Washington's lousy real estate portfolio: federal housing bureaucracies are failing. They need to fail faster.

• Author: Cavanaugh, Tim

THESE ARE TOUGH times for government real estate policy. In December the Securities and Exchange Commission indicted six former executives from the failed government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac, including former Fannie CEO Daniel H. Mudd and former Freddie CEO Richard F. Syron, on charges of fraud, alleging that the GSEs misled investors and the government in statements claiming they had minimal holdings of low-quality and subprime mortgage loans.

Throughout the housing bubble of the late 1990s and early 2000s, Freddie and Fannie, which guarantee mortgage loans and thus provide a substantial interest rate subsidy, had been concealing the large portions of their portfolios consisting of risky investments such as alt-A, subprime, and negative amortization loans. Fannie Mae finally copped to the deception in the third quarter of 2008, long after the housing crash and its attendant recession were in full swing. Fannie and Freddie (founded in 1938 and 1970, respectively) were quasi-private, government-guaranteed players until 2008, when they were taken over by the Treasury Department. In 2009 Freddie CFO David B. Kellermann hanged himself in the basement of his Vienna, Virginia, home, leaving behind a wife and 6-year-old daughter. In 2010 Fannie and Freddie were delisted from the New York Stock Exchange. In 2011 Sens. John McCain (R-Ariz.) and Orrin Hatch (R-Utah) introduced legislation to dismantle or privatize Fannie and Freddie over five years. The Treasury has slightly reduced the GSEs' purview, but they still guarantee more than 90 percent of U.S. mortgages.

There is more bad news from the Federal Housing Administration (FHA), which is taking riskier positions in real estate lending just as the rest of the country is looking to reduce indebtedness. Wharton School real estate finance professor Joseph Gyourko warned in a recent study that the FHA, the world's largest insurer of mortgages, is shaping up as the next likely target for a bailout. (See "Housing Bailout Redux," page 14.) Gyourko raises three points: The FHA has increased its risk exposure without anything close to a commensurate scaling up of its capital base; it is underestimating future default risk and losses on its single-family mortgage guarantee portfolio by at least $50 billion; and it needs to recapitalize to compensate for these risks.

While the FHA has contested some of Gyourko's findings, the condition of its books continues to deteriorate...