IT´S TIME TO NATIONALIZE FANNIE AND FREDDIE / THE WALL STREET JOURNAL OP EDITORIAL ( RECOMMENDED READING )

OPINION

JUNE 15, 2010.

It's Time to Nationalize Fannie and Freddie

Any solution that allows private companies to have a special relationship to government is destined to fail.

By STEPHEN A. BLUMENTHAL

It would be funny, if it weren't so painful, to watch members of Congress and the administration agonizing over what to do with Fannie Mae and Freddie Mac. The truth is that there is no choice. The only solution is for the government to assume the functions of these government-sponsored enterprises, returning the companies to their original status as official government agencies.

Americans like getting commitments for 30-year fixed-rate mortgages and will never tolerate a situation where mortgages are simply not available—or not available at reasonable interest rates. During the recent financial crisis, the private label mortgage-backed securities market disappeared—and with it went the liquidity it provided to the mortgage market outside of Fannie and Freddie. Banks were left to take loans they made into their inventory, and assume both credit and interest-rate risk. They refused, and simply stopped lending unless the mortgages could be sold to Fannie and Freddie. To a large extent that situation still exists today, as Federal Reserve Chairman Ben Bernanke said earlier this month.

Imagine the obstacles we face if we maintain the current model of conservatorship, in which the government runs these corporations in order to conserve their assets. Though Fannie and Freddie technically remain private companies, they have charters from the federal government; they are exempt from state and local taxes; and, most importantly, they operate with an express guarantee of unlimited financial support from the Treasury.

Some are proposing receivership—bankruptcy in which the government sells off assets to satisfy creditors—as the solution. But this has an excellent chance of endangering the sacrosanct position of bondholders, who may receive less than 100 cents on the dollar. That would have implications for the debt market well beyond Fannie and Freddie.

If Fannie and Freddie are completely privatized, as others are suggesting, how will they be recapitalized? Infusion of government funds would be just another variation on the bailout theme. Will equity investors who watched their "safe" investment wiped out by government action step up to the plate? Will former bondholders who were exposed to risk they didn't expect return without an explicit government guarantee of full payment? Highly unlikely.

Any solution that involves the government having a special relationship with private entities creates a fundamental conflict of interest that will inevitably lead to a failure of the enterprise. The demands of investors and the demands of Congress are often irreconcilable.

We must accept the fact that keeping the mortgage market liquid is so important to our economy that it must be guaranteed by the government. There is no reason why government agencies and their employees cannot administer programs that provide guarantees of payment of principal and interest, and securitization of mortgages. Yes, there will be operational problems, and outsourcing some of the functions to government contractors may be necessary. But once the decision is made to give the government authority, such issues will be secondary.

Putting aside the fact that the debt of Fannie and Freddie should already be on the federal balance sheet as the result of their conservatorship, there is simply no way to avoid the government assuming guarantee of that debt. This argues for nationalization rather than privatization. Surely the sophisticated financing structures and accounting rules that the government already uses for its own agencies can be applied to the successors of Fannie and Freddie without endangering the government's existing triple AAA rating.

There really is no alternative to nationalization. Let's get on with it.

Mr. Blumenthal is an attorney with the firm of Williams & Jensen, PLLC. He served as deputy director and later acting director of the Office of Federal Housing Enterprise Oversight from 2002-2006, and was in charge of the special examinations of Fannie Mae and Freddie Mac for accounting manipulation.

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