Reforming Fannie and Freddie: Privatization is the Way

Abstract

Fannie Mae and Freddie Mac are unique and controversial participants in the housing finance system of the United States. Because of these enterprises' government charters, the financial markets believe that the federal government is unlikely to allow Fannie and Freddie to fail to honor their debt obligations, and they are thereby able to borrow more cheaply in credit markets; in turn, they lower interest rates for residential mortgages. If the financial markets are right, however, Freddie and Fannie also create a contingent liability for the government. Though there are positive externalities from their activities, those benefits are modest at best. Recent reforms are steps in the right direction; but privatization would be a superior policy choice.