Home Truths

‘The American people realize they’ve been robbed. They’re just not sure by whom,” write Gretchen Morgenson and Joshua Rosner in “Reckless Endangerment.” But Americans who read this outstanding history of the financial crisis will know, by the end, exactly who created the meltdown of 2008 and how they did it. This is a story, the authors say, “of what happens when Washington decides, in its infinite wisdom, that every living, breathing citizen should own a home.”

Gretchen Morgenson and Joshua Rosner, authors of Reckless Endangerment, explain the corrupt culture behind the housing crisis.

At the center of the drama is Fannie Mae, a private company that used its special government backing to dominate the mortgage market and become the nation’s second-largest debt issuer, after the U.S. Treasury itself. Encouraged by politicians to expand home lending—not least to minorities and to households with few assets—the company ignored reasonable standards of underwriting and piled up fugitive profits almost as fast as it increased risk to taxpayers.

The disaster is now measured in the hundreds of billions of dollars. As for the borrowers who were supposedly to benefit from Fannie’s mortgage-industrial complex, Ms. Morgenson and Mr. Rosner write that home ownership “put them squarely on the road to personal and financial ruin.”

The disaster would not have been possible, the authors make clear, without the early efforts of James Johnson, Fannie Mae’s chief executive in the 1990s and one of the Beltway’s most connected figures—at one time or other the chairman of the Brookings Institution and the Kennedy Center for the Performing Arts as well as a member of Goldman Sachs’s board of directors.

As an assistant to Vice President Walter Mondale, Mr. Johnson had little background in financial markets. When he was chosen to head up Fannie Mae, in 1991, he quickly grasped that the key to Fannie’s success, and to his own astronomical bonuses, was persuading Congress to maintain Fannie’s implicit government backing while preventing any bank-style regulation to interfere with the company’s operation.

That Fannie and its cousin, Freddie Mac, had been created by the government to provide a secondary market for mortgages allowed them to borrow more cheaply than potential competitors. Investors around the world assumed—correctly, as it turned out—that the U.S. government would bail them out in a crisis and therefore viewed investing in Fannie and Freddie’s debt as almost as safe as buying Treasurys.

Mr. Johnson’s state-of-the-art lobbying machine spread the fiction that Fannie’s savings—the result of its lower borrowing costs—were routinely passed on to home borrowers whose loans it was buying. But a 1995 Congressional Budget Office analysis showed that Fannie and Freddie were keeping more than $2 billion of this combined annual subsidy for themselves.

Mr. Johnson never knocked down that analysis, but it didn’t matter. Congress never came close to yanking the toxic twins’ special privileges. Not even a scandal in the mid-2000s over years-long accounting irregularities could persuade lawmakers to put limits on the amount of taxpayer risk that the companies were allowed to create. Even today, Treasury Secretary Timothy Geithner provides Fannie and Freddie with unlimited taxpayer support.

To keep itself politically bullet-proof, Ms. Morgenson and Mr. Rosner report, Fannie sometimes hired lobbyists to work on a particular issue and then hired potential competing lobbyists just to sit on the sidelines and not work against it. Fannie also ginned up a philanthropic operation, building support by giving away money. In one revealing episode, an effort to take away Fannie’s exemption from local taxes in the District of Columbia fell apart when congressional staffers had trouble finding community leaders willing to testify at a hearing. “Many of them quite frankly told us that they could not do it,” one legislative aide told the Washington Post, “because of philanthropic relationships they have with Fannie Mae.”

Among the community leaders that Fannie cultivated most assiduously were members of Congress. At times “Reckless Endangerment” unfolds like a hideous mirror image of the classic war movie “Midway.” In the 1976 film, one Hollywood legend after another, from Henry Fonda to Charlton Heston to Glenn Ford, shows up to perform some courageous act or make some bold decision. In Ms. Morgenson and Mr. Rosner’s book, a bipartisan parade of famous Washington movers-and-shakers appear in cameos to do some disservice (now largely forgotten) to taxpayers. There is Newt Gingrich lauding Fannie Mae at a corporate event. There is Larry Summers bullying his Treasury staff to water down a report critical of Fannie. There is current World Bank President Robert Zoellick as a Fannie executive in the 1990s lobbying on Capitol Hill.

Look at Rep. Barney Frank, responding in 2005 to the question of whether the government’s push to increase home-ownership rates might result in people buying more home than they could afford and putting themselves in dire straits. The authors report: “Frank brushed off the questioner. ‘We’ll deal with that problem if it happens,’ he barked.”

It happened all right, and perhaps the most amazing part of this tale is that so many of those responsible for the disaster remain in power. Mr. Frank got his name on a so-called financial-reform law that left Fannie and Freddie intact. Mr. Johnson remains on the board at Goldman. Like the bank, he is apparently too big to fail.

That brings us to a flaw in this excellent story. The authors have joined the attack on Goldman business methods. Having failed to end the real outrage at Goldman—its ability to get government assistance in a crisis when smaller firms can’t—politicians seem determined to find something prosecutable. Journalists should remain skeptical.

Mr. Freeman is assistant editor of the Journal’s editorial page.

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