By Jerry Knight
Monday, May 15, 2006
After too many years tilting at Washington's windmills, there are few subjects left that can trigger my feelings of outrage.
Fannie Mae is one of them.
The fall of mortgage giant Fannie Mae -- and its counterpart Freddie Mac -- is the greatest financial tragedy I've witnessed in almost three decades of writing about Washington business.
Once the most respected companies in town, Fannie Mae and Freddie Mac fudged their bookkeeping for years, stretching accounting rules like bungee cords to create fiscal fiction, deceiving shareholders and manipulating the regulatory process.
We still don't know the truth about their finances, but last week we found out how much it is costing Fannie Mae to find out.
Would you believe $800 million?
Not $800 million in mistakes, $800 million just to review the records, find the phony accounting and come up with clean numbers.
That's $800 million this year alone, and it's only an estimate. It includes about $250 million spent in the first quarter and Fannie's best guess of spending for the rest of the year.
Roughly half that, Fannie officials say, is being used to hire outside accountants and attorneys, along with all the paralegal squires and computer handmaidens needed to support them. The other half covers a huge investment in new computer systems, the thousand employees doing temporary duty on the cleanup and countless miscellaneous costs.
The outside-contractor budget comes to $7.7 million a week, enough to hire an army. It's an army recruited by the accounting firm of Deloitte & Touche LLP, which is getting the biggest share of the work.
There are 2,500 employees of outside contractors working on Fannie's books, officials say. The legal team, hired by the board of directors to investigate Fannie's foul-ups, is led by lawyers from Paul, Weiss, Rifkind, Wharton & Garrison LLP. But Fannie has hired several other firms, some just to defend the company against the lawsuits filed by shareholders who lost money on Fannie's stock.
The cleanup crew is so huge that it's taken over the dining room in the company cafeteria, leaving employees to pick up their lunches and eat at their desks. They've taken over every available room in Fannie's headquarters at 3900 Wisconsin Ave. NW, in the office building next door and in the one across the street. The accountants and lawyers are even camped out in the executive suite, including the palatial acreage formerly occupied by chairman Franklin D. Raines, who left after overseeing the scandal.
The reason so many accountants are needed is that an independent investigation found almost two dozen violations of accounting principles, said Warren B. Rudman, the former New Hampshire senator who ran the inquiry. Because the rules were so routinely ignored, the accountants -- who have to swear by the accuracy of their work -- have to go through millions of documents to make sure the bookkeeping is proper now.
The Fannie Mae mess is so huge, it may be the biggest single source of new jobs in the District of Columbia this year.
Some of that $400 million will no doubt trickle down to do some good. It's putting gas in the tank, food on the table and BMWs in the driveways of the Deloitte & Touche partners, for example.
But fundamentally, it's wasted money, a dead-weight loss. It's thousands of jobs and millions of dollars being wasted on work that is no more productive than raking leaves. It's money that could have gone not only to shareholders, but also to support low-income housing and to the Fannie Mae Foundation, the company's charitable arm, which is struggling through cutbacks.
What's most outrageous about the costly Fannie Mae cleanup is that no one seems outraged about it.
When the $800 million number was disclosed last week, not a whimper was heard from Congress, which for months has been dithering about what to do about regulating Fannie and Freddie.
Yet the number shows how badly the government needs to do something. Contrast the $800 million cleanup cost with the $62 million annual budget of the Office of Federal Housing Enterprise Oversight, the agency in charge of "regulating" Fannie and Freddie. That office, which plans to issue its final report on Fannie Mae by the end of the month, has a staff of 225 people, not one-tenth the number Fannie has hired for the cleanup.
Congress dares not complain because it is culpable. Fannie Mae's and Freddie Mac's lobbyists have so totally ingratiated themselves with lawmakers that they've been able to fend off regulatory initiatives for the past two decades.
The White House is hardly in a position to provide leadership since presidents Bush and Clinton have significant responsibility for what went wrong. They appointed board members at Fannie and Freddie, reflecting their unique status.
The failure of that system is obvious. The White House traditionally treated appointments to the boards as political plums: not as cushy as, say, being named ambassador to the Vatican but as nice a job as you can get without having to leave town or do much real work.
The presidential appointees reflect Fannie and Freddie's origins as offspring of the government. They were set up to raise money for home mortgages, which Congress concluded could be done better and more cheaply by a government-chartered entity.
But their eventual privatization created the housing equivalent of the military-industrial complex, a Washington-Wall Street axis of money. Wall Street has made billions of dollars buying, selling and trading the bonds that the mortgage twins use to raise money. Wall Street has eagerly helped them sell stock -- collecting the usual investment banking fees along the way. And Wall Street has just as eagerly bought Fannie's and Freddie's shares and bonds, parking them in their mutual funds and other accounts they manage.
The conflicts run so deep when it comes to Fannie Mae that last week's announcement of the $800 million cleanup cost did not produce a peep from Wall Street. Analysts instead proclaimed that it was good news. It showed a light at the end of the tunnel, another reason to buy Fannie's stock.
Wall Street, like Washington, has no choice but to support Fannie Mae and Freddie Mac, no matter what. If they failed, they could take down the stock market, the bond market, the housing market and perhaps the entire U.S. economy because their stocks and bonds are so widely held and they are so essential to the mortgage market. No one can afford to let that happen. That's why Congress is so afraid of grabbing the regulatory reins and why Wall Street keeps touting Fannie and Freddie as good investments.
Today there are nine Wall Street analysts telling their clients to buy Fannie Mae stock and just two recommending they sell. The opinion on Freddie Mac is unanimous: 11 "buy" recommendations.
Reluctant as I am to admit the possibility, those recommendations may be right.
Fannie and Freddie aren't going to fail. Wall Street and the government won't let them. That's the real tragedy. We've created a pair of mortgage monsters, and we can't do anything about it.
Jerry Knight's e-mail address isjknight@washpost.com.
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