India's Fannie Mae in the making

After the Great Depression, one of the steps taken by the US government to revive the moribund economy was setting up of Fannie Mae, the secondary mortgage company, in 1938 though it became a Government Sponsored Enterprise (GSE) in 1968 when it was listed.

In 1970, another GSE secondary mortgage company Freddie Mac was promoted to take forward the noble idea of house for all. The Indian government in pursuance of its aam aadmi concern wants to do its bit on the housing front.

The Budget 2011 proposes to set up Mortgage Risk Guarantee Fund (MRGF), perhaps as India's equivalent of Fannie Mae and Freddie Mac.

The two secondary mortgage twins had between them underwritten close to $5 trillion till 2008 mainly by buying mortgages from primary mortgage companies with funds being raised through the convoluted securitisation route.

Everything was hunky-dory till 2008 when the US economy was rattled by a financial disaster with its subterranean linkages to sub-prime loans, and the twins lost a whopping $11 billion virtually bringing them to bankruptcy calling for an official bailout. The US mortgage loans were without recourse in nature, spelling enormous troubles for lenders should the house prices crash.

The prices indeed crashed and the hapless mortgage finance companies were left holding the can with borrowers thumbing their nose at them and laughing up their sleeve at the naivete of the law that did not cast a personal liability on the borrowers.

Would MRGF meet with the same fate? One shudders to think of the consequences. This country is not new to loan melas and the resultant inevitable loan waivers.

Heavy price for write-offs

When a couple of years ago, the government wrote off a mammoth Rs 1,00,000 crore of farm loans to marginal farmers, critics were silenced by citing that in the past industrialists had left banks and financial institutions bleeding through defaults in servicing their loans. Such huge write-offs might have paid electoral dividends, but the exchequer has had to pay a heavy price.

What MRGF proposes to do is to stand guarantee for small housing loans whose number is likely to exceed 2.5 crore. One does not know the minutiae of the scheme, but from the contours it does appear that the small borrowers are likely to get greater indulgence than their US counterparts. ‘House for all' is a fine catchphrase, but the notion that the government (read the taxpayers) would pick up the tabs should never be encouraged.

The former SBI chairman, Mr O.P. Bhatt, was heckled by the Reserve Bank of India for his teaser loans to wannabe house owners on the ground that it encourages brinkmanship on the part of borrowers without means. But housing loan, teaser or otherwise, after due scrutiny of the repaying capacity is any day better than the mindless system of guarantees.

The US insurance major AIG was brought to its knees in the sub-prime crisis precisely for this reason. Its Credit-Default Swap (CDS), an euphemism for insurance against bad debts, was issued with gay abandon on the back of AAA ratings given to mortgage securities by credit rating agencies which in turn were blithe and slack in their work, attracted by huge fees for rating without due diligence.

Mortgage financing to be sure needs a leg-up. Housing is one economic activity that spawns myriad activities in what economists call the multiplier effect. But let us not encourage the notion that borrowers can forget their obligations sooner than later.

Let the loans to the poor enjoy greater latitude in terms of its tenure and interest.

Free electricity bankrupts the electricity boards besides making them callous and the beneficiaries speechless and tongue-tied. When one pays for what he avails, he gets the courage to question the supplier.

(The author is a Delhi-based chartered accountant.)

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