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U.S. House of Representatives,
Subcommittee on Capital Markets, Securities and Government Sponsored Enterprises,
Committee on Banking and Financial Services,
Washington, DC.

    The subcommittee met, pursuant to call, at 1:35 p.m., in room 2128, Rayburn House Office Building, Hon. Richard H. Baker, [chairman of the subcommittee], presiding.

    Present: Chairman Baker; Representatives Ryan, Cook, Kanjorski, Bentsen, Jones, and Capuano.

    Also Present: Representatives Bachus and Watt.

    Chairman BAKER. If I could ask everyone to take a seat, we will get our hearing started. I want to welcome all of you to LSU Stadium. It is the only thing I can think of that looks very similar on a Saturday night, and to my friends in the media, I would note that none of them who are seated at the top tier today chose to take on the Chairman's responsibility, but I hope now that the shoe's on the other foot, you will have a different perspective about this job.

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    On to the organization of our business for the afternoon. First, let me start by saying Mr. Kanjorski had suggested some time ago that we try to develop a venue in which varying opinions might be expressed in a less formal methodology than a committee hearing. To that end, we have tried diligently to limit as best we could, although recognizing everyone's interest in this subject matter as being important, to select a broad range of individuals to sit around the table today.

    I would be quick to add that anyone who is not at the table, whose views are not expressed or whose questions are not answered, this is not a formal committee hearing process, and Mr. Kanjorski and I will be more than happy to receive written comment from anyone who feels their perspective is not vetted properly here today.

    In order to proceed as best we can, I would ask everyone's courtesy in working with whoever is controlling the time at the moment in order to be recognized simply by show of hand. We don't have any other process to do it given the large number of people involved. To that end, after opening statements by myself and Mr. Kanjorski, a representative of each GSE will be given a brief time for an opening statement, and then Mr. Kanjorski will manage 45 minutes of uninterrupted time. I will then manage 45 minutes of subsequent uninterrupted time, and we will repeat that process one more time.

    So in the aggregate, a total of three hours equally divided, an hour-and-a-half to Mr. Kanjorski and myself, in 45-minute blocks. During that time, Mr. Kanjorski will recognize any Member, any participant and control the time given completely. So it is up to Mr. Kanjorski as to which folks are heard and for how long they are heard, and I hope you understand that is the only way we could work this out, given the complexity of this meeting.
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    Members of Congress who will later arrive, I have been told we will have several Members come in perhaps a bit later because of flight schedules, will also be recognized within the same context. So that Mr. Kanjorski and I, to the best of our mutual ability, are going to try to conduct this in a balanced way, and at the conclusion hope that everyone will have had opportunity to express their particular perspective.

    At the conclusion, Mr. Kanjorski will then have five minutes to close, I will have five minutes to close if there is still anybody here, and with that, we would probably wind this up somewhere around 5:00, 5:30-ish or so, to give everyone listening a view of our expectation.

    With that clarification of process, I would like to make just a brief comment about our subject matter today.

    First, I would like to start by welcoming two individuals who have clear understanding and appreciation for the difficulty of this issue, Mr. Milazzo from Campus Federal Credit Union in Baton Rouge, as well as Mr. Cloutier, representing the Independent Bankers, also from Louisiana. I like to have a couple of hometown folks in the crowd, especially anybody who has got experience with LSU crowds on Saturday night, you are going to be of value in this meeting, I am sure.

    H.R. 3703 was introduced early in the year with an eye toward providing a mechanism to enhance transparency and market discipline on the Government sponsored enterprises. No one will dispute the value these enterprises have provided to our Nation's economy and to facilitating home ownership throughout this Nation, and without doubt, no one in this room today wishes to foreclose, forestall, or in any way inhibit the delivery of mortgage product to those who are in need and cannot find it through any conventional mortgage process. So this meeting is not about raising interest rates on home buyers or attempting to facilitate problems for the Government sponsored enterprises.
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    It is, however, recognition that during our prosperous economic times, that appropriate action should be taken to ensure that taxpayers are not called upon in the unlikely event of adverse business conditions and the GSEs falling on capital inadequacy.

    As a result, the provisions of H.R. 3703 were intended to be a blueprint from which public discussion could proceed. I think over the past eight months, that is probably a kind description of what has happened. There certainly is strong interest from all quarters on the content of H.R. 3703, and I would hope during the course of our deliberations here this afternoon, positive comment can be made as to how to modify, change or otherwise improve on the suggestions made in that legislation to facilitate appropriate regulatory oversight while maintaining the delivery of mortgage products to consumers across this Nation.

    To that end, we will proceed and I would at this time recognize Mr. Kanjorski for his opening statement.

    Mr. KANJORSKI. Thank you very much. Mr. Chairman, I want to particularly thank you and your committee's effort to put this roundtable together. I know it is not an easy undertaking. It is something that I used years ago in developing policy for economic development. I found it to be very useful, because so often in our structured hearings we hear only one side of an issue with certain assumptions and certain conclusions that are unchallenged. It is very difficult to have a joinder of the issue, if you will, and I think the opportunity of a roundtable discussion is going to give us that capacity.

    I am not certain what will come out of today's roundtable discussion, but I hope we get to some substantive questions. First, is there a problem?; and if there is, what is that problem? I know that in having sat through the four hearings that the committee has held on this topic, we have heard from people that have had complaints. They have had complaints against either the institutions involved or there is something they may be doing. That is all well and good, and the private sector may be able to work that out. But does that necessitate some form of regulation or legislation or other significant change?
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    Further, I would like to know, in these good economic times, what precipitous change would potentially cause any unintended consequences. That is very important, and I think we have all seen some potential unintended consequences just from having the hearings themselves.

    I think that this roundtable should offer us an opportunity for a free, fair, and vigorous deliberation of all the issues by the participants. I hope therefore, that the participants will challenge the assumptions and the assertions of others and not just sit silently when someone is speaking about a predicate with which you do not necessarily agree. It is the only way that the Members of the committee and the Congress can actually understand the full flavor of what the issue entails.

    I really hope that this panel assembled, although large, makes progress. If somebody is saying something that is not accurate or correct or is making an assumption that is not supported by the evidence, I would hope that you ask to be recognized immediately after that assertion is made and correct the assertion. In doing so, we can see the nuances that are involved here, as opposed to trying to digest very tailored statements that necessarily may meet the individual association or organization's needs, but are not necessarily best for public policy.

    I additionally want to welcome many of the participants. Individuals from Wall Street, like Bear Stearns, and Consumers Union are going to give us a good balance. We also have people that have not testified before, but have some very strong positive feelings on the need for this legislation. I certainly look forward to hearing from them.

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    It seems to me that we have a tremendous clash of competing industry self-interests. That is all right. But now, we are going to deal with the public interest and we want to see how those two interests collide, clash, or can be brought together. That is what I hope the hearing will accomplish.

    In the process of setting up this hearing, we have heard from more than 150 groups or individuals with more than 550 pages of response. For the record to be complete, I would ask unanimous consent at this time, Mr. Chairman, that those 550 pages be entered in the record.

    Chairman BAKER. Certainly.

    Mr. KANJORSKI. As I said earlier, I am interested to know whether there is a problem. How do we get to our goals of increasing home ownership, keeping mortgage rates lower, and improving regulatory efficiency. I want to identify the real problems. Our discussions should not necessarily be limited to H.R. 3703. If there are other problems, this is a good time to air them. If H.R. 3703 does not encompass everything it should, it is a good time to hear about it. I do not think we should be constrained just to the piece of legislation before us, although that is a great platform to work off of in order to get to the issues.

    Additionally, I think we need to take very constructive steps. A long legislative process is needed to be certain that we do not compromise what is the very successful homeownership policy in the United States. I think we need significant deliberation, substantive study, and genuine consensus. We also need to understand fully what the potential consequences entail and certainly try to determine what the unintended consequences may be if we act on H.R. 3703 or any legislation at any time in the future.
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    I believe our subcommittee should therefore choose a path of caution. We should not move forward in approving any legislation affecting the GSEs this year. To try to compress something and throw it on an omnibus bill would be a fatal error for the Banking Committee and for the public interest.

    Mr. Chairman, again, I want to congratulate you and your subcommittee staff. At times, we have had anxieties over the process. I think all of those issues have been taken care of, and I once again congratulate you and your subcommittee staff for putting this engagement together. I look forward to addressing these issues.

    Chairman BAKER. Thank you, Mr. Kanjorski, and to you and your staff, we do enjoy a good working relationship. Although we might not agree on all aspects of legislation, I think we have always tried to conduct our business in a responsible manner and thank you for your courtesies.

    I have been asked to make one announcement. There are other people listening to this I am told, and when any particular individual is recognized to speak, please announce your name, even if it is repetitively so that individuals listening to these proceedings in other locations may know who is making the remarks at the time they are made. So please remember to announce who is making the comments when you are recognized.

    To that end, I wish to now recognize representatives of the three GSEs who are here with us today. First, we have Mr. Tom Donilon, who is speaking in his capacity as Chief Legal Officer for Fannie Mae, and I wish to welcome you here, sir. You would be recognized for a five minute opening statement should you choose.
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    Mr. DONILON. We flipped a coin.

    Chairman BAKER. Mr. Delk will go first?

    Mr. DONILON. Yes.

    Chairman BAKER. Please make sure you pull that mike very close. It is not very sensitive. Our first presenter, then will be Mr. Mitch Delk speaking here in his capacity as representative for Freddie Mac.

    Welcome, Mr. Delk.


    Mr. DELK. Thank you, Mr. Chairman. Let me make an initial observation, with due respect to my good friend, I say good friend and colleague, Mr. Donilon, this is a good example of beauty preempting age, exception to the rule, I might add parenthetically.

    Mr. Chairman, Ranking Member Kanjorski, and Members of the subcommittee, my name is Mitchell Delk and I am the Senior Vice President for Government Relations at Freddie Mac. I want to thank the Chairman for providing Freddie Mac with the opportunity to provide a few observations before we begin the session.
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    The first observation I would make is that there are a lot of differing views in this room on the role of Freddie Mac and Fannie Mae, but there is unanimous agreement on one fact, Freddie Mac and Fannie Mae save families millions and make it easier for them to own a home. Every year, American home buyers save $15 billion in mortgage interest payments because of us, without any expenditure from the Congress.

    Mr. Chairman, none of these submissions made to you dispute the basic fact that we benefit home buyers in a substantial and tangible way. Our critics have said little about what their proposals would do for the American home buyer. Some of these groups think that homeownership should not be national priority at all. Other groups like the subprime lending groups we have here today do not want to see Freddie Mac continue to lower borrowing costs for consumers, because it affects their bottom line. I recognize that these organizations have a parochial interest in the outcome of these proceedings, but their proposals don't appear to do much for hardworking families who are trying to build wealth by owning a home.

    In contrast, those who speak out today in support of the vital role we play do care about homeownership and they do care about making homeownership more affordable.

    Mr. Chairman, we know that every Member of the subcommittee shares the belief in the value of homeownership. That is why we welcome these discussions and look forward to a constructive and open dialogue.

    My second observation is that we are unquestionably a safe and sound financial institution and we are going to stay that way. As you yourself have said, Mr. Chairman, Freddie Mac and Fannie Mae are in excellent financial condition today, and your objective is to ensure that there are no financial problems in the future. Let me once again assure you that Freddie Mac is strongly committed to safe and sound operations so that we can continue to provide a reliable source of low cost mortgage funds to a new generation of American families.
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    We want the Congress and the public to have confidence that Freddie Mac meets our vital mission while maintaining world class risk and capital management standards.

    In talking about these standards, we believe the three pillars framework proposed in the 1992 Basel Committee on Banking Supervision provides an excellent framework for the discussion. The three pillars focuses on capital management, supervisory oversight and market discipline. Measured against the Basel three pillars framework, Freddie Mac's current capital supervisory and disclosure standards stand up extremely well.

    The third pillar of the Basel framework which focuses on financial disclosure provides an excellent basis for your consideration of possible enhancements. Rigorous financial disclosure promotes market discipline, as you said, and promotes early warning signals to regulators and the public regarding any possible concerns about financial conditions.

    My third observation is that we welcome this type of scrutiny, but we think it is imperative to look at the entire range of Government-chartered financial institutions. In creating Freddie Mac, Congress conferred a number of benefits that enable us to gain access to capital markets to fulfill our mission, but federally insured depository institutions such as banks and thrifts also enjoy Government benefits of their own. For example, by taking deposits that benefit from Federal insurance, banks and thrifts have access to a very low source of funding that is explicitly guaranteed by the FDIC. As a result, banks and thrifts enjoy a significantly lower cost of funds than does Freddie Mac.

    We are not saying Government benefits to financial institutions are inherently a bad thing. What we are saying is that all institutions should be asked how they are using their benefits to help the American consumer. Depository institutions have the luxury of getting in and out of the mortgage business as they see fit, because they engage in a wide range of business lines. Freddie Mac does not have this luxury nor do we desire it. We are in one line of business and one market because of the purposes Congress has established for us. Our singular focus on the mortgage market ensures that money is always there when lenders need it, there is a wide array of loan products available, and that we are always working to make it easier and cheaper for borrowers to get a mortgage.
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    Mr. Chairman, we have a 67 percent homeownership rate in this country, but we can and must do better. We estimate that 50 million American families will need to buy a home or desire to buy a home in the next decade, and more than 10 million of these families will be first-time home buyers. Do we want these families to pay billions of dollars more in mortgage costs than their parents did? For many of these families, Freddie Mac's operations can make the critical difference that enables them to own the home of their choice. For this reason, we believe our public purpose is as every bit as compelling today as the day we were chartered by Congress.

    I look forward to participating in the discussion today.

    Chairman BAKER. Thank you, Mr. Delk.

    Mr. Donilon.


    Mr. DONILON. Thank you, Mr. Chairman. As you said, my name is Tom Donilon, Executive Vice President for Law and Policy at Fannie Mae, and I am accompanied here today by our Executive Vice President, Chief Financial Officer, Tim Howard, who I know will help contribute to the discussion today on the financial side of things.

    Let me make a couple of informal comments at the beginning. Number one, Fannie Mae welcomes the dialogue on the role of the GSEs. We are always happy to get the opportunity to explain who we are and what we do and describe to the Congress and the public how we provide liquidity and stability and predictability to the housing markets and expand the market for homeownership and affordable rental housing, particularly for historically underserved populations, which is at the core of our mission as an institution.
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    I am also pleased to be here today with so many of our partners from around the industry. The success that Mr. Delk mentioned with respect to the housing finance system in the United States is not the sole doing of any individual institution, or indeed only of the secondary market. Providing consumers in this country with the lowest rates and the broadest mortgage products designed to suit consumers' needs requires the excellent work of many people seated around this table and we are glad to be here with you today.

    We at Fannie Mae have followed these hearings very closely, as you know, Mr. Chairman, Mr. Kanjorski, and we have been gratified to see a number of things. Number one, the wide recognition of the positive and important role that Fannie Mae plays in the housing finance system in the United States economy generally, and number two, we have also been gratified to see what I see is a strong sense expressed by key members of the housing finance industry and by many Members of the subcommittee that the first principle here, as Mr. Kanjorski was saying, is do no harm to a system that has performed terrifically for American consumers.

    Let me make just a couple of additional points before I stop, really three. First, as our Chairman, Frank Raines, described to the subcommittee in the May hearing, the United States housing finance system is the envy of the world and that is something we shouldn't forget as we consider alternatives. In America, we take the long term fixed rate mortgage for granted, with down payments as low as 3 percent. Last year, nearly four to five mortgages originating the United States were long term fixed rate loans.

    Outside the United States, however, this kind of mortgage is a rarity. In Canada, they have rollover mortgages with a rate that is fixed during the first one to five years, with a prepayment penalty equal to three months of interest. The fixed rate in terms of Spain is usually one year. In France, 80 percent of all mortgages have variable rates. In Germany, consumers can get a fixed rate loan for five to fifteen years, but can't refinance during the period without a huge penalty. And in Germany, the down payment is usually 30 to 40 percent, and as many here know, in Japan the down payment can be effectively 50 to 60 percent. Not so in the United States.
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    And this system did not arise by happenstance. It arose out of 60 years of bipartisan effort by the Congress. It arose out of clear policy decisions made by the Congress, most recently in 1992, and as Fannie Mae's Chairman, again, Frank Raines said in May, we think by any measure the 1992 law has been a huge success in holding the companies to higher standards of financial regulations and in transforming the companies into companies that pursue with dedication their affordable housing missions.

    The system works because it leverages private capital from around the world to achieve an important public service. When Fannie Mae was spun off by the Government in 1968, the Government had invested $165 million in the company over a 30-year period. Fannie Mae has attracted since then $19 billion in private capital that has allowed us to finance $1.1 trillion in loans and we attract that private capital because we run our company efficiently and safely.

    The end result is that, as the subcommittee heard from many different sources, we are able to reduce mortgage rates for consumers in every part of the country every day. As Mr. Delk said, that is an unchallenged conclusion from all the evidence that the subcommittee has put together during the course of this year.

    And by attracting private capital, we have the resources we need to meet the housing goals HUD set for us, which require us to dedicate a growing share of our business to low- and moderate-income and other underserved borrowers. As Secretary Apgar, I am sure, will discuss today, we believe that as of January 1, it is likely that HUD will have in place final regulations that will require us to dedicate 50 percent of our business to targeted populations, first point.
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    Second point: Fannie Mae is an extraordinarily safe and sound business and stands in the vanguard of risk management and practice of financial institutions. We are held to the highest standards of safety and soundness as a result of the regulatory regime put in place in 1992. We are continuously examined by a top quality examination team at OFHEO and we constantly receive the highest marks in OFHEO's examination reports to Congress. We soon will have in place the strongest risk based capital test applied to any holder of mortgage assets.

    And our record of success of risk management is indisputable. Fannie Mae's exceptionally low and declining credit losses, and our current net interest income show that we have in place outstanding and proven strategies of managing credit and interest rate risk to an extremely high level of protection. We believe that our extremely strong risk management practices mean we are able to reduce the level of risk in the financial system as a whole and contribute to systemic stability as opposed to being a systemic risk to the economy. Indeed, the events of the credit crunch of 1998 are one clear example of where our presence in the market helped keep mortgage rates stable and low in the face of global economic turmoil, indeed in a time when even sovereign nations were having difficulty finding credit.

    Third, against this backdrop, I want to propose a set of questions that we ask ourselves today as we consider alternatives to the system. Four questions: Does the alternative reduce costs for consumers? Does an alternative improve safety and soundness for the housing finance system? Does an alternative expand opportunities for homeownership? And does an alternative allow innovation in the market without cumbersome regulatory requirements? We propose that these be the tests that we apply to any alternative that we consider.

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    Last, Mr. Chairman and Mr. Kanjorski, there has been a lot of discussion during the course of this year about regulatory effectiveness and accountability. Let me address accountability just for a moment before I close. I don't know of a company or companies that are held to higher standards of accountability than the company that I represent. We have accountability to the market, the public, the Congress, our investors. Indeed, this event today, kind of an extraordinary event, I think indicates the level of accountability we are held to, and that accountability makes us a better company and we are all for it. It makes us a better company, makes us better executives. And so Mr. Chairman with that said, we welcome today's events.

    Chairman BAKER. Thank you very much, Mr. Donilon. I appreciate you being here.

    Next, representing the Federal Home Loan Bank, speaking on behalf of that GSE, is Mr. Curt Hage. Welcome Mr. Hage.


    Mr. HAGE. Good afternoon Chairman Baker, Ranking Member Kanjorski and Members of the subcommittee. My name is Curt Hage and my bank, Home Federal Savings Bank in Sioux Falls, South Dakota, is one of the 7500 owner banks of the Federal Home Loan Bank system.

    For disclosure purposes, I should mention, as I did back in May, that I wear several hats. I am a member of the Board of Directors of the Federal Home Loan Bank of Des Moines, the Second Vice Chair of America's Community Bankers and serve as Chair of the Council of Federal Home Loan Banks. I am here today on behalf of the Council and am joined by Michael Jessee, the President and CEO of the Federal Home Loan Bank of Boston.
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    Mr. Chairman and Congressman Kanjorski, I would again like to take this opportunity to thank you both for the extraordinary effort you put forth to enact legislation modernizing the Federal Home Loan Bank system. Without your leadership and efforts, the Federal Home Loan Bank System Modernization Act of 1999, a substantial and forward thinking statute, would not have come to fruition. With that as the context, I would like to make three key points this afternoon.

    The first is that the Federal Home Loan Bank system is unique. It was created during the depression. The Federal Home Loan Banks mandate is just as important today as it was then. The reason is that our role has expanded, and in the year 2000, Federal Home Loan Banks are a critical source of community building funds. Every loan our members make feeds our local economies.

    The system has become a lynchpin of community building funds during a difficult time for the U.S. banking industry. The 1990's saw the mutual fund industry explode to over $7 trillion in assets. A great deal of that growth came from deposits in local banks. Yet, in spite of that massive deposit drain, banks and thrifts have continued to provide credit to their communities, primarily through the Federal Home Loan Banks, which have provided a continuous flow of credit.

