Thursday, September 20, 2007

Regulators lift caps on Fannie and Freddie

Not so long ago, the Bush administration rejected a proposal to raise the limit on how much the two government-chartered enterprises can hold in their portfolios, but a new move by the OFHEO does exactly that. As of October 1, Freddie and Fannie can increase their mortgage portfolios by up to 2% annually, and the caps on both are now at $735 billion, compared to $727 billion for Fannie Mae and $724 billion for Freddie Mac until recently. This is much less than the 10% Fannie asked for, and the company didn’t fail to mention this in its statement: “the more effective response, given the extent of the market disruption, would be to raise our portfolio cap by at least 10 percent so that we can more fully address the ongoing turmoil”.

Christopher Dodd, Chairman of Senate Banking Committee, also criticized the move as “timid and inadequate”, but some analysts fear that lifting the caps on the two GSEs in unwise. Indeed, the Fed already did a lot by cutting the Fed Funds Rate by half a percent, essentially flooding the market with money, so allowing Fannie Mae and Freddie Mac to purchase more loans would trigger another short-lived iteration of the housing bubble. Pulling at levers to find out what happens could be very costly right now, so why not leave the market to fix itself? The rate cut is quite a dangerous experiment already, watch how the economy behaves until the end of the year and then decide what to do next. Now that Fannie and Freddie got their caps lifted a little, I guess it’s best to leave them as they are for a while, because it may take months to see the results of this week’s actions.

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