Last month, the federal government fully extricated itself from its investment in General Motors, selling its remaining shares on the stock market. The government injected almost $50 billion into the company to save it from a bankruptcy process, taking claim to 60 percent of the company’s stock for its troubles. By disposing of the stock over time, it recouped all but $10 billion of that investment.
While the controversy over the government takeover having receded, a few have suggested that the government should have held onto its shares longer: If profits keep growing, share prices would have risen too, which might have allowed the government to break even on its investment. But wisely, the government eschewed such thinking and sold its stock as expeditiously as possible.
Why was this wise? Because having the government own even a portion of a profit-maximizing concern is fraught with inherent conflicts that make life difficult for any CEO and corporate board wanting to do what’s best for their shareholders.
This is still an ongoing problem: While the government has divested itself of GM stock, it has chosen a completely different path with Fannie Mae and Freddie Mac. Just as with GM, the government essentially took over the two entities, teetering on the edge of bankruptcy, in 2008. The government placed them into what’s called a conservatorship, which gave the government ownership of just less than 80 percent of common stock, with preferred bondholders retaining the other 20 percent.
The reason the government chose this arrangement was to avoid adding the cumulative debts of the two (which at the time were in the trillions of dollars) to the federal balance sheet. Running a deficit approaching $1.5 trillion in 2009 frightened the markets enough; adding another few trillion dollars to that might have created an entirely new set of problems in the financial markets.
The two hemorrhaged money for a couple years after the bailout, but as the economy and the housing market improved, Fannie and Freddie returned to profitability. It soon appeared that their booming profits might allow the government to recoup its investment and extricate itself from the mortgage business altogether.
However, the government showed no interest in such a path. In 2012, the U.S. Treasury quietly changed its contract with the two GSEs and changed the financial position of the other shareholders.
Instead of being content with the 10 percent dividend it assigned itself, along with the bulk of any profits from a future stock sale, Treasury takes the entire net worth of Fannie and Freddie each quarter. At the end of 2013, this amounted to a total of $185.2 billion since the peremptory imposition of this policy. That’s roughly $2 billion shy of making up for taxpayers’ entire investment.
At this pace, the treasury will recoup its investment by sometime in 2014, but there’s no reason to believe that the government will even then exit the mortgage business: Treasury mandarins have opined in the press that the business of home mortgage financing is “too important” to be left solely to the markets.
But the government’s arrogation of the firms has created numerous problems. For starters, it’s crippling the GSEs. Disgorging their net wealth every quarter means they have little money available to improve how they do business, retain key employees, or even attend to the-day-to-day matters of running large, complex enterprises.
Secondly, imperiously changing the terms of its deal with Fannie and Freddie and the other shareholders sets a terrible precedent, one to which the Obama administration’s other behavior has added credence.
Put simply, this government has never seen itself as bound by the rule of law. It showed this contempt in the GM bailout, when it subjugated the bondholders to the claims of the union health-care plan, in clear violation of federal bankruptcy law and a couple of centuries of precedent. It felt free to ignore an insufficiently pliant Congress when it saw the need to make changes to the Affordable Care Act.
The Treasury’s altering of the terms of the conservatorship smacks of the government trying to have it both ways: It got the benefits — keeping the trillion-dollar-plus debts of Fannie and Freddie off the government’s balance sheet — but then managed to slough off the price of such an arrangement by squeezing out the other shareholders.
The government’s advocates tell us not to feel sorry for the hedge funds and “speculators” who own the other 20 percent of Fannie and Freddie, but such a blithe attitude smacks of a class war from another century. If we can ignore contractual obligations because the other party has been deemed to be unfit for some reason, where on earth does that leave us?
The ranks of Fannie and Freddie stockholders include more than just leviathan hedge funds: The community bank from my hometown in central Illinois held over $1 million of preferred stock in Fannie Mae — on a government bank examiner’s recommendation. It was a loss the bank could ill afford.
While the government has a right and an obligation to recoup its investment in Fannie and Freddie, it has no right to change the original terms of its arrangement to boost its take and squeeze out the other investors. The feds’ continuing insistence that they are above the law when it comes to economic contracts is a dangerous precedent that could complicate the government’s ability to act in any future crisis.
— Ike Brannon is a senior fellow at the George W. Bush Institute and president of Capital Policy Analytics, a consulting firm based in Washington, D.C.