No exit from Fannie and Freddie?

It was a year ago this week that the federal government seized ailing mortgage-finance giants Fannie Mae (FNM) and Freddie Mac (FRE). Their collapse, it was feared, could imperil the entire financial system. The takeover wasn't meant to be permanent, but a new congressional report illustrates why it may be especially challenging to undo.

The reason? Privatizing Fannie and Freddie "credibly" will be exceptionally difficult because investors will probably expect that the government will simply swoop in again with another bailout should the companies run into trouble later, according to an assessment by the Government Accountability Office (PDF).
"The financial markets likely would continue to perceive that the federal government would provide substantial financial support to the enterprises, if privatized as largely intact entities, in a financial emergency," the report stated.

"Consequently, such privatized entities may continue to derive financial benefits, such as lowered borrowing costs, resulting from the markets' perceptions."

In other words, taxpayers could remain on the hook for future bailouts.

What to do with Fannie and Freddie is a big question -- and an expensive one. The federal government has already spent $95.6 billion to bail out the companies, according to Pro Publica. And in the end the total cost to taxpayers could be much higher, reaching nearly $400 billion, according to the GAO.

Besides privatization, the government could return them to their previous status of "government supported enterprises" -- essentially for-profit corporations with a government imprimatur -- but boost the level of regulatory oversight to which they're subjected. Or it could turn them into government agencies, taking investors out of the equation all together.

Fannie and Freddie, the two largest providers of mortgage funding in the country, have suffered badly in the aftermath of the housing bubble's bursting. Freddie Mac posted its first quarterly profit in two years last month, while Fannie Mae lost $14.8 billion. Together, they've seen $165.3 billion in losses since 2007.

Figuring out what to do with Fannie and Freddie will help lift a big burden from taxpayers' shoulders. President Obama has said he wants to have a plan for doing just that by the time he submits his 2011 budget to Congress next year. But, as GAO's report illustrates, the question of how to disentangle the government from the companies is just as important as when.
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