Krugman: How I Learned To Stop Worrying And Love The Bomb(ing GSEs)

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Paul Krugman, appearing on CNBC in shorts and sandals as well as his usual spot in the NYT, says that he's not concerned about Fannie and Freddie any more, or indeed, was ever. The perspective from his soapbox is that the feds can't allow the two GSEs to fail, so they will continue to finance mortgages and, voila, systemic risk is avoided. The possibility of socialized losses if the capital stock of either company is wiped out is minor, since offering them lending from the Treasury and the Fed, backed up with the option to buy equity, means that we've avoided much greater damage that would come from a default on its bonds. (Note: Will someone please write the article about how, after years of transferring wealth from bondholders to equity investors, we're now reversing that process?) Not quite news, even though clarity from an economist and sensibility from a talking head should be prized.
Krugman has much more to say on the path we took to this point, as well as the future of the duo. Fannie and Freddie, he stresses, are the worst kind of political offspring. Despite the implicit guarantee, he stands in the camp saying that Thing 1 and Thing 2 weren't at fault in financing bad mortgages, subprime or not. They were just about as involved in financing those rotten mortgages that everyone in the world loved until the kissing had to stop, but they were prevented by regulators and lawmakers from getting involved with the dodgiest subprime or jumbo mortgages. Of course, these restrictions only look wise in retrospect: they were inadvertently well-timed.
The real problems with Fannie and Freddie different and deeper, but still arise from their government-sponsored origins, Krugman says. He blames the regulators who, while focusing heavily on the terms offered by Fannie and Freddie, allowed the razor-thin amounts of capital. Additionally, the political control over both meant that the companies preferred lobbying to managing: wining and dining with congressmen for fun and profit. What's more, the implicit guarantee business kept investors buying the stocks in and loaning money to these entities despite a lack of financial discipline, which only encouraged more irresponsible behavior. (Isn't reassuring to know that the government is now implicity backing Lehman, Merrill and the rest of Wall Street?)
Crony capitalism is a common Krugman complaint, and one well-justified in this case as he mentions that starkly different ideologies about Fannie and Freddie meant that they would occupy the uncertain middle as GSEs. His conclusion is that the shareholders should take a bath-- get completely cleaned out, in fact-- and return Fannie and Freddie to the government that birthed them.

--Crony capitalism correspondent Andrew.