 The Financial Tsunami: The Next Big Wave is Breaking
Fannie Mae Freddie Mac and US Mortgage Debt
F. William Engdahl
www.engdahl.oilgeopolitics.net/
Jul 16, 2008
The announcement by US Treasury
Secretary Henry Paulson together with Federal Reserve chief Bernanke,
that the US Government will bailout the two largest guarantors
of housing mortgage debt - the Fannie Mae and Freddie Mac - far
from calming financial markets, has confirmed what we have said
repeatedly in this space: The Financial Tsunami which began in
August 2007 in the relatively small "sub-prime" high
risk US mortgage securitization market, far from being over,
is only gathering momentum. As with the Tsunami which devastated
Asia in wave after terrifying wave in December 2004, the financial
Tsunami we are witnessing is a low-amplitude, long-wave phenomenon
of trillions of dollars of financial securities being unwound,
defaulted on, dumped on the market. But the scale of the latest
wave to hit, the collapse of confidence in the two Government-Sponsored
Entities, Freddie Mac and Fannie Mae, is a harbinger of worse
to come in what will be the most devastating financial and economic
catastrophe in United States history. The impact will be felt
globally.
The Royal Bank of Scotland,
one of the largest financial institutions in the EU has warned
its clients "A very nasty period is soon to be upon us -
be prepared." They expect the S&P-500 index of US stocks,
one of the broadest stock indices in Wall Street used by hedge
funds, banks, pension funds could lose almost 23% by September
as in their term, "all the chickens come home to roost"
from the excesses of the US-led securitization revolution that
took hold after the dot.com bubble burst and Greenspan lowered
US interest rates to levels not sustained since the 1930's Great
Depression.
This all will be seen in history
as the disastrous Alan Greenspan "Revolution in Finance,"
- the experiment in Asset Backed Securitization, a mad attempt
to bundle risk in loans, "securitize" them in new bonds,
insure them via specialized insurers called "monoline"
insurers (they only insured financial risks in bonds), rate them
thereby via Moody's and S&P as AAA, highest grade. All that
was done so that pension funds and banks around the world would
assume they were high quality debt paying even higher interest
than safe US Government bonds.
Fed in Panic Mode
While he is getting praise
in the financial media for his "innovative" and quick
reactions to the un-raveling crisis, Fed chairman Ben Bernanke
in reality is in a panic mode with little short of hyperinflationary
tools at hand to deal with the crisis. Yet, his room to act is
increasingly bound by the soaring asset price inflation in food
and oil which is pushing consumer price inflation to new highs
even by the doctored "core inflation" model of the
Fed.
If Bernanke continues to act
to provide unlimited liquidity to prevent a banking system collapse,
he risks destroying the US corporate and Treasury bond market
and with it the dollar. If Bernanke acts to save the heart of
the US capital market - its bond market - by raising interest
rates, its only anti-inflation weapon, it will only trigger the
next even more devastating round in Tsunami shock waves.
The real significance of the Fannie
Mae bailout
The US government passed the
law creating Fannie Mae in 1938 during the Great Depression as
part of President Franklin D. Roosevelt's New Deal. It was intended
to be a private entity but "government sponsored" that
would enable Americans to finance buying of homes, as part of
an economic recovery attempt. Freddie Mac was formed by Congress
in 1970, to help revive the home loan market. Congress started
the companies to promote home buying and their charters give
the Treasury the authority to extend a $2.25 billion credit line.
The problems in the privately-owned
Government "Sponsored" Entities or GSEs as they are
technically known, is that Congress tried to fudge on whether
they were subject to US Government guarantee in event of a financial
crisis as the present. Before now, it always appeared a manageable
problem.
No more.
The United States economy is
in the early phase of its worst housing price collapse since
the 1930's. No end is in sight. Fannie Mae and Freddie Mac, as
private stock companies, have gone to excesses in leveraging
their risk, most as many private banks did. The financial market
bought the bonds of Fannie Mae and Freddie Mac because they bet
that the two were "Too Big To Fail," i.e. that in a
crisis the Government, that is the US taxpayer, would be forced
to step in and bail them out.
