Bob Van Order writes,

The 1992 law that set up FF regulation required taking the stress test from the worst regional downturn in the data. We shall surely have a region (the southwest? Florida?) from the current period that will best the oil patch states. As a result simply updating the stress test will increase required capital, and it will do it the right way—related to the risk the institutions take.
If you want to get an idea of how the two are doing, forget the accounting net worth and the mark to market net worth and look at what is happening with stress tests.

Read the whole thing. Bob was the chief economist for Freddie Mac when I was there, and he is a straight shooter. Most of the time when I was there, the internal stress test was something called the Moody’s Depression scenario, where my recollection is that you estimated how many defaults you would have if home prices fell for something like 10 percent a year for four years and remained flat thereafter.

What we were thinking in those days was that if Freddie lost all of its capital, it would be in a situation like the Great Depression, and that was exactly a scenario in which you would want government to subsidize the housing market. If the whole economy has fallen apart, then it’s ok for the government to have to bail out the GSE’s when they run out of capital.

Van Order concludes,

The mortgage market is important, and keeping it open is important. Sometimes you need someone to bring the punch bowl back to the party when the guests are threatening to leave.

My problem with his sympathetic take is that Freddie Mac and Fannie Mae are not in a Great Depression Scenario. That is, we are not in a crisis emanating from the whole economy to the housing market to Freddie Mac and Fannie Mae. It is closer to the reverse. On the interpretation that is most generous to Freddie and Fannie, they are in a crisis emanating from the dynamics of the housing market and subprime lending. A less generous interpretation is that they were part of the problem.

Bob correctly points out that the main alternative sources of housing finance, particularly banks, also pose a risk to the government. However, banks can be merged into other banks. Freddie and Fannie cannot be merged.

In summary, I would say:

a) Freddie and Fannie are experiencing a crisis that is not the result of a general economic downturn, or even a regional downturn;

(b) the resolution of the problem is much more difficult than it would be if there were banks taking the hit.

I would argue that:

1. Housing is overly subsidized
2. The mortgage market is overly subsidized.
3. Even if you want the subsidies, the GSE mechanism has proven flawed (see points a and b above)