What Is Federal Home Loan Mortgage Corporation?
The Federal Home Loan Mortgage Corporation (FHLMC), commonly known as Freddie Mac, is a publicly traded, government-sponsored enterprise (GSE) operating within the broader realm of housing finance. Its primary role is to provide liquidity, stability, and affordability to the U.S. mortgages market by purchasing mortgages from lenders, pooling them, and selling them as mortgage-backed securities (MBS) to investors. This process helps ensure that funds are consistently available for new home loans, supporting homeownership and rental housing nationwide. Freddie Mac does not originate loans directly to consumers; instead, it operates in the secondary mortgage market.
History and Origin
The Federal Home Loan Mortgage Corporation was established by Congress in 1970 through the Emergency Home Finance Act of 1970.18, 19, 20 This legislative act aimed to provide competition for Fannie Mae (which had transitioned from a wholly government-owned agency to a private corporation in 1968) and further expand the availability of funds for mortgage financing. By creating Freddie Mac, Congress sought to enhance the stability and efficiency of the secondary mortgage market, primarily by purchasing mortgages from smaller financial institutions, such as savings and loan associations. This mechanism was designed to reduce interest rate risk for lenders and ensure a continuous flow of capital for housing loans across the country.
Key Takeaways
- The Federal Home Loan Mortgage Corporation (Freddie Mac) is a government-sponsored enterprise (GSE) that facilitates the flow of money into the housing market.
- It operates by purchasing mortgages from lenders, packaging them into mortgage-backed securities, and selling these securities to investors.
- Freddie Mac was created in 1970 through the Emergency Home Finance Act of 1970 to enhance the secondary mortgage market.
- Along with Fannie Mae, Freddie Mac plays a crucial role in providing liquidity and stability to the U.S. housing finance system.
- The entity was placed into conservatorship by the U.S. government in 2008 following the financial crisis.17
Interpreting the Federal Home Loan Mortgage Corporation
The operations of the Federal Home Loan Mortgage Corporation are primarily interpreted through their impact on the overall housing market. By providing a robust secondary market for mortgages, Freddie Mac ensures that lenders have a consistent source of capital, allowing them to continue originating new loans. This function is vital for maintaining stability and affordability within the housing sector. When Freddie Mac purchases mortgages, it standardizes the terms and underwriting criteria, which helps create a more uniform and predictable market for mortgage-backed securities. This standardization, in turn, makes these securities more attractive to a wider range of investors in the capital markets, further reducing borrowing costs for homebuyers.
Hypothetical Example
Imagine a local bank, "Community Home Lenders," has issued a significant number of new 30-year fixed-rate mortgages to homebuyers in its region. While the bank is successful in originating these loans, its available funds for new lending start to diminish as its capital is tied up in existing mortgages. To continue serving its community and generating new business, Community Home Lenders can sell a portfolio of these eligible mortgages to the Federal Home Loan Mortgage Corporation.
Freddie Mac then purchases these mortgages, providing Community Home Lenders with fresh capital. This allows the bank to immediately offer new loans to other prospective homebuyers. Freddie Mac, in turn, pools these acquired mortgages with thousands of others, creates mortgage-backed securities backed by the cash flows from these mortgages, and sells them to large institutional investors, such as pension funds or insurance companies. This hypothetical cycle demonstrates how Freddie Mac injects liquidity into the primary mortgage market, ensuring a continuous flow of funds for housing.
Practical Applications
The Federal Home Loan Mortgage Corporation (Freddie Mac) plays a central role in the functioning of the U.S. housing market. Its practical applications are widespread:
- Mortgage Availability: By purchasing mortgages from lenders, Freddie Mac replenishes their funds, enabling them to make more loans to consumers. This expands the overall availability of mortgage credit across the nation.