    This dependable, low cost source of funds has allowed community banks to keep lending even as their traditional source of money has evaporated. This need by community banks for continued access to liquidity makes repeal of the long-standing authority for the Treasury credit to GSEs extremely problematic. Repeal would create a damaging cascade effect leading to higher costs of funding which are passed on to consumers through higher costs for housing and other community credit.
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    The second point I would like to make today is that the Federal Home Loan Banks operate in a very safe and sound manner. The Federal Home Loan Bank system has never experienced a credit loss and is triple-A rated by Moody's and Standard & Poor's. Two important reasons for that great track record are that the Federal Home Loan Bank advances are fully collateralized and we have statutory lien protections for that collateral.

    H.R. 3703 proposes removing this protection in Section 138. In our view, that removal would be problematic and serve no purpose.

    Current law requires the Federal Home Loan Banks to secure their loans with specified collateral. Rather than identifying, assigning or perfecting that collateral which would be a costly and time-consuming process, well capitalized community banks and other portfolio lenders may use a blanket lien to cover their entire portfolio of eligible collateral. This is a practical and efficient way to hold down the cost of advances and administrative burden for the community bank, the consumer and the Federal Home Loan Bank.

    Furthermore, in the event of a loss by a financial institution, the super lien, like a perfected lien, would have first claim on the failed bank assets. Removing the super lien would not, as some purport, place the Federal Deposit Insurance Corporation in a better position in the event of a bank failure. Without the super lien, the Federal Home Loan Banks would perfect their security interests and thus have a first claim on the assets.

    My third and final point today is that the biggest job facing the Federal Home Loan Bank system is the daunting task of restructuring our capital, something required by the Gramm-Leach-Bliley Act. Title VI of that Act, created, because of your leadership, will ensure a strong and properly capitalized structure of the Federal Home Loan Banks. The Act provides for mutual ownership, permanence of capital and a stringent risk-based capital test. All three of these elements will ensure a safe and sound mission-consistent structure.
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    A mutual stock-ownership structure is very important to the owners of the system. We believe that it is an important natural governor on the system's mission. Mutuality, naturally, keeps Federal Home Loan Banks from competing against their membership. In addition, the Act provides for a stringent risk-based capital structure, which has five-year capital as its base. All of these important elements are unique to the Federal Home Loan Bank system which makes the job of implementing them especially challenging and explains why completing this $30 billion task will dominate our lives until the implementation deadline in August of 2004. For that reason, we believe that changing the regulatory oversight of the Federal Home Loan Banks at this time would be most problematic.

    Mr. Chairman, that concludes my statement. I would be happy to address questions the subcommittee may have.

    Chairman BAKER. Thank you, Mr. Hage. I appreciate all three of your willingness to spend time with us this afternoon and for your insight.

    At this time just to restate, Mr. Kanjorski, for Members who have arrived late, we will have four sections of time, two of which will be managed by Mr. Kanjorski, two of which I will manage. Mr. Kanjorski will be the person who will recognize Members as well as witnesses to be heard on any issue. He will proceed for 45 minutes without interruption from anyone that he does not choose to recognize, and at this point, I would recognize Mr. Kanjorski for 45 minutes of uninterrupted time.

    Mr. KANJORSKI. Thank you, Mr. Chairman.
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    Mr. Bentsen, would you like to make any remarks at this time?

    Mr. Capuano.

    Ms. Jones, do you have any remarks to make at this time?

    Mrs. JONES. Just glad to be here, Mr. Chairman.

    Mr. KANJORSKI. Maybe I could start the roundtable off by giving an opportunity to FM Watch.

    Chairman BAKER. I am told they have an interest in this, yes, sir, but I don't believe that they are here today. Anybody from FM Watch? No one is here to speak?

    Mr. KANJORSKI. Is Household International here? Are they going to take on the burden of giving their position?


    Mr. MORRIS. Mr. Kanjorski, my name is Loren Morris from Household, and we are not here on behalf of FM Watch. I am here on behalf of Household International.
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    Chairman BAKER. Just as to procedure, please make sure you pull the mike close. They are geared not to pick up a lot of background noise.

    Mr. KANJORSKI. Who is the most antagonistic group?

    Chairman BAKER. Mr. Kanjorski, according to press, that has got to be me.

    Mr. MARKS. Sir, if I can start that, please.

    Mr. KANJORSKI. Yes.


    Mr. MARKS. My name is Bruce Marks, and we have been pretty aggressive out there in terms of the GSEs. So I may start off and try to get to some of the issues. I am the CEO of the Neighborhood Assistant Corporation of America, NACA. We are the largest housing services organization in the country. We have offices around the country. We take on predatory lending. Let's be clear.

    Mr. KANJORSKI. Mr. Marks, if I may, in order to get the process started. I don't want all the issues and positions raised. I want you to assert something that you think the GSEs are doing that needs the immediate attention of the Congress so we can start the discussion.
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    Mr. MARKS. Absolutely. We should start with the premise that every person in the room supports affordable housing and homeownership. So let us take that off the table. Let us take off the table the issue of the GSEs have done well in the past. Everybody agrees with that. We don't need that piece of business.

    But let us talk about the role of the GSEs. If the role is to make homeownership affordable, then why do the GSEs, subsidized by the taxpayers, want to get into the subprime lending market, and therefore charge people much higher rates who might not have perfect credit, but should be able to qualify for a conforming conventional affordable loan? So if we can start off to address that issue.

    Mr. KANJORSKI. Going to H.R. 3703, we would have to assume that you would support giving the regulator the authority to reinvent and authorize what Fannie Mae or Freddie Mac does before they do it. Is that what you are for as a principle?

    Mr. MARKS. Yes.

    Mr. KANJORSKI. Let us see, Mr. Howard.


    Mr. HOWARD. My name is Tim Howard. I am the CFO of Fannie Mae. Let me start out by saying that the subprime market is essentially defined with respect to the Fannie Mae and Freddie Mac underwriting standards. That is, a subprime loan is one we in the past have chosen not to underwrite because we did not believe we could adequately gauge and price the credit risk. With new underwriting technology, we feel that we can move into the higher quality segment of the credit impaired, or what has historically been called the subprime market, and make loans to people who have heretofore been served by that market on a more preferential lower cost basis. It is totally within our charter to do that, and we feel that it is our mission to bring affordable financing to a greater group of people, and this is something that we feel is an important part of our mission.
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    Mr. KANJORSKI. Could I ask a question? Do you accomplish that by derivatives? Is that how you take the risk out of your operations?

    Mr. HOWARD. Purely on the underwriting side, we don't use mortgage derivatives. We typically will use derivatives to manage interest rate risk, but I can get into that separately. What we will do with credit impaired or the higher tier of the subprime market loans is do credit enhancement or risk sharing. We work with mortgage insurance partners. We will sometimes do recourse arrangements with lenders to spread risk out among a wider group of enterprises that help us bear it in a safe and sound manner.

    Mr. MARKS. But to follow up, because we should have a discussion, that since you are subsidized by the taxpayer and your mission is to create affordable housing, why shouldn't you just expand the definition of a conventional loan and therefore broaden that base so that people can get those affordable loans and not be subjected to subprime lending and terms? We agree that if you were a private entity with no taxpayer subsidy, you could do that, but you are the market makers. So as the market makers, why should you have the economic incentive to move people who should get a conventional loan from a conventional loan into a subprime loan, therefore maximizing your profits for your stockholders?

    Mr. HOWARD. First of all, in many cases what we are doing is exactly what you just asked us to do, namely, finance at traditional A-level mortgage rates borrowers who had previously only had access to the subprime market by expanding the universe of loans that we are willing to underwrite at the same guarantee fee or mortgage rate. There are, however, other levels of credit risk that are not financially sound investments for us to make or financially sound guarantees for us to make at A-level mortgage rates, but there, the alternative is to leave the people in the subprime market at substantially higher rates or bring them into the Fannie Mae market at only somewhat higher than A-level rates. We think the latter will not bring them all the way down to A-level rates, but it is clearly preferable to leaving them where they are paying much higher rates in the subprime market. So we are doing exactly what you request.
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    Mr. MARKS. No, no, absolutely not. We don't have to spend the whole time on the subprime, but let us address this, because you really shouldn't say things that aren't true. If what you are getting into is the A-minus and B-plus credit in subprime, well, there is not a whole lot of difference between the A and A-minus. It just depends on what side of the bed you woke up that morning or where the person wants to live. That is what defines the difference between A and A-minus. You are profiting, and it gets to the heart of this bill. Why should you, subsidized by the taxpayer, be involved in subprime lending?

    You have a mission to be innovative. You know there is a lot of private sector lenders out there who are doing much more than the GSEs are doing. Well, that is fine if you weren't being subsidized, but since you are being subsidized, then you have got to be on the cutting edge. You should be the best, not the problem, and that is why when you hear the issue of predatory lending, the biggest cause of predatory lending are the GSEs. You are the market makers, you create the market, you have a responsibility to the taxpayers to broaden the definition, not force people into subprime lending markets.

    Mr. DELK. Let me step in if I could, Mr. Marks. In all due respect, I think you are misrepresenting a number of the facts. First of all, I don't think we are subsidized by the taxpayers.

    Second, we are attempting through a number of innovations using technology to expand to address the concerns that you have registered. Having said that, and since you have brought up the issue of predatory lending, I think that is one that is very salient for this group today and I would like to make a couple of points.
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    First I would like to say that I think Freddie Mac is the unquestioned leader in taking steps to combat predatory lending, and let me tell you a number of things we are doing, and I will throw these out and then we can engage about these activities, but I hope, in due fairness, that you would, in fact, ask a number of the other participants around this table what they are doing to eradicate predatory lending.

    First of all, Freddie Mac will not purchase mortgages if they were originated with single premium credit insurance, a high cost product that strips obviously equity from the borrower's home.

    Second, responding to the Comptroller of the Currency halts challenge to the industry, we require lenders to report a borrower's payment record every month to credit repositories. That means that subprime borrowers obviously can establish a positive credit record and have a chance to get a lower rate which you have just described as a problem.

    Third, we will not purchase home loans that are high cost loans under the definition of HOPA. As you know, these are loans with rates more than 10 percent above the Treasury rate and have a certain amount of percentage points.

    Mr. MARKS. 17 percent, that is what loan sharking is.

    Mr. DELK. That was the Federal statute and we are meeting it, and we don't do business with lenders that in fact violate that.

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    And lastly, we require all our lenders to meet these standards or we don't do business with them. I think that is an aggressive stance.

    Obviously we can do more and as a market leader we clearly will do more, but I would ask you to go around the table and ask some of the other participants here what they are doing to demonstrate leadership to eradicate predatory lending.

    Mr. KANJORSKI. Let us take that opportunity, Mr. Delk, because we do not want to dwell on this topic. Anyone else want to tell us where they are going?


    Mr. CUNNINGHAM. I am William Cunningham. I am an independent registered investment adviser and I have been following this issue for about ten years.

    I want to talk about the issue of the eradication of predatory lending from the standpoint of the GSEs, but I also want to make two other points and bring up a specific incident which I think will place Mr. Marks' comments and the comments that we have received from the gentleman from Fannie and Freddie into high relief. So let me get to that incident now.

    Now I testified on June 12th here and talked about H.R. 3703. After that, I went back to my job in Minneapolis and contacted a bank called Seaway National Bank, which is a black-owned bank in Chicago on the south side of Chicago. I requested that Seaway get in touch with Fannie Mae to try to create mortgage-backed securities that were backed by loans that Seaway had originated on the south side, typically going to minority individuals.
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    Now, the response that Seaway got from Fannie Mae was not promising. As a matter of fact, Fannie Mae said—again, this is indicative of the type of bias that you have in the underwriting criteria. Fannie Mae's response, as I understand it, and again, I was not in the room with Seaway, but Fannie's response did not allow Seaway to participate in the Fannie programs. So that is an example of kind of the credit failure and something that this bill, if you look at the——

    Mr. KANJORSKI. For that purpose, you would like to strip any possible authority from Fannie Mae or Freddie Mac to engage in subprime lending?

    Mr. CUNNINGHAM. No, no. What I would like them to do is to renew their activities in trying to eradicate subprime lending.

    Mr. KANJORSKI. Whether or not they are complying with what you think will not be argued here.

    Mr. CUNNINGHAM. Let me tie into the legislation.

    Mrs. JONES. Mr. Cunningham, let me ask you a question, why did Seaway say Fannie Mae would not allow them? You weren't clear on why they did that?

    Mr. CUNNINGHAM. Again, you would have to talk to Emma Taylor, who is the CEO of Seaway Bank.

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    Mrs. JONES. Rather than make the record incorrect, since you don't know what he said, why don't you let us get in contact with Seaway so we would really know what they said versus you putting on the record something that you don't know anything about?

    Mr. CUNNINGHAM. Let me tell you what they told me.

    Mrs. JONES. It sounds like hearsay.

    Mr. CUNNINGHAM. Let me tell you what they told me, because I am intimately involved in the process in the creation of mortgage-backed securities serving areas of high social need.

    What Seaway told me was that basically Fannie Mae had indicated that the underwriting guidelines that Seaway had used to create those loans did not meet Fannie's criteria. Now, I understand your question, Representative Jones, in terms of what the specifics were of those criteria, I don't know, I haven't seen the individual loans, but here's my position on this matter. I am standing there as an institutional investor with $10 million to purchase these types of mortgage-backed securities. I can't get a transaction done, because there is a gap somewhere in the system. Either Fannie has a problem or Seaway has a problem.

    What I'm here today to suggest is that we talk about solving that problem, that is all, and the way to do that, with respect to the bill, is by increasing transparency with request to the social investing activities of these organizations. Part of what you have required is that or part of what is suggested in H.R. 3703 is that there be these audits by Moody's and Standard & Poor's. I think to the extent——
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    Mr. KANJORSKI. How are they going to take a single individual bank that has been denied access for not meeting the underwriting criteria? How are we going to know about it, is the public going to know about that?

    Mr. CUNNINGHAM. What I have suggested and what has been created in the social investment field is a new type of audit called a social audit where you go back and, for example, you take——

    Mr. KANJORSKI. Would you like to add something?

    Mr. CUNNINGHAM. I would like to add that part to the legislation, yes, sir.


    Mr. DONILON. Let me address the specific point that Mrs. Jones raised, and then on to the broader point.

    With respect to Seaway, Mr. Cunningham, after you testified, we did try to get in touch with Seaway. No returned phone calls. We sent a letter on July 7th, with no response. We are prepared to meet with them and work with them, but we haven't been able to get in touch with them. That is handled out of our Midwest regional office. So if you have a good contact, let us know and we will get in touch with them and see what we can do. That is the first point.

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    With respect to the broader point, Mr. Kanjorski, and Bruce, I really want to talk about this for just a minute. Number one, as Secretary Apgar can tell you from his work on the Predatory Lending Task Force, predatory lending is principally a primary market phenomenon, number one.

    Second point is that we, in a small way, have begun to move in to try to deal with this in the subprime market—in a small way because we need to go in to do things that we understand and can do well. We have obligations to operate in a safe and sound manner as well as pursue our mission obligations, and we try to balance those every day, and as we move in there, we can move people who are paying high subprime rates and who we think, based on the work that we have done and based on the experience we have with borrowers of this type, we can think we can move up to closer to conforming rates. We are doing that principally through our Timely Payments Rewards program, which allows a person who has some impaired credit, who is going to get charged a subprime rate, to come in, have a lower rate, and if that person pays on time for 24 months, our experience shows us that they should be able to get another rate break and get closer to conforming rates and not be stuck in a subprime market.

    Number three, we have also, as Mr. Delk pointed out, started to try to put standards as well as we can into the subprime market. We have set forth standards for loans that we will buy from subprime lenders that bar practices in the primary market that we think are abusive, and in doing that, we think we can do and begin in the subprime market to start to bring some standards and standardization and to clean up the market as we best we can. This was, by the way, as Secretary Apgar can tell you, one of the conclusions of the HUD Treasury Task Force that this was a contribution that the GSEs could make.

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    So that is the specific point and the general point.

    Thanks for the time, Mr. Kanjorski.

    Mr. MARKS. But to respond to that, because I think some of those issues should be addressed, one thing, isn't it not true that Freddie Mac has stated that 40 percent of the people that are going into the subprime lending market actually should go into the prime lending market, that those are mistakes, people were pushed into subprime lending?

    Second point is that if you are so convinced you are doing the right thing, why don't you reveal all the subprime lenders you do business with and how much business you do with them so the public can deal with the transparency issue so that if people have a problem with that, they know that you are providing the capital and then you can address it in a constructive way.

    Third point, when you talk about the on-time payments program, where you are getting those higher rates for a period of time, are you willing then to go back and say those increased rates you got for that 12-, 24-month period that you are going to give back, that you are not going to have that as a benefit for your stockholders, but you are willing to turn that back to the consumers, because you are profiting on that piece of business.

    And the last point I want to make, if I can hear a response to this. If you look at the economics, you say what is to prevent you, the GSEs, from making 100 to 200 basis points more by pushing someone who is actually qualified for a conventional mortgage at say 8 percent into a subprime loan at 9, 9 1/2 or 10 percent. If you have responsibility to maximize your profits for your shareholders, don't you have an economic interest to push people into the subprime market and therefore profit for that to the benefit of your stockholders, not for the public?
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    Mr. DELK. Mr. Marks, I have to say that latter comment is extremely insulting. That is just counterintuitive given the programs we have taken to eradicate predatory lending.

    Having said that, we clearly haven't done as much as we can do and as much as we will do, but I will make an additional point just to the litany of issues of the programs we have initiated. Just recently, I think you are aware we announced a ''Don't Borrow Trouble'' campaign where we are doing advertising on a nationwide basis to try to educate consumers about these types of practices. We think education, in fact, will give people information where they will not be subject to predators in the marketplace.

    Mr. MARKS. Well, I am sorry you are so thin-skinned.

    Mr. KANJORSKI. Mr. Marks, we do not want to engage in that back and forth. I think we tried that issue.

    Let us hear from Mr. Andrews, and then over to Mr. Bartlett and Mr. Taylor.


    Mr. ANDREWS. Thank you, Mr. Kanjorski. I just wanted to try to bring this back to the bill a little bit more. I am Wright Andrews, Washington counsel for the National Home Equity Mortgage Association, which represents many home equity and subprime lenders.
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    We are all against predatory lending. Industry's doing all sorts of things and so forth. I am not going to focus our time today on that, because I think we are spending far too much as opposed to focusing on the GSE issues, specifically with respect to the GSE issue here in the bill. I would suggest to you that one of the issues that people in this group are concerned about and should be debating is the issue of mission creep or mission leap, depending on how fast you think the GSEs are doing that. That goes to provisions in the bill, among others, that relate to review of GSE programs.

    For example, we have heard a lot of discussion about subprime lending here today. I think it is perfectly legitimate that the GSEs activities, be it subprime or whatever, should be reviewed by the regulator according to various statutory standards. Our association and many others do not think that the regulators, in particular, HUD, has, at this point, exercised their statutory duty to make the statutory review. We think in the bill there are better provisions that would require more review in the future.

    Also, with regard to subprime lending, one more quick point. A great deal of subprime and home equity lending is not about acquisition of a home. About 70 percent of home equity lending is about general consumer credit. It is an important issue that the Congress and the regulators need to look at, should Fannie and Freddie be focusing on general consumer credit lending, which is, in essence, what they are doing or should they be focusing on providing more homeownership for first-time home buyers.


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    Mr. BARTLETT. Mr. Kanjorski, I appreciate what Mr. Andrews said and I concur. Here we have, just in the first few minutes of discussion, two examples of numbers that will be raised for the need for a sole regulator, and that is the essence of the bill. The bill has a lot of other things in it, but when you boil it down, it is a sole regulator that is independent with independent funding in which the financial institutions, in this case, the GSEs, would be regulated, both for mission and for safety and soundness, both of which are in their law and both of which are virtually unregulated today, and I suppose that is the point of these two examples.

    Other financial institutions, in fact, are regulated in the case of subprime—I am Steve Bartlett of Financial Services Roundtable—in the case of subprime lending or in the case of home equity lending or other kinds of activities. We are and should be regulated by strong, high stature, independent regulators that are not subject to the political process. So that is what the bill in front of us does. It would create a sole regulator with stature with an independent source of funding that, in fact, could regulate these activities.

    This debate over subprime lending should have happened a year ago, or two years ago, by the regulatory agencies in the case of Fannie and Freddie as it has, and in real-time happening with the other financial institutions, but this legislation would create a mechanism for that to happen and it is frankly, long overdue.

    Mr. KANJORSKI. I appreciate your point, Mr. Bartlett. I feel uncomfortable as a Democrat, because I am listening to some of my friends on the other side of the aisle requesting more regulations. That is interesting. What has happened to this world that up is down and down is up?
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    Mr. CAPUANO. Mr. Kanjorski, before we go on, could we have the GSEs respond to that point?

    Mr. KANJORSKI. Sure.

    Mr. DELK. Thank you, Mr. Kanjorski. Let me make an observation. I think what we are seeing here is a classic case of don't let the facts get in the way of a good story, and to the extent you try to correct the record, you're accused of being thin-skinned, but in any event, let me address a couple of Mr. Andrews' points.

    First of all, he gives the impression to committee and the staff and the press that there is no regulation of Freddie Mac and Fannie Mae as it relates particularly to mission. Nothing could be further from the truth. In fact, Freddie Mac is subject to vigorous, aggressive and continuous oversight by our regulators, not only OFHEO, who is represented today, but by HUD.

