How much do Freddie and Fannie Mae save homeowners?

Freddie Mac and Fannie Mae receive numerous state privileges, including tax-exempt status for their securities. Many investors believe that the U.S. government would guarantee the debts of the agencies, should a crisis arise. Not surprisingly, there has been recent talk of making the agencies operate on a level playing field.

The agencies, in response, argue that they have lowered the cost of homeownership significantly. But by how much?

Wayne Passmore of the Board of Governors did a study, here is one summary. Here is the bottom line:

The report says that because of their government-sponsored status, Fannie Mae and Freddie Mac were able to borrow at lower interest rates than private sector firms by an average of about 40 basis points from 1998 through the end of this year. However, most of this benefit is passed on to stockholders not to homeowners, the report says. The effect of these two enterprises buying and repackaging mortgages has reduced interest rates by only about seven basis points.

“The GSEs’ implicit subsidy does not appear to have substantially increased homeownership or homebuilding because the estimated effect of the GSEs on mortgage rates is small,” Passmore reports.

Furthermore it is estimated that the legal subsidies account for as much as 81 percent of the value of the traded companies. Not surprisingly, the agecies have been critical of the study.

My take: A common sense understanding of tax incidence favors Passmore’s conclusions. Humongous is the right word to use in describing American capital markets. If you let one entity borrow at lower rates, there are two primary options. First, that entity makes profit without lowering overall rates much. Second, and less likely, that entity becomes big enough to lower mortgage rates by some amount. But to the extent the entity becomes large, there is a significant tax or guarantee cost associated with its size. In other words, the government would be pushing down real interest rates by subsidizing capital accumulation, which cannot generally be done at low cost.