- Standardization: Freddie Mac establishes specific guidelines for the mortgages it purchases, known as "conforming loan" limits and criteria. This standardization helps create a more efficient and liquid secondary mortgage market, making it easier for lenders to sell loans and for investors to buy mortgage-backed securities.
- Investor Confidence: The perceived implicit guarantee of the U.S. government behind Freddie Mac's securities, despite official disclaimers, historically made them attractive to investors, thereby lowering the cost of mortgage financing.
- Affordable Housing Initiatives: A key part of Freddie Mac's mission is to support affordable housing and underserved communities.14, 15, 16 They do this by setting annual housing goals and engaging in programs designed to increase access to sustainable homeownership and rental opportunities.
Limitations and Criticisms
Despite its crucial role, the Federal Home Loan Mortgage Corporation (Freddie Mac) has faced significant limitations and criticisms, particularly concerning its structure as a government-sponsored enterprise. A primary criticism revolves around the implicit government guarantee that was widely believed to back its debt and mortgage-backed securities. This perception allowed Freddie Mac to borrow at lower rates than purely private entities, which critics argue distorted the market, encouraging excessive risk-taking and potentially leading to instability.12, 13
The subprime mortgage crisis of 2008 brought these criticisms to the forefront when Freddie Mac, along with Fannie Mae, experienced severe financial distress due to widespread mortgage defaults.10, 11 This necessitated their placement into conservatorship by the U.S. government, requiring substantial taxpayer support to prevent their collapse and stabilize the financial system.6, 7, 8, 9 Critics argue that this intervention demonstrated the inherent moral hazard of GSEs—where the perceived government backing incentivizes riskier behavior, as the entities believe they will be bailed out if problems arise. Some assert that government guarantees for housing finance consistently underprice credit risk and can ultimately lead to market instability.
5## Federal Home Loan Mortgage Corporation vs. Federal National Mortgage Association
The Federal Home Loan Mortgage Corporation (Freddie Mac) is often discussed alongside the Federal National Mortgage Association (Fannie Mae), as both are prominent government-sponsored enterprises operating in the U.S. secondary mortgage market. While their core missions are similar—to provide liquidity and stability to the housing finance system—they historically differed in the types of lenders from which they primarily purchased mortgages. Freddie Mac was initially established to buy mortgages from smaller lenders, such as savings and loan associations, aiming to serve the mortgage market more broadly. In contrast, Fannie Mae traditionally focused on purchasing mortgages from larger commercial banks. Despite these historical distinctions, in practice, their operations have converged significantly over time, with both entities now purchasing a wide range of conforming residential mortgages from various lenders across the country.
FAQs
What is the primary purpose of Freddie Mac?
The primary purpose of the Federal Home Loan Mortgage Corporation (Freddie Mac) is to provide liquidity, stability, and affordability to the U.S. housing market. It achieves this by purchasing mortgages from lenders, allowing those lenders to free up capital to originate new loans, thereby ensuring a continuous flow of funds for homeownership and rental housing.
4Is Freddie Mac a government agency?
No, the Federal Home Loan Mortgage Corporation is not a direct government agency. It is a government-sponsored enterprise (GSE), which means it is a privately owned corporation chartered by Congress to serve a public purpose. Howev3er, it has been under the conservatorship of the Federal Housing Finance Agency (FHFA) since 2008.
1, 2How does Freddie Mac make money?
Freddie Mac generates revenue primarily through guarantee fees it charges lenders for the credit risk it assumes when purchasing mortgages and issuing mortgage-backed securities. It also earns income from its investment portfolio of mortgages and asset-backed securities.
What is a "conforming loan" in relation to Freddie Mac?
A "conforming loan" refers to a mortgage that meets the specific guidelines and limits set by the Federal Home Loan Mortgage Corporation and Fannie Mae. These guidelines include criteria for borrower creditworthiness, debt-to-income ratios, and the maximum loan amount. Mortgages that meet these standards are eligible for purchase by Freddie Mac in the secondary mortgage market.