There’s a great debate going on in the various offices in Washington lately.  If Fannie Mae and Freddie Mac go down, should we bail them out?  You know me, I’m not one for opinions but I might include my two and a half cents.  Read on and see that advantages and disadvantages of bailing them out versus letting them die.

Let them die advantages:

• These companies were started by the government, and the government isn’t known for their efficiency.  Given how large these companies are, there’s a pretty good chance its not being run in the smoothest possible manner.  Letting them die would allow new companies to take over and develop a better process.

• The two mortgage re-sellers have been running this industry for many years.  We look at them as a government institution when they are not.  They must die to sever the ties with the government.

• The death of the loan twins would be a symbolic event that wold likely signify the bottoming out of this credit crisis.  All the bad loans collapse the two most important financial institutions; it can’t get worse than that, right?

Let them die disadvantages:

• Fannie and Freddie own or guarantee half of all the mortgages in the country, this is trillions of dollar we’re talking about.  Their collapse would be an absolute mess to clean up.

• Together, if they go under its unknown what will happen to the mortgage industry.  Will people still buy mortgages?  If so, then from whom?  If not, then we’ll see a drastic, and permanent decrease in the amount of money available for loans which would stagnate economic growth.

• Though I said their collapse could symbolize bottom of the credit crunch, it might do the exact opposite and throw us into a full blown depression.

Let them live advantages:

• Bailing out The Fraternal Order of Finance will allow mortgages to continue to be issued and sold at a steady rate which is vital for us right now.

• The simple fact is letting them live may be the most important thing to the health of our economy.

• The Lords of Lendtucket were created to stabilize the mortgage industry, which they did.  Will we return to chaos if the government doesn’t help?

Let them live disadvantages:

• Uh, duh, the government would bail them out.  If it isn’t bad enough that they’d use tax payer money, not something we have a lot of sitting around, the government would own parts of the company.  That’s a big no-no since I don’t want more bureaucracy getting in the way of our financial markets.

• We’ll be supporting a system that is broken somewhere along the chain.  Eventually, it might break again, only this time the government will go bankrupt too.  You can only hold up a broken bridge for so long.

• If we bailed out Bear Stearns and then the Treasury offers a line of credit to Knights of the Round Coin, where will it stop?  Will we bail out GM and Ford?  What if JP Morgan falls because of their involvement with Bear?  Do we really think a government that doesn’t know when to leave a country they invaded with borrowed money, much less know how to properly run an invasion, is capable of knowing when to draw the line?  How much money are we going to loan to businesses that can’t survive in a free market?  The whole idea of a free market is the weak must die.  

There are good arguments from both sides, but that’s just un-American of me.  I hope they are able to survive, but if they die I don’t want the government stepping in just to put them on dialysis.  If they fail once, it will happen again and the government will suffer as well.  When a company fails (even if Weakonomics failed), that’s Capitalism’s way of saying, you weren’t right for us.

To add another lever of stress to the matter.  A recent (and long) article about the situation spoke of who actually owns stock in Fannie and Freddie.  You see, the banks own a bunch of preferred stock, which is similar to the stock you buy and sell all the time.  If the mortgage giants were to falter, all the banks would have to write off the loses of those stocks, meaning they’ll each suffer more than they already are.  Check out the article to get a good write up of what’s going on.

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By The Weakonomist

The Weakonomist is the founder of Weakonomics. Clicking the picture of the puppy will tell you more about him. If you like what you're reading consider subscribing to the blog, following him on Twitter, and checking out the related posts below. Please consider a donation if you really enjoy Weakonomics. Also keep in mind that nothing I say can be construed as financial advice.

categories: banking, economics, government, investing, loans