So on Friday it was leaked that the government is taking over Freddie Mac and Fannie Mae. On Sunday it was official. Freddie Mac and Fannie Mae have now been taken over by the federal government. But what does it mean for the real estate market, mortgage interest rates, and the US economy.
First let’s look at what it means for mortgage rates. I would expect that the government takeover will result in lower mortgage rates, possibly a full point lower. Why? Basically the Fed has been struggling to lower mortgage rates for the last year in an attempt to assist the troubled real estate market. The Fed has lowered prime rates several times in an attempt to pull down mortgage interest rates. In spite of this over the last 8 months mortgage interest rates have mostly risen. Now with full control of Freddie Mac and Fannie Mae (which provides insurance for most mortgages in the US) they will have much more control over the mortgage market and mortgage rates. As long as their objective stays the same, we can expect lower rates.
What does the takeover say about the current situation in the real estate market? This should have been obvious from all the events that preceded this but the takeover shows that the real estate market is in serious trouble. The federal government doesn’t just take over large companies on a whim, especially an administration with a Republican president that believes strongly in free markets. This is not simply a government takeover. This is the largest takeover in US history. Basically the takeover happened because it was believed if nothing was done we were headed for economic catastrophe.
How is this going to effect the real estate market? Although the takeover is a bad sign about our current situation it should have a positive effect on the real estate markets moving forward. First lowering mortgage interest rates should be quite a boon for the real estate market. Lowering rates lowers the effective cost of a house. And historically lowering rates has a positive effect on real estate values.
Additionally, if the Fed is smart they will reduce some of the mortgage restrictions Freddie Mac and Fannie Mae have created in the last year. While I would not like to see the mortgage market return to the free-wheeling lending of a few years ago, some of the current rules are bizarrely restrictive. The lending environment typically works like a pendulum moving from one extreme to another. Currently lending restrictions are not just stricter than what we saw during the real estate boom a few years ago but they are more restrictive than anything we have seen in the last 15 – 20 years. Hopefully a federally controlled Fannie Mae and Freddie Mac can help return us to normal as far as lending restrictions.
Lastly the government takeover could put taxpayers in the lurch for billions in loan losses. In the short term the government is going to have to infuse money into Freddie Mac and Fannie Mae. They have been losing money for quite some time and that is not going to change overnight. The government will have to around 20 to 30 billion into Fannie Mae and Freddie Mac to get them back to financial solvency.
Does this mean the federal government is insane? It depends on how you look at the issue. While taking over Fannie Mae and Freddie Mac will be very costly for the government and taxpayers, allowing them to fail could have led the US economy into a depression. In a depression those that keep their jobs have to make up for all the lost tax revenues for the large number of people that lose their jobs. So taxpayers could have been in a lurch if the Feds had decided to stay on the sidelines. So in summary the federal government found itself in a tight spot and decided to bet that they can fix the real estate market. We will find out if they were correct over the next several months.