Dubious Assumptions in CBO’s Fannie, Freddie $25 Billion Rescue Cost Estimate

And subprime was contained……

I am curious: what expertise does the CBO have in developing an independent view of the two GSE’s exposures? The CBO was no doubt dependent on the GSEs and/or the Treasury for key elements of the analysis.

Moreover, if you connect the dots suggested in the Bloomberg story, the analysis was likely done on a probabilistic basis, with a key assumption that there were 50% odds the facility would not be used before it expired at the end of 2009. Thus, if the cost is estimated at $25 billion, presumably the odds that it will be used are 50% with the damage in that scenario $50 billion (or more refined scenarios, say 10% odds of a cost of $10 billion, 20% odds of a cost of $30 billion, 20% odds of a cost of $90 billion).

Do you really think this facility will not be renewed? 2010 is the big year for Alt-A and Option ARM resets. The housing market is unlikely to be out of the woods. Looking at this plan only through the end or 2009 is a garbage-in, garbage-out analysis (or more accurately, the plan is fraud in pretending to provide support only a year and a few months). Once the Federal government commits to standing behind the GSEs (which appears inescapable), there is no wrigglig off that hook.

From Bloomberg:

Treasury Secretary Henry Paulson’s rescue package for Fannie Mae and Freddie Mac would probably cost taxpayers $25 billion, the Congressional Budget Office said.

“There is a significant chance — probably better than 50 percent — that the proposed new Treasury authority would not be used before it expired at the end of December 2009,” the nonpartisan agency, which provides economic and budget analysis for lawmakers, said in a report today….

The cost of the plan will depend upon terms of the credit, whether the companies have to put up collateral, pay fees or commit a portion of profit to the Treasury, said Marvin Phaup, a CBO economist for almost 20 years who retired in 2007 and is now a research scholar at George Washington University in Washington.

“This is a very very difficult thing to do and of course the political pressure will be great to make the cost estimate zero,” Phaup said in a telephone interview last week. “You can make a reasoned argument that it will be zero with some probability, but of course, it’s also with some probability it could be very costly to taxpayers.”…

At the end of March Freddie Mac had $6 billion more than the minimum capital required by its regulator, and Fannie Mae had surplus capital of $5.1 billion. The companies already raised $20 billion in the past year to cover losses and meet Ofheo rules.

Freddie Mac will probably report a surplus exceeding the minimum 20 percent required for the second quarter, according to a company filing with the SEC last week. The SEC registration and equity raising will allow the company to reduce its capital surplus level to 10 percent.

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  1. Anonymous

    Other than the probabilistic basis, there’s no indication at all of what the calculation is. Would be interesting to know.

  2. S

    it is a tad too convenient the way the amrkets are trading. The patterns are just topo convenient. For example oil, down, gold down, dollar up and bank sector bid. Major misses across the tech sector and the industrials are lagging indicators if you pay attention to the rest of the world. Seems like the US is setting the pac in terms of intervention with BOE King saying that he want more power to intervene. China saying it will buy equities as the gov’t deems them oversold. The bank sector has now coddled up with fuld under the Fed/govt; umbrella. Steel goes on obver to Wachovia to “fix” the situation. Another GS banker heads to gov’t to advise. This afterall after GS “advised” Countrywide to draw the $60B from FHLB. There is no bifurcation across the banking sector. All the balance sheets are loaded with garbage and the banks are beating estimates on the back of pillaging depositers with better NIM. So as the investors cheer a stock move up off a 70% decline, any incremental rally is coming out of their checking deposit rate. but it is in your interest, you just don’t know it yet.



    NEW YORK (CNNMoney.com) — Among the nightmares lurking around the corner for the already battered housing and credit markets would be a meltdown at mortgage financing giants Fannie Mae and Freddie Mac.
    Although few are predicting an imminent need for a bailout just yet, credit rating agency Standard & Poor's recently placed an estimated price tag on this worst case scenario — $420 billion to $1.1 trillion of taxpayer's money.