    I would tell you that we are within the Department of Housing and Urban Development almost on an ongoing basis describing programs and products that we are involved in and that there is continual oversight on that process. The oversight, unfortunately for some of the detractors, usually does not result in a formal new program approval proceeding, because clearly our activities are within the statutory authority, and more importantly, they promote lower mortgage rates. And so the fact that they don't like the answer is not the same as the fact that there is no oversight. Believe me, there is plenty of oversight.

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    The second point that Mr. Andrews alleges is that we should not be engaged in any type of home equity lending or any type of second mortgages that in fact don't put people in homes. I think that is a spurious claim on his part. For most Americans, their home is by far the single greatest financial asset that they have, and we think that people, in fact, should be able to use that asset to meet their own personal needs, whether it be a medical emergency or sending a child to college, and when they, in fact, do use this equity in their home, we believe that the second mortgage should be fairly priced, have fair terms and be marketed in a fair way.

    So I would make those observations in response to his comment, because I think that he has at least set out a record that is blatantly misleading.

    Mr. KANJORSKI. Let us get to Mr. Taylor.


    Mr. TAYLOR. Yes, thank you, Mr. Kanjorski, and you mentioned you were a Democrat. I am from Massachusetts and I think our Republicans are considered Democrats in other States. So you can consider where I am coming from as an individual.

    But this is a very difficult position to be in. I testified on June 10th. I am here now. To say that I am feeling between a rock and a hard spot would not adequately describe how I am feeling. It is more between—well, I will move on, but it is a very uncomfortable position. But I hope that folks will really listen clearly to what I am about to say on this issue, particularly the Members of Congress.
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    I am very supportive of having strong GSEs that lead the way and lead the market in ensuring that people of color and low- and moderate-income people in America become home buyers. I represent—by the way my name is John Taylor—I'm not sure I said that. I am with the National Community Reinvestment Coalition, speaking on behalf of 820 organizations across the country.

    And frankly, we want to push Fannie Mae and Freddie Mac to do more lending, particularly to low- and moderate-income people and to people of color. We feel part of the strategy must be stronger oversight, in the form of a stronger Government agency. We applaud Secretary Cuomo's initiatives, which at least from our perspective, in looking at the various secretaries who have sat at HUD and had that responsibility to set housing goals and work with the GSEs, that Secretary Cuomo seems to have had great courage. We think that has been good and it has been helpful in getting Fannie and Freddie to do more.

    We think that there must be increased disclosure. We sit here and a lot of times, and this gets at Congresswoman Jones' question earlier and some comments other people made, we really need to lift the veil of secrecy over what goes on within these GSEs, for that matter, in the market as well, and to the earlier comment from, I believe it was Mr. Delk, I am not sure, one of the GSE people, we vigorously push the industry as well and the other players in this market to try and do more. So we are hardly viewed as an allied group of FM Watch.

    Mr. KANJORSKI. Mr. Taylor, this discussion has gone back and forth about safety and soundness issues. There is some discussion about mission dedication. I also hear creeping into the discussion a desire for potentially limiting competition, which is a problem. We do not want to use this hearing necessarily to review that proposition. After today's proceedings, I think the message will be clear to GSEs that they have to do more. But that work does not call for a significant change in the law to accomplish these ends. Mr. Bartlett said he wants the super-regulator and he thinks that may be the solution. I get complaints from constituents that deal with regulators. They believe if the regulators get too much concentrated power, it usually takes them a long time to review the application. I am wondering if it is the consensus of the room that we should take away the free flow of new products that are flowing out as fast as possible in our society in order to find out what products they are suggesting. Would that be healthy for the system or the fact that the system is allowed to evolve in a more free market way as opposed to a regulated manner?
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    I see somebody here from the credit unions. I know that there has been a lot of annoyance in the credit unions with applications for mergers that have taken too long. Sometimes in business decisions you cannot wait for the regulator to decide on what you can do in your business or what kind of product you can put on the market. Six months may be too late. Would you rather the Congress step in? Also, is there enough need for it that we should put in a law to limit what these GSEs can do to a large extent?

    Mr. TAYLOR. I do think we have to move judiciously and carefully. I agree with the comments about unintended consequences. However, you know these folks come here and they brag about a 67 percent homeownership, and that's true and that is something that has happened under this Administration and this Congress, but it is very recent. But still, within low-income, moderate-income people who are very qualified and should be in the homeownership market, and also proportionately in African American, Hispanic, Native American, other racial groups, you don't have homeownership rates like that. It is seriously lagging behind in these populations, and that's obviously where we want to push and we think that this Congress and this Administration should take initiatives through data disclosures, through increased enforcement, strong language, legislation if necessary, to drive these GSEs to do more and the Federal Home Loan Bank system as well.

    Let me very specifically—I mean, one of the things that struck me—and again, I think it was Mr. Delk that was speaking—I think Bruce Marks raises partially a very good point about the subprime lending. Fannie and Freddie talked about they are aggressively addressing the predatory issues associated with subprime, and the examples they gave, if I caught everything they said, is that they had made it clear that they were not going to purchase anything that had single premium life insurance in it, that is a good move, except that amounts to less than 1 percent of all the business that comes across their desks. So we are going to not purchase something that we hardly ever see.
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    Second, they say they will go by the HOEPA guidelines. You know, 17 percent interest is predatory lending in any regional area or any region in this country, no matter how you shake and bake it, and if these institutions are going to say we are going to buy loans with interest rates of 17 percent, they are not helping anyone. By the way, they also have not addressed balloon payments, and prepayment penalties, and a plethora of other items that constitute predatory lending, these aren't on their list.

    And all I am saying is that if they are going to get into the subprime market, and I think you know NCRC is moving very judicially about opposing their being in the subprime market. If they are going to be in it, then be in it in a way that ensures you are not supporting an industry that is taking low-income people and elderly and keeping people out of the market or putting them in the market in a precarious way in which they are paying much too much and really have the potential for losing their homes. We don't see that kind of insurance yet from the GSEs.

    Mr. KANJORSKI. If I may get to your point; none of us are for predatory lending where the rates are extremely high. Is that not an educational process? Is that not making sure that people get these people to understand? I look at Fannie Mae and Freddie Mac as wholesalers. They are probably not the people causing the problem. We have ways of addressing predatory lending. We could subsidize anything over prime rate and therefore there would not be this argument of either return the profit or do something that is beyond either your mission or good sound business practices. If we are going to have GSEs function in the marketplace, it seems to me we have to give them as many market tools with which to operate or else find a Government subsidy to solve the problem.
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    Mr. TAYLOR. On the other hand, Mr. Kanjorski, I think it is fair for the American public, in spite of the comment about them not being subsidized, I think people in DC who don't get $365 million in tax revenue a year would be surprised to hear that they are not subsidized and the bond traders on Wall Street would be surprised to hear that they are not subsidized.

    Mr. KANJORSKI. I am not suggesting they are not subsidized.

    Mr. TAYLOR. Given that, we should expect them to lead the way in ensuring that these unscrupulous predatory lenders are not doing business with federally-sponsored agencies. I do think financial literacy training is part of the answer, I think you are absolutely right—but nonetheless, there are going to be a lot of people who are not going to have access to that education who are going to be preyed upon by unscrupulous people who are going to be charging them interest rates of up to 16, 17 percent. Balloon payments are designed to take the wealth out of their homes, and we need to insure that Fannie and Freddie don't turn around and buy those loans.

    Mr. KANJORSKI. What in H.R. 3703 would correct that problem? Are you going at prior approval? Is that the provision?

    Mr. TAYLOR. Well, that's just prior approval of new programs and I just heard some testimony again——

    Mr. KANJORSKI. So you would rather they not engage in a new market product until they receive regulatory approval?
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    Mr. TAYLOR. Not engage until they put forward, in front of this body, and the public, standards that say very clearly that they are not going to be purchasing predatory loans. That is number one.

    Number two, I think this point got raised earlier, and we don't want to miss this point. I sat on the Fannie Mae and Freddie Mac Housing Advisory Committees. I know the up-side and the down-sides. I worked inside and I have tried to assist these agencies to be more effective. I am not anti-Freddie and anti-Fannie, and I am not a member of FM Watch, but I know they could do better. I sat in the meeting when they told me, when Freddie said we took at the subprime that we have been buying, looked at that, and we found that somewhere between 30 and 50 percent of all the loans we purchased in the subprime market were A-quality borrowers.

    So my comment to them at the time was ''Gee, you have created a system for those folks to sell people higher and more expensive loans than they really probably could afford or should afford. Their response to me was ''We are not a regulator.'' And all I am saying is that those are the kind of things that we need to tie together and fix.

    Mr. KANJORSKI. Let us get the response to that question, and then I want Mr. Bentsen to jump in.

    Mr. BENTSEN. I was going to ask about something other than subprime, but go ahead.

    Mr. DONILON. John, push us. Continue to push us. We want to be pushed and it is part of our mission and it is part of why we were created, point one.
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    Point two is with respect to subprime lending our—and Bruce, contrary to your statements, our efforts here are to try to pull people out of subprime and get them closer to prime so that they are not paying unfair rates that they don't have to pay based on our experience, number two.

    Number three, John, with respect to standards, I think we do have an obligation to put forth standards to ensure that we are not buying loans that are predatory, and I think we have done that. And we can sit down with you and go through that. Our lender letter indicates what you were talking about, that if someone is eligible for a conventional conforming loan, but is getting a subprime loan, then they are being steered to the wrong place, and that is a bad act in the primary market, and it should be prevented. And part of our effort, as you know in our lender letter, is to say that we will not deal with lenders who do not have policies that prohibit and prevent steering. Right. That's where that comes from.

    We do need to develop these standards, and one of our efforts is trying to develop these standards, and as we get into these markets, to move these standards deeper. But work with us on this, and if you don't think that we can represent that we don't buy predatory loans, work with us on trying to improve the standards, and I am open to doing that.

    Now, with respect to home equity, which Mr. Andrews brought up, the Fannie Mae charter expressly provides authority to buy home equity loans, because the Congress, in 1987, thought that people—and today lots of people own stock—but the principal source of wealth of most people in this country is still in their home, and they should be able to manage wealth and there should be a liquidity in the market, which we think it is a good thing.
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    With respect to limiting us in subprime, by the way, to only first-time home buyers, we don't think it is in the public interest to have someone stuck with a subprime loan who wants to either refinance or get a new house and not to be able to do so.

    So I think we want to go in the same direction John and be glad to work with you on it.

    Mr. KANJORSKI. Mr. Bentsen.

    Mr. BENTSEN. If I could, in the remaining 40 or so minutes or five minutes, rather, there are one or two other issues related to the bill, and not to give the short shrift of subprime lending, but I think there are a couple of issues. Over the summer, unlike probably a lot of people sitting at this panel, I didn't spend a lot of time at the beach reading about H.R. 3703, but there are two developments which occurred, and since we have had numerous hearings on this and this is a de facto hearing, I would be interested in hearing particularly some of the economists and other academics who are following this as well as the affected parties.

    EFHEO, Mr. Falcon's agency, issued an opinion apparently stating that it felt that it does have regulatory authority under the 92 Act over mission activities of the GSEs. I would like a comment on that of both the affected parties and of those observers.

    And second of all, the now famous Greenspan letter, which I finally had a chance to look at that looks not dissimilar from other Greenspan letters, and I was in the midst of it when Mr. Kanjorski called on me, and that is why I was stunned at the moment, because it was such a riveting letter. I would be interested in people's comments of it, because the press has reported that this is a very telling letter from Mr. Greenspan making the case against the GSEs, but the way I read the letter, he could have written this letter about operating subsidiaries within the banking industry, or even when he ultimately admitted that there was a subsidy that existed through a holding company structure in banking, I think Mr. Greenspan is similar to some fellow Texans I won't mention who used to say in the 1950's they saw a Communist behind every tree, and I think Mr. Greenspan sees a subsidy behind every tree and he is correct in many cases.
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    But I would be eager to hear some comments on that and in the—looks like the sixth paragraph, nowhere in here does he make the smoking gun argument, but in the sixth paragraph, he does make an assumption: ''It appears that the housing market is somewhat static from the standpoint of subsidy that it may receive in the form of lower mortgage rates as compared to other sectors of the economy that are more dynamic.''

    So I would appreciate any comments on that that some of you all may have who are following this closely, and I am including the affected parties. Let us go from left to right I guess.

    Mr. Delk.

    Mr. DELK. Thank you, Congressman Bentsen.

    Let me start by saying, what does Chairman Greenspan mean when he says that we are distorting markets? I think that is a good question. He means, and I am quoting from his letter and you just read it, but I will give it to everyone else who hasn't read it, and the quote is: ''We are aiding those that would have, without the subsidy, purchased homes at higher rates as well as those induced to purchase by lower rates.'' So, if what the Chairman is saying is that distorting markets means lowering mortgage rates for home buyers, I guess we would have to plead guilty, because that is exactly what we are doing. We are taking the tools given by Congress and we are passing them on to home buyers in the form of lower rates.

    One last point I would make, though, we need to understand that the Chairman's comment on the GSEs are entirely consistent with this broad philosophical view. He has opined many times on all types of subsidies being undesirable and has gone on further to say on numerous occasions that banks and thrifts are the beneficiaries of Federal subsidies. And for the record, I will put in a number of examples of Chairman Greenspan talking about subsidies in the banking industry. I do this just to make the point that there are subsidies replete throughout financial services and the subsidies that he refers to as it relates to Freddie Mac and Fannie Mae are not unique, but they are unique in that we can demonstrably show that they are passed on to home buyers in the form of lower mortgage rates.
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    Mr. BENTSEN. Do you have a comment, with the Chairman's indulgence here, does Freddie Mac have a position with respect to OFHEO's position, I don't want to put you on the spot here, but OFHEO's position that they have a broader regulatory authority than was previously believed or assumed?

    Mr. DELK. To be candid with you, Congressman, I have not read the opinion. I did spend a lot of time with the professionals at OFHEO talking about the program that they looked at, but have not reviewed the breadth of the opinion, so I am no able to comment publicly today.

    Mr. BENTSEN. I don't know if Fannie has any comment on either of those two issues or not.

    Mr. HOWARD. On Greenspan let me add a couple of quick points to what Mr. Delk said. First of all, in the August 25th Greenspan letter, he does importantly discuss one aspect of a calculation of the value of the so-called subsidy to Fannie Mae and Freddie Mac in which, when the Congressional Budget Office did their calculation, they, for some reason, ascribed the benefit only to borrowers of mortgages whose loans happen to be purchased or guaranteed by Fannie Mae or Freddie Mac as opposed to all borrowers who have conforming rates. Mr. Greenspan's letter explicitly says that the benefit ought to be ascribed to the intervention of Fannie Mae and Freddie Mac for all conforming loan holders, not just those who happen to have their loans held by or guaranteed by Freddie Mac, and I think that is an important point.

    Second, he reiterates the fact that Fannie Mae and Freddie Mac are subject to real market discipline, and he points out the fact that our ten-year debt trades at a rate over 100 basis points over Treasury. As of this morning, the rate was 115 basis points over Treasuries for ten-year debt. It was 79 basis points for five-year debts. That is not the yield of a Treasury equal. So, we clearly do have market discipline imposed upon us in the form of wider debt spreads, and both of those are useful additions to the discussion from the Chairman.
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    Mr. BENTSEN. And do you all recognize Mr. Falcon's regulatory authority as outlined in this?

    Mr. DONILON. Well, with our regulator sitting one person down, we haven't developed a formal response to it at this point. Generally, the structure, as you know, is OFHEO is our safety and soundness regulator and HUD is our mission regulator. I don't have a specific analysis at this point.

    Mr. BENTSEN. If the Chairman would indulge me, because we have potentially competing regulators sitting next to each other, and I would be eager to hear their response as well.

    Mr. MARKS. It would be great to hear from HUD, if we can hear from Bill Apgar about some of the studies they have done in terms of whether the GSEs are meeting the requirements or whether the market is actually doing a better job of meeting the needs of low- and moderate-income people.

    Mr. KANJORSKI. If we could have Mr. Falcon and maybe Mr. Apgar speak.


    Mr. FALCON. Thank you, Congressman Bentsen, Chairman Baker, Congressman Kanjorski. I remember several roundtables you held previously when you were chairing the subcommittee on this committee, and I thought they were very productive. So I am glad to be here for this one as well.
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    Let me say that the development that is referenced to Congressman Bentsen is one that is not novel within OFHEO. It is one that I did reveal publicly when I responded to a letter from ACB with respect to Freddie Mac's involvement in Home Technologies, Incorporated. The legal doctrine that was put forth in order to promote full transparency into the regulator programs of OFHEO, I did want to release the legal opinion from our general counsel as well on this matter.

    It is part and parcel, I think, of any safety and soundness regulator to ensure compliance with all laws and regulations on the part of the regulated entities. In fact, our 1992 Act which created OFHEO did give OFHEO explicit responsibility for enforcing all laws that do apply to the enterprises. The only exceptions are the enforcement of the affordable housing goals and certain reporting requirements of HUD. I see this authority of OFHEO as consistent with that authority which every other safety and soundness regulator holds, and it is not inconsistent with the scheme that has been developed by Congress in the 1992 Act regulating Fannie Mae and Freddie Mac.

    In fact, what I opined in the case of HTI was that I did not see it being inconsistent with the charter, and it was consistent with safety and soundness. However, HUD is responsible for approving new programs. If HUD were to say this is a new program and it is not consistent with the public interest, then the enterprises certainly could not engage in those activities.

    These are complementary authorities and certainly any activity which would fall outside the scope of a new program, someone is expected to be there to serve compliance by the enterprises with all the other laws that fall outside a new program in HUD's purview. That is what I have pronounced that it is OFHEO's responsibility, indeed not just our authority, but it is our responsibility as a safety and soundness regulator and ensuring the safety and soundness of the enterprises, that they do comply with all laws and regulations that apply to them.
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    We work very closely in consulting with HUD as we continue to perform our responsibilities. I don't see any conflict here. In fact, I think it just reflects the nature of our working relationship at OFHEO and HUD in ensuring that the enterprises are always in compliance with safety and soundness and that they are in compliance with their charters.

    Mr. BENTSEN. Is there sort of a one regulator veto power though, and take it to its fullest extent. If HUD were to say there was a new, and Mr. Apgar should probably speak first, but if HUD were to say we approve of this new product, but OFHEO comes back and says we think for safety and soundness reasons or our interpretation of our authority of what's within the charter, we do not agree, and you shouldn't do it, would one necessarily trump the other in your opinion, or is there a dual-regulatory structure?

    Mr. FALCON. Let me say in the example you indicated, I think that would preclude the enterprises from engaging in that activity. It may be consistent with their charter, but if it is inconsistent with safety and soundness and the risks are excessive, then OFHEO would step in and either ask the enterprises to adjust the activity so that it was consistent with safety and soundness or choose not to go forward with the program.

    Mr. BENTSEN. Not any different than a dispute perhaps between the Comptroller of the Currency and the FDIC in a banking-related matter?

    Mr. FALCON. Right. OFHEO's authority is regarded as consistent with every other safety and soundness regulator. I think it is an essential tool for OFHEO to be successful in its mission.
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    Mr. BENTSEN. Mr. Apgar.

    Mr. KANJORSKI. Thank you very much, Mr. Bentsen.

    Mr. Apgar, could we have a very fast response? I would like to wrap up.


    Mr. APGAR. OK. Just quickly, with respect to new program review, we view that HUD has significant and primary responsibility for exercising that. We take that authority seriously and we are exercising it. With respect to the particular matter, we have no disagreement with what OFHEO has said. We believe that consistent with their work, their action was appropriate. We review similar matters. We are looking at things all the time, like the particular initiative that was discussed with the agency. So there is no disagreement. Should push come to shove, and we do not believe it has, it is our view that with respect to mission issues and charter domain issues, so-called mission creep, that HUD is the primary authority on those matters.

    Mr. KANJORKSI. Thank you, Mr. Apgar, and now I return control to Mr. Baker.

    Chairman BAKER. Thank you, Mr. Kanjorski.
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    I want to start by saying that this effort was not initiated as a criticism of the home mortgage delivery process nor of the GSEs specifically, but rather, just as recognition of the inability of the Congress over the years to provide the resources, I feel, to adequately oversee very complex and diverse financial organizations. It is something that I have done carefully, although perhaps not altogether well advised in some quarters.

    But I was in a local grocery store the other night and I saw a young man—we bet on everything in Louisiana. If it moves we bet on it. And there was a young man apparently who looked to be under-age who was buying a lottery ticket, and I said, ''Son, you know, you shouldn't be doing that.'' And he said, ''Well, sir, I was planning to buy this ticket and if I won, I was going to give all the money to you.'' And I said, ''Well, you know, you have caused me reason to reconsider here, but you have got to tell me honestly why would you do such a thing?'' And he says, ''Well, my daddy works for a GSE and he was talking business the other night, and when I went home after school I overheard him say, 'you know that Congressman Baker is the poorest excuse for a congressman I have ever seen in my life,' and I thought you needed the money.''

    So I come at this with the sincere effort to explain why we are going about this exercise, and I think the most important point in that understanding can be best made by going back to a congressional hearing record of this Banking Committee in May of 1991 and excuse me for just reaching in and pulling parts out, but I am doing that for my own advantage, and those who don't like it can figure it out later.

