Fannie Mae and Freddie Mac dominate the GSE system, accounting for four-fifths of its total credit portfolio. Fannie was created in 1938 as a government corporation. In 1968 the Johnson administration decided to list its shares to reduce the budgetary pressures created by the Vietnam war, according to Thomas Stanton, of Johns Hopkins University. Freddie was born in 1970 and listed in 1989. Both companies aim to support the secondary mortgage market. They have succeeded all too well: they own or guarantee about half of all mortgages.
Their supremacy reflects their privileges. As well as an implicit state guarantee, which allows them to fund themselves cheaply, they enjoy exemption from some taxes. They run with far less capital than banks and have more latitude to include as capital dubious items such as preference shares and tax assets. The capitalised value of these privileges is huge: between $122 billion and $182 billion, according to a 2005 study by the Federal Reserve.
It gets worse. The same analysis concluded that shareholders, who enjoy turbocharged gearing without higher borrowing costs, siphoned off about half of the subsidy. Managers trousered an unseemly sum too: between 1998 and 2003, Fannies top five executives received $199m.
With so much at stake, no wonder the companies built a formidable lobbying machine. Ex-politicians were given jobs. Critics could expect a rough ride. The companies were not afraid to bite the hands that fed them: in 2004, the day before a congressional committee discussed the regulation of Fannie, the company ran a television advertisement attacking the committee. Their regulator, the Office of Federal Housing Enterprise Oversight, says its powers were weakened during its creation in 1992: for example, its budget must be approved annually by Congress and thus depends on political goodwill.
Accounting scandals in 2003-04 (the two firms restated earnings by a total of $11.3 billion) led to a change of management, and, supporters argue, of culture. The pace of balance-sheet expansion and accumulation of risky private-label securities has slowed. Yet neither company can be accused of anticipating the housing crash. An end to GSE status looks unlikely: as truly private companies Fannie and Freddie would require unrealistically large injections of equity. The government wants to avoid nationalisation. That leaves the status quo, the public subsidy of private profit: a combination as toxic as it was in Smiths day.