Observations On The Ongoing $1.5 Trillion GSE Wealth Transfer

Tyler Durden's picture

John Hussman shares an interesting perspective on yet another from of intergenerational
wealth transfer (aka theft), this time involving the US (and by
implication its taxpayers), its increasingly unmanageable debt load,
and the resultant preservation of wealth of lenders to the nationalized
GSE complex, which is massively underwater but will never be forced to
be impaired on its holdings, for as long as the current Fed leadership is
in place, and the chimera of "change" continues being just that. The kicker - Congress has no way whatsoever to prevent this
theft from happening. Once again, America's entire legislative
apparatus has been bypassed in order to bail out the reckless lenders
who inflated this whole credit bubble in the first place.

How to spend $1.5 trillion without Congressional approval

Step 1: Federal Reserve purchases $1.5 trillion in Fannie Mae and Freddie Mac securities, creating $1.5 trillion of monetary base to pay for these purchases.

Step 2: U.S. Treasury quietly announces unlimited support for Fannie Mae and Freddie Mac on December 24, 2009, exploiting a loophole in a 2008 law that was originally written to insure a maximum of $300 billion in total mortgage principal (not losses, but principal).

Step 3: Over the next several quarters, the U.S. Treasury issues $1.5 trillion in new Treasury debt to the public, taking in the $1.5 trillion in base money created by the Fed in Step 1.

Step 4: U.S. Treasury hands that $1.5 trillion in proceeds from the new debt issuance to Fannie Mae and Freddie Mac.

Step 5: Fannie Mae and Freddie Mac use the proceeds to redeem the $1.5 trillion in mortgage securities held by the Fed, thus reversing the Fed's transactions in Step 1, without the need for any other "unwinding" transactions (watch). The base money created by the Fed comes back to the Fed, and the mortgage securities purchased by the Fed disappear, by burdening the American public with a new, equivalent obligation in the form of U.S. government debt.

Outcome: The Federal Reserve closes its positions in Fannie Mae and Freddie Mac securities, the quantity of outstanding Fannie Mae and Freddie Mac liabilities declines by $1.5 trillion, thus allowing their remaining assets repay the remaining liabilities without a $1.5 trillion hole of insolvency, and the outstanding quantity of U.S. Treasury debt expands by $1.5 trillion in order to protect the lenders, while ordinary Americans continue to lose their homes and jobs.

Throughout this crisis, the ultimate objective of Bernanke and Geithner has consistently been to protect the bondholders. This objective will not change unless the leadership changes.

While Obama's "War on Wall Street" is progressing with no impact, and will likely stimulate the bankers to merely find new loopholes to extract wealth, the one aspect of financial reform that the Administration should be focusing on, the shadow nationalized balance sheet, that of Fannie and Freddie, keeps getting absolutely no focus. In the grand scheme of things, banker bonuses are merely a tine speck when one considers the massive incremental leverage that America will be saddled with each and every year as ever increasing losses at the institutions that funded the housing bubble, and, consequentially, those lenders that have funded these GSEs, are not only recognized but continue to be funded at par. In essence this is money coming out of America's middle-class pocket and serves to line the pockets of not only domestic funds like PIMCO but all the international lenders who were foolish enough to fund the liability side of the GSEs. Look for absolutely no future reform in this space for many years, as this is the very heart of America's underfunding problem.

Furthermore, unlike Mr. Hussman, we are a little more skeptically inclined on whether America will be able to find the demand to satisfy the surging Treasury surplus.

We urge readers to read today's entire Hussman note, as it highlights various other conflicts of interest, and the ongoing spectacle that is the suggested "reform" which does nothing to change the kleptocratic status quo.

h/t Daedal

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bugs_'s picture

The bondholders need to take that haircut too.

THE DORK OF CORK's picture

No bugs not a haircut - they need to be decapitated

Anonymous's picture

You guys are forgetting that bond holders always have the upper hand. A bond is nothing more than a legal document granting specific rights to the holders and taking rights away from those looking for financing. This is the essence of the credit markets. The bonds we are talking about are not unsecured credit card traunches; they're higher up on the ladder and hence have a say in the outcome.
You want to default, no problem; I take over assets in question. Take a look at what happened in Stuyvesant town today. They turned over the property to creditors with no fight. My "haircut" is having to take over the property and trying to get my money back if possible.
Why do you think equity traunche has any say in the matter?

