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Fannie Correction: 'What If?'
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Unlike some other companies caught up in accounting scandals, Fannie Mae never defaulted on its obligations. What's more, the government uses two standards to determine whether the company is adequately capitalized. Fannie Mae is required to meet both tests, and while it failed one of them, the restatement shows that it passed the other.
The test Fannie Mae failed is meant to protect "against broad categories of business risk," according to the OFHEO.
Although the company fell short, the restatement showed that Fannie Mae's financial condition improved significantly based on another measure. Total stockholders' equity rose by $15.6 billion, to $31.9 billion, as of the end of 2002 and by $9.9 billion, to $32.3 billion, as of the end of 2003. There were two main reasons. First, when it corrected its accounting, Fannie Mae showed increases in the value of financial instruments known as derivatives that were previously obscured. Second, in the restatement, Fannie Mae recorded gains on mortgage-related investments that would not have shown up unless it sold the assets.
The SEC earlier this year accused Fannie Mae of fraud. Without admitting or denying wrongdoing, the company paid a $400 million settlement. Raines and other executives who presided over the problems were replaced.
Fannie Mae still faces litigation from shareholders, and the OFHEO has threatened to sue former executives to recoup some of their compensation.
Fannie Mae's accounting corrections, which involved a multitude of additions to and subtractions from profits it had previously claimed, had the net effect of reducing the company's past earnings by $6.3 billion.
Of all the numbers Fannie Mae corrected, the capital cushion is one of the most consequential. It is meant to assure that the company can withstand a sharp financial reversal. Some policymakers fear that if Fannie Mae became insolvent, it could send shock waves through the financial system and trigger a taxpayer bailout. Raines's 2003 testimony about the company's capital position served as a counterpoint to such warnings. It came as lawmakers were considering stepping up regulation of Fannie Mae and its rival Freddie Mac.
That debate will continue when the new Congress convenes next year, lawmakers say.