    But in response to a question from then-Congressman Schumer, Mr. Johnson, who then was the President of Fannie Mae was explaining Fannie Mae's capital position. Now, keep in mind, this is not 1981 or 1982 or 1983 when there was an insolvency problem. This is 1991, when the market apparently had recovered, and this was his statement:
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    ''Yes, Congressman, we are just now getting to the point where we believe we do have adequate capital. When we came here a few years ago, we set our own capital approach and the approach we worked out with Mr. Voker we were capital short.'' I am reading it the way it was recorded here. ''We said, by the end of 1991, we would have $6 billion of capital, and we are on track now.''

    The operative line in that quote is that, we were capital short. This was not in a circumstance during the insolvency period. This was some years later.

    Then, when asked by Congressman Schumer about a recent S&P rating, ''I do not consider the Standard & Poor's rating on Fannie Mae to be relevant to our financial strength.'' Pressed further, Mr. Schumer said, ''Do you think your capital is sufficient into the future?'' He said ''As we grow, we obviously need additional capital.''

    Mr. Brendsel was then asked who was in attendance about capital adequacy. ''With regard to the risk we currently have''—that is important—''risk we currently have, summarized, we are adequately capitalized.'' He goes on to explain their profile and says, ''Freddie Mac, 1991, takes no interest rate risk and has very low credit risk resulting from the fact we only purchase home mortgages, 1991.''

    He goes on to say ''How would you like to see your regulatory structure modified?'' He says, ''I would favor using rating agencies in the future to periodically evaluate us, look at us, not to replace a regulator, but to supplement the information they have, therefore, letting markets''—I presume—''know about capital adequacy.''
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    Further in the hearing, Mr. Brendsel was asked about other product developments. In responding to Congressman Vento then, with regard to home equity lines of credit, that was the subject of that article, ''We do not purchase or finance home equity lines of credit''—this is 1991—''so as a direct impact on us there is none.''

    With regard to implicit guarantee and the controversy created when the Treasury made comments in March of this year with regard to the implicit guarantee—this is 1991, this is the President, Mr. Brendsel stating: ''Let me start off by saying I do not think anyone believes there is an implied guarantee for the shareholders in Freddie Mac or Fannie Mae.''

    Now, when someone says is there a problem, you have to go back and look at a little bit of the history to realize what has changed. If we go through the litany of statements by Mr. Johnson and Mr. Brendsel in 1991, a lot has changed since those statements were made with regard to their capital adequacy, their business risk and their investment strategies.

    When asked further, Mr. Brendsel responded to, ''What would you see as an appropriate regulatory regime that would make market sense?'', Mr. Brendsel said, ''A second principle I recommend is that clear and adequate enforcement powers should be established for the regulator and should specifically be tied to capital requirements. The foundation of this principle is that if capital standards are not met, the regulator must have the authority to resolve the situation quickly.''

    He goes on very rapidly to say in bullet points, the regulator should have clear landmarks, flags indicating when potential problems exist; GSEs have equally clear points, they know the regulator will act; the early warning reduces the size and likelihood of loss; trip-wires should include a number of things; if the GSE falls below a certain level, the regulator would be given authority to require submission of a written explanation; work out plan; if that doesn't work limitation on dividends, growth, restraints on executive computation, a long litany of actions.
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    Now, my point in bringing that little brief part of history together is the changes that have occurred over the decade, without concurrent regulatory modifications, do present a problem, and I think they need to be addressed while both GSEs are enormously well capitalized, enormously well profitable and enormously well managed. I am not critical at all of the current operations of either GSE. This is an effort to prepare us for the unfortunate occurrence when business cycles, and they are called cycles for a reason, reverse and there is an increase in interest rates, a softening of home mortgage demand and the GSEs don't have new products to roll out to offset loss of revenue and capital adequacy is deteriorated.

    In 1993, the debt-to-capital ratio was 25-to-1—high, but not inappropriate. Today in 2000, the debt-to-capital ratio is now 30-to-1, so that ratio has expanded a bit. In itself, that is no cause for alarm. It is merely just one fact. In 1993, mortgage-backed securities in portfolio was roughly 5-to-1, mortgage-backs to capital. In the year 2000, it is 15-to-1. It has tripled.

    In looking at the growth of GSEs as a standard investment tool within the economy, in 1993 it was—I don't have the percentage, I couldn't get it in that year on short notice—a significant number of financial institutions held GSE securities for capital adequacy purposes, but today, they are 4100 institutions plus. 4100 institutions, who have 100 percent of total capital, not tier one, total capital invested in GSE securities.

    And when you look at the scope, not just domestically, but internationally, there are in excess of 30 foreign central banks, central banks, not privately owned banks, central banks which now have in excess of $90 billion of GSE securities on account with the New York Fed. So what has changed?
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    Well, there is a great deal more market acceptance today in large measure because of the GSEs' stellar management and enormous growth that has led the investor community to pursue these securities with a very large hunger. That may be fine. That in itself is not a problem. It is merely another point on the sheet of things which one should consider.

    When we look at the benefits given to the GSE, in 1996 the CBO scored the value of the subsidy at $6.5 million pursuant to the request from Chairman Greenspan in letter number one. He is suggesting we should have that reevaluated which we are. We are waiting on the CBO. We hope to have those numbers soon. This is my estimate, not anybody's based on anybody that knows anything. It will certainly be in excess of $10 billion in value of quantifiable subsidy in today's dollars.

    So value of the subsidy has grown, and the principal attributable reason according to Mr. Greenspan is that the GSEs themselves exacerbate the size of the subsidy by the growth of their business plan. It is a rather unusual Federal benefit in that Congress does not control it, the beneficiary does. So we now have growth in a subsidy in enterprises which have grown dramatically in business scope, who have succeeded in selling their securities to 100 percent of banks, savings and loans, credit unions across the country, and now succeeded internationally, who have announced a plan to become the new benchmark for international and domestic finance with the Freddie reserve note and the Fannie benchmark, I think it is called. In any event, two new products. We even have had the Chicago Board of Trade within the last 90 days develop a new futures market for the trading of Fannie and Freddie securities, due to market demand of course.

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    When we read the telling letter of Chairman Greenspan, it is not he by himself, but Secretary Gensler in his remarks of March, the CBO, the GAO and countless other studies over the last years have come to the conclusion that congressional oversight and review is appropriate, particularly in light of what we do or don't get from the flow of the subsidy. If it was $6.5 billion, if it is over $10 billion, what do we get for it? Whether or not we believe the numbers, I would turn to the mission regulator, and whether I dispute the manner in which the figures were determined or not, the conclusion publicly made some months ago led a statement to be issued—and this is volatile, so I want to make sure I get this correct—may not be intentional, but the result of the underwriting criteria that the GSEs used has led to a discriminatory result in that the targeted income groups have not benefited to the extent to which the mission regulator has thought appropriate.

    So that we have models that have changed dramatically in their business risk, that have grown rather significantly in the scope of their operation, that benefit from an increasingly large subsidy, that have a mission which argumentatively they may have not met appropriately. To me that is a problem.

    Now, when we then turn and say, ''Well, let us ask the regulator whether these assumptions are correct''—with all due respect to Mr. Falcon, the current Director, he is the inheritor of a long litany of problems as the Director of OFHEO, and I have written countless ineffectual letters threatening all sorts of things trying to get the stress test implemented on a short term. I know now we are standing in the breach and perhaps may see a result near term.

    But for the past 8 years, while these things have been happening, we don't have a regulator who can honestly tell us that they have applied an examination standard that is appropriate for all other financial institutions and assure us beyond the analyst of the affected GSEs that their capital adequacy is correct in light of the adjusted business risk.
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    Now, let us talk about business risk just for a minute before I jump back to mission. There is nothing wrong with a mortgage-backed security. It is a good device, and I am speaking in my humble opinion, because it enables you to take the interest rate risk and lay it off to a third party who gets a higher rate of return than other instruments because he is assuming more risk. I have some degree of difficulty with what I believe to be the correct fact in the growth of the GSEs' consumption of its own mortgage-backed product. I am told that today Fannie, for example, has 28 percent of its own portfolio in its own mortgage-backed instruments. Now I happen to think that that enables the GSE to earn a higher rate of return which is fine. Being a Republican, I am not unaccustomed to favoring profit, but I would also have to say that I also favor precautionary actions against risk.

    At the time we began this recent development of repurchasing your own mortgage-backeds, capital-to-debt was 25-to-1. Now that we are repurchasing at significantly higher numbers, the leverage ratio is 30-to-1. So we have had a capital deterioration while we are taking on additional business risk. That is a problem. Now is it a problem that warrants strategic universal abandonment of the current regulatory process? No, not if you have one. But if you don't have one, you probably ought to start thinking about building one.

    To that end, the suggestion was made in the legislation to have a new board created. I was hoping that we would get a constructive response as to an alternative regulatory structure that might make sense to the GSEs. To date, of course, that has not happened, and I recognize there are other measures in H.R. 3703 which are highly controversial, for example, the repeal of the line of credit. Along the lines of Mr. Brendsel's testimony in 1991, I later suggested a modification which would have a conditioned line of repeal based upon S&P rating. I believe today Freddie Mac uses an S&P rating internally to determine employees' compensation levels. I thought if it was would good enough for them, it would be good enough for the rest of us. Apparently that didn't work either.
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    So what I am seeking today, and I am going to stop in a minute and give people a chance to jump in, but I felt important to give that little historic litany, because I don't think anyone can deny that the risk profile has changed despite what internal business hedges might be implemented by the GSEs that has nothing to do with the public side of the liability, and we need a competent individual or group of individuals or an army of individuals to be able to critically analyze and report to the Congress so we can have a clear conscience that the 1980's, which my good friend on the other side of the aisle has frequently reminded me of, our ill-gained losses in Louisiana and Texas brought about by the free-wheeling, ill-advised investments in oil and gas that was due to poor regulatory oversight and led taxpayers to pay off the zillions of dollars of unwarranted losses, the circumstances are no different here, not today.

    The provisions we will debate will be when Mr. Raines is no longer and Mr. Brendsel is no longer at the helm of these well-run organizations.

    We are attempting to legislate not for the moment, but for mortgage market stability into the next decade. That is what this is about, and to recognize that business pressures on a share-owned operation force that organization to make business decisions which are not always consistent with the best taxpayer decision. That is the unfortunate dilemma which these enterprises face. We simply cannot ignore that it exists. I think it fair to say that both GSEs have indicated, their representatives have indicated, at times that a strengthened regulatory system would make sense.

    I wanted to spend my first 45 minutes in talking about the problem. Just by way of announcement I intend to talk the second 45 minutes about what I think the regulatory structure could look like as alternative to H.R. 3703, if there are enough problems in the room that the way H.R. 3703 approaches the resolution is not appropriate. I am still not convinced of that. But I want to listen and I want to hear. I would like to stop at this moment and let Mr. Delk and Donilon respond to my narrative.
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    Mr. HOWARD. Chairman Baker, let me respond to four of the points that you made that will leave ample other points for Mr. Donilon and Delk to respond to. I want to touch on the 1991 testimony of Jim Johnson, since I was Fannie Mae CFO at the time; also discuss briefly the CBO subsidy calculation point, the Fannie Mae benchmark and the issue of MBS versus separate portfolio lending in risk management. The context within which Mr. Johnson mentioned that we were capital short in 1991 was against a standard that we developed in collaboration with Paul Volcker that set a stretch number beyond which we currently were capitalized. We did that deliberately. We did it in consultation with the ultimate neutral third party. Paul Volcker had recently stepped down as Chairman of the Federal Reserve. We brought him in for an extensive, eight-month, very detailed study of our company. He agreed that certain capital standards for our on balance sheet business and off balance sheet business that we did not currently meet would be appropriate, and if we did meet those standards that the risk that our activities posed to the U.S. taxpayer would be, in his words, remote. He wrote a letter to David Maxwell in March of 1990 outlining the process that he went through, discussing why the capital standards that he had reviewed were indeed appropriate for an entity like Fannie Mae and Freddie Mac, why capital standards different from those applicable to banks were appropriate for Fannie Mae and Freddie Mac. The letter is available. I would be happy to make it available to you if you don't have one.

    We committed to achieve the capital standards in this framework by the end of 1991. During the course of 1992, I don't recall the exact date, Mr. Volker wrote us a second letter saying that we did indeed meet these standards. He made some comments about the legislation that was currently working its way through Congress that ultimately ended up being passed in November of 1992 which incidentally addressed virtually all of the problems that you mentioned had been discussed in 1991, including oversight and enforcement and trip-wires and triggers if we fell below a certain capital standards. In our view the Congress——
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    Chairman BAKER. Let me ask a point on that. For example, can the Director of OFHEO appoint a receiver like it can with OFHEO Bank?

    Mr. HOWARD. No, Congress deliberately looked at that issue and decided that was inappropriate. We can get into that separately.

    Chairman BAKER. That was a no, correct? They can appoint a conservator, but not——

    Mr. HOWARD. But Congress explicitly addressed that issue and chose conservator as opposed to receiver. It is not as if they ignored it and not as if they did not view it as an important point.

    On the CBO calculation, the CBO evaluated the, ''subsidy'' to Fannie Mae and Freddie Mac at $6.5 billion. About 60 percent of that number was due to the subsidy they calculated flowed to the mortgage-backed security guaranty function. In doing that calculation, they committed a fundamental error in the way they conceived of the workings of that business, which they now recognize and admit. What they thought occurred is that we purchased mortgages in the market, and reissued them as mortgage-backed securities, and they calculated as the value of the subsidy the difference between the mortgage yields and mortgage-backed security rates. I believe the number was 35 basis points. They multipy that times outstanding MBS and say that is a subsidy. The only problem with that is that is not how the business works. The way it works is that Fannie Mae or Freddie Mac negotiate with a lender on the fee we charge the lender to guarantee the mortgage. The lender then derives the benefit of that mortgage-backed security yield. We never see it.
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    The lender takes loans, puts them into a mortgage-backed security, sells them through a Wall Street firm and gets the lower yield. What do we get? We get a guaranty fee for guaranteeing that credit. Today the average fee that we get on our total book of business is 19 basis points. That 19 basis points includes charges for administrative expenses, our capital cost—and the more capital we hold the more we have to charge to cover that capital—and our loss reserves. There is not a whole lot of subsidy left out of 19 basis points when you have to cover the rest of it. Once the CBO corrects that methodological error, if they went back and recalculated the $6.5 billion number that they said was appropriate in the late 1990's, they would have a much lower number.

    So if your $10 billion estimate is based on the $6.5 billion, that won't be what they come up with.

    I made the point earlier that Chairman Greenspan pointed out the methodological fault on the other side of the CBO calculation, which is dramatically undercounting the benefit to American home buyers. So when you put those two together, the conclusion of the CBO study will be fundamentally and dramatically different and will favor us.

    Chairman BAKER. Your prediction is when the CBO number comes out this fall it will be at or lower than what it was in 1996?

    Mr. HOWARD. No, my prediction is it will have a different methodology. I don't know what their number is going to be.

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    Chairman BAKER. I just thought you said when you ran the numbers on the corrected data that it would have been much less in 1996 if you used your corrected data. That would have been how much?

    Mr. HOWARD. If you—you need to come up——

    Chairman BAKER. I just need the number.

    Mr. HOWARD. I will tell you what the range of number is. If you just look at the piece that related to the value of the mortgage-backed security, because there were errors in other components as well, there was around $3.5 billion of the $6.5 due to the mortgage-backed security calculation. Depending on what portion of the 19 basis points you consider to be subsidy, that can be anywhere between 0 and, say, 10 basis points, you would trim about $2.5 to $3 billion off that number.

    Chairman BAKER. So you think it is, ballpark, $3 billion?

    Mr. HOWARD. I don't have a view of the dollar calculation.

    Chairman BAKER. You just know it is not right?

    Mr. HOWARD. CBO would admit it is not right.

    Chairman BAKER. I am trying to get the numbers.

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    Mr. HOWARD. The only point I wanted to make, Chairman, is the number that is frequently talked about as a fact of the Fannie Mae subsidy includes a now recognized methodological error that makes it an incorrect number.

    Chairman BAKER. At your leisure when you can crank it out, we would like to see what your estimate of that subsidy is.

    Mr. HOWARD. We will provide that to you. On the issue of the Fannie Mae benchmark, what Fannie Mae has attempted to do over the last two-and-three-quarter years is build features into the debt securities we offer that mirror what investors want to see in the securities they purchase. We do not set ourselves up as desiring to replace the Treasury yield curve or the swap yield curve as a pricing reference point for issuers. Issuers, in the final analysis, will choose what they use as a liquidity vehicle, as a pricing reference point. What we intend to do is to give investors debt in the form they most value, because that results in lower debt costs to us, which enables us to buy more mortgages for our portfolio and provide benefits of our portfolio activities.

    Chairman BAKER. Let me interrupt you, because I want to make sure others have a chance to get in here too. Your testimony basically is that with the leverage ratio up, with tripling the holding of mortgage-backs in portfolio, that the subsidy is less, that there is really no increase in risk today in your business model from 1991.

    Mr. HOWARD. No, I haven't said that. I will try to move through this quickly. The fact that the Chicago Board of Trade came up with a futures market for Fannie Mae and Freddie Mac debt is a third party activity that has nothing to do with this.
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    Chairman BAKER. I recognize that. That point was just merely mentioned to show the market acceptance of your product and to not be attentive to your business would be an error on our part, because you are much bigger and broader than you used to be. That is all.

    Mr. HOWARD. We welcome the extension of liquidity that futures market brings. On the point of mortgage-backed securities versus portfolio lending, the fact here is that currently the single family mortgage market in the U.S. is a $5.1 trillion market. Some investor holds every dollar of that $5.1 trillion. If you look at the distribution of final holders of mortgages, what you find is that the holders of roughly $4 trillion of that $5.1 trillion are institutions that borrow money to buy the mortgage. They are so-called leveraged investors. They take interest rate or funding risk. That is what Fannie Mae does when it buys mortgages for its portfolio. We issue debt and we use the proceeds of the debt to buy mortgages. The point that we have made is that the interest rate risk we take is demonstrably lower than the interest rate risk the vast preponderance of the other so-called leveraged mortgage investors take. Because we have unique access to mortgage interest rate hedges, callable debt that we imbed in our own securities and broad access to the derivatives market that allows us to offset the risk of the option imbedded in mortgages with comparable option sensitivity on our liability side.

    Chairman BAKER. I don't want to curtail your explanation, but I don't want to have the 45-minute clock run on me. Let me characterize what I am hearing this way. You may be 100 percent correct and Fannie Mae may be three times stronger financially than it was in 1991, and we should not be worrying about any of this. But, don't you think it appropriate I have someone else to ask who can tell me yes or no other than the people from Fannie Mae?
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    Mr. HOWARD. Absolutely.

    Chairman BAKER. That is my point. And I don't think, given the funding process we have, where we had a big old battle in this Congress of going from $18 to $21 million or $6 million in funding, if you were an OCC-regulated enterprise your fees would be $67 million. What I am getting at is that we need somebody that can understand what you just told us and tell us that it is correct. We don't need to be in your business and you shouldn't be in the Congress asking for a change of A, B, or C that ought to be the regulator's responsibility, and regretfully, I don't feel we have that now.

    Mrs. JONES. Chairman Baker.

    Chairman BAKER. Let me pursue it and I will get back to you. You are going to have 45 minutes here in just a bit.

    Mr. HOWARD. A quick response. OFHEO has a very thorough, very professional examination staff that is on-site year-round looking into every aspect of our business.

    Chairman BAKER. Why does it take eight years to get a stress test?

    Mr. HOWARD. Director Falcon can address that. That is a separate group within OFHEO. It is in fact a complex undertaking. We are totally open to working with OFHEO to come up with a speedy resolution to some of the issues that were raised and the comments that followed the submission that OFHEO made in April of last year. We believe that there were some issues related to the first round of the risk-based capital standard that need to be successfully addressed in order for that capital standard to do the job that you want done and that the market needs done, and not only regulating us appropriately, but also providing us with market based incentives to continue to do our mission on a safe and sound basis. I believe that OFHEO, working with Fannie Mae, Freddie Mac and others, is in a position to achieve a workable risk based standard that accommodates innovation and is flexible enough to accommodate additional new products in a timely manner.
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    Chairman BAKER. I will come back to you in a little bit probably on the next round with some more specific questions, but you make my case strongly. This is complex business. It is serious business, and there are ought to be another response other than we are going to raise interest rates on home owners when we just talk about the subject. As it now stands, we have to rely on an underfunded regulator with not comparable bank-like authority to regulate one of the most complex financial structures in the world that is growing at a very rapid rate. And to say that things aren't different from the way they were in 1991 is really missing the boat.

    If I can, I will get Mr. Falcon, then come to you, Mr. Delk.

    Mr. FALCON. Thank you, Mr. Chairman. I appreciate the points you are making and I know you have been one of the strongest supporters of OFHEO in this Congress, the need for adequate oversight of the enterprises. I appreciate the point I think you are working toward, which is, I think, the need to have adequate resources in order for us to do our job. Certainly we haven't received full funding that we asked for this year for 2001 and we do need the financial independence that comes with being out of the appropriations process so we can plan long term, and there are other benefits to go along with that. But let me just assure you, I pledged to you when I testified before your committee on this bill that we would get the risk based capital reg done by the end the year. We are going to meet that deadline. I don't like to miss deadlines and we will meet this one.