The two, Fannie Mae and Freddie
Mac, either own or guarantee about half of the $12 trillion in
outstanding US home mortgage loans, or about $6 trillion. To
put that number into perspective, the entire 27 member states
of the European Union in 2006 had an annual GDP of slightly more
than $12 trillion, so $6 trillion would be half the GDP of the
combined European Union economies, and almost three times the
GDP of the Federal Republic of Germany.
In addition to their home mortgage
loans, Fannie Mae has another $831 billion in outstanding corporate
bonds and Freddie Mac has $644 billion in corporate bonds.
Freddie Mac owes $5.2 billion
more than its assets today are worth meaning under current US
"fair value" accounting rules, it is insolvent. Fair
value of Fannie Mae assets has dropped 66% to $12 billion and
may as well go negative next quarter. As the home prices continue
to fall across America, and corporate bankruptcies spread, the
size of the negative values of the two will explode.
On July 14, symbolically the
anniversary of Bastille Day, US Treasury Secretary Paulson, former
chairman of the powerful Wall Street investment bank Goldman
Sachs, stood on the steps of the US Treasury building in Washington,
a clear attempt to add psychological gravitas, and announced
that the Bush Administration would submit a bill proposal to
Congress to make taxpayer guarantee of Freddie Mac and Fannie
Mae explicit. In effect, in the present crisis it will mean nationalization
of the $6 trillion agencies.
The bailout by Paulson was
accompanied by a statement by Bernanke that the Fed stood ready
to pump unlimited liquidity into the two companies.
The Federal Reserve is rapidly
becoming the world's largest financial garbage dump as for months
it has agreed to accept banks' Asset Backed Securities including
sub-prime real estate bonds as collateral in return for US Treasury
bond purchases. Now it agrees to add potentially $6 trillion
in GSE real estate debt to that.
However, the disaster in the
two private companies was obvious as far back as 2003 when grave
accounting abuses in the two companies were made public. In 2003
then President of the St. Louis Federal Reserve, William Poole
publicly called for the US Government to cut its implied guarantee
of Freddie Mac and Fannie Mae claiming then that the two lacked
capital to weather severe financial crisis. Poole, whose warnings
were dismissed by then Fed Chairman Greenspan, called repeatedly
in 2006 and again in 2007 for Congress to repeal their charters
and avoid the predictable taxpayer cost of a huge bailout.
As financial investors warn
the Paulson bailout is not a bailout of the US economy but a
direct bailout of his Wall Street financial cronies. What until
recently had been the largest bank in terms of loans outstanding,
Citigroup in New York, has been forced to raise billions in capital
from Sovereign Wealth Funds in Saudi Arabia and elsewhere to
remain in business. In its May announcement, Citigroup's new
Chairman Vikram Pandit announced plans to reduce the bank's $2.2
billion balance sheet of liabilities. However, he never mentioned
an added $1.1 trillion in Citigroup "off balance sheet"
liabilities which include some of the highest risk deals in the
US real estate and securitization era it so strongly backed.
The Financial Accounting Standards Board in Connecticut, the
official body defining bank accounting rules is demanding tighter
disclosure standards. Analysts fear Citigroup could face devastating
new losses as a result with value of liabilities exceeding the
bank's $90 billion market value. In December 2006 prior to the
onset of the Tsunami crisis, Citigroup had a market value of
more than $270 billion.
###
15 July, 2008
 F. William Engdahl
 F. William Engdahl
is the author of Seeds
of Destruction:
The Hidden Agenda of Genetic Manipulation. BUY THIS BOOK
NOW.
He also authored
'A
Century of War:
Anglo-American Oil Politics,'
Pluto Press Ltd.
He may be contacted
at his website, www.engdahl.oilgeopolitics.net.
321gold Ltd
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