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Growth of finance giants threatens stability markets { February 25 2004 } Original Source Link: (May no longer be active)
http://www.washingtonpost.com/wp-dyn/articles/A3321-2004Feb24.htmlhttp://www.washingtonpost.com/wp-dyn/articles/A3321-2004Feb24.html
Greenspan Warns Panel On Fannie, Freddie
Mortgage Giants' Size Poses Risk, He Says
By Kathleen Day
Washington Post Staff Writer
Wednesday, February 25, 2004; Page E01
Federal Reserve Board Chairman Alan Greenspan warned Congress yesterday that the rapid growth of mortgage giants Fannie Mae and Freddie Mac poses a threat to the stability of U.S. financial markets and urged lawmakers to address the issue while the companies are healthy, rather than wait for a crisis.
In his most expansive critique of the two government sponsored enterprises, or GSEs, Greenspan told members of the Senate Banking, Housing and Urban Affairs Committee that he favors "privatizing" the companies by ending the government subsidies they enjoy in the form of lower borrowing costs and tax breaks.
Acknowledging that such action is unlikely because of the companies' influence in Congress, Greenspan said lawmakers should consider limiting the multitrillion-dollar debt the enterprises take on each year, arguing that their below-market borrowing costs encourage the GSEs to grow faster than the housing market and contribute little to their mission of promoting home ownership.
And he said Congress must revamp the Office of Federal Housing Enterprise Oversight (OFHEO), the agency that regulates the companies, to give it powers equal to bank regulators. Unlike OFHEO, bank regulators can require a riskier institution to hold more cash. Banks can also be put into receivership and be liquidated if they become insolvent.
"One of the reasons why the issue of Fannie and Freddie didn't arise earlier is they weren't large enough and didn't create a potential significant problem for the overall financial system," Greenspan said. "But they will almost surely do [so] in years ahead unless some changes are made in the structure of how these organizations function."
Spokesmen for Fannie Mae and Freddie Mac, whose chairman will testify before the Senate committee today, said they welcome efforts to strengthen federal oversight but took issue with most of Greenspan's other remarks.
"We, of course, disagree with most of his conclusions, but appreciate that he has now made his strongly held views public," said Jayne Shontell, head of investor relations for Washington-based Fannie Mae.
A Freddie Mac spokesman said that "privatizing the housing GSEs would seriously damage the finest housing finance system in the world and, ultimately, the U.S. economy."
Fannie Mae's stock fell $2.65 yesterday, to close at $76.25; Freddie fell $1.81, to $62.12.
The White House, too, ramped up its call for reform, with N. Gregory Mankiw, chairman of President Bush's Council of Economic Advisers, writing an op-ed piece in the Financial Times calling for tougher oversight, including giving a regulator the ability "to wind down the affairs of a troubled GSE through receivership."
Greenspan said Fannie Mae's and Freddie Mac's relatively weak regulation and federal subsidies foster a widespread belief on Wall Street that the government would bail them out if they got into trouble. That perception persists despite statements by Treasury officials and members of Congress that the companies' debt is not federally guaranteed.
That has enabled the companies to operate without the "normal market restraints" that curb overly risky growth at other publicly traded companies, Greenspan said. The companies have grown so large as a result, he added, that any serious problems they had would affect the whole economy.
Greenspan's testimony is part of a series of congressional hearings amid fallout from a year-long controversy over the operations of Freddie Mac and the role of its regulator. The McLean-based company last year admitted to $5 billion in accounting errors, which caused the ouster of several top executives. OFHEO recently fined the company $125 million for its missteps.
Last year Congress debated but didn't pass legislation that would move OFHEO into the Treasury Department from the Department of Housing and Urban Development. Key members of the Senate banking committee are discussing the possibility of a new, independent agency to regulate the two companies.
Fannie Mae and Freddie Mac are congressionally chartered, publicly traded companies that buy home loans from lenders, creating a vast pool of mortgage money and, in the process, lowering borrowing costs. They make money by selling bundles of mortgage-backed securities to investors and by collecting fees for guaranteeing the securities.
The companies also make money by directly owning home loans and their own mortgage-backed securities. The value of these investments, called "retained portfolios," has skyrocketed in recent years.
Fannie Mae's retained portfolio was worth $898.4 billion in 2003, compared with $189.9 billion in 2001. Freddie Mac's retained portfolio was worth $589.7 billion in 2002, the most recent number available, compared with $33.9 billion in 1992.
Greenspan criticized this growth, saying it exposes the companies to greater risk. Specifically, he said Congress should consider allowing the companies' debt to grow only with the growth of mortgage-backed securities held by investors -- not by the companies' retained portfolios. "The main problem is to reduce the subsidy and to make these particular institutions far more balanced in the way they function in the market," he said.
© 2004 The Washington Post Company
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