    Second, we have a very strong examination program in place at OFHEO. It is a full annual risk-based examination program which looks at all of the activities of the enterprises and we develop an examination strategy that changes every year, so we look at the risk of the enterprises and make sure that our examination focus is appropriate to the type of risk we need to emphasize for any type of year.
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    Chairman BAKER. Let me ask you this: Based on your knowledge of the GSEs' current financial condition and where they were in 1991, given the leverage ratio of capital to debt, capital to MBS, do you think their risk profile has increased or stayed the same?

    Mr. FALCON. I think were there to be problems at the enterprises, certainly the magnitude of any financial problems would be much greater than they were eight years ago that. Is certainly true.

    Chairman BAKER. I am prefacing that with the understanding they are healthy—they are extremely profitable and well managed. This is not critical of the current structure. I am simply saying how do we know we have proper assessment of their business risk when we don't have the stress test even as a tool. Let me follow that up with if you determined that there was an undercapitalization, not significant, not traumatic, but just under the mark, what authority do you have as compared with the bank regulator to repair that inadequacy?

    Mr. FALCON. I think I have authority in the statute now, although I would like——

    Chairman BAKER. Capital.

    Mr. FALCON. I would like some clarification made in our enabling statute to make sure there is no doubt at all that we have the authority to take action at any point in time.
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    Chairman BAKER. Well, with regard to a particular business line, for example, if they meet minimal capital adequacy, let's assume they certainly do, and you have one identified area, let's assume they are now to be in C paper, can you take action with regard to that particular line of business or do you have authority only to act with regard to minimum capital adequacy?

    Mr. FALCON. I will take action in the first instance.

    Chairman BAKER. You only have authority with regard to minimum capital.

    Mr. FALCON. No, I think I have broader authority to ensure that they are operating safely and soundly. Some of our enforcement authorities are tied to a depletion of core capital and that is why I think that needs to be clarified. I think I have other authorities in the act in addition that aren't specifically mentioned in the sections dealing with our enforcement authorities where I can, I think, with very sound legal reasoning give my—certainly develop the position that we do have the authority.

    Chairman BAKER. Let me say it one more time, because you added the caveat, which I assumed was correct, that much of your enforcement, cease and desist enforcement action authority is contingent upon deterioration of core capital to a significant degree before the authority is triggered, not in all cases, but in many cases, is that correct?

    Mr. FALCON. That is correct. Now, I don't want to have to jump through unnecessary legal hoops to give myself the additional authority I might need to take proper action outside the scope of minimum capital, which is I why I have attached to my submission to this subcommittee a package of proposed legislative fixes to enhance the regulatory structure that we have in place right now. I think that is one of the essential parts in that package.
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    Chairman BAKER. Let me jump to Mr. Delk. We are going to run out of time.

    Mr. DELK. Thank you, Mr. Chairman. I sat and listened for about ten minutes to your kind of explanation of the facts. I will be candid with you, I am almost to the point where I would want to just throw in this charter if I believe that has in fact occurred without some corresponding reaction on the other side. So I appreciate the opportunity not to correct the record, but just to explain to you what has happened in the ensuing ten years or nine years since the legislation has passed. I want to introduce Ed Golding, who is the Senior Vice President at Freddie Mac who deals with financial research. But I want to address four or five issues that you have raised.

    One, our current business strategy as juxtaposed to 1991. Two, I want to talk about our growth in capital which you did not mention in your brief remarks. Three, I want to talk about the ability to manage interest rate risk and how in fact it is much more manageable today than it was nine years ago. Fourth, I want to talk about ratings, because you have mentioned ratings and it is something in fact that you and I have talked about. I will let Ed mention that. But before I make a couple points and turn it over to him, I would like to make the point that you mentioned the rating in 1991. In 1991 Freddie Mac was rated A-plus by S&P. And this was a study that was initiated by the Treasury under the Bush Administration. As you point out, there has been a lot of growth in Freddie Mac subsequent to that period of time. As you recall, in 1996 you requested OFHEO to ask S&P to come back and rerate Freddie Mac. At that time, despite the facts that you have just alluded to, Freddie Mac had moved from an A-plus rating to an AA-minus rating. We currently enjoy that AA-minus rating today because we have maintained that rating, as you know.
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    I might also point out that you talk about safety and soundness in being adequately capitalized. There are only six banking companies in the country that are AA-minus or higher. So that is nothing to sneeze at. Our rating has increased, and Ed can talk about the reason of that. One point I want to make before I turn it over to Ed is you talk about Mr. Brendsel's comments in 1991 as it relates to tying capital to regulatory action. And I would like to say—and like Mr. Brendsel to know that I said it—that he was sage at that time making that recommendation, because in fact that is what the Congress adopted. Basically what occurs is there are prompt corrective actions that the regulators have to exercise based on the levels of capital.

    Chairman BAKER. But on that point I don't want—I hate to interrupt you, but on that point you will acknowledge that there are differences in the statute's authority for certain bank regulators with regard to prompt corrective and early intervention as compared to those—well, I don't want to hold you to that.

    Mr. DELK. We can go over this, but I would say the differences are miniscule and insignificant. I would be glad to talk to you or your staff about that.

    The last point I would make is you reference in your comment that there is the public side of liabilities. Anyone listening to this debate might get the impression in fact that the Federal Government is, in fact, backing Freddie Mac and Fannie Mae. Indeed, I would be alarmed if that was the case also, given the growth that you have just articulated. If you look at Section 306 of our chart, added in 1992, as you know, by Senator Gramm, was language that says that the Corporation shall insert appropriate language in all obligations and securities and I go on to say that the securities are not guaranteed by the United States and do not constitute a debt or obligation of the United States or an agency or instrumentality thereof other than the Corporation. So make no mistake about it, there is no guaranty by the United States Government.
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    Chairman BAKER. Why did the markets in March react to Gary Gensler's statement when we talked about recision of the line of credit? Was that just a misunderstanding?

    Mr. DELK. No, I don't think it was a misunderstanding. I think the markets recognize that we have a public purpose, and that is provide liquidity to the mortgage markets by interacting with the capital markets. What they interpreted was that your legislation would have a profound impact on the relationship between the companies as well as the public purpose that is created by that charter and they reacted accordingly.

    I don't think it has anything to do with them interpreting this.

    Chairman BAKER. Most analysts that I talked to indicated it represented a separation of Government liability to GSE security issues, and that if the Government was backing away, so were many investors. But that is just a difference of opinion.

    Mr. DELK. I would argue what in fact that represented in the mind of some investors is that the Government was backing away from a national public policy in favor of home ownership. I don't think that is what you are trying to accomplish. But having said that, why don't you talk about the strategy?

    Mr. GOLDING. Let me talk very briefly about how we have changed since 1991. To reiterate, our capitalization as measured by S&P has increased. We would welcome other independent looks at our level of safety and soundness beyond that done by S&P.
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    Chairman BAKER. I hate this, but believe it or not we are almost through 45 minutes. If you can do it in three minutes.

    Mr. GOLDING. I would be glad to do it in two. We have grown both our mortgage-backed securities and retained mortgage portfolio business. We have grown the business, but we have grown the capital according to the risks of that business. And that is one of the reasons why the S&P rating has increased over that time period. Outsiders looking at us have comfort around how we manage the business.

    I should also mention one thing that has changed since 1991 is that we have improved our disclosures around our risk. If you look at our annual report, we disclose our stress test results, what they are, and that we have passed the stress test. We were one of the first companies to disclose fair market value. These are all forward-looking measures of our risk. We also disclose a value-at-risk measure.

    So we do give the public a lot of information on how our risks change. Simple leverage ratios, however, do not give an accurate picture of those risks. When outsiders look at us, when they look at our disclosures, it is a picture of a very well-capitalized company.

    You have a lot of early warnings should those risks change. And also, I would mention that the risk-based capital requirement with its stress test, when OFHEO finishes it, will have the earliest trip-wire should risks change, of any financial regulator. The stress test is very forward looking and changes very quickly with economic conditions.
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    Chairman BAKER. Thank you. I have got to inject this. This is OFHEO's document. And again just to describe for those wondering what is the problem, and I have heard your explanation and it just cold, calculated ratios don't matter. But I think they help create a context. And with all due respect, we need to have a third party to tell us that these ratios don't make sense. That is what this is about. So that not only us, but markets can then make the proper assessments as opposed to looking past your assurances to the Government guaranty. Market discipline, transparency, disclosure. Total assets as a ratio to core capital in 1993 were at 19-to-1. Today, they are at roughly 30-to-1. Mortgage-backed securities, so I am giving the whole picture this time, was not applicable or wasn't reported in 2000, I only have it through 1999, is 16.64 in 1999 and 3.58. So that is mortgage-backed security investments as a ratio of core capital. So it is really more—well, really right at five times of growth. And debt outstanding as a ratio to core capital in 1993 was 11.2, the most recent figures were 28.7. So I can't tell you whether I am worried about it or not. I can tell you that if I were looking at this and it was my money, I would be asking more questions than a lot of people are asking. And they are not asking the questions because they are looking at the United States taxpayer to pay off their losses.

    On the point of receivership versus conservatorship, with a conservatorship it means that the debt holders are paid off 100 percent and there can be no haircut as opposed to a receivership. So I understand the business reason for wanting a conservatorship, because it gives further assurance to that investor you are going to be made whole by the United States Government. Now that may be OK. But I think we ought to understand as a Congress what we are underwriting before we simply say that this is the approach we should take. That is the reason for suggesting some regulatory modification.
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    And let me leave it this way with you guys, because I know we are just about out here, that in the next session I want to come back and talk about a little more specifics. You don't like repealing on the line of credit. Fannie doesn't like anything. Freddie likes some things a little bit less than Fannie. I haven't heard either one say if we were going to do this thing over again here are some things we might take a look at. I am not asking you to commit without everybody signing off. But general concepts, Mr. Raines sat in my office and said we want a stronger regulator because it would be good for us in the markets. We would like more bank-like regulation. It would be better for us. In the next 45 minutes we are going to talk about that. Because if you don't think H.R. 3703 is carefully crafted, that it is a meat cleaver against a problem that doesn't exist, then let's talk about the issues I have raised in this 45 minutes and how we get third party verification that the concerns I have can be assuaged and I can turn to my taxpayers and say ''Don't worry, these guys are safe, they are sound, and I am not just reading their annual report. I am getting it from a Federal regulator who has the authority and the responsibility to act.''

    And I wanted to get to you, Mr. Apgar, but I got hung up in this other stuff. I can't believe 45 minutes went by so fast. It proves in Congress there is no such thing as a time limit.

    Mr. Kanjorski.

    Mr. KANJORSKI. I thought that was a great discussion, though I would have preferred if some of the other participants would have jumped in to comment unless everybody is in absolute agreement with him.
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    I will follow along with the thought process of Mr. Baker. In my own mind, I do not want to legislate unless there is a problem.

    We have the benefit of someone from Bear Stearns. I am going to put you on the spot, Mr. Khedouri. Would you give us the view of Wall Street as to some of the questions that were propounded to the GSEs by Mr. Baker?


    Mr. KHEDOURI. Thank you. I am Fred Khedouri for those who are listening in outside. I don't frankly know where to begin in terms of dealing with some of the questions that have been raised. We deal in the practical world and I don't profess to have policymaking responsibilities, as all of you do. But I think there are a couple of things that should be said. First, in terms of the monitoring of the risk and the understanding of the risk that is embedded in the operation of Fannie and Freddie, there is one set of people who haven't been mentioned here: the common equity investors in Fannie and Freddie. Nobody, to my knowledge, anywhere thinks that in the event of a financial crisis involving the GSEs that those folks would be bailed out. They have never been bailed out in any previous situation and I think they feel they are at risk. These are amongst the most widely held stocks and they include just about every large institutional investor in the United States—not that many overseas, but primarily in the U.S.

    These investors have—I don't know what it is today, $60 or $70 billion at risk, which would be lost before presumably the Government would be called upon to spend a dime. I believe their understanding of the business risks and the intensity of scrutiny that is provided by the private analysts far exceeds the rating agencies. We are talking about the people who work for Fidelity, Vanguard and Windsor, all the folks that manage money. All have credit analysts and research analysts who focus on the operation of these companies, and they intensely question management and look at the business practices, and I think that is something that needs to be thought about as a consideration.
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    Another point is what does it mean to say that there is a difference between owning mortgage-backed securities versus whole loans. Chairman Baker alluded to this earlier—the proportion of MBS and PCs in their portfolios has changed, and he identified that as a risk factor. We, for our business, maintain very large inventories of mortgage securities to make markets and we—and I believe this would be true of all the major Wall Street firms—would in our own evaluation of risk actually assign a lower risk to the mortgages in their securitized form than in their unsecuritized form simply because they are liquid. You can trade them, you can value them, you can get rid of them quickly if you need to. And that is a value element.

    The other risk components of those mortgages are identical. Namely, the option that the borrowers all have to prepay, which affects the value of the loan and, by inference, the mortgage securities, as pass-throughs they are just collections of mortgages. The credit risk—if you are a Fannie or Freddie and you are guaranteeing, the credit risk is exactly the same. So the only real difference is that MBs are in a liquid form where it could be traded if it had to be. And it is readily valued, by the way, because there is an active market. In the illiquid form of a whole loan, they would have to securitize first to trade it. In their case it is a lot easier than for us, because they are the issuer. They could convert it, but I don't think that is a real distinction.

    Final thing, not to use up too much time, one thing that is interesting—and I frankly don't know what its total significance is—is the impact of technology in the form of new financial products. I know ''derivatives'' is supposed to be a bad word. ''Derivatives'' isn't actually a bad word. It is just a product. It is just a way of transferring risk whether it is interest rate, credit risk or other forms of risk from one set of folks to another. The variety of products available to manage, particularly interest rate risk, but also credit risk has expanded enormously. And the liquidity of the markets for those products is vastly greater. Now, what that tells you, in theory at least, is that it is possible to more efficiently manage those risks.
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    So I don't think you can draw a conclusion that sheer size or a change in size increases risk. You also look at the change in size relative to the change in size of everything else. So, for example, if you looked at the largest banks in the United States, they have all increased in size for the most part more than Fannie and Freddie, because Fannie and Freddie can't go out and acquire anybody. So I think you have to ask yourself the most basic question, which is what do you want to do as a policy matter? Do you want the efficiency gains in the mortgage market that nobody disputes the GSEs produce? If you want that, you have to balance the risks they create through their operations.

    I can't speak to the efficacy of OFHEO as a regulator. Clearly in concept they seem to have the tools. We looked at the risk-based capital rules. If you compare to the risks that are created by other types of financial entities, Fannie and Freddie are actually very simple. A bank can engage in commercial lending, both business lending and secured real estate lending, and those types of lending are intrinsically more difficult to analyze for credit risk than the conforming home mortgage, which is actually a very well understood product with a very long history. So you say, is this a manageable problem? I guess it is. And if you want to do a bunch of other things, which is what usually happens in Washington when an issue comes up there—a lot of people with a lot of agendas, you know—that is fine. But I think the basic problem in the context of the market is a relatively well understood one. Ultimately, you have to decide whether you want this to happen or not, if you like the public policy result of the favoring of home ownership.

    Mr. KANJORSKI. Let me ask you two questions. One concerns the support of the United States Government behind the securities. Do you have an impression whether the buyer of these securities implicitly believes that the United States Government is, in fact, standing in the position if there should be a failure of the equity that supports the company?
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    Mr. KHEDOURI. I think as to the equity there may be a few naive individuals out there who might think that. I think that investors do think the GSE status is important to the value of the equity. That is a different question, because it relates to the profitability of the business long-term, and the growth rate that the company can achieve. That is a different question. Do they think they are going to be bailed out in the event of a catastrophic failure of the business model? I think very few of them would.

    The debt holders are probably a different proposition. I think the debt holders are less focused on the day-to-day operational issues, more inclined to look at the status per se. I also think that the debt holders take comfort from the fact that the underlying business has proven itself sound. They do some of the same analysis. There is implicitly—the preferred stock is rated, for example. There are reviews. So I think there is a difference there in terms of reliance.

    The other thing that should be raised is that some of this subsidy discussion and benefit discussion is very interesting in the context of the market, because some of it is just like a productivity gain. I would argue that the GSEs are so big and they have the most liquid securities, so they trade better. They have lower bid offer spreads. There is just a benefit from the efficiency. And that is not something that can be reallocated to somebody else. If you take that away, it just goes away. It is like an efficiency gain that would not be recaptured and redistributed to other holders. So when you do your analysis of the cost and benefits of change, you have to take that into consideration.

    Mr. KANJORSKI. Let me get to a very simple question. Does Wall Street feel we have a problem with the size and the growth of GSEs?
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    Mr. KHEDOURI. You can't ask me to speak to Wall Street.

    Mr. KANJORSKI. Is there some fear on Wall Street that we do not have an appropriate regulatory scheme in place to look over the GSEs?

    Mr. KHEDOURI. I confess that I certainly haven't been exposed to anyone who would raise that as a problem. I don't think that prior to the commencement of this legislative process that there had been a lot of focus on that. There had been earlier, and I have been at this for a pretty long time since I stopped being a Government official in 1986. There used to be a lot more concern about the soundness and exposure than there is today.

    Mr. KANJORSKI. Is that prior to 1990?

    Mr. KHEDOURI. Yes. And I think that the short answer to your question is probably not. I think now, frankly, the largest concern is simply the uncertainty that has been created by the process itself. And people don't know what to make of it. Remember that the markets are in the business of gauging expectations and perception. So everyone is trying to figure out what everybody else thinks. They are trying to gauge what the reaction of others will be regardless of what they think. So if they think everybody else is going to bail out of Fannie and Freddie securities because of a change in status, they are going to bail out too, regardless of whether they think the concern has any substance. So they have to bail because they can't afford to be on the wrong side of the tidal wave. So perception is really the most central variable here. Somebody made reference to Mr. Gensler's comments of the springtime, and that is a great example where there is a perception issue and nobody knows what to make of it. You get a big spike in uncertainty, so you get a big price change in the short term.
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    Does the market recover from that? Yes. People back off and say, ''Yeah, well, nothing is really going to happen, or even if does it won't be significant.'' But that is the short answer.

    Mr. KANJORSKI. Thank you very much.


    Mr. WALLISON. I would like to address some of these questions you raised, Mr. Kanjorski. I am Peter Wallison, a Resident Fellow at the American Enterprise Institute. I think I would phrase some of the questions a little differently from the way Mr. Khedouri did, even though we were colleagues at one time in the Reagan Administration. My question would be whether you want the taxpayers to be standing behind a major risk when the private sector could take this risk equally well. When Fannie and Freddie were established—Fannie first, then Freddie—the purpose was to deal with a market failure. There wasn't a national market in mortgages; there were a lot of differences from region to region; mortgages were not standardized. Fannie and Freddie did a lot to make the market what it is today. The question is—as it frequently is for Congress—do you have to keep an organization in being that has done a very good job in the past, or is there a time to terminate it, cut it back when its mission is completed?

    Mr. KANJORSKI. So your argument would be that because Fannie Mae and Freddie Mac have matured, they should be privatized?
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    Mr. WALLISON. My argument would certainly be they should be privatized.

    Mr. KANJORSKI. That is interesting. I would like to bring Mr. Marks' ideas into the conversation. It is a possibility that the Congress could privatize the GSEs. That would release Fannie Mae and Freddie Mac from any mission obligations. They would then be a private corporation.

    Mr. WALLISON. I would like to address the mission issue, because in their current form, Fannie and Freddie can't perform their mission satisfactorily. This gets to the subject discussed earlier. They cannot perform their mission satisfactorily as long as they are in their current form, because they are obligated to their shareholders to produce profits. That is why Bruce Marks raised the questions he did about the question of predatory lending. He wonders, as many would, since Fannie and Freddie are subsidized organizations—and indeed, I think I just heard the CFO of Fannie Mae, although disputing the numbers, agree with CBO there was a subsidy number in the billions—why it is not doing the things for lower income people that it is instructed to do by Congress in legislation. And the answer is they can't do that and keep up the promises they have made to Wall Street that they will produce about 15 percent year-over-year increases in profitability between now and the year 2003. That is an extraordinary level of profitability, I might add. In fact, Fannie Mae advertises that it is one of only eight companies in the S&P 500 that has had thirteen consecutive years of double-digit increases in profitability. All very good for Fannie Mae, but the question is why should they be a Government-subsidized entity making those kinds of profits when they are not meeting the obligation that Mr. Marks and others think they should be meeting.
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    Mr. KANJORSKI. OK. But do you agree that if we privatize Fannie Mae and Freddie Mac, they will no longer have a public mandate or mission? In other words, Mr. Marks would not get anything of what he is looking for if the Congress privatizes the two GSEs?

    Mr. WALLISON. No. The subsidy that the Congress is giving to them now could be used for purposes that would much improve the position of the people Mr. Marks is speaking for. For example, the 30 basis point decrease in mortgage rates that Fannie Mae and Freddie Mac claim that they are able to provide to the public could produce, if given out by Congress in the form of down payment assistance, could substantially increase home ownership in this country. In fact, I should mention that although we have 67 percent home ownership ratio today, back in 1960 the number was 63 percent. So, in about 40 years we have increased it 4 percent. That is not spectacular, to say the least, and in any case, it is not necessarily the doing of Fannie and Freddie. Many more Government policies are involved. If we really wanted to increase home ownership, we could subsidize it in a much more efficient way than through Fannie and Freddie.