  4. S

    Biggest tell on WB resutls was CEO saying that they were working diligently to reestructure the pick a pay so as to get those people into gov’t backed products. GSE nationalization is the equivilant of the auction facilities. Recall the stories about LEH structuring lev loans and high yeild into CEDOs for deposit at the Fed. Same thing. Also curious that Paulson included in his pitch the international angle. UAE is threatenign to break the dollar peg and the GCCs can’t be far behind. Paulson has said in very explicit terms that he has no interest ins topping the needed correction in housing prices. His interest is in protecting the franking privilage of the United States. I would be willing to bet that the FHLB debt in the system will eventually end up at the taxpayers doorstep, or a good percentage of iot. Nationalization is the super SIV

  5. Ginger Yellow

    It’s absurd to assume it won’t be renewed, but that’s how government forecasting works, sadly. Look at the White House and CBO projections for the budget deficit. Even the most conservative projections include the sunsetting of things that everyone knows will be renewed, and the retention of the AMT that everyone knows will be scrapped or drastically altered.

  6. Penn

    That estimate is just more fluff. The government is blowing dandelions.

    Look at Fannie and Freddie today. The stock market’s up a little, but meanwhile they’re tanking again.

    Please, somebody answer these questions for me…
    Does the Treasury have the cash to bail out Fannie and Freddie, or would it have to borrow that money from overseas?

    And second question: if Fannie and Freddie were to go bankrupt and need rescuing, would anyone lend the Treasury money anymore?

    The Feds talk talk talk about saving these corporations. But it seems to me that all this talk is intended to boost confidence, and nothing more. When it comes down to it, the Feds can’t do anything except watch what happens and give hoorahs from the sidelines. If Fannie and Freddie fail, the dollar is going to hit a deathspiral and no one will lend us money to save ourselves.


  7. Stuart

    I understand we have to deal with the figures given to us, at least to comment upon, but why does anybody of independent critical thought believe the figures given to us for those who are giving them have repeatedly demonstrated their failure to grasp the scale and depth of situation. Remember the infamous “it’s contained”.

  8. Anonymous

    Enron was ahead of its time. These days, the Fed would certainly give it access to the discount window.

  9. CV

    The problem with the Fed’s bailing out any GSE @ this point is they can’t manage to stop the bleeding of the taxpayers failing GNMAE portfolio. If managed in the private sector they would be bankrupt 4X over, but we are going to bail out Freddie/Fannae? Does this make sense?

  10. Anonymous

    Wow Fand F must have some lobby to get the CBO to roll over. I just e-mailed my Senator and asked her to give Paulson the $25bil but no more for now.
    We have got to stop this steamroller

  11. Anonymous

    I wonder what the return on investment is for Fannie and Frauddie’s 200 million of lobbying?

  12. Lune

    The CBO is actually a very reputable economics shop. The problem is that per their mandate, they are required to only look at what is in proposed legislation when drawing up their estimates, and not on what will actually happen in the future.

    As a result, there’s quite a bit of tweaking the legislation to game the CBO number. For example, Bush made his tax cuts “temporary” with built-in sunsets, and the CBO had no choice but to score his tax cuts based on the language of the legislation, even though Bush was publicly proclaiming his intent to make the tax cuts permanent.

    Thus, my own suspicion is that CBO’s economists know that the $25bil is bogus, but the text of the legislation was specifically drafted in order to produce an unrealistically low estimate from the CBO, while creating underlying obligations and hidden guarantees that in the next year or two will cost much more. That way, you can pass the legislation by telling the public the cost will only be $25bil while knowing all along the cost will be much higher when the final accounting is done.

    This is done all the time in DC and is known as finessing the CBO score. Check out http://www.urban.org/url.cfm?ID=1000553&renderforprint=1&CFID=37500890&CFTOKEN=32282775 if you want to learn more about the practice.

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