We Could Have Prevented the GSE Crisis 10 Years Ago

By: Emily Renwick

Next month, America will have officially entered the longest recession since World War II. Dubbed the “Subprime Crisis of 2008-2009,” much of the blame for the current economic turmoil can be attributed to greedy, predatory lenders that locked people in to homes they could not afford.

Fannie Mae and Freddie Mac, officially sanctioned as Government Sponsored Enterprises, were collectively behind this drastic increase in subprime and ALT-A mortgages. As lenders targeted individuals who had poor or no credit, Freddie and Fannie quickly pooled together these risky mortgages and sold them as Mortgage Backed Securities (MBS). Investors immediately recognized the potential to make a quick and sizeable profit off of these securitized mortgages, and little by little, these MBS’s poisoned the portfolios of banks across the world.

Ten years ago, the New York Times issued a prophetic warning, cautioning policy makers to be weary of easing credit requirements for low income home owners.

In an article featured in the New York Times, my AEI colleague Peter Wallison had a prophetic caution, “If [Freddie and Fannie] fail, the government will have to step up and bail them out the way it stepped up and bailed out the thrift industry.”

The Times further cautions that if “Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980’s.”

We are now facing such a time, and the scale of government intervention has surpassed that of the S&L crisis of 1980s.

Ten years ago, we knew we were putting the tax payer’s dollar at risk. We cannot wait another ten years to reflect upon the warnings today.

Please note that a version of this piece was cross-posted here.