    Mr. KANJORSKI. So, your position would clearly be that Mr. Baker's bill is entirely too weak. It should just call for privatization?

    Mr. WALLISON. I think Mr. Baker's bill could be improved. But there is one part of Mr. Baker's bill that is very useful, and that is the provision that requires approval of new activities. If Fannie and Freddie are not privatized, they are inevitably going to be competing with nonsubsidized sectors of the economy. That has to be controlled, and the only way it can be controlled is through the section of Mr. Baker's bill that subjects their new activities to Government approval. That is not, incidentally, a very unusual provision. The Federal Reserve has had the same authority with respect to bank holding companies for about 50 years. It has worked pretty well in confining bank holding companies. If you must have regulation, this would be the way you would do it.
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    Mr. MARKS. Mr. Kanjorski, if I could respond.

    Mr. KANJORSKI. Just a second, Mr. Marks. Let me get the views of Consumers Union in the conversation.


    Mr. TORRES. Thank you, Congressman Kanjorski.

    I am not surprised at all that a representative from the American Enterprise Institute probably has a lot more faith in the way business would operate should Fannie and Freddie be privatized than Consumers Union does. We have seen a lot of marketplace imperfections that actually have nothing to do with Fannie and Freddie, but how the marketplace operates. For 30 to 50 or 40 percent of home owners to be paying more for loans than they ought to be paying shows that there is a failure in the marketplace. And to Fannie and Freddie's credit, they have stepped up to the plate and are doing something about that.

    Our view is that we should be doing more to encourage Fannie and Freddie to serve the less affluent marketplace. It seems ironic at a time when everybody here seems to admit that Freddie and Fannie have brought benefits to the conventional marketplace, that all of a sudden we are talking about perhaps cutting that off. And so, for the people in the market who haven't had a chance to benefit from the opportunities that Freddie and Fannie have provided to the conventional marketplace we are going to cut those people off at a time when they need help more than any other time.
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    I mean, why should it be a fight to get credit scoring to be made more transparent to give people the opportunity to actually better their chances of getting a better loan?

    Mr. KANJORSKI. You are in favor of them getting into that market and setting up methodologies to bring people online and reduce mortgage rates?

    Mr. TORRES. Absolutely, with this caveat. I have also talked to Bill Brennan, who is a big attorney down in Atlanta, who has dealt with this issue as well. And here is the caveat. Freddie and Fannie should jump into this market with both feet provided that safeguards be put in place to make sure that they are addressing the problems of predatory lending, that they are not purchasing loans that are predatory. But they don't originate the loans; they are buying them from other people. We need to make sure that the lenders making those types of loans don't get securitized. But it is not—I mean if those loans don't go to Fannie and Freddie. Part of the problem is they go to a Lehman Brothers or another Wall Street lender.

    So we can address predatory lending through Fannie and Freddie and they can and should be doing more. But if we want to really address the problem of predatory lending we also need to address the problems in the market. But that leads me to my final point.

    Mr. KANJORSKI. So, would you want to us to enlarge and perhaps regulate some of the Wall Street firms?

    Mr. TORRES. Absolutely, when it comes to predatory lending. There is no reason why, and having dealt with this issue for a number of years, people admit there is a problem. We can identify the characteristics of these loans. But when it comes to trying to get legislation passed or industry to clean up its act, everything falls apart and you get lost in this never-never land. What we have in the interim is people losing their homes or paying more for loans that they don't deserve to be paying for, or getting junk products like credit life insurance added on to their own products.
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    But this leads me to my last point. That is as far as the oversight process is concerned, there needs to be strong oversight. There is some risk involved. We need to balance the risk versus the benefits and serving the less affluent community. There is a tension there that needs to be addressed, whether or not the existing regulators have enough resources to do the job, if we need to create a new oversight way of looking at that. That oversight body, however that manifests itself, whether in the existing system or something new, has to be completely independent, outside the influence of other forces out there, because what we are talking about here is putting people into homes. We are not talking about somebody mission creeping. If making the credit scoring process more transparent or ensuring that people get the loans that they deserve is mission creeping, there is a problem in the marketplace.

    Mr. KANJORSKI. Well, now I will only respond to the mission creep argumant. I think it will always exist as long as you have an evolving market. I also do not think the Congress can ever be ahead of the curve. We are always going to be behind the curve. The only suggestion I was going to offer when you talked about an independent regulator, is that maybe we should examine whether or not we make the Federal Reserve the regulator.

    Mr. TORRES. When it comes to safety and soundness, to the extent that they have got some experience in looking at the banks, that might be one way of looking at it.

    Mr. KANJORSKI. If we did, we would be sort of on our way to creating an economic czar in this country.

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    Mrs. JONES. I have some questions I would like to ask of some other people who have not been heard from.

    Mr. MARKS. If I could.

    Mrs. JONES. No, you can't. I want to go to someone else. Ask Mr. Baker to let you talk.

    Kristin Siglin, from the Enterprise Foundation, why don't you tell us what your position is with regard to the information or to this regulation? You have been sitting there. I have been interested to hear what you have to say.


    Ms. SIGLIN. Thank you very much, Mrs. Jones. It is interesting the discussion has finally turned to what I came here to talk about. I work for the Enterprise Foundation. We are a national nonprofit that gives loans, grants and training to community-based nonprofits that develop affordable housing and do other kinds of community development projects. So to that extent, we have worked with both Fannie and Freddie over the past decade and they have been good partners of ours; both as investors in housing tax credits, and they have helped us create several different subsidiaries that do different activities, such as the Center for Lead Safe Housing, which combats lead poisoning in children and Enterprise Mortgage Inc. is a lender for affordable housing projects. We have had pretty extensive dealings with both Fannie and Freddie.
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    A point that I think seems to be getting lost in this discussion is, rather than talking about privatizing Fannie and Freddie and taking away their Government benefits, I think you ought to be asking a series of hard questions about what the taxpayers and the public get in exchange for the existence of the GSEs which receive benefits. So, these are a set of questions that go to mission regulation. What are we getting that we wouldn't otherwise get due to their existence?

    Now, their relationship with us has been very productive. They have been very good partners of ours. We are a private sector-oriented foundation. So we work well with the GSEs because, you know, we are culturally compatible with them. But could they do more? Yes, they could. You should be asking them more. Mr. Apgar has been sitting here very quietly during this whole hearing. You should ask him some questions as their mission regulator about what he thinks about what their capacity is to do more.

    The affordable housing goals have been steadily increased since 1992. The new goals that Fannie and Freddie have agreed to are that 48 percent of their purchases will be from low- and moderate-income borrowers. And our perception is that the heat ought to be kept on them to continue to expand to serve a group that the private market doesn't otherwise serve well.

    Mr. KANJORSKI. Shall we put him on the spot right now?

    Mrs. JONES. You know I will yield to you, Mr. Kanjorski. Go right ahead.

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    Mr. KANJORSKI. We put you off last time, Mr. Apgar.

    Mr. APGAR. Thank you. We have proposed and are soon to promulgate aggressive goals for Fannie and Freddie. These will significantly increase the GSEs requirements to purchase loans to low- and moderate-income folks, to purchase loans in geographically targeted areas that are judged to be underserved, purchase loans to meet their special affordable goal that served very low-income people. The fact that we moved in the way we did is because we perceived that the GSEs do receive significant public benefits and they should be challenged to expand their affordable housing lending. So I think we have been effective in that aspect of mission regulation.

    On the other hand, as I testified before, there are things that we could use to strengthen our capacity, to achieve our mission regulation, some to provide greater clarity with respect to our capacity and our mechanism for reviewing new program authorities. We have authority, but we perceive that it could be improved. Certainly there are budgetary issues. Both OFHEO and we could benefit from additional resources. For instance, we get no money for our mission regulation. We do it all out of general funds. Our budget request to assess the GSEs a fee for some share of the regulation has not moved through appropriations in the last several years.

    So we think we are an aggressive regulator. We think we are doing a job. Could with do a better job? Sure. Are there elements of the Baker bill that we could support that would make us better more effective regulators? Sure. But we also appreciate the fact that this is a complicated matter and we want to make sure that we continue to operate in a way that does not disrupt the overall operation, because it has been an effective tool for promoting home ownership.
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    Mrs. JONES. I would like to go back to a question you asked in the earlier questioning on Mr. Kanjorski whether or not FM Watch was represented here. Nobody spoke up on behalf of FM Watch. But there are several people here who are members of FM Watch. Like Household Bank, Mr. Morris, is that correct?

    Mr. MORRIS. That is correct.

    Mrs. JONES. And then also from Mr. Andrews, there are members of—how do you pronounce your organization?


    Mrs. JONES. A number of your members are also members of FM Watch, is that correct? So you sit here actually—though you don't represent FM Watch, you sit here representing members who are members of FM Watch. So the record is clear that is all I want to do.

    Mr. BARTLETT. Congresswoman, we are members.

    Mrs. JONES. Any other members want to testify that we are members of FM Watch?

    Mr. MORRIS. We are a member of FM Watch. We are a member of the Mortgage Bankers Association. We are a member of NHEMA. We are members of other boards and organizations that are here at this table.
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    Mrs. JONES. The only reason I ask that is everybody else was in denial at the beginning of the hearing. I wanted to be clear of who is at the table, because after we have had this roundtable discussion I don't want it ever to be said that people who had a position one way or another were not heard at the roundtable.

    Thank you very much.

    Mr. KANJORSKI. I must facetiously ask whether you have any stock in Fannie Mae or Freddie Mac or any mortgage-backed securities in your organization? Does your organization hold any stock or hold any mortgage-backed securities?

    Mr. MORRIS. Does Household? No.

    Mr. KANJORSKI. No.

    Yes, who wishes to be heard?


    Mr. CLOUTIER. I am Rusty Cloutier, with the Independent Community Bankers of America. And when Mr. Bentsen was talking about the Greenspan letter I thought it was very interesting and of course quite frequently they call it Greenspeak. But you know, Alan was trying to make a point I think, and the point is that he is very concerned about implied Government guarantees. But I think also you have to be very careful when you say we are going to let the private sector handle the job that is currently done by the GSEs, because I will tell you there is an implied guaranty of the Federal Government.
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    I am from Louisiana. Congressman Baker will tell you that during the recession in Louisiana and Texas that the Government came and bailed out a lot of large banks. Of course now they claim they won't bail out a $1 trillion bank. I don't know that anybody on Wall Street believes that today. I don't believe anybody on Wall Street believes that the Government will not be involved in continuous bailouts. Yes, there is an implied Government guaranty here. I have looked at it very carefully. As a banker I will tell you that it says that the Government has agreed to loan $6.25 billion to these entities. That is what the agreement is. And anybody on Wall Street who would assume that a guaranty is any bigger than that then they do not believe this Banking Committee when this Banking Committee put into regulation that it would not bail out large banks or would not be involved in bailouts again.

    I would reiterate to my good friend, Congressman Baker, again that since 1991 there has been a tremendous amount of changes in the banking industry. Just last week I read where Citigroup acquired The Associates and gave away 10 percent of their company to take The Associates over. And I am not into predatory lending and I don't know much about it, but I would tell you that at the hearing I watched on C-SPAN held here in this room by the Credit Union Administration, the credit unions came forth and talked about the large banks in North Carolina and what they were doing on predatory lending. Particularly, I remember the name of First Union and the Money Store.

    So before we say let us take the Government organizations out of this and let us take Fannie and Freddie and the Federal Home Loan Bank System, which you and Congressman Baker worked so hard on, the Gramm-Leach-Bliley bill to help community banks in America, I would be very opposed to privatizing them, and count on the good old American system to take care of us, because I think we would have some serious problems.
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    And my closing statement would be very simple: We have more homeowners than we have ever had before in America. We have more rural homeowners. In Louisiana, I serve a lot of rural communities that have access to homeownership that they have never had before, and we work very hard with the Federal Home Loan Bank Administration and Fannie and those people to put people into homes, low- and moderate-income. And I certainly don't think that anybody in Washington today would want to change the homeownership dynamics of America, and I certainly think that neither Presidential candidate nor either party has brought this up as an issue in this election. And I thought Mr. Bentsen's comments were very appropriate when he said, I didn't spend my vacation reading this.

    And, you know, the community bankers really think this is very important, and we have just got the Federal Home Loan charter improved, due to your help and Mr. Baker's help; and it is going to take to 2004 before we totally implement that, and I certainly would be very careful in moving ahead with some changes.

    Is there more risk out there? Yes, sir, there is more risk with Fannie and the other GSEs, but I also would imply that there is a great deal more risk with the large bank organizations that were created with Gramm-Leach-Bliley; and I think if you asked Chairman Greenspan that question, he would admit that there is additional risk, too, that wasn't there.

    Assets and financial assets in the United States are being concentrated into fewer and fewer hands every day.

    Thank you, sir.
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    Mr. KANJORSKI. Thank you, Mr. Cloutier.

    I want to make an observation about the American Enterprise Institute's position on privatization. I hope you understand that I do not favor privatization. We are holding hearings on both the House side—in Commerce today, and maybe tomorrow—and over in the Senate on the Firestone tire problem. It was interesting, because the other night I watched Mr. Billy Tauzin's examination of those two entities. We are prone, I think, on the free enterprise side to believe these companies like Firestone and Ford would never do anything wrong. Mitsubishi in Japan, however, recently revealed it spent twenty years concealing information that would have benefited consumers and prevented injury.

    And now I see my friends on the other side of the aisle arguing that we need more regulation, we need more information, and we need more exposure. I guess the question that I always ask—and I am not directing this question at my friend Mr. Baker—is where were they when we cut 50 percent of the funding to the regulatory agencies within the Department of Transportation that would have allowed the staff to accumulate more of this information?

    Even a better telling question is, where were they when, the other month, we failed to provide OFHEO with the appropriations it needs to be a better regulator? It strikes me that we can cut into the bone and then cut some of the bone out, but if there is a problem, we are going to come back and attack the regulator, as opposed to looking at the issue of whether we should properly fund the agency. We should not have to come back and pass emergency appropriations or create after-the-fact regulation after the horse is out of the barn. We should instead give all the money an agency needs. We are not, after all, going to bring back those 80 deaths due to Firestone tires. If we do have some failure of a regulator, it would have been less likely to fail if it had been properly funded.
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    We are not going to be able to come back and say it is somebody else's problem. It is the problem of the appropriators, if they are not appropriating money.

    Above and beyond that, I think there may be a place to look around, to put OFHEO on the same footing as the Comptroller of the Currency. Your funding level should not come as a result of year-to-year appropriations and political battles that occur up here every year on who is going to get what. What was the meager amount you were requesting for additional appropriations?

    Mr. FALCON. We requested $26 million, Mr. Kanjorski. We received $22 million from the House. I understand we will probably receive $22 million from the Senate as well.

    Mr. KANJORSKI. But not what you requested?

    Mr. FALCON. Right.

    Mr. KANJORSKI. I hope we are not setting up a straw man here, going along with what you said. If something happens, somebody is going to say, ''we said something about it.''

    As you know, I am a Democrat, but I have rarely if ever met the individuals in Government that have the capacity to be as sophisticated as some of the Wall Street people who are in analyzing and protecting their own money. I imagine those Wall Street analysts are fairly well paid people, probably significantly higher paid than a typical regulator. And more than that, not only does their job depend on their performance, but their equity depends on it. I put a lot of weight on Wall Street analysts if they say they feel secure that the GSEs are performing well.
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    I think we may have a problem on mission. Over the many years, I have engaged with all three GSEs as to expanding their missions and seeing their missions grow into areas of need. I am therefore worried about what you said, Mr. Marks. You may get your wish and your wish may be the most difficult thing in the world. If we privatize these organizations, as the American Enterprise Institute would like us to do, you are never going to get a subsidy for anything.

    Mr. MARKS. But if I can respond to that?

    Mr. KANJORSKI. I will give you a minute to respond.

    Mr. MARKS. If you talk to the people who work for Fannie Mae and for Freddie Mac, they will absolutely confirm what the gentleman from the American Enterprise Institute has said and that is, there is a debate going on that says we have to maximize our profits, but we also have this little mission thing that we have to deal with out there.

    I think you have to be consistent. You have to be saying you are for corporate welfare or you are against it. We are all for affordable housing, but the fact of the matter is, we are not for corporate welfare. The GSEs take a few of those pennies and puts it back into a subsidy to a limited extent, but provides the majority to the stockholder.

    Mr. KANJORSKI. Are you for privatization?

    Mr. MARKS. Absolutely, if they are not going to meet the needs of working people, which they do not currently meet.
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    Mr. KANJORSKI. We know where you are coming from. You would like the Congress to adopt——

    Mr. MARKS. They should be privatized, absolutely, unless they meet their mission requirements.

    Mr. KANJORSKI. On that basis, we also give subsidies to the banking institutions and then demand of them compliance with the Community Reinvestment Act in return. Are you in favor of the Congress repealing CRA?

    Mr. MARKS. That is not a subsidy, absolutely not. We have a direct subsidy here.

    Mr. KANJORSKI. The primary way the Congress has the authority to require CRA compliance by banks is the fact of insurance on their deposits.

    Mr. MARKS. FDIC insurance is a subsidy. If you are going to say to the banks, ''We will not provide the FDIC insurance or other subsidies,'' then they do not have to adhere to the CRA.

    Mr. KANJORSKI. You would prefer that we set up a system and privatize deposit insurance. We can privatize that insurance.

    Mr. MARKS. If they don't get the subsidy from the American taxpayer, then they shouldn't be subject to those regulations. But the GSEs have not been in the forefront of lending.
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    Mr. KANJORSKI. That is OK. I understand you are coming from a fairly radical and reactionary position. It is very interesting.

    Mr. MARKS. Let me respond.

    Chairman BAKER. You will have to wait on Mr. Kanjorski. He is managing the time. So you will have to abide by his judgment.

    Mr. KANJORSKI. Mr. Taylor, do you want us to privatize the GSEs? Would you also wish us to do away with the FDIC insurance for banks so that we can repeal CRA?

    Mr. TAYLOR. I would not support privatizing Fannie and Freddie. I would support strengthening the oversight, increasing data disclosure so we know what they are doing.

    There was an agreement. One bit of progress I hope I am hearing out of this hearing is that I heard from Mr. Donilon—probably saying your name wrong, but that they would be willing to sit down and talk about what more they could do to ensure that they were not predatory loans. I would like to get the same commitment from Freddie Mac. We would be glad to go in and do that. I do think that there has to be disclosure of interest rates and terms and conditions, so the public can see what the heck is going on.

    As far as repealing the FDIC insurance, for me—and I hope whether it is a Democrat- or a Republican-controlled Congress, they would see that fair and equal access to credit is more than the depository insurance—it should be a basic civil right and not something that is tied to a guarantee—and that we would ensure that all Americans have fair and equal access to credit regardless of whether there was insurance up to $100,000 per deposit.
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    Mr. KANJORSKI. There is one point I heard today that I do want to correct for the record. Because I am not going to give Mr. Marks any time to respond to this observation, I do apologize. He used the term ''corporate welfare.'' That is a pretty emotionally-charged term up here on the Hill. I understand the GSEs were created to fill a vacuum that the private market did not fulfill, that is, creating a secondary market for mortgages. It was governmentally-imposed upon them with a mission, with direction, and with oversight. They were given a tough direction insofar as they were supposed to act as within the free market system for the efficiencies of the system and yet perform a mission. Hence, to use the term ''corporate welfare'' in that context I think is a little unfair.

    I just want to point out that concern, because I do not perceive it that way. I would also like to ask if there is anyone else at the table that sees subsidies that are allowed to the GSEs as corporate welfare?

    Mr. TORRES. Just real brief, we wouldn't view it as corporate welfare at all. Frank Torres for Consumers Union. I mean, certainly there is a mission. It is great that we are looking at it now in these great economic times, supposedly for everyone. They were created because there were some problems in the marketplace.

    What happens if the market changes tomorrow and Fannie and Freddie or something like them aren't around?

    We have got also to look at the alternatives in that case, and who would be there to pick up things and make sure the people were getting loans for their homes.
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    Mr. KANJORSKI. Let us give a chance to the conservative side, Mr. Moore.


    Mr. MOORE. Well, we have done some of the definitive work on corporate welfare at the CATO Institute, and this is something at the top of our list, because some of the benefit does confer to the shareholders, and that would fall in the category of corporate welfare, in our opinion.

    It is interesting, because there has been a lot of talk about, you know, how the GSEs are benefiting the low-income homeowners at the margin. And one thing I would like to just suggest to you to think about is, why don't we have a regulation that says they are not going to be able to insure mortgages over the median home price. If the idea of this is to promote homeownership, you know, how many low-income homeowners have a $200,000 home?

    Mr. KANJORSKI. That is a great argument. I do want to respond to it, because I just had the opportunity on my way to the Democratic Convention in Los Angeles this summer to go to San Francisco to look at Silicon Valley and to look at the home market out there.

