Massive Taxpayer Liability or Somewhat More Expensive Mortgages For Everyone? Hmm, I'll Have to Think About That…

Policymakers in Washington held a confab yesterday over the head-scratching question of what to do about government-owned mortgage giants Fannie Mae and Freddie Mac. Discussions like these can sometimes be wonky and impenetrable, but, as this brief passage from The Washington Post's summary of the conference shows, the heart of the debate is actually fairly easy to grasp:

Bill Gross, who runs the world's biggest bond firm, Pimco, argued that the mortgage market should be completely nationalized…Gross's proposal could ensure that mortgages remain affordable for home buyers. That's because the government, which would borrow money to finance the mortgages, faces a relatively low interest rate in the markets. The downside is that taxpayers would be on the line for losses.

By contrast, Alex J. Pollock, a fellow at the American Enterprise Institute, suggested the government not play any role supporting housing finance, except narrow programs run out of HUD to provide funding to low-income people.

"You can either, in my view, be a private company or a government agency—one or the other, but not both," he said. "There is a verse in the book of Proverbs which addresses guarantees . . . and it goes like this: 'He who stands a surety for the debts of another shall smart for it.'

Pollock's proposal would protect taxpayers. But on the other hand, banks and other private lenders might charge more than borrowers are used to for a 30-year fixed-rate mortgage. [bold added throughout]

That's it. Right there. That's the crux of the debate. Do we use the federal government to create massive moral hazard and expose taxpayers to huge fiscal risks that would otherwise be situated in the private sector in order to make sure that anyone with change in their pockets and a photocopy of last week's pay stub can afford to buy a nice, big house without their pulse rising? Or do we protect taxpayers from liability at the price of somewhat more expensive mortgages?

Too much of the debate over the government's role in housing finance seems to assume that any American who can hold down a job has a Founder-given right to a fixed-rate, 30-year mortgage, preferably with less money down than it costs to buy a decent big-screen TV. Yet the track record for government intervention in the housing market is pretty dismal, and we're already stuck with a lot of expensive past mistakes to sort out. As The Post notes, "it will take years for the government to absorb the hundreds of billions of dollars in bad loans Fannie and Freddie already guarantee." At this point in history, then, the debate over whether or not to permanently increase the government's involvement in mortgage finance should be finished. Instead, the question ought to be how to reduce the government's influence without causing too much shock to the markets. For an answer to that question, read this letter to Treasury Secretary Timothy Geithner from the Reason Foundation's Anthony Randazzo.

*Post updated for clarity.