John McCain and Sarah Palin co-authored a Wall Street Journal essay regarding the bailout of Fannie Mae and Freddie Mac, which will cost taxpayers hundreds of billions of dollars. Both campaigns have reluctantly supported Treasury Secretary Henry Paulson’s decision to pull the trigger on the government takeover of both organizations, as they had declined into insolvency or close enough to make the margin irrelevant. However, as McCain and Palin insist, this shows the folly of government-sponsored entities in what should be a free market:
Enduring reform of Fannie and Freddie is a key first step. We will make sure that they are permanently restructured and downsized, and no longer use taxpayer backing to serve lobbyists, management, boards and shareholders.
Treasury has broadly followed the McCain plan, outlined months ago, and gets at the short-term heart of the problem. That plan reinforces the federal commitment to meet our obligations and get this mess behind us. It replaces management and board members. It requires that shareholders take losses first. It puts taxpayers first in line for any repayments. And it terminates future lobbying, which was one of the primary contributors to this great debacle.
Along with the commitment of taxpayers’ dollars, we should make market reforms to help ensure that we do not face this problem again. We will make sure the marketplace understands its obligations. Homeowners must be able to understand the terms and obligations of their mortgages. In return, they have an obligation to provide truthful financial information, and should be subject to penalty if they do not. Policies must be in place to ensure that homeowners provide a responsible down payment of equity in the initial purchase of a loan. In the future, Fannie, Freddie or any government organization should never insure a loan when the homeowner doesn’t have enough of his or her own capital in the investment.
These two GSEs combined the worst of private- and public-sector management. They took far more risks than appropriate because they knew they could rely on government intervention if they got into trouble. Rather than reform their management processes, they spent hundreds of millions of dollars lobbying Congress for a laissez-faire approach to their business despite the sweetheart lending rates and federal support they received. Meanwhile, they paid their executives extravagantly, with Obama adviser Jim Johnson having hidden most of his $21 million in compensation from the shareholders.
The government doesn’t need to prop up GSEs in a free market lending environment. John McCain himself made this point in July. He said that one consequence of the bailout he saw as inevitable should be the abandonment of this model:
Even with those terms, sticking Main Street Americans with Wall Street’s bill is a shame on Washington. If elected, I’ll continue my crusade for the right reform of the institutions: making them go away. I will get real regulation that limits their ability to borrow, shrinks their size until they are no longer a threat to our economy, and privatizes and eliminates their links to the government.
The lack of accountability and the removal of risk both led to irresponsible practices and corrupt behavior within both GSEs. Had Freddie and Fannie been actual private enterprises, they would have had to fix those problems in a competitive market, and a failure would have left a larger number of competitors to pick up the pieces.
While Treasury spends our money on this failure, Congress should ensure that they do not allow a repeat of the same structure that caused it. McCain has been a strong voice on this issue for some time, and hopefully people will begin listening to it.