The World Hasn’t Changed ‘That’ Much As A Result Of The Mortgage GSE Bailout

Here are some quick thoughts on the mortgage GSE bailout:

The Mortgage GSE Model is Broken: the problem with the mortgage GSEs is that their business model is broken, they were allowed to grow too large, their investments weren’t properly managed and they were able to use dodgy accounting to hide their deficiencies. Pouring in capital into a broken model whilst simultaneously allowing them to expand their investment portfolios does not a solution make.

The government has effectively told the world: “we’re not going to fix the model, we’re just going to pour taxpayer money into it, prop it up and turn up the volume”.

The Government is Responsible: the current situation was 100% avoidable if the government had regulated the mortgage GSEs properly, reined in their investments and taken more drastic steps to prevent them from being a danger to the economy during the GSE’s accounting scandals in the early to mid ’00s. The fact that the people who created this morass are now in charge of fixing it doesn’t exactly fill me with confidence.

In effect the government created a financial Golem, didn’t control it properly/let it run amuck and now are trying to convince us that they now have everything under control.

Doesn’t Solve Core Problems: while nationalizing the mortgage GSEs removes (at least temporarily) a key risk facing the economy, it doesn’t resolve the core issues that are the heart of the credit crisis, housing downturn, the problems within the financial sector, etc. Struggling banks aren’t going to start magically making money tomorrow because the GSEs have been nationalized, nor will it help Joe Six Pack pay his mortgage. Like many of the interventionist policies of the past 13-14 months, I suspect it will give the markets a pop temporarily but things will fall back down to earth once reality sets in.

Simply put: the world hasn’t changed “that” much as a result of this action.

Housing: I had to chuckle at Mr. Paulson’s comments that he and others were taking “steps” to fix the housing crisis, when the true reality is that an over-inflated market is simply correcting itself and there is nothing to do but to wait it out and let it run its course. Any steps to prevent the housing market’s natural correction will do nothing more then to extend the downturn. Housing isn’t going to stabilize until the ratio of home values to median incomes returns to historical levels, the % of owner unoccupied homes returns to historical levels as well and prices return to pre housing boom levels.

This isn’t a problem you can solve via government intervention, the correction has to run its course; in fact the correction is a good thing because it’s a necessary part of establishing stable housing markets for the future.

The Taxpayer Gets the Shaft: From the looks of things the taxpayer is on the hook for the risk stemming from the government’s mismanagement of the mortgage GSEs, but isn’t able to participate in any of the upside. In fact all the upside will do is mitigate the risk to the tax payer, in other words: the taxpayer either loses or doesn’t win. These sorts of bailout actions would “feel better” if the tax payer was rightfully cut in on any potential upside, the idea that we as taxpayers are being forced to bailout a dodgy organization we had no hand in managing, and are cut out of any upside at the same time is quite disturbing.

Now do I believe that the government should’ve done nothing and let the financial Golem that is the mortgage GSEs collapse and take the financial markets, the credit markets and the world economy with it?

No.

Instead I blame the government for letting things get to this point in the first place, and not stepping in earlier to rein in the GSEs, restructure them, fix the model before it posed so great a risk that nationalization was the only solution. I’m also very unhappy with the way the taxpayer is being treated, as if we’re some sort of insurance plan to protect corporate America from its own stupidity. Especially when other investment and/or retail banks could need rescues, and Detroit is asking for $50 billion in government subsidized loans.

In fact the events of the past 72-hours beg the question: “Is American Capitalism dying and being replaced by some sort of pseudo-socialist construction that works to prop up the economy, remove risk and ensure that there are no longer any losers?”

Disclosure: at the time of publishing the author didn’t own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn’t be viewed as financial or investment advice.

Subscribe by RSS Subscribe by Email