy, the resources freed from its grasp could be hugely beneficial to other automotive companies that make products that American consumers value more. As taxpayers, we have a right to object to this misuse of our money.
 
Oloz

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Yet Another GM Bailout
http://mises.org/story/3202#


General Motors has once again approached the federal government with its hand out. It should not be forgotten that in September of 2008, Congress gave the "big three" automakers a loan totaling $25 billion. Now they are back. This time they say that with a mere $50 billion they can turn things around and become profitable in the future. The management of GM and Ford as well as the UAW have been meeting with Nancy Pelosi to arrange a deal. GM claims that if the government does not give them the money they demand it will spell doom for the company and thus the entire US economy.

Let's consider the impact of GM ceasing to exist — highly unlikely even if they declare bankruptcy. Hypothetically, GM would close its doors and all 266,000 workers would be unemployed, never to find work again, or so GM would have the public believe. GM maintains that it is really in the best interest of the country and economy to continue to support their failing business model. After all, in what kind of a world would the government allow a company that employs 266,000 workers to fail?

Descending into an abstract economics lesson about shifting resources to marginally more productive activities may be ineffective; therefore, I will approach this issue from a more philosophical angle.

The basis of GM's claim is essentially that they are too big or too important to fail due to their massive labor force. But how massive is their labor force relative to other American companies? It may be surprising that the following companies employ a larger number of workers than GM: Target, AT&T, GE, IBM, McDonalds, Citigroup, Kroger, Sears, and Wal-Mart. It is also worth noting that Home Depot, United Technologies, and Verizon all employ nearly as many workers as GM.

The question must be posed: Should the government bail out all 12 of these companies and, if so, at what cost? I doubt that if Wal-Mart, with their 2.1 million employees, went to the government or the American people and demanded a bailout that they would receive much sympathy, let alone money. But if we are going to base worthiness of bailout on number of employees alone, then Wal-Mart is almost 7 times more worthy than GM.

(I have largely neglected Ford, whose executives are also demanding a bailout. I believe that it is enough to simply state that Abercrombie & Fitch employs almost 7,000 more workers than does Ford. Would the failure of Abercrombie & Fitch's threaten the economy? I think not.)

It is unethical to force taxpayers to pay billions of dollars in order to bail out a company with a failing business model. After all, they cannot even claim, as banks did, that it is an industry-wide problem. Because if it were industry-wide, Toyota, Hyundai, Honda, Volkswagen, etc. would all be joining their American counterparts on Capitol Hill with their collective hands out.


For years GM and Ford have produced a product that consumers do not value as much as the product provided by their competitors. Rather than changing their products or business model, they instead spent small fortunes on lobbyists. If the government does bail out GM, rest assured that this will not be the last time. But even if the government gives GM a check every week, there will come a time when no amount of government money will be enough to save them.

What is the best solution? In a word, bankruptcy. By filing for bankruptcy protection, GM can escape the death grip the UAW has on the business. Bankruptcy would allow for restructuring on an unprecedented scale. There is a good chance that a highly competitive company could rise from the ashes of what we today call GM. Even if GM itself was unable to survive bankruptcy, the resources freed from its grasp could be hugely beneficial to other automotive companies that make products that American consumers value more. As taxpayers, we have a right to object to this misuse of our money.


Lately I have been listening to Peter Schiff and watching a lot of his videos, and reading this shit makes me mad. Each bail out makes me think more and more about how much of a negative effect this has on the US dollar. I don't see the point, unless GM is going to use this money towards trying to innovate/produce more energy efficient cars, instead of producing more cars that no one even wants to buy in the first place.
 

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Bulkboy

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The present financial problems would disappear quickly if the government let the markets operate and let inefficient firms go bankrupt. The irony is that the government is stepping in to solve the problems it created. The solution might "work," but the underlying disincentives in the mortgage and insurance markets will persist. Increased government meddling in the financial markets will only make the financial problems linger.

i would like to know IS, if this is the truth, explain to me why Island is in the worst position of all recession stricken countries? they had what u are advocating, a totally privatized financial and bank sector with no central bank, and look where it led, island is bankrupt.
 
Ironslave

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Duality

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Because people from Iceland can't do anything right. See example A.

http://www.musclemecca.com/showthread.php/max-ot-mass-road-5-bf-12707.html


i'm interested in the real response to this question. i agree completely with the post on the auto industry. let them die. if american auto companies can't get the fucking hint and make a car comparable to toyota or honda at a comparable price than they should be allowed to shrink into irrelevancy. this will be a never ending cycle if we bail them out.

however in regards to AIG i don't fully agree. in regards to wallstreet, i think again you are right.
 
Ironslave

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i would like to know IS, if this is the truth, explain to me why Island is in the worst position of all recession stricken countries? they had what u are advocating, a totally privatized financial and bank sector with no central bank, and look where it led, island is bankrupt.

I'm not sure why Iceland is collapsing, but, like claiming that the American system was one of deregulation, this is plain wrong. Iceland has a central bank.

Interestingly, here's an article from 2006 where the head of the central bank said it was "preposterous" that banking problems were coming.... sound familiar?





Talk of Icelandic bank crisis "preposterous" - central bank chief

NORDIC BUSINESS REPORT-17 March 2006-Talk of Icelandic bank crisis "preposterous" - central bank chief(C)1994-2006 M2 COMMUNICATIONS LTD http://www.m2.com

Iceland's central bank chairman and former prime minister David Oddsson said on Friday (17 March) that all talk of a banking crisis in Iceland was "preposterous".

"I don't think this is a crisis - not even an indication of a crisis," he said in an interview with Icelandic Financial News (IFN).

Oddsson said that the Icelandic banks must face the debate head-on, adding that their position is strong and that the banks have shown strong profits in recent years.

He also added that Iceland's largest banks must present the facts as they are.

"Speaking the truth is essential and we have nothing to hide - quite on the contrary," Oddson said.

"The Icelandic banks have become relatively dependent upon foreign capital and therefore they must work hard on gaining the trust of the market and maintaining it," he added.

Oddsson expressed disappointment in the recent coverage of Icelandic economic affairs in certain Scandinavian media.

"Some of the things I've seen there have been rather hard to fathom - even in media I had previously held in rather high regard. The fact that their coverage is based on such ignorance, unwariness and even partly on animosity is peculiar," he said.

Fitch Ratings recently cut the outlook on Iceland's AA- rating to "negative" from "stable", creating turmoil on Iceland's equity and currency markets.

Moreover, recent reports by Royal Bank of Scotland, Dresdner Kleinwort Wasserstein, Credit Sights, Merrill Lynch and Barclays Capital have cast doubt on the alleged heavy borrowing of Icelandic banks.

However, Standard & Poor's Ratings Services on Thursday affirmed its 'AA-' long-term foreign currency and 'AA+' long-term local currency sovereign credit ratings on the Republic of Iceland.

At the same time, the 'A-1+' short-term foreign and local currency ratings on Iceland were affirmed. The outlook is stable, according to Standard & Poor's.
 
Duality

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instead of bailing out the companies and continuing to do nothing they should address the real problem with the auto industry. their stupid as shit unions. including benefits, the average cost of a GM employee is $71 an hour. WHAT A JOKE! these unions don't allow the auto industry to be competitive when someone like toyota has to abide by no such wage for their workers. a new hire in an assembly line earns right off the bat $21 an hour with full benefits. this cannot be maintained. you could knock apprx. $1500 of the price of each GM if it weren't for all the health benefits GM has to pay. the very workers that keep these companies running are sucking them dry.

unions are to an extent necessary, but they have to be realistic if they expect the company who employs them to thrive.
 
Ironslave

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instead of bailing out the companies and continuing to do nothing they should address the real problem with the auto industry. their stupid as shit unions. including benefits, the average cost of a GM employee is $71 an hour. WHAT A JOKE! these unions don't allow the auto industry to be competitive when someone like toyota has to abide by no such wage for their workers. a new hire in an assembly line earns right off the bat $21 an hour with full benefits. this cannot be maintained. you could knock apprx. $1500 of the price of each GM if it weren't for all the health benefits GM has to pay. the very workers that keep these companies running are sucking them dry.

unions are to an extent necessary, but they have to be realistic if they expect the company who employs them to thrive.



 
Duality

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^ that one guy who promotes the free market (i think his name is peter?) is dead on. those other clowns saying to bail them out are just idiots. plain and simple.
 
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