You knew it was coming. A just-issued 2,652-page report by former New Hampshire Senator Warren Rudman details the world inside Fannie Mae and the drive to produce financial results that would satisfy stock analysts.
The report will get a lot of media attention, but the central issue will remain untouched: How to change the quasi-government status that Fannie Mae enjoys.
"Fannie Mae is a different company than a year ago," says Daniel H. Mudd, Fannie's new President, CEO and designated clean-up hitter. "We have been humbled, even embarrassed. But we have begun to make significant changes."
One of those changes, says Mudd, is that Fannie has "adopted a new, more cooperative, constructive and professional approach to working with our regulators, Congress and policy makers."
Imagine that. Can you think of any other entity which does not take a "cooperative, constructive and professional approach to working with our regulators, Congress and policy makers." Suppose you were not being cooperative with, say, the Securities and Exchange Commission or a congressional committee. What would happen to you and your company?
The core issue now facing Fannie Mae and its sister entity, Freddie Mac, is not bookkeeping. We know they have had past instances of woeful accounting and we hope the future will be better, but what really needs to be addressed is the coming role of these two government-sponsored enterprises (GSEs): Do they continue as mutant public/private behemoths? Do they get de-tangled from the federal government to become entirely private? Or, are they swept completely into the arms of the national government?
Fannie Mae and Freddie Mac were originally established as elements of the federal government. Their job was to assure that mortgage money was available to borrowers on equal terms nationwide. To do this they are active in the "secondary" mortgage market -- that is, they buy loans that meet their underwriting standards from local lenders.
Since the two companies purchase about 40 percent of all U.S. mortgages, their standards are important to both borrowers and lenders. If you're a borrower and meet the "conforming" standards they establish you have a great shot at low-interest financing. If you're a lender you get to easily re-sell loans if they conform to Fannie Mae and Freddie Mac guidelines. Such sales allow you to raise cash that can be used to originate still other loans with more fees and charges.
Fannie Mae, Freddie Mac , and Ginnie Mae raise money by going to Wall Street. They sell mortgage-backed securities (Fannie Mae), mortgage-backed bonds (Freddie Mac) and pass through certificates that generate monthly payments for investors (Ginnie Mae).
The money raised on Wall Street is then used to buy packages of local mortgages. The end result is that no matter where you live dollars to finance your real estate purchase are available at largely the same rates and terms nationwide.
The catch is that while Ginnie Mae remains a government entity, Fannie Mae and Freddie Mac are owned by private shareholders and yet have unique marketplace privileges stemming from their government days. The result is that the two companies share characteristics that one might relate to a government agency (that's good for borrowing at cheap rates) plus the dynamics that one might find with huge private companies (such as making profits).
In practice, investors believe that because of their size and history, if Fannie Mae or Freddie Mac have financial troubles the federal government will step in and bail them out. That means there is little down-side risk for investors. Meanwhile, profits generated by Fannie Mae and Freddie Mac go to shareholders, not government vaults. If you're an investor, you win in either case.
The problem is that Fannie Mae and Freddie Mac were not established to further the interests of either shareholders or executive bonus plans. The idea was to assure low mortgage rates across the country so that opportunities for homeownership would be expanded. But under the current system, every dollar in profit paid to shareholders and every cent in multi-million dollar bonuses pools means fewer dollars available to reduce mortgage costs.
The time has come to change the ties between the huge GSEs and the federal government -- either make them private companies that will be subject to the same rules and regulations as competing secondary lenders or convert them back to government status.
The first option, going public, means the companies would get no special tax or regulatory breaks. There would be no competitive advantage leading to lower borrowing costs as the result of a perceived special status. Reports to the SEC would not be voluntary. The second option, going federal, would end massive payouts to shareholders and executives, money better spent reducing loan costs and filling empty government coffers.
Either option would be better than the blurred positions now held by Fannie Mae and Freddie Mac. But what to do with these companies is not just a financial matter, it also has a political dimension. It would require strong leadership in Washington to take on the two huge companies and their fee-earning backers on Wall Street -- leadership which is just not there.
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