THE DORK OF CORK's picture

The equity now is a sick joke , its function is to create a artificial wall to protect bondholders

Anonymous's picture

Mr Hussman;
Brilliant analysis, spot on, but the thesis is terribly flawed from the get go. Essentially you're saying we should change the quarterback 4th and 99 to go when really the plane flying the entire FED team should be flown into the Goldman Sachs building.
Do you even have a clue who owns the FED and what benefit will putting a different taskmaster in place have. Understandably your living is derived from the financial markets and replacing the fed might create ripples in your daily business and it is this type egocentric perception that allows the fractional reserve scam to be perpetuated in the first place.
Might I suggest your talents would more aptly serve to figure out how we are going to rid ourselves of the parasite formerly known as the Federal Reserve, and how we will put our country back on a solid financial foundation without creating a national disaster, world war iii, or both.
I notice you spin a great yarn, however your website does not have any facility of feedback or email address that I may send this message directly, so in the off chance you happen to read this, maybe give things a rethink from the 30,000 foot perspective.

GlassHammer's picture

I just get the feeling that those 401ks and IRAs are being pushed closer to the Treasury with each passing day.

You need trillions to keep the wheels moving and it has to come from somewhere.

deadhead's picture

take a look at today's Obama plan for the middle class and the provision to have companies open savings accounts for employees unless employee opts out...wonder where that money will go????

GlassHammer's picture

Soon they will stop using slight of hand and will resort to blunt force. Hammer meets nail.



phaesed's picture

As loathe as I am to say this, it creates only $150 billion in monetary base, however these securities are now allowed to be used as an asset base at banks to create up to $13 trillion in credit.


The debt ceiling debate is taking place right now. The temporary increase was signed only by 18 senators.... wtf???

Cyan Lite's picture

Step #3 is bunk.  Not all of that money went into Treasuries, alot went into the equity markets (See POMO Days during this past summer)

Step #4 is a bit of a stretch.  Treasury has not given Fan/Fred the entire $1.5 trillion.  Most of that was used for deficit financing/spending and "stimulus".

Sounds like Hussman is using the numbers to fit the case. But nonetheless there were quite a few funds that made a killing.  I wonder if Bill Gross had a whiff of this back in 2008 and thats why they went tits-up trying to buy RMBS like there was no tomorrow. 

simone's picture

Note that Step 2 occurs on December 24, 2009 and that Step 3 occurs over the next several quarters. Whence, you should wait until March 2009 before calling "bunk."

THE DORK OF CORK's picture

Fire up the delorean Simone and lets find out.

simone's picture

I will start up-charging the flux capacitor. I have to get to March 2010.

THE DORK OF CORK's picture

Why not 2020 , I want to see what Armageddon looks like.

Daedal's picture

Only if I get to bring Bruce Willis along.

mberry8870's picture

You won't need to go all the way to 20200 before you see Armageddon.

THE DORK OF CORK's picture

Thank God for that , you know for a while there I was starting to get worried.

B9K9's picture

The greatest technological innovations, made by both financial and legal engineers, over the last 100 years have been the development of non-governmental, quasi-governmental & pseudo-governmental agencies.

Whether appearing in the form of the Fed, CIA, IRS, Fannie, Freddie, and a host of who-knows-what secret & not so secret agencies & departments, they have proven to be absolutely incredible devices for bypassing and escaping oversight/control from all visible branches of government.

As society watched in rapt attention as the aerospace, automotive, electronics, telecommunications, computing & medical industries advanced over the preceding century, the real, much bigger action has been quietly taking place behind the scenes.

I'm not bitter about wasting my career in one of the aforementioned "growth" industries; I've done alright. My primary focus these days is to get up to speed as fast as possible in order to position myself accordingly to benefit as future plans are played out. I have no illusion that I'll ever be included as an insider, but I can sure as hell follow the shadows along the same path of safety & riches.

phaesed's picture

Dorgan is on CSPAN2 right now slamming the Fed and how the supreme court ordered them to release information on the emergency loan provisions and the Fed appealed and continued to refuse disclosure.


HAHAHA he's got a billboard with a huge red NO over the Fed letter. Rofl.

IBelieveInMagic's picture

It was always the plan to take the toxic MBS out of circulation and quietly sequester it with the tax payers. The Powers-that-be truly believe that in a fiat economy, this is always an option (Remember Cheney's "Deficits don't matter" mantra). The optics of it is of course bad -- unfairly benefiting the bondholders and banks. But, the real consequences is thought to be not as horrendous -- the USD being the reserve currency does not get devalued as much as it should from such shenenigans. Of course, we are really testing the patience of foreign Treasury holders with these kinds of risky behavior.

Ideally, a program should be rolled out to write down the value of underwater mortgages but the danger is that such program will encourage others to default to take advantage of such programs. So, it is a non-starter and the mortgages will have to be allowed to default and then cleared.


