Thursday, June 12, 2008
Recent data from the Fed's Z.1 report shows how home mortgage asset flows have changed over the last ten years - from the GSEs to Wall Street and back to the GSEs. Wasn't there some concern about systemic risk with GSEs a while back?
If you answered yes to the above question, you are correct.
The systemic risk associated with Fannie Mae and Freddie Mac growing their balance sheets too large was the only systemic risk that former Fed chief Alan Greenspan identified during almost 20 years of sitting in the big chair in the big building on Constitution Avenue.
See this February 2004 speech by the Maestro himself:
Most of the concerns associated with systemic risks flow from the size of the balance sheets that these GSEs maintain. One way the Congress could constrain the size of these balance sheets is to alter the composition of Fannie's and Freddie's mortgage financing by limiting the dollar amount of their debt relative to the dollar amount of mortgages securitized and held by other investors. Although it is difficult to know how best to set such a rule, this approach would continue to expand the depth and liquidity of mortgage markets through mortgage securitization but would remove most of the potential systemic risks associated with these GSEs.This article in Slate shortly thereafter has more on the subject.
In case anyone has forgotten, after the initial accounting problems at the GSEs in 2003, Alan Greenspan played a critical role in convincing Congress and regulators to limit the size of their portfolios.
This MBS origination work then swiftly moved to Wall Street in 2004, 2005, and 2006 (see the chart above) and we all know what happened next.
Well, for better or worse, the systemic risk is back.