Two Stars for Shaky Ground

For the first time in many years, I wrote a review for Amazon. About Bethany McLean’s book on Freddie and Fannie, I say,

I was disappointed with this book, because I think that her earlier work, All the Devils are Here, co-authored by Joe Nocera, is probably the best journalistic account of the run-up to the financial crisis.

On “Shaky Ground,” here are my thoughts:

1. This book might have been titled “Sympathy for the Devils.” There is way too much sympathy expressed for the hedge funds that bought preferred stock in Freddie and Fannie. They were making a bet that the political process would come out a certain way, and they lost that bet, fair and square. End of story, as far as I am concerned. I should note that on several occasions representatives of the hedge funds have felt me out about doing some “research” or writing an article to support their position. I would not have done it for any amount of money. I am not accusing McLean of having succumbed to this, but I would not completely rule it out.

2. The other devil who gets a ton of sympathy is former Fannie Mae executive Tim Howard. McLean endorses all of his self-serving views, which include a claim that he did nothing wrong in Fannie’s giant accounting scandal. Also, his view is that had the Fannie management not been replaced, his team would have averted the crisis. Both claims may be true. In my opinion, Freddie and Fannie were better managed before both of their management teams fell in accounting scandals. But I think that more journalistic skepticism is in order. Regardless of who was in charge, there was pressure on Freddie and Fannie management to dive into high-risk lending, with shareholders seeing profits and regulators seeing a mission to expand home ownership opportunity.

3. She is no fan of Ed DeMarco, who was the only person in Washington working to gradually wind down the GSE’s, which is supposedly what everyone wanted. I think it is fair to say his approach was too unpopular with key players to be sustained. But he does not deserve to be dismissed by McLean with boo-words, like “free-market ideologue.”

4. She says that if you take it as given that the government is going to promote what the housing lobby wants, namely “home ownership” with little actual equity and a mortgage market dominated by the 30-year fixed-rate loan, then keeping Freddie and Fannie is better than the alternatives. If you accept the premise, then I agree. But there is a powerful case to be made against government caving into the housing lobby. The costs of this, including serial financial crises (the S&L crisis, the crisis of 2008) and misallocation of capital, are huge, and the social benefits are miniscule. (The private benefits can be enormous–just ask Tim Howard.) McLean does mention some of the evils of this housing-industrial complex, but her bottom line is, in effect “you can’t beat ‘em, so don’t try.”

Overall, this is not a terrible book. But if you read it, you should keep in mind that she gives the most favorable treatment possible to Freddie, Fannie, the hedge fund investors, and to policy makers who attempt social engineering using housing finance. Although the book is not completely one-sided, she does not give alternative points of view as much respect as I think they deserve.

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13 Responses to Two Stars for Shaky Ground

  1. Handle says:

    Expertly crafted; I wish I could better emulate your writing style.

  2. Andrew' says:

    “I should note that on several occasions representatives of the hedge funds have felt me out about doing some “research” or writing an article to support their position.”

    Arnold, in about a year I’d like to co-author something with you about this. I promise not to give you any money. Completely serious on both counts, realizing at the same time that it should be taken as a joke. :)

  3. MG says:

    Re. 4. Even if the political objective of “home ownership for nothing” is to be accepted, a better way to structure it would be through outright grants, accounted for (written off) as a current expense in the subsidizer’s budget, and not through valuation artifices of high-risk mortgage debt. I doubt this would necessitate the “need” for a lot of the “infrastructure” we now deem as sine qua non.

  4. Andrew' says:

    Does credit also serve to hide the inflation of a product like housing? I’ve never seen this addressed (don’t known how yo look). I am sure it has been but I can also imagine a lot of economists not believing it. But if inflation is at least partly monetary and if some things are targeted for credit and others not then it would stand to reason that loans would increase demand and may not have the identical impact on supply. In a “flip this house” culture money velocity could also concentrate in one sector, namely real estate.

  5. Matt says:

    I think we could use a whole book on the damage being done by the housing lobby. What a misalllocation of capital. What a barrier to international competition by raising labor costs. What a destabilizing force in banking to have such high LTV ratios. Do we have any complex models of what would happen if property prices stayed flat for the next 10 years?

