Fannie Mae: The credit crunch meets the F-word
The panic on Friday about the two US mortgage giants, Fannie Mae and Freddie Mac, is followed by the collapse of California's IndyMac, a regional mortgage lender. Customers at Indy have been told their money (up to a $100k limit) has been transferred to something called "IndyMac Federal Bank". The crucial letter in the acronyms that Freddie and Fannie are short for is F, as now also with Indy: the two giants are Federal institutions, as is - now - the busted Californian bank. Slowly but surely the state - not just in America but here too - is having to bail out the financial system, and I think this could have a big impact, eventually, on politics too....
Fannie Mae was founded in 1938 as the monopoly provider of mortgage loans. It was privatised in 1968, Freddie set up to expand the operation in 1970: they don't issue mortgages - they underwrite them for other institutions. Together they have underwritten $5 trillion of mortgages - half of all US mortgages.
On privatisation they received a bailout guarantee from the government and a direct line of credit from the US treasury; but they were listed companies - their shares traded on the stock exchange and they made a healthy profit. So healthy in fact that pure private capitalist banks had been baying for them to be unshackled from this part-private, half-life existence.
Thus Fannie and Freddie were sustained by one of those necessary fictions that underpin finance capitalism: that this $5 trillion was not really guaranteed by the US government at all. Now that fiction is collapsing (every step of the financial crisis has destroyed a necessary financial fiction) we are confronted with the emergence of something very strange: a state backed financial capitalism.
Consider this: right now the US legislature is about to pass a separate bill allowing the government to underwrite $300bn of mortgages for those whose homes are about to be repossessed; the US Treasury has already doled out in excess of $100bn cheap loans to banks to keep them afloat and "reinvented" a rule allowing it to underwrite the rescue of Bear Stearns by JP Morgan. Now it is faced with at the very least having to shoulder $40bn of Fannie and Freddie's debts (the two companies have insisted they are solvent and their is nothing wrong, but many analysts disagree, as does the market which has wiped 78% off their share value since January). And one option being discussed is to take the whole of Fannie/Freddie's mortgage book into public ownership, Northern Rock style. It is an option that, as with Northern Rock, they will surely try to avoid - because $5 trillion is the size of the US national debt!
(Put another way, the annual GDP of the United Kingdom is about $2.5 trillion and the entire GDP of the world, nominally, just under $50 trillion!)
(Temporary detour: Brad De Long who appeared on Newsnight last night to discuss all this is not happy at the way our discussion was handled. See here.)
All over the word, slowly but surely, the state is becoming exposed to the debts and liabilities of the finance system. We've seen it here with Northern Rock - and with the Bank of England's special liquidity scheme, and with the expanded deposit guarantee. The words "too big to fail" - once uttered as a joke, about a theoretical situation in the dining rooms of the investment banking world - have now been elevated into a philosophy.
The strange thing is it's being done on the watch of governments committed to removing the state from the economy. It is being done, in other words, in defiance of the official ideology of governments, regulators, banks, business schools, accountancy firms, TV pundits, Nobel prizewinners and nearly every think tank on earth.
On this basis I will make a prediction. Soon the ideology will move into line with the practice. Soon somebody will argue that a state-backed finance system, with much heavier regulation, is better than the one the world's leaders have been trying to patch together at the G8 summit.
Fannie Mae was born during Franklin Delano Roosevelt's second term, when the New Deal moved from a series of ad-hoc responses to the depression to a more holistic vision of a state-revived and regulated American capitalism. Incidentally FDR also created the Federal Deposit Insurance Corporation, which moved in last night to seize the assets of IndyMac. And the Securities and Exchange Commission which will now surely begin an investigation into how things went wrong. In short, the regulatory architecture of modern US finance was born as the result of a spectacular economic disaster which ruined the lives of millions for a generation.
Roosevelt and his allies did not start out with a coherent vision of what to do in the face of the crisis. They improvised - albeit branding the whole programme with the catch phrase "The New Deal". They closed 4,000 banks, they outlawed the concept of the investment bank as we know it; they outlawed financial speculation.
I am not advocating a return to Rooseveltian state captialism - but I do think the evolution of FDR's thought is worth studying.
Because what basically happened was that a coalition of interests determined to stop the finance sector from destroying the world economy found a leader prepared to go beyond muddling through and to envision a new kind of market economy where the state's mission was to defend the little guy against the steamroller of unemployment, hunger and speculation.
I have thought for some time that the global model developed around climate change might eventually seep through the thinking of politicians about the economy. The consensus devloped around Kyoto involves voluntary re-regulation, new taxes, quotas and artificially created prices. It is state intervention on a vast scale to save the world for our children - and it is done without apology.
In the economic sphere we are still at the stage where huge state interventions into the finance system are being sold as "temporary" or "abnormal". With a bit of pro-activity from regulators and government, we may yet head-off a deep recession and we will look back on the nationalised Northern Rock as an episode.
But if more dominoes fall in the financial system the point will come where somebody tries to make the case that a state-backed capitalism is better than what we've had for 20 years.
I tried this argument out on a bunch of investment bankers at a dinner 18 months ago and their faces turned the colour of vichyssoise. "The fact that you can't imagine it, and that you can't think of any mainstream politician who would advocate it" I said, "means you should probably go and risk-model it right away".