    I come from a district in Pennsylvania where the average home sells for about $80,000. So, when I look at what is considered a conforming mortgage by Fannie Mae, they can purchase up to three times the average value of a home in my district. Their top mortgage probably buys the 99th percentile value home in my district.
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    In San Francisco, I walked down to a sub-basement apartment with two bedrooms that a Member of Congress' son was buying. He first bid on it at $850,000. In that market, they have a concept of leaving open a bid for three days. And that two-bedroom apartment in the sub-basement eventually went for $1.3 million. In talking to that Member of Congress, it became clear that nonprofit organizations and average people were having to leave San Francisco because of the price of real estate.

    When I first came to the Congress, I held your view that I could solve all problems by standardizing them to my district and my experience. Since coming to Congress however, I have learned how diverse this country is. Consequently, I really think that your position represents a less sophisticated world view.

    Mr. MOORE. What I was saying is, you could do it at the median price in an area. So if the median price is $350,000——

    Mr. KANJORSKI. Then you know what you are doing? You are institutionalizing poverty.

    Mr. MOORE. I am not sure I follow that.

    Mr. KANJORSKI. This situation is very similar to the payment schedule for Medicare. They do exactly that by taking the wage level in the area and then paying the hospital a rate in accordance with that wage level.

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    Once you start doing that in huge subsidies—in my district, 60 percent of the revenue comes from Medicare—you guarantee that you are never going to be able to move that scale up. So you have institutionalized poverty in the area.

    Then you may also have done something else. You may have ''dumbed down'' the professional staff that will go to that area, because why should they not go 30 or 40 miles away and make an additional $20,000 a year?

    So, in all our cleverness, sometimes we are apt to make, and have made, decisions with unintended consequences. I spoke to that earlier. I am therefore a little worried with some of the simplistic answers to the questions today about the bill that Mr. Baker has put up. Maybe that is why it is important to have this meeting.

    I want to point out some of the unintended consequences that could occur if we radically jump in, enact change, and think in our simple ways so that we can solve this matter quickly. I do not think it is that easy to solve. I just want to point that out.

    I know I am over my time. I would like to recognize you, Mr. Corry, but maybe Mr. Baker will.

    Chairman BAKER. Thank you, Mr. Kanjorski. Mr. Bachus has time constraints, and I would recognize him at this time.

    Mr. BACHUS. Thank you. I have a piece of legislation on the floor, so I am going to go there.
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    I want to spend about five minutes and talk about just from—and I will talk to the proponents of this legislation or proponents of change, and I will talk about what my perceptions are. Whether or not they are reality, I don't know.

    But my perception is that we have a stable mortgage market, that we couldn't have it much better when it comes to the average American. We have got high—two-thirds of Americans own their own home. When you look around the world, you find that our interest rates are lower. You can get fixed rates for thirty years, some things other countries would die for. That is one perception, that things are working well.

    And, you know, you have heard all the cliches about ''First, do no harm,'' ''If it ain't broke, don't fix it,'' and so really trying to home in—and I understand there are some legitimate problems, questions, but I would like to maybe know what they were.

    And first of all, I would say, is there any disagreement—and certainly we all would say that we need to—low-income families need more opportunities; there needs to be more done for them—but would we all agree that the system we have right now works well? Is there really any disagreement there?

    Mr. BARTLETT. Steve Bartlett, Financial Services Roundtable.

    I think, Congressman, the essence of what we see anyway is that the system does work well for the liquidity in the secondary mortgage market and has worked well for some time to provide homeownership opportunities by providing liquidity in the secondary mortgage market. But the system has in place the seeds of its own destruction, and those seeds are already beginning to grow weeds in terms of using that same implicit subsidy or lower borrowing cost to move dramatically into other markets.
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    Mr. BACHUS. Let me stop right there.

    I understand what you are saying. In other words, what we have described here as mission creep, that all those things look well today, perhaps some of Fannie's successes and Freddie's successes, they are moving into some areas. And I will say this: I think when you look at some of the things they are moving into—they, I think, may legitimately say that they are authorized to do home equity loans and have been since 1987. That is what their claim is.

    The other one is making loans to make homes more energy efficient. Those are just two that I will throw out.

    And actually, Congress mandated that they move into that area, so maybe that is Congress' fault if they are making home improvement loans. I think we specifically authorized that. I could be mistaken there. Maybe we ought to take that authorization back, but I don't know that they should be blamed for following one of our mandates.

    But let us just say, things are—so really, and I think you have maybe hit on this—there is a fear. We all agree that they are big, they are getting bigger; you have to be blind not to know that. But you also have to, I think, agree that we have a stable mortgage market.

    Homeownership is high. Things are working well. There is a fear that maybe the wheels will come apart, but I will tell you, you run all these scenarios on Fannie and Freddie—and here's my second point: I think they are probably two of the strongest financial institutions in America. I mean, if it brings them down, it is going bring a lot of banks down, going to bring a lot of other companies down.
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    So I mean, safety and soundness, from all I see—yeah, things can always go—there are always worst-case scenarios, but I would say right now they look awfully safe and sound. I mean, if you listed things we ought to address as far as safety and soundness, I would have to believe that from that standpoint, this would be down the line. Now, I am not saying it couldn't happen; and I am just giving you perceptions, and this is just one hearing.

    We are going to hear a lot more about this. This is going to be around just because of how big it is and how many people are affected and how many dogs are in this fight.

    Another thing, and I think one thing that is sort of apparent is that Fannie and Freddie are doing things they hadn't done before. Now, whether or not it is part of their original mission, a part of their charter, it is probably—I would think that their charter is wide enough to allow them to have done most of these things, or either Congress has mandated it, they just started doing it and there is a lot of unease about that, and I think those are legitimate questions, and I have touched on some of those.

    As far as subsidies, you know, the banks have subsidies. I mean, there are all these subsidies. The one thing that Congress doesn't do is well, there is no direct funding by the taxpayers. If it is anything, it is a benefit because of their status, because it is not as if it is a direct appropriation. And if there is a subsidy, there is at least a lot of evidence that the American homeowner is benefiting, that a lot of that is being passed through.

    In fact, you know, we have got CBO and we have got GAO and they have done studies, and it is my understanding that they found that because of Fannie's and Freddie's activities that mortgage rates are lower than they would have been, and that is a tremendous advantage to the American homeowner.
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    I will just—I am throwing those out as perceptions.

    I do believe, and I think you said this, Mr. Kanjorski, that one of our concerns is that they are doing things that they hadn't done in the past. They are beginning to go into some areas—home equity loans; you know, maybe home improvement loans—but I wouldn't put the blame on them, because I think if you give a charter and it is wide enough, they are going to occupy that field.

    In fact, there have been a lot of people here today that have urged them to do more than they are doing today. We have heard a mixed message. We have heard people say they ought to be doing less; we have heard other people saying they ought to be doing more. So we can't tell them to do more, but do less, I mean, help low-income Americans with their housing needs, but don't do home improvement loans. I mean that, is a mixed message. We can't mandate that they address and make American housing more energy efficient, and then when they start making home improvement loans to do that, then we criticize that.

    Thank you, Mr. Chairman.

    Chairman BAKER. Thank you, Mr. Bachus.

    Mr. Ryan.

    Mr. RYAN. Thank you, Mr. Chairman. I will be pretty brief.

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    You know, I just allude to my colleague here, we are not trying to take down these institutions. Please. Hopefully, the goal here is to strengthen the GSEs, focus on the goals of securitizing the secondary market, making homeownership more affordable for all Americans and ensuring taxpayer safety and soundness.

    I will limit my concerns and remarks to just two areas, new products and the risk associated with the growing debt that the GSEs are creating.

    I toured the Board of Trade in Chicago, and they walked me over to the corner and they said ''This is going to be our new Fannie and Freddie pit where we are going to be marketing this debt, and the market is very promising for this area.'' I said, ''Well, that is interesting. Is this going to become the new benchmark debt?'' They said, ''Well, the jury is still out on that, but it seems to be clear that is where the train is headed.'' That is happening.

    Now that poses a lot of interesting questions, but what cannot be answered adequately, in my opinion, is the fact that you have gone from 1994 to year 2000, holding about 4.2 percent of your mortgage-backed securities on your books, to holding about 30 percent of your mortgage-backed securities on your books. Clearly it seems that it is derived from a stockholder or a shareholder mandate to get a profit incentive.

    It is very difficult to understand why repurchasing that magnitude of your own mortgage-backed securities—and I use the term ''repurchase'' because that's what Freddie Mac uses in their annual report—repurchasing that magnitude of mortgage-backed securities is far more above and beyond than what you did in 1998 to try and settle the market disruptions. It is far more than simply stabilizing and creating a market. That has gone to a point where it is an arbitrage endeavor for profit-making that does nothing to further the securitization of the secondary mortgage market, and it poses a new risk. It just does.
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    And the problem is that we hear you tell us that you are hedging better, you have different types of debt, you have bullet debt, you have callable debt, you have better hedging mechanisms than we had ten or twenty years ago. We are simply taking your word for that right now, no one else's.

    That, in my opinion, is the greatest case for a stronger regulator that can clearly and unequivocally explain to us that there is not unnecessary risk being posed to the taxpayer. It is a new type of interest rate risk, not a credit risk, and the notion that repurchasing more mortgage-backed securities lowers interest rates, I just don't see the evidence there.

    I see the econometrics studies that have been employed by Fannie Mae, and those are econometrics studies that have low R-squares, and those are econometrics studies that measure the effects of the secondary market and the mortgage-backed security markets. So I just don't think there is a case to be made that, in and of itself, repurchasing 30 percent of your mortgage-backed securities actually lowers homeowners' rates by that practice—in and of itself.

    So I think that is a real issue. It is a real issue that shows us that the debt being raised by the GSEs is higher than it needs to be to fulfill the critical and core mission of the GSEs.

    It then basically goes down to the fact that it is not your fault. It is a structural problem. There are two mandates that unfortunately, at times, are at tug-of-wars with one another, that are contradictory to one another, a mandate of homeownership, a mandate of a return on profit which is something we clearly would not—I would not want to deny you, but they are contradictory; and in this case I think it is fairly clear.
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    The second warning—and I would like to congratulate Mr. Kanjorski for the concept of this roundtable. It is something I can clearly be—something that—a result that could and should come out of this, and that is new products. It is very understanding—it is extraordinarily clear to me that people who perceive themselves as your competitors are concerned about a—whether you call it a taxpayer-subsidized business, a GSE, one that receives preferential treatment, regardless of the points, you get your capital at cheaper rates than your competitors. Going into their markets, crowding them out is something that is absolutely a legitimate fear by other private sector companies.

    It seems to me that a bright line can and should be defined that is accessible to both parties whereby we know what is your charter, what is not your charter, what is your market, what is not your market, where those lines are. That, to me, is something that hopefully this legislation can accommodate, and I do think that we ought to be able to find and come to an agreement on that kind of an acceptable definition.

    Having said all of this, maybe, Mr. Howard, you are the right guy to ask, whoever thinks so, how would you define that line? How would you define the line on what is—let us not blame who gave you the charter or who was the source of it. How would you define the line in making sure that the goal is securitizing the secondary mortgage market? How would you define that line to make sure that that those who are out there in the private marketplace. Their concerns are addressed?

    Mr. HOWARD. First of all, Mr. Ryan, I do not define our goal as securitizing residential mortgages. Our goal is supporting the residential mortgage market through the vehicles that we have at our disposal.
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    We provide mortgage financing through two mechanisms. One is by guaranteeing the credit risk of mortgages that other investors hold; they provide the funding. But also we not only do the guarantee of credit risk, but also we provide funding ourselves by issuing debt in the international capital markets and buying the mortgages. The reason that there is a distinction there is, many investors are unwilling to take the cash flow risk associated with mortgage-backed securities. They prefer the payment certainty of our bullet debt or the payment predictability of our callable debt. Interest rates go up, you hold them to maturity; interest rates go down, then we call it.

    We do classic interest rate intermediation in the portfolio business. We issue debt, take that debt, use it to buy mortgages. As I mentioned earlier, 80 percent of the $5-plus trillion in mortgages is financed by people who borrow money to hold mortgages.

    I understand you have a concern with portfolio lending. That concern, I believe if you follow your logic linearly, should get to the point where you are concerned about all holders of mortgages who finance it, including banks, who happen to predominantly use short-term deposits that are not hedged.

    So from my perspective, Mr. Ryan, there is no practical difference between MBS purchases and whole loan purchases. The reason we are purchasing more MBS today than whole loans compared to three or four years ago is, overwhelmingly, lenders who are now much bigger. Consolidation has happened in a huge way in mortgage lending. Most mortgages today are made by large institutions, and they prefer to securitize the mortgages they originate because that helps them hedge their commitment risk better. So far this year, almost 90 percent of the loans sold by investors—sold by originators—are securitized first. That is a preference that helps them manage interest rate risk—fine with us.
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    When we buy a mortgage-backed security, the risk that we take is no different from the risk that we take on a whole loan.

    Mr. RYAN. I have a few points I would like to make about that, but in the interest of making this a multidimensional conversation, Mr. Andrews, I know you had some thoughts on this, I would like to ask you if you could comment on this. And then, Barbara, I would like to ask you a couple of questions about this as well.

    Mr. ANDREWS. Thank you, Congressman.

    I just wanted to comment briefly on something that you and Congressman Bachus said in terms of what the mission is, the bright line, what the charter is and so forth. I think it is very important for the subcommittee to look at the issue of what should the mission of the GSEs be—not what the charter is today, but what should it be.

    We have heard so much—Congressman Baker said today and others have said, the world has changed, the GSE's activities have changed, the marketplace is radically different, you need to look at what the mission should be. I would like to suggest also you need to ask, what is the best way to get this mission accomplished. Is it just Fannie and Freddie, for example? Maybe you need six GSEs. One of the biggest concerns today that I hear industry folks raise is that you have something of a duopoly out there that is controlling the platform. Maybe you need more GSEs.

    Last point, whatever you decide the GSEs need to do, there has been a lot of discussion today on subsidy. We have heard differences of opinion on how many billions it is. Well, you know, in South Carolina where I came from, billions means real money, and there are a lot of subsidies out there, and you need to find some way through the legislation or the regulators to make sure that most of that subsidy is going for the mission. There is considerable evidence out there that a lot of it is going to shareholders.
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    Mr. Kanjorski, you asked several people if they had Fannie Mae stock. I don't. I wish to hell I did, I would be a rich man now. Look at how that subsidy is used.

    Thank you.

    Mr. RYAN. Thank you.

    Barbara Miles from CRS, we have asked you on many occasions to do more research on this and research on the analysis, and you have written extensively on the MBS situation, the repurchasing of the mortgage-backed securities.

    Can you give me, in your opinion, your analysis on the repurchasing of mortgage-backed securities, the growth of the repurchasing of mortgage-backed securities; and do you believe that it is a mission-critical exercise, and if so or if not, what is your analysis of that situation?


    Ms. MILES. The simplest answer to that is, when it comes to repurchasing mortgage-backed securities that are in the market, it does not appear to have specifically a housing rationale behind it.

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    It is easy to find a profitability rationale behind it. What happens in these cases, in order to repurchase or to purchase mortgage-backed securities that are out there, either of the GSEs goes into the market and floats standard corporate GSE debt. They get that money and in the process of putting that debt out, they raise the yields on that debt a little bit, and then they go out and they buy the mortgage-backed securities, and that raises the price on the mortgage-backed securities and lowers the interest rate on them a little bit.

    It doesn't last, and the reason it doesn't last is that we have efficient financial markets. So people who are out there in the markets, they look at the change and what the interest rates are. They rebalance according to their own risk profiles and very quickly, the rates are right back where they were before; there is nothing to pass through.

    That is simply based on the notion that we have well-integrated and efficient financial markets. Most economists, most financial people, will tell you that is the case, particularly in this area where we are quite certain we have had mortgage integration since at least the late 1980's; and that is just mainstream economics, what you would expect.

    So there really isn't anything from that activity to pass on in terms of lower mortgage interest rates. It just isn't there.

    Mr. RYAN. So it is profitability—and I don't want to put words in your mouth, Mr. Howard. The concern, though, then is that what if the hedging is not done quite properly, what if there is some kind of an unforeseen interest rate flutter that a model failed to predict, then you have a new type of risk on the book which arguably is not mission-critical; and then you could have that kind of a taxpayer risk that hopefully we don't have to bear and that in many opinions is a needless risk.
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    Is that the case?

    Ms. MILES. I would think so. When I talked about this before, I talked about systematic risk as opposed to systemic risk, and I define that in straight financial terms. We usually think of it in micro terms, not macro terms, where you have an actor and a sector that are so completely identified with each other, you have a risk that you are not diversifying away from. That is the kind of thing we could be looking at here.

    I haven't carried my thinking all the way through on this, but it is a concern, if Fannie Mae and Freddie Mac are the housing finance market, what does that mean?

    Mr. RYAN. It raises very interesting questions. I am not going to suggest that we here have all the answers, but, Mr. Howard, I would like to give you another word.

    Mr. HOWARD. Let me add one quick point of clarification on the issue of repurchase versus purchase.

    Last year, Fannie Mae brought $125 billion worth of Fannie Mae MBS. Of that, on $37 billion, we bought the MBS directly from the originating lender; on another $60 billion we bought the MBS from a dealer to whom the originating lender sold the loan, and we were the first purchaser of that loan. So on $37 plus $60, or $97 billion, of the $125 billion, we were the first source of funding on that loan. There is no difference between doing that and purchasing a whole loan.
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    The issue that Ms. Miles is raising is one of portfolio investment—whether it is a whole loan or MBS—versus securitization, and on that point I would reiterate, someone has to provide the funding for all mortgages. Eighty percent of the funding comes from entities that borrow money to buy mortgages. I would stack up Fannie Mae's record, historical performance record, hedging techniques, access to hedging tools, against any of the other leveraged investors, with the exception of Freddie Mac.

    Mr. RYAN. And therein lies the gamble and the risk which is putting it on your books, not spreading it out in the market.

    Mr. HOWARD. Last year, we spent $4.5 billion on interest rate hedging, extending durations and buying options. I challenge anyone in this room to name me any other company that spent anything close to that amount on hedging interest rate risk.

    We are not recklessly gambling with taxpayer money; we are prudently managing interest rate risk. We do it in a way that has produced exceptionally stable earnings over time. Stable earnings translate into capital. We retain some 65 percent—actually more than that now—of our earnings as capital, and that makes us stronger, safer, and it benefits——

    Mr. RYAN. And referencing back to the Chairman's remarks, we simply have to take your word for it right now. That sounds very convincing, but we do not have——

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    Mr. HOWARD. The analysts that are responsible for purchasing these $60 billion of equity that Fannie Mae has employ people to do exactly the same analysis, and that is the conclusion they come to. Everyone who has come into Fannie Mae and looked at our risk management practices, believes that we are operating in a very safe and sound manner.

    OFHEO has concluded the same thing through its examination process. I am totally confident that the risk-based capital standard, once finally promulgated, will serve as a very transparent vehicle for expressing exactly that type of risk management to everyone in this room.

    Mr. FALCON. Armando Falcon, Director of OFHEO.

    As we speak, we have teams of examiners going to the enterprises with everything from market risk, credit risk, corporate governance, operations activities. We would be happy to brief you anytime on the way the enterprises manage their risk and the nature of the risks they face, but I think it is because of the activities of OFHEO that we have the luxury here of talking about these issues at a time when the enterprises are prosperous, not at a time of calamity.

    So I think it is an inaccurate statement that no one is watching the enterprises or no one can give you assurances about their financial health. I think OFHEO can give you those assurances and any information you might want, and we are glad to do that.

    Mr. RYAN. I appreciate that.

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    Mitch, and then I will yield.

    Did you want to make a point?

    Mr. DELK. Just a couple of very quick points.

    First, you asked if the purchase of mortgage-backed securities is a mission-critical activity, and I would refer you to the 1989 report of the FIRREA legislation which substantially changed the corporate governance structure of Freddie Mac; and I will read from it and submit it for the record: ''The primary purpose of Freddie Mac and Fannie Mae is to provide stability in a secondary mortgage market for home mortgages, including mortgages securing housing for low- and moderate-income families. This can be accomplished through both portfolio purchasing and selling activities, as well as through securitization of home mortgages.''

    So I think clearly the Congress contemplated the purchasing of mortgage-backed securities.

    Mr. RYAN. I am definitely not trying to deny that.

    Mr. DELK. You raised the question of whether it was mission-critical.

    Let me make one other quick point if I could. You raised the point on whether the purchasing of mortgage-backed securities has a beneficial effect for home buyers. I would argue it does, and I think the models would clearly demonstrate that, but I would ask somebody who has experience in the markets every day, Mr. Khedouri, who has written to the committee. I think he is a good person; he knows the mortgage markets well.
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    Mr. RYAN. I would like to see those models.

    I am running out of time. I would like to give Richard his time back, but I would like to see those models, because I have yet to see a model that shows that moving from 1993 to 1999 the amount of MBS held by Fannie and Freddie increased by 1,129 percent. That is pretty astounding. The private market I think grew by about 34 percent at the same time.

    So that is new, it is different, and it is a new type of risk at a higher degree of magnitude held on your books of business. These beg questions that I think—I have yet to see sufficient answers. It seems to me like it is one of those cases where it is—your shareholder mandate is driving that process.

    Inserting yourself into the market to create stabilization in 1998 is something I believe you should be able to do. It is something—I don't think Congress should deprive you of the ability to do that. But what we are talking about here is much more than that, and with that, I yield to the Chairman.

    Mr. DELK. Mr. Ryan, one last point if I could. You were not here earlier, but during the last eight or nine years, our capital has increased substantially; and I might add, during that period of time—you will recall, in 1991—Congress requested a rating—excuse me, the Treasury requested a rating from S&P, at which Freddie Mac was rated A-plus.

    During the course of the next nine years, Freddie Mac's rating went to a AA-minus.
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    So there is someone looking there in addition to OFHEO. There is a third party, independent private-sector party looking at this. So at least to suggest that this growth and this activity has been unsupervised is really unfair.

    Mr. RYAN. I am not suggesting it is unsupervised. We are watching it. What I am questioning is, is there a needless taxpayer risk taking place here? I yield.

    Chairman BAKER. Thank you, Mr. Ryan.

    Just for the sake of the record, since it was raised earlier with regard to FM Watch participation, Mr. Khedouri, representing Bear Stearns today—Bear Stearns is a significant cosponsor of a lot of the GSE issuances.

    I went to your web page and you have got some of your sample deals. There are examples of why you are an attractive group, $4.3 billion exchange offer for Fannie.

    So I am not suggesting, Mr. Khedouri, that your testimony in any way is prejudicial because of your relationships, but I think it is important to acknowledge that you are also Chairman of—the name of the group is Laser Mortgage Management, which is primarily a mortgage-backed securities investment operation, and there is nothing wrong with that either.

    Just by way of reference everyone should be aware of who is doing business where.
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    Mr. KHEDOURI. Mr. Chairman, may I say something since you used my name?

    Chairman BAKER. Sure.

    Mr. KHEDOURI. I was, in 1977, a junior congressional aide, and I was probably the first person I knew that wouldn't accept a free lunch from a lobbyist. I would say that if you looked at our business—and I think your point is an appropriate one—it is obviously fully disclosed.

    Chairman BAKER. It is public information.

    Mr. KHEDOURI. The fact of the matter is, we derive significant revenue from underwriting from most of the members of the FM Watch as well, and I would venture if we added all that up, it is probably larger than the revenue we earn underwriting Fannie and Freddie securities.

    Chairman BAKER. Well, if I may, since you bring it up, of the total $133 million worth of securities and principal amount, agency fixed, which you fixed income guys are the most nervous about this bill, I understand you have $67 million outstanding of GSE securities, where mortgage subordinates amount to $59 million and nonmortgaged subordinates, $6 million. That is also off the web.

    So, I didn't intend to raise this for the purpose of suggesting you had other motivations, just in response to those who were suggesting that Fannie Watch was somehow in the audience doing things—or, excuse me, FM Watch. There is a mixture here. Everybody has an interest in this market.
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    Mrs. JONES. I wasn't suggesting. I was pointing out that they are here. That was all. There was no suggestion at all.

    Chairman BAKER. Fine.

    My point is that this is just public record. It is not to allege the gentleman in any way has misrepresented anything, just to point out that there are a lot of business interests at stake, a lot of consumer interests at stake. This is important legislation.

    Mr. KANJORSKI. Mr. Chairman, Fannie Mae is a multi-trillion dollar operation.

    Chairman BAKER. They are in the Fortune 100.

    Mr. KANJORSKI. There is consequently probably no institution in the country that in some way does not participate with these securities. So, it would be very hard to put a roundtable together.

    I do not want to put the gentleman from Bear Stearns on the spot, but I would assume that every Wall Street investment house interacts with Freddie Mac and Fannie Mae.

    Chairman BAKER. Every bank in the country does business with them. They all buy their securities. That wasn't my point. It is just that in the makeup of the table somebody was pointing out, the other team—I am just making a disclosure, no allegations of any impropriety. The gentleman is making what his opinions are known, which are respected. And it was only because Mr. Delk again referenced the gentleman for the purpose of a source, I just said, let us make sure we understand our source.
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    And I have got a few others.

    Mr. Cloutier, I know that you expressed grave concerns about the Gramm-Leach-Bliley ability to create larger, convoluted corporate enterprises that would tend to take up Main Street back home. I share your view about some of that, although I was a participant in Gramm-Leach-Bliley.

    But to that end, size is important, particularly in finance; and I just merely wish to point out that large financial institutions, the ones sitting at the table, are in the top 10 in the country, and that is exactly the reason why I am suggesting this regulatory oversight, to ensure that there is balance in the marketplace from a regulator.

    Your bank is subject to tough regulation, nobody should be above it; and H.R. 3703 may not get there, but it is intended to start the discussion of how we rebalance equities in the marketplace before they decide they want to originate mortgages. Who knows? With life insurance a few years ago. It could be something else next year. I think that is an appropriate discussion for the Congress to have.

    I just wanted to respond to your concerns in saying that is what this bill is about. And you raise good points.

    With regard to the Home Loan Bank, I share some of your concerns and have let representatives know my interest in addressing some of their concerns in this legislation; and I think at the end of the day, we will be pretty close.
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    Mr. Glaser, can you give me your view as an end user? I think your participation here should be noted, because it is a bit unusual that your Association—by the way, are you a member of FM Watch?

    Mr. GLASER. No. The MBA is not a member of FM Watch.

    Chairman BAKER. It is important for me at least—I don't know, to others—that you are a principal partner, I would call it, a downstream user of the products of the GSEs.

    What is your view of the level of regulatory oversight? Is there any part of H.R. 3703 as an end user that you think is advisable?


    Mr. GLASER. Well, let me say Mr. Chairman, the Mortgage Bankers Association is an association of about 2,800 lenders and other entities involved in the origination process. We cover the primary side of the market, and most of our lenders are small businesses operating in communities around the United States. If John Taylor felt between a rock and a hard place, it is fair to say the mortgage bankers are between Scylla and Charybdis here.

    We are probably the strongest supporter of a strong, functioning secondary market that you could have. That is because our lenders who originate the loans, set market and sell the loans to the GSEs.
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    It is very important to us to have a strong secondary market. It is also very important that we continue to have a strong primary market, not just for the interest of our own members, but, because we believe a high level of competition in the primary market, literally thousands of mortgage lenders, is the best way to create innovative products for consumers and keep down the cost of borrowing.

    The concern that we have is where these two markets meet, the primary market and the secondary market. We have heard a lot about the growth of the GSEs. We have seen some of the results of that already. Our concern is that if there are incursions by the GSEs who have special advantages granted to them by Congress, it will upset the balance that Congress created in designing this system that works very well.

    We believe that many of the problems that we have talked about today on the mission side could be addressed with a stronger definition of where the secondary market ends and where the primary market begins. That is something that we believe is in the interest of the GSEs to have that degree of certainty, to give the regulators a road map about how the markets interact. It is good for keeping competition strong among the primary lenders, and ultimately it is good for the consumer to ensure that that level of competition stay up.

    So we are very supportive of the thrust of H.R. 3703, would agree with what we heard from Steve Bartlett, that there needs to be a well-funded, independent regulator; and we would add one more piece, which is an independent regulator that has a definition between the markets to work through, because if you have a strong policeman with no law to guide them, you ultimately won't get the—serve the goals that we are seeking here.
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    So that is essentially the position that we take .

    Chairman BAKER. Thank you, sir.

    Ms. Miles, CRS, Mr. McCool, GAO, I don't need a response, but I just make this request and you can respond—if you choose, of course.

    Is it possible for each of you to prepare for the subcommittee a document that goes only to safety and soundness, only to significant deviations between GSE regulatory authority of OFHEO and FDIC/OCC regulatory authority over financial institutions?

    What I am looking for is a document that prepares and identifies for us the differences with regard—and we will flesh this out later in a more lengthy document—but prompt corrective action, early intervention, cease and desist, all of those things which are normally part of regulatory oversight. Can you do that for us?

    Ms. MILES. Yes.

    Mr. MCCOOL. Yes.

    Chairman BAKER. Thank you.

    Mr. Apgar, I will just do it real quickly. It is hard to believe we are running out of time, but earlier this year, you made a statement with regard to the consequences of the underwriting formula that is used by the GSEs to basically determine whether a loan is a conventional—or conforming loan, rather. The conclusions you reached were damaging to the GSEs in that, as I recall it—and you please restate it—that the result was a discriminatory effect on the targeted populations.
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    Have you modified, withdrawn or changed that conclusion you reached earlier this year since the furor erupted?

    Mr. APGAR. What we said then and what we still say today is that at least up until the last data we have reviewed, that the GSE activity as relates to lending to minorities indicate that they did not lead the market, and that there were other participants in the market that had better records.

    On the other hand, this is nothing that the GSEs have not acknowledged. In the very press conference in which this issue was discussed, Frank Raines himself said, and I quote roughly: ''We do not lead the market in African American lending, but we will.''

    We take him at his word. Our GSE goals are designed to encourage them to reach out to underserved markets in particular areas, and certainly low- and moderate-income folks. We anticipate that as they move to this higher goal level, they will improve their performance in this area.

    Chairman BAKER. The new goals you were announcing you think will remedy to great extent the concerns you have had?

    Mr. APGAR. That was their intent. We do not have racially defined goals, but we perceive that the goals, by encouraging lending in underserved areas and encouraging lending to low- and moderate-income people, will, in fact, potentially benefit African Americans, Hispanics and other traditionally underserved markets and areas.
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    Chairman BAKER. By way of comparison, should you determine that the enterprise does not meet its goals, what regulatory or enforcement action would you have available to you?

    Mr. APGAR. In that respect, I think there are areas where authority could be improved. If they do not meet their goals, we can request a plan and eventually impose relatively significant penalties. But I think the whole enforcement mechanism is one that could be reviewed; it is a relatively cumbersome process we would have to go through to enforce compliance with the housing GSEs.

    Chairman BAKER. Certainly it is not comparable to what a bank regulator can do if a financial institution doesn't meet its CRA obligations.

    Mr. APGAR. I am not 100 percent familiar with that. We think there are additional authorities we could have to give us greater capacity to enforce the mission regulations.

    Chairman BAKER. Thank you very much.

    I wish we had more time to spend with you this afternoon. I appreciate your participation.

    I want to return to both Mr. Delk and Mr. Donilon just briefly, because we are to the end of our clock—I know you are disappointed—with regard to two observations.
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    One, is it fair to characterize the agency position, that you would embrace a stronger regulatory environment? And second, is it fair to characterize that regulatory environment as acceptable if it was more bank-like? That is a term of art for the purposes of this question.

    Mr. Donilon.

    Mr. DONILON. No. Well, I would be remiss if I didn't say one thing though. The whole afternoon for me was worth Peter Wallison's face when he found out that Bruce Marks agreed with his position.

    I am going to spend 10 seconds, Mr. Baker, if I can, on Mr. Ryan's questions and Mr. Glaser's comments on it.

    With respect to a bright line, I have thought a lot about this, and I live in this world every day, and see the business that we do. On reflection, I think there is a bright line, Mr. Ryan. We don't originate mortgages. We can only purchase what gets offered to us; and the bright line that exists is between origination and purchase in the secondary market. And we can only buy mortgages that are conforming, and it is pretty simple on this point.

    I would be glad to engage in other discussions about it, but I think there is a bright line in the statute.

    Mr. Baker, with respect to your question, I would say this:
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    Number one, you know our position on the broad provisions of H.R. 3703. We think that is overly complicated and wouldn't be an improvement on the current regulatory regime.

    Number two, I think you are right. It is in our overwhelming interest to have a strong and effective and credible regulator. That, I think, is axiomatic for us as an institution.

    We are, as I said in my opening, accountable in lots of other ways, and as Mr. Khedouri pointed out, particularly in the marketplace, where every day we are accountable. And we are accountable here and elsewhere. But a strong regulator, we think, is in the interest of the enterprises, and that's nothing I haven't said to Director Falcon directly.

    Next, OFHEO itself has made a number of proposals with respect to changes that could enhance its powers. Again, it is presumptuous of a regulated entity to comment on this kind of thing, and it is presumptuous of us to advise Congress directly on this, but OFHEO has put in place Director Falcon's submission a number of things that need to be considered to make it a stronger regulator. And the bottom line here is that although, as I said, we oppose the board provision of H.R. 3703, we have always said that we are always open to discussions with respect to more effective regulation that could help us do our mission and effect our operations better.

    Chairman BAKER. Would that mean bank-like or—characterize the terminology if you can.

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    Mr. DONILON. I don't know that I can characterize it at this point. Tell me what the proposal is. With regards to bank-like, I take it what you are referring to is that we would look at the prompt corrective action authorities that Director Falcon at OFHEO has and compare them to the prompt corrective action authorities that bank regulators have and try and see if any of them could be imported from the bank regulatory regime into the OFHEO regulatory regime. Again, not speaking for Director Falcon, that is essentially what his team did in some respects in the submission that they made to you.

    Again, I set forth in my informal remarks at the beginning the tests that we think any changes have to meet. We are always open to discussions. I said in an investor call a couple of months ago, something that was quite true. We have a very large business, an important business to run. We don't oppose legislation for sport, number one; and, number two, we are always open to discussions on ways to improve our operations and our mission.

    Chairman BAKER. On that point, to my understanding—and I am just asking for confirmation—there is not an objection, for example, for taking OFHEO out of the appropriations process with appropriate limits on the assessments, that understood, with making them an enterprise that is funded like other financial regulators, is that correct?

    Mr. DONILON. We certainly think our regulators should be adequately funded. That is really an issue for the Congress. For us to comment on whether or not really wouldn't be a prudent thing for me to comment on.

    Chairman BAKER. Great. Is there a list of things that I could ask that you wouldn't object to? That would get me started. We could go from there.
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    Mr. DONILON. I do want to make clear, though, we do not want it to be said that our institution is not open to conversations with the Congress about the issues that we have been discussing today at this roundtable. That is why we are here. That is why we interact with the staffs of you and your colleagues on a constant basis.

    Chairman BAKER. I do appreciate your participation, too. Thank you.

    Mr. Delk, do you have any further comment?.

    Mr. DELK. Let me make five quick comments.

    First of all, before committing to my proposal, I would like to see the language.

    Chairman BAKER. Understood.

    Mr. DELK. We talk in generalities and make commitments. Then the generalities, when they go to specifics——

    Chairman BAKER. I am accustomed to that problem.

    Mr. DELK. Second, we are on the record both I said today and certainly Mr. Brendsel has said previously that we unequivocally support a strong regulatory structure. We think it is in our interest, because at the end of day when a strong regulator can stand up and say these companies are well capitalized, well managed and manage the risk they undertake it works to our benefit as well as to the Congress' and the other public's benefit.
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    Third, I think if you examine the 1992 legislation you would have to conclude that it is bank-like in nature. In that regard, I think it is very positive.

    The fourth point I would make is that you seem to be looking for suggestions on how to improve the structure. One thing that I would suggest to you and the staff to look at—I will submit it for the record—is the consultative paper on new capital adequacy framework that the Basel Committee has produced. This is produced by international bank regulators.

    If you look at what they recommend, and I think this is the state-of-the-art as far as banking supervision goes, it recommends three pillars, one dealing with the minimum capital requirements, capitals tied to risk that is undertaken by the institution—that is exactly what OFHEO is currently grappling with, a risk-based capital test. That is state-of-the-art.

    Second, the supervision—I would argue that the supervision that OFHEO in fact demonstrates today is very, very, very strong.

    There was a very good article that I would refer Members of the subcommittee, to the staff and to the press to last week in the American Banker about Scott Calhoun who is the head examiner at OFHEO. He is extremely qualified. He has got over twenty years experience in bank regulation. He oversaw the regulation of Citibank at Chase. He knows what he is doing. He has got 26 examiners, and he does a damn good job every day. These examiners are at Freddie Mac and Fannie Mae every day of the year.
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    Third, it talks about disclosure. I think disclosure is a very, very important item. I would argue that, in fact, Freddie Mac and Fannie Mae are ahead of the curve on disclosure, both from an interest rate perspective as well as from a credit risk perspective. There is a lot of information in here about ways to improve disclosure. We think we are state-of-the-art. We have had third parties opine that we are state-of-the-art. But we are open-minded about ways to improve transparency.

    Chairman BAKER. I don't have any dispute. Both agencies are state-of-the-art. That is not my concern.

    Mr. DELK. I understand you are looking ahead.

    Chairman BAKER. I am looking outside you guys so somebody else can look in and also agree you are state-of-the-art.

    Mr. DELK. I think that is why disclosure is important. Not only do you have a regulator looking in, but you have the information going to the public as well as to the Congress. So we embrace that.

    And, lastly, I would say, and consistent with Mr. Donilon's comments, we will work with you. We want to talk with you. We want to work with Mr. Kanjorski. We are not here to stonewall. But we do think, in fact, there is a very good structure in place. We think OFHEO and HUD are doing a good job and not getting the credit for what they do. We are open-minded about discussions. We want to improve regulatory oversight to the extent it makes sense.
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    Again, I will conclude by saying we embrace a strong regulatory structure. It works to our benefit.

    Chairman BAKER. Thank you both for your comments.

    I am going to recognize Mr. Cook here in just a second. I want to say one thing. It is, obviously, not scientific. I think we have got a pretty fair distribution of perspectives at the table here today. Absent the GSEs and the two Government office representatives, and this is broad context, do you support a strengthened regulatory environment for the GSEs, including we have got folks, obviously, who are interested in mission compliance and with folks who are interested in market share, and we have some people who are interested in safety and soundness. Just by a show of hands, just to get somewhat—after today's discussion, absent the GSEs and the Government individuals, just a show of hands. Do you think you need more regulation or different regulation?

    And—OK. Just—I am not counting. Do you think it is a bad idea? Do you think everything is fine the way it is?

    Mr. MOORE. Let me say one thing about something you mentioned earlier about your bill. That was possibly taking out the provision about cutting off the line of credit. I would just say to me that is the single best feature of your bill, and I hope that you won't do that.

    And let me just state to Mr. Kanjorski, I think you and I and your staff could get together. We could find a formula where we can make sure that the benefits are not going to the high-income home buyers and is going to the new low-income home buyers. I am willing to work with you on this. I think it would be a way of better targeting those resources, that $6 or $7 billion a year to the people I think we both want to help.
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    Mr. KANJORSKI. I have great admiration for you and also for the American Enterprise Institute. So feel free to contact me. The access is there for both of you.

    Chairman BAKER. I need to at this time recognize Mr. Cook who has been patiently waiting for recognition. Mr. Cook.

    Mr. COOK. Thank you, Mr. Chairman. I just wanted to follow up very briefly with a couple of questions.

    On the issue of mission creep, and let me go to Howard Glaser, very interested in what you said about, you know, making sure that, even though you strongly support the secondary market responsive activities, you are concerned about the moving into—well, take new products approval. What specifically could you think of, in terms of the process for approving those products, ought to be brought forth to make you satisfied?

    Mr. GLASER. The problem with the process now is it is without definition. I think that Commissioner Apgar and Director Falcon and Secretary Cuomo work very hard in the new product approval process that currently exists. But they are flying basically blind. Because there is very little guidance in the statute that allows them to test new products against a log or new rules of the road, if you will. This creates ambiguity. It creates uncertainty for the GSEs. And everybody at this table has to guess every time a new product or a possible new product comes up. No one knows what the outcome will be, because there is this ambiguity that exists.
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    There are six or eight major statutes governing the GSEs that talk about the secondary market. Not a single one of them defines what the secondary market is. If you look at the GSE oversight regulation of 1995, there are 70 separate definitions. HUD defines itself. It doesn't defined secondary market. We throw that term around. We don't really know what it means in terms of the boundaries of appropriate secondary market activities for the GSEs.

    I think on the new product approval we could very much simplify the debate around what is too much process in new product approval by providing effective tools, some guidance with some definition from this Congress.

    Mr. DELK. If I could respond just one second. This is an interesting set of developments. I guess it depends on what hat you wear on what particular day you are before the Congress.

    But I would reenforce what Mr. Donilon just said. There is a bright line between the primary and secondary market.

    Our charter is unambiguously clear that that bright line stops at originating mortgages. We cannot be the original funder of mortgages. The charter goes on to say that we are authorized to purchase, sell, service, lend on the security of and otherwise deal in residential mortgages. We cannot originate mortgages.

    Second, as I said earlier, there is a tremendous amount of oversight by the Department of Housing and Urban Development about what, in fact, is allowed by our charter. And there is new program authority that is unambiguously clear in its standards, and it basically says—I am paraphrasing—that the activity must be allowed by our charter, authorized by the purposes from which we were created and, second, that it is in the public interest, for example, it creates consumer benefits.
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    So when Mr. Glaser comes up and says there is an ambiguity in the charter I fail to see where the ambiguity lies there.

    Furthermore, again, for someone who was at the Department of Housing and Urban Development and did a tremendous job as the counsel to the Secretary, the Secretary is intimately involved in overseeing our activities; and there is nothing that we do that slips by the Department

    Mr. COOK. Are you essentially saying that the mission creep really doesn't exist?

    Mr. DELK. What I am saying is there is, in fact, a bright line; and there is, in fact, an aggressive regulator overseeing that bright line. What I am saying is that people who are complaining don't like the answer they are getting.

    Mr. COOK. What limits are there? For example, on the size of your nonmortgage investment portfolios—or, