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Rep. Barney Frank, chairman of the powerful House Financial Services Committee, says that Fannie Mae and Freddie Mac need an overhaul, and if they can’t or won’t get it, then it’s time to shut both down. But what is his proposal and what could it mean to government-backed mortgage funding?

No doubt about it, Frank is right in the middle of the debate over the government’s role in the massive economic meltdown we’re experiencing. Supporters see Frank as an advocate of reform over an out-of-control Wall Street. Critics point out that Frank took a hands-off policy on loose mortgage lending rules that put millions of Americans into homes they couldn’t afford.

Whatever the take, Frank isn’t shy about the federal government’s role in changing the economic landscape to reduce the chance (he hopes) of another collapse in the U.S. economy.

Case in point: Earlier this year Frank came out with a surprising statement — that the two major government mortgage lending bodies, Fannie Mae (Stock Quote: FNM) and Freddie Mac (Stock Quote: FRE) should be shut down.

"The remedy here is ... as I believe this committee will be recommending, abolishing Fannie Mae and Freddie Mac in their current form and coming up with a whole new system of housing finance," said Frank on Jan. 22. “That’s the approach, rather than a piecemeal one,” he added.

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That’s quite a statement coming from the chairman of the House Financial Services Committee. Right now, Fannie and Freddie either own or guarantee about 50% of a whopping $11 trillion in U.S. home mortgages. But the taxpayer-funded lending institutions are in poor economic health, supported by $110 billion in taxpayer aid in 2008 and 2009. According to The Wall Street Journal, both agencies combine to hold $5.4 trillion in mortgage bonds and another $1.7 trillion in unsecured corporate debt. But Fannie Mae has lost more than $120 billion in the past two years and Freddie Mac isn’t far behind — it has lost $67 billion over the same period.

Certainly, stockholders wouldn’t object to the shuttering of Fannie and Freddie. Back in December of 2000, both stocks were soaring — $87.81 alone for Fannie Mae. But today you can buy a share of Fannie Mae at about $1, and a share of Freddie Mac, which traded at a record high of $73 back in 2004, at $1.15.

Taxpayers can’t support these failing agencies forever, and Washington doesn’t seem inclined to push for more taxpayer funding — not in this economy.

Consequently, Frank says the federal government is ready to pull the plug on both agencies. While the House likely won’t act to shut the agencies down in 2010, the groundwork is already being laid (by Congress and the U.S. Treasury Department) for Fannie Mae and Freddie Mac to shut down in 2011.

But what will take the place of Fannie Mae and Freddie Mac is very much up in the air. And that, unfortunately, feeds into even greater uncertainty over the government’s role in the U.S. mortgage lending market.

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