Assetman's picture

Exactly... this is a great piece for those who think the Federal Reserve will change its colors.  In fact, the die has been cast in that the December 24th "end around" virtually allows all Agency debt to have explicit backing by the U.S. Government.

So... despite the "We Want Our Money Back" propaganda spewed so freely by this Administration-- both Frannie Mae and Freddie Mac are given taxpayer funded subsides through the back door.  Hmmm... this sure does sound AIG-like doesn't it?

You know, as a taxpayer, I can come to grips on the reality of nationalization of the GSEs.  What I cannot accept is Treserve's willingness to (a) keep bondholders and equity holders whole; (b) conduct the bailouts in a covert, back-door manner; and (c) bypass Congress in any decision-making.  These firms need to realize the punishment that is bankruptcy-- because this is precisely what it is.  Instead, the government has thrown a safety net under a black hole.  Brilliant.

As it concerns letter "c" above, this is precisely the reason why a "YES" vote for Ben Bernanke's confirmation should be the death knell for Senate re-elections attempts.  In my mind, Congress very quietly allowed the Treserve to make these snake-like behind the scene moves-- and I'm sure it had backing all the way to the top of the Adminstration.  Though we might not be able to stop what the Treserve is doing, YES votes need to be punished for it-- becuase they are allowing the theft to continue well into the future.

The anger, I'm afraid, will not go away.


Screwball's picture

In the relentless commercial for the banksters and Bernanke, CNBC just had one of our favorite shills Dick Bove on telling everyone the market will crash if Bernanke and the Volker plan doesn't go the right way.  Classic.

pros's picture


In step 2 the Treasury would receive something in exchange...

a note or equity

but what would be the value of that security?

the point holds that our government and the Fed are reduced to paper-shuffling Ponzi-schemers in the ongoing looting of the government.

These operations are not for the benefit of the people nor in their interests or with their consent, the creditors who receive the debt are aware that the new treasury debt is part of a fraud...the best evidence of this is the fact that the ponzi schemers act in secrecy, misrepresent their actions---if the facts were known in advance the fraudulent  transactions would be stopped.

by the principle of odious debt this debt is not the obligation of the taxpayers but the personal debt of those who created it...


phaesed's picture

LOL. Great quote from Dorgan

"This bubble of incompetence"

THE DORK OF CORK's picture

Why the hell would anybody want to invest in anything productive when there is such a gross subsidy for failure in America of all places.

Reducing the debt burden would drive consumer inflation for a while but the freed capital should be used to start splitting atoms instead of subsidising houses and consumer crap.

Bank Bondholders need to be destroyed since they are extracting what little surplus is left and therefore they are crowding out real wealth creators.

Anonymous's picture

Stop being so damn sensible. And failure BTW is our new growth industry so kindly stop criticizing it.

Sincerely ~ J.Q. Public

Anonymous's picture

Sell Wall Street, buy Main Street.

That is all.

Anonymous's picture

We had Stalin, you had FDR.
China, Russia, etc, bought Fannie and Freddie paper by truckload. (GS provided most of the trucks and drivers)Besides 'printisation' I don't know what else Banana Ben could have done. Also I don't know what GS told the Chinese "GSE" stands for.

Gimp's picture

Just like the social security fund the politicians are drooling at the mouth looking at all the 401K and IRA money sitting on  the sidelines, they want access to it and they will find a way to get it sooner or later. Worse than crack addicts!

rawsienna's picture

The guarantee business at both were fine shape until the deflation panic of 03/04. Most of the business they had on the books were written in the 1995-2002 period and had an average current LTV of around 65% due to amortization and home price appreciation. In fact, the knucklehead (Greenspan) was more concerned about the investment portfolio (a correct observation at the time) but never worried about the guarantee business (which has blown em up). The 2003-2005 refi wave that resulted from the excessively low rates along with loose underwriting standards along with the knuckleheads encouragement for homeowners to take out equity (which the agencies did not charge an extra fee for) dramatically changed the risk profile of the guarantee business.  The icing on the cake was the passage of Basel II (thank you teflon Robert Rubin)which dramatically decreased capital requirements for structured AAA ABS and added gasoline to the housing bubble - bank bought tons of AAA CDO backed buy subprime and the agencies loaded up with AAA subprime RMBS (FNMA) and AAA CMBS (FHR). Take  a look at structured product issuance post Basel II - it was an explosion and it happened because Moody's required too little subordination for a AAA rating and therefore the bonds traded at silly tight yields (thanks to increased allowable leverage). THe originate to distribute model was is full force and resulted in people getting loans at silly low rates vs the risk of the loans. After all, why not take an origination fee if you do not have the risk. The GSE'S blew it and will now lose 300+bb.   FHA continues to make the same mistake. You can not lend at high LTV's with little or no recourse on an asset that needs upkeep and can go down in price. A g-fee of 40-50 bp for sub70 ltv/730+ fico loans is fine going foward. Problem is it will dramatically reduce demand for housing.  Government needs the subsidy to kick the problem down the road