    Saying this as someone that has over1.5M in home equity, but thinking it’s stupid, even though a change would not be in my own interest.

  6. Matt HIll says:

    Your comment about hedge fund love is lazy and misplaced. The majority of the stock is not owned by hedge funds, but by others including me. We were not betting on beating an illegal government taking, we were investing in an American real estate recovery and we were right. They lost their legal battle fair and square, really? Which case have you been following? The battle isn’t even out of discovery and there is nothing fair and square about lying under oath and hiding thousands of documents. You got a very late start on this book Arnold and it sounds like you let yourself become very rusty in your old stomping grounds. I would have expected more from a free market economist than agreeing with this fraudulent taking of private property.

    Listen, I am not accusing you of writing this review for the TBTFs and corrupt politicians of the world, but I would not completely rule it out. I would have to give your review 1 star.

  7. Wladimir ribeiro says:

    80%of the stocks are owned by common folks like me and in your review you link that her intentions in writing the book are to help the hedge fund !!!Simply not fair ! The twin are the largest financial institutions in the world backing 5 trillions of mortgages ! All homes will lose value if the are gone !!

  8. twinlabs says:

    this blog entry is quite good at the negative view of Bethany’s book, but no substance as to what the “alternative views” may be. how about your own for starters?

    it seems abundantly clear that you haven’t done your homework in regards to the legal matters on Fannie and Freddie. which litigation are you referencing? no one has lost anything yet. Perry is on appeal, Fairholme is still in discovery/jurisdictional and the Delaware case just started.

    please, please do your homework first before you blog. you just make yourself look silly.

    • Arnold Kling says:

      I did not say that the hedge funds had lost in court. They lost a bet that they made that Congress would re-start Freddie and Fannie as quasi-private enterprises. That bet was a long shot, but the shares were so cheap that the hedge funds thought it was worth making the bet. They lost the bet, in that Congress did not do what they were hoping for. Now they are going to court to try to get “restitution.”

  9. Bill Maloni says:

    What’s your definition of (the real) Tim Howard being “self serving?”

    Do you mean he was wrong to write a very detailed book explaining why he and his colleagues did not engage in any type of “accounting fraud,” as affirmed by federal judge Richard Leon eight years after Howard (Frank Raines and Leanne Spencer-Garmon) were forced from their corporate positions by a incompetent regulator bent on scoring a political win against a company which recognized him and his top staff as hacks in over their heads, playing political games?

    That is a sorry episode in GSE history which has been chronicled by others.

    How about the accounting model Tim Howard developed for Fannie Mae–which this same regulator claimed was flawed–but which later became the exact application of the FASB 133 rule adopted by all of the nation’s remaining auditing/accounting firms when measuring mark-to-market value for mortgages and mortgage backed securities (MBS).

    Gee, since when has defending one’s honor–which then gets verified by so many disparate sources–become self serving?

    If someone wrote that were engaged in fraud, how would you defend yourself and prove you were not dishonest?

    Howard chose to write a substantive book, about a subject few intimately understood, which received very favorable reviews.

    Getting back to Bethany’s, I am not sure why you are using Tim Howard as a cudgel to whack McLean’s book? Maybe she, with her literary and math/financial background, saw evidence in Howard’s book which she found compelling?

    Are often has been said, you are entitled to your own opinion, but not your own facts.

    • Skeptical of everything says:

      Money talks. It says the Fannie Mae “accounting scandal” never existed. Fannie’s mendacious accusers claimed that the company concealed a $10.6 billion loss, but after the financials were restated, “loss” disappeared.
      The accusations of accounting violations were exhaustively litigated in Federal court, and the judge dismissed all charges because, he wrote, there was literally zero evidence to implicate any Fannie executive. The court also took note of the “overwhelming evidence of Howard’s good faith.”
      Kling is not entitled to his own facts. Nor is he entitled to repeat a defamatory smear against Timothy Howard.

  10. JMyers says:

    You need to do much more research when you agree to review a book. I’m left to assume you don’t know as much as you think you know about the topic of Fannie and Frddie and the housing crisis. Instead of reviewing books try reading a few.

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