paper about MBS

High-ranking government servants such as the chairman

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Unformatted text preview: high-ranking government servants, such as the chairman of the Federal Reserve or the Secretary of the Treasury, or perhaps the head of Ginnie Mae. The rationale for such nationalization is that in the next large mortgage crisis, the government would inevitably bail out any private securitization firm -- say, the re-privatized Freddie Mac or Fannie Mae. The advantage of the nationalization approach is that the tax payer would not only bear the costs of the next housing market downturn and foreclosure wave, but also earn the profits (the guarantee fees) in good times. In contrast to the pre-2008 situation, the government would at least earn the insurance premium for the insurance that it provides for the next earthquake in the U.S. housing market. The other advantage of this approach is that there would be no disruption in the provision of mortgage credit -- not during the initial transition nor in the next housing downturn. However, there are several downsides of this approach. First, and foremost, no market information is available to ensure that the government receives the correct guarantee fee and that the guarantee function remains economically viable. The current guarantee fee of about 0.22% is clearly too low and needs to be recalibrated in case this option is employed. The history of governments’ charging fees on this scale is not good. Consider deposit insurance, the other major government guarantee program. Leading up to the S&L crisis in the 1980s and the financial crisis of 2007-2009, there is general agreement that deposit institutions were subsidized by below market FDIC deposit insurance, creating moral hazard. In fact, because the FDIC’s reserve fund was viewed as well-capitalized, many FDIC-insured institutions were not 112 charged at all from 1995-2005. Moreover, due to the bait-and-switch issue described above, moral hazard likely remains even if the fee pricing problem were solved. Second, the other major disadvantage of nationalization approach is that the government would be stuck with a huge on-balance sheet liability at a time of large fiscal deficits and ballooning debt. Most economists would argue that the government has no comparative advantage in providing mortgage credit to most U.S. households and that it currently crowds out the private provision of mortgage credit. The discussion above suggests that there may be some value to allowing a credit-risky (non-guaranteed) MBS market to develop and compete openly with a guaranteed MBS market. Nationalization pretty much rules out this possibility. Finally, government institutions tend to be poorly governed and subject to political capture. Like the GSEs, they have a tendency to morph and to be reoriented away from their intended mission towards new political goals over the course of their life. They are easy to create, but hard to manage and to abolish....
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high-ranking government servants such as the chairman of...

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