ghostfaceinvestah's picture

i know this is everyone's favorite whipping boy but CRA really was partly to blame (or, not really CRA at the GSEs, but their various affordable housing goals).

As the subprime market ate away at their "goal-rich" business, they increasingly went out on a limb, the two most notable programs being Expanded Approval (basically subprime) and My Community Mortgage.

For a while in 2007 once the subprime market collapsed they were doing boatloads of those loans.

Affordable housing goals really hammered a few nails in the coffins of these guys.

rawsienna's picture

All asset based lending is fine until prices stop going up!!  You are right about CRA but I think the GSE assumed the prime business was profitable enough to offset. I keep harping on Basel II accord because its impact on "expanding credit" within the mtg sector while Greenie was raising rates is under appreciated.  It was starring Greenie in the face.  He was raising rates and home prices and credit availability was soaring. Bank CEO's along with the NYFED pushed for the easing of capital for these products because it fit into the fee based business model. That is what happens when bankers/salespeople get control over traders. Subprime never would have grown into a trillion dollar a year issuance without Basel 2. The agencies did not have enough discipline not to play - perhaps due to the implied govt backstop. Not an excuse for their stupidity though

BigBagHolder's picture

So... you guys side with congressman over the Fed?

Thats a dubious call.

Madcow's picture

Bankruptcy and foreclosure rates are going parabolic in the USA. "Real Estate" prices are headed back to pre-1980 levels like a hot knife through butter.

Its like a back-door bank run.  We're starting to see a mad dash for the exits - as people look to escape impossible-to-service debt burdens and escalating taxes. States and municipalities are trying to accelerate property taxes and fees - just to buy themselves another couple of months.

Millions of American families are on the edge - and are about to get hit with massive tax increases.

Doesn't look good folks.


Great Depression Trader's picture

Heres how the banker bailout scammed me.

I got my law school student loans from Citi and Wachovia. I figured they would go broke and that some type of haircut would be applied to my loan. Then, in the fall of 2008 the big banks blew up. Citi and Wachovia were in trouble and should have gone to 0. Moreover, the rest of the big banks also should and would have blown up and also would end up in ch 7 bankruptcy. But then of course, the golden rule was applied, "he who has the gold makes the rules". The big banks got congress to bail them out and also allowed the federal crock of shit reserve to print trillions. Also, fake accounting rules were allowed to reign. Thus, the big banks survived.

In addition to the above, the federal government decided to buy my loan from wachovia and citi. Now im paying $1045.86 a month to the Department of Education . I made a deal with citi and wachovia, not with myself (i.e. the DOE which is a federal department which is funded by my taxes). I was betting that the big baks would blow up and thus chose them as my lenders (specifically Citi and wachovia). Were the banks to go ch 7 then we would effectively have a debt jubilee and here is how. With all the major credit providers being destroyed due to their own recklessness there would be less credit in the system and less money, thus deflation. Then, my student loans would be sold at a auction to the highest bidder. Will less money and credit in the system the bid would be low, .20 to .40 on the dollar. In theory, i could have bought back my own loan for .30 cents on the dollar and that would be the end of my debt slavery. I always knew that i was overpaying for lawschool ($36,000 a year) but figured that the system would go to hell. Unfortunately for me the golden rule was applied and i got fucked in the ass by Bernanke, Obama, Geithner, and the rest of the wall street mob. You see, .20 X 36,000 is 7200. $7200 a year for lawschool is reasonable and fair value i believe. A bunch of professors spoke and repeated the same shit they spurt year after year from a outline. Yet i got stuck with a massive loan because i went to law school at the height of the credit bubble. Deflation is occuring all around us yet i still have to pay par value to the DOE, which paid Wachovia and Citi par for my notes. The federal gov had no authority to buy my loans from the banks which should have failed, yet now im stuck with the bill while wachovia (now wells) and citi got the cash and split. This is fascism at its finest; merger of corporations and government.

Anonymous's picture

I can't tell if you joking or just an idiot.

Anonymous's picture

I bet that the Fed will report "profit" on this transaction