Business - Coping with Fannie and Freddie's collapse

Questions and answers about Fannie Mae and Freddie Mac and their role in the mortgage market: Q: What are Fannie Mae and Freddie Mac? A: The two government-created enterprises are the nation's largest buyers of mortgages. They pool home loans from lenders and sell them with a guarantee that investors will get paid even if borrowers default. That effectively makes them middlemen between banks and investors. Fannie and Freddie hold or back more than $5 trillion in mortgages, about half the outstanding mortgage debt in the United States. Q: Why were they created? A: To give low- and middle-income Americans the chance to buy homes at a reasonable interest rate. They also ensure that homeowners can still get loans even in times of severe economic stress -- such as the past two years. Fannie Mae was created by the government in 1938, when millions of families could not become homeowners or risked losing their homes; Freddie Mac was established in 1970. Q: What problems do they face? A: The two companies nearly collapsed in September 2008 after taking billions of dollars in losses when defaults and foreclosures soared. Their rescue has cost taxpayers more than $148 billion so far. Q: Why did the government bail out Fannie and Freddie? A: Officials from the Bush and Obama administrations say their seizure was necessary to make sure Americans could keep getting home loans even during the recession. Letting the two companies fail would likely have sent financial markets into a far more serious panic. Q: Didn't Fannie and Freddie traditionally back safe, traditional mortgages and avoid risky lending? A: Until 2005, the companies largely stayed away from riskier loans. But they dramatically lowered their lending standards during the housing market's boom years. Losses on loans made from 2005 through 2008 have soared. The two companies had about $336 billion in bad loans at the end of June, up from $320 billion at the end of last year. They owned about 191,000 foreclosed properties. Q: What are some of the options to replace Fannie and Freddie? A: There are numerous ideas. Under a a fully private system Fannie and Freddie would be eliminated. Private lenders would take over, either holding loans on their books or selling mortgage bonds. Another option is a government-run system where Fannie and Freddie would be folded fully into the government. Q: Are either of those options likely? A: No. The private option is not gaining much support because the market for mortgage securities issued without any government backing has been virtually dead ever since the housing bust. It's unclear whether it can come back. The all-government option is unattractive because it would further balloon the already-expanding federal debt. Q: So what's a likely option? A: Most of the plans being circulated to reshape the mortgage market call for the government to guarantee that investors who buy mortgage-backed securities receive their money even if borrowers default. Under this system, Fannie and Freddie could either be returned to private ownership or phased out completely. Fannie and Freddie, or their replacements, would pay the government to insure the loans. That money could be tapped if the housing market collapses. Published: Thu, Aug 19, 2010

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