Friday on the NewsHour, New York Times finance specialist Gretchen Morgenson and co-author Josh Rosner, a longtime housing analyst, talk about their new bestseller, “Reckless Endangerment” (no. 17 on the Times list this week). The book is a sustained indictment of Washington’s role in the housing crisis and highlights the role of the so-called GSEs – the Government-Sponsored Enterprises, Freddie Mac and most especially, Fannie Mae, both of which were taken over by the Treasury when they teetered in 2008.
Joshua Rosner and Gretchen Morgenson explore the financial crisis in “Reckless Endangerment.”
The GSEs and their role in promoting home ownership have been a favorite target of those who blame government – and especially Democrats — for the crisis. The standard defense is that the GSEs were late-comers to the subprime game – following, not leading, the Wall St. rush to package and sell lousy loans. And Democrats argue strenuously that the goal of home ownership was wholly bi-partisan, from the days of Herbert Hoover and FDR to Bill Clinton and George W. Bush, as journalist Alyssa Katz has explained on our show and these pages.
In “Reckless Endangerment” and in the extended, multi-location interview with them on the NewsHour, Morgenson and Rosner take aim at Massachusetts congressman Barney Frank and Nobel laureate Joseph Stiglitz, one-time head of President Clinton’s Council of Economic Advisors. We asked both men to respond to the on-air charges, at a length commensurate with the charges themselves, and so they did. You’ll see (or hear) them in Friday’s piece.
But both men went on at greater length and we thought enthusiasts of the debate might want to hear what they have to say. For a more extended look at Morgenson and Rosner’s side of the story, we have one piece of advice: read their book. But here, from our interviews, are their specific charges.
“Fannie was shrewd enough to understand that in order to push their agenda on Capitol Hill they needed to be supported by economists as well and so they started a series of papers where they would hire notable Conservative economists like Glenn Hubbard or progressive economists like Joe Stiglitz and Peter Orszag to justify various aspects of Fannie and Freddie’s mission, or dispel concerns about their safety and soundness, and really used those as lobbying points on Capitol Hill,” said Rosner.
American economist Joseph Stiglitz in 2002. Photo by Gustavo Benitez/Wikimedia Commons.
I would like to clarify what we did–and when we did it, which was before the practices that got Fannie Mae in trouble had started.
We did do an assessment of the risks confronting their portfolio, at that time (nearly a decade ago), and the scenarios we modeled were, if I remember correctly, more severe than any bank stress test of recent years. The tests used the Great Depression as a benchmark, unlike the rating agencies’ assessments of private securities, which typically used only much more recent data (in which price declines were, at most, rarities). Further, had we discovered a problem, we would have raised a strong warning. No constraints were imposed on our work and our ability to disseminate our results.
Some time after we published our paper, Fannie Mae did lose its way–it forgot its mission, and got caught up in the financial “innovation” that brought down the rest of the financial sector as well.
The real problem with Fannie Mae was that it was allowed to get too big to fail. It would have been rescued with or without government-sponsored enterprise (GSE) because of its size. And that in itself is an important warning for what we are now letting happen to our biggest banks–they are also too big to fail. (The fact that Fannie Mae may have been healthy at one point of time did not, of course, preclude the possibility either that it would change its lending practices, or that the world would change in a historically unprecedented way, which would leave it in an unsound state. As it happened, Fannie Mae changed its practices.)
I do agree that there was a problem: Fannie Mae had been privatized in 1968, and it never had an explicit government guarantee, yet many acted as if it had a government guarantee. The ambiguous status was a big mistake. It meant it paid an interest rate that was lower than that of others, but higher than a T-bill (which it would have yielded if it had had an explicit guarantee). In the end, Fannie Mae was bailed out, but it is hard to believe–as I said before–that it would not have been bailed out even if it did not have GSE status. Indeed, our big banks get finance at lower rates of interest than do others, because of the belief, in part, that should they have a problem, they will be bailed out.
Incidentally, government programs to help lower- and middle-income households get housing can work, even in difficult times. The State of New York Mortgage Agency (SONYMA) stuck to its basic mission, continued to offer 30-year mortgages, and has weathered the storm well, relatively free of scandal.
Part of the political battle was over the role of government and the efficiency of markets. I believe that private financial markets are rife with imperfections, and their most profitable activities are often associated with predatory lending and anticompetitive practices (evidenced so clearly in recent years). Well-designed government programs can help lower- and middle-income individuals acquire homes, and strong regulations are required to ensure that private markets do not engage in abusive practices. Many of the critics of Fannie Mae wanted both to allow financial markets to operate without adequate regulation (e.g. to engage in anti-competitive and abusive practices) and to curtail Fannie Mae, so that the scope for the private sector to use such practices against more people would be increased. One has to see support for Fannie Mae in that context. If we had had, for instance, a private mortgage market that was “well-behaved,” say like the Danish market, the debate would have taken on a very different shape.
I hope this helps, both to explain what we did, and the political context in which these battles were being fought.
Barney Frank, who serves on the House Financial Services Committee, sat down with us to respond to some of the “Reckless” allegations.
Morgenson and Rosner’s allegations against Barney Frank took up considerably more of the discussion, in two different places. This was in front of the Capitol building:
ROSNER: The Wall Street firms, the investment banks and the banks really are not the same thing as the capital markets where buyers and sellers transact. Their motives are at the end of the day about money. It’s plain, it’s simple, it’s clear, it’s transparent. Washington, we appear to be serving the public interests at the end of the day though it’s funded by the same dollars that are actually seeking just to make money which are the investment banks and the banks today. So if you look at the Senate Banking Committee, if you look at the House Financial Services Committee, the relationships between the members and the industry have never been as intertwined, and unfortunately what comes out of that is policy which appears to be for the public but tends really to serve the interests of Wall Street.
“But,” I asked, picking the example of Barney Frank from their book, “is Barney Frank in the pocket of Wall St.?”
MORGENSON: Well, he may not be in the pocket of Wall Street but the Dodd-Frank legislation that was supposed to end all bailouts and that was supposed to make sure that the taxpayer never again had to fund hundreds of billions of dollars in losses did nothing about too-big-to-fail institutions, and so you have to ask yourself the question of why did it do nothing about cutting down to size these two big and politically interconnected companies?
Paul Solman: And what’s the answer?
MORGENSON: It has to have been a desire not to do that, that these institutions are allowed to get bigger and even more powerful and even more likely to create losses that the taxpayers will have to then cover down the line in the future.
Paul Solman: And why is it?
ROSNER: So Barney Frank has to run for office every couple of years and it seems that he understands the game very well and that satisfies the people who are going to fund your campaigns, and that is both the big business who benefits from ribbon-cutting ceremonies and the appearance of serving the constituency and the short-term gains for the constituency of increasing home ownership as an example.
Paul Solman: But Barney Frank is basically unopposed every year. He’s certainly not fashioning legislation with a view towards who’s going to support him, right?
ROSNER: And we all end up becoming most trusting and most familiar of those people who we spend the most amount of time with. If you’re surrounded by lobbyists and the only perspectives you hear on either side of an issue come from lobbyists with moneyed interest on one side or the other, you’re not necessarily choosing between the public policy option and the option that’s funded by lobbyists, you’re choosing between two opposing lobbyists’ views rather than necessarily good public policy.
Paul Solman: And Barney Frank is an example of what you’re talking about?
ROSNER: Washington works on the notion of compromise, and those compromises necessarily say we can’t get what’s necessarily great policy, so we’ll get what’s acceptable policy. And unfortunately that acceptable policy is sometimes fed by the moneyed interest who fund either side of an issue.
ROSNER: I think certainly when you’ve got to pass legislation that’s a necessary reality, you need to compromise to the point where you’ve got something that the majority will accept. Unfortunately if you’ve got all of the lobbyists defining what the majority view is, then you don’t end up with good policy, and unfortunately I think Barney is as susceptible to that as anyone. I think Barney Frank was as influenced by that reality as anyone.
MORGENSON: Don’t forget Paul that in the early ’90s when Congress was writing the legislation that would have a bearing on Fannie Mae’s regulator, its capital levels i.e. the amount of money it had to keep in reserve for bad days, Barney Frank was really very aggressively on the attack whenever anyone would walk onto Capitol Hill and Say: Let’s be careful about safety and soundness, let’s make sure the taxpayer isn’t on the hook here for losses. We had just been through the S&L crisis, there was every possibility that Fannie Mae would have losses. Anytime anybody said we should be careful about safety and soundness, let’s make sure the regulator is tough, let’s make sure that the capital requirements are high, Barney Frank would be in there hectoring, shouting: We don’t have a safety and soundness problem, we should care more about housing.
Paul Solman: But it was heartfelt.
MORGENSON: Absolutely heartfelt but how can you argue against safety and soundness? It is impossible to me that when a person from the CBO goes to Capitol Hill and talks about making sure the taxpayer won’t be on the hook here, why he should be treated to abusive hectoring by a member is beyond me.
The other charge against Representative Frank, also in the book, was that his partner, Herb Moses, was hired by Fannie with Frank’s help:
MORGENSON: The partnership offices were set up by Fannie Mae across the country to spread the word about [the] good deeds that it did. Now, Newt Gingrich was there on the scene at one of these ribbon-cutting ceremonies in Atlanta. We had of course one incidence where Barney Frank actually helped his partner get a job at Fannie Mae, Herb Moses who was just a graduate of B School out of Amos Tuck in Dartmouth. He was…The red carpet was rolled out for him at Fannie Mae because of course Fannie Mae knew they would have a favor that they could call in because of this hiring. This was the shrewdness of Fannie Mae under Jim Johnson. This was the you know, calculating idea of understanding how Washington worked and how to really profit by it.
Note: This post originally used an early draft of Joseph Stiglitz’s comments. An update on July 5, 2011 uses the correct version.