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How Washington Failed to Rein In Fannie, Freddie
In 2003, Richard Baker, left, obtained executive pay information on Fannie and Freddie but was pressured not disclose it. In 1999, Treasury Secretary Lawrence Summers publicly signaled that Fannie, Freddie could be a hazard.
(By Susan Walsh -- Associated Press)
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Congress chose to create a weak regulator, the Office of Federal Housing Enterprise Oversight. The agency was required to get its budget approved by Congress, while agencies that regulated banks set their own budgets. That gave congressional allies an easy way to exert pressure.
"Fannie Mae's lobbyists worked to insure that [the] agency was poorly funded and its budget remained subject to approval in the annual appropriations process," OFHEO said more than a decade later in a report on Fannie Mae. "The goal of senior management was straightforward: to force OFHEO to rely on the [Fannie] for information and expertise to the degree that Fannie Mae would essentially regulate itself."
Congress also wanted to free up money for Fannie Mae and Freddie Mac to buy mortgage loans and specified that the pair would be required to keep a much smaller share of their funds on hand than other financial institutions. Where banks that held $100 could spend $90 buying mortgage loans, Fannie Mae and Freddie Mac could spend $97.50 buying loans.
Finally, Congress ordered that the companies be required to keep more capital as a cushion against losses if they invested in riskier securities. But the rule was never set during the Clinton administration, which came to office that winter, and was only put in place nine years later.
The Clinton administration wanted to expand the share of Americans who owned homes, which had stagnated below 65 percent throughout the 1980s. Encouraging the growth of the two companies was a key part of that plan.
"We began to stress homeownership as an explicit goal for this period of American history," said Henry Cisneros, then Secretary of Housing and Urban Development. "Fannie and Freddie became part of that equation."
The result was a period of unrestrained growth for the companies. They had pioneered the business of selling bundled mortgage loans to investors and now, as demand from investors soared, so did their profits.
Signal Moment
Near the end of the Clinton administration, some of its officials had concluded the companies were so large that their sheer size posed a risk to the financial system.
In the fall of 1999, Treasury Secretary Lawrence Summers issued a warning, saying, "Debates about systemic risk should also now include government-sponsored enterprises, which are large and growing rapidly."
It was a signal moment. An administration official had said in public that Fannie Mae and Freddie Mac could be a hazard.
The next spring, seeking to limit the companies' growth, Treasury official Gensler testified before Congress in favor of a bill that would have suspended the Treasury's right to buy $2.25 billion of each company's debt -- basically, a $4.5 billion lifeline for the companies.
A Fannie Mae spokesman announced that Gensler's remarks had just cost 206,000 Americans the chance to buy a home because the market now saw the companies as a riskier investment.
