Shorts and Fannies: A Brief History
An explainer on Fannie Mae, short-selling and government economic regulation.
Robert Kuttner | July 22, 2008 | web only
Americans who are not financial experts have been scratching their heads lately, trying to understand just what short-selling is and why it threatens banks, and what exactly Fannie Mae is, and how it might be dragging down a housing sector that it is supposed to help.
A brief history lesson is in order. Fannie Mae, (nee the Federal National Mortgage Association or FNMA) was once an irreproachable government agency -- its troubles began only after it was privatized and wise-guy executives started paying themselves multi-million dollar bonuses for taking excessive risks. And reformers have been trying to get rid of short-selling since before Franklin Delano Roosevelt.
This is a little technical, but stay with me. It's a good story.
For a year now, the Bush administration has been pursuing emergency regulatory interventions in practice that it does not accept in theory. Since mid-2007, the ad-hoc rescue operations conducted by Treasury Secretary Hank Paulson with the help of Federal Reserve Chairman Ben Bernanke have included:
* An emergency takeover of Bear Stearns by JP Morgan Chase, at fire-sale prices, putting $30 billion of taxpayer money at risk.
* Offering a general line of credit to large investment banks that previously enjoyed no special government guarantee or supervision.
* Putting government capital at the disposal of Fannie Mae, leading to outcries from across the political spectrum.
* Invited banks to exchange dubious paper for government-guaranteed Treasury bills, in order to recapitalize banks and move markets in risky securities that nobody else wanted to buy.
All of this was done under the Federal Reserve's emergency authority which was enacted during the Roosevelt administration. None of it had congressional authorization, nor did the Bush administration announce an explicit reversal of the general policy of financial deregulation. All the moves had the same, panicky, ad-hoc character.
In the last couple of weeks, a new and alarming element deepened the crisis -- runs on banks. This seems improbable, since depositors have nothing to fear because their money is insured by the Federal Deposit Insurance Corporation -- a core invention of the New Deal that was not repealed during the orgy of deregulation. But these runs were something new -- panicky flights by shareholders.
more...
http://www.prospect.org/cs/articles?article=shorts_and_fannies_a_brief_history