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Federal Reserve Begins Buying Mortgage-Backed Securities

[Jan 5, 2009.]

 

The Federal Reserve Bank of New York began buying mortgage-backed securities (MBS) guaranteed by Fannie Mae and Freddie Mac today. The goal is to help capitalize financial institutions so they can begin lending again while also driving down the cost of borrowing to help stimulate the housing market.

The program, initially announced Nov. 25, allows the Fed to spend $500 billion to buy mortgage-backed securities guaranteed by mortgage giants Fannie Mae and Freddie Mac and another $100 billion to directly purchase mortgages held by Fannie, Freddie and the Federal Home Loan Banks.

Mortgage rates are dictated by the buying and selling of mortgage-backed securities. As demand increases for mortgage-backed securities, mortgage rates decline. Unfortunately, there has been little demand for mortgage-backed securities due to a lack of liquidity and concern over the quality of the loan pools and underlying collateral.

The Fed hopes to correct that by creating demand through it's own purchasing of mortgage-backed securities. The holders of those securities will be able to reinvest the sale proceeds into additional lending. The new demand for mortgage-backed securities should also help to, at least temporarily, drive down mortgage rates.

Critics of the plan are concerned that this strategy does nothing to help distressed homeowners facing foreclosure. There are also concerns over how these newly capitalized institutions will spend the proceeds from selling the securities. Whether they choose to lend the money back to consumers or use it for other purposes is a concern for many.

Critics also point out that the "adverse market" adjustments Fannie Mae and Freddie Mac have implemented are keeping rates for most borrowers much higher than the market would suggest. Consumers currently looking to refinance their mortgage may be surprised to learn they no longer qualify for a mortgage or the rate they qualify for is much higher than the rates being quoted in the newspaper. Fannie Mae and Freddie Mac have had to institute "adverse market" adjustments to their pricing which penalize anyone that does not have pristine credit and substantial equity in their property.

 

About Author:

Chris Rocks is the Regional Director of the National Credit Federation (NCF), a consumer advocacy group that assists small business owners and consumers overcome debt and credit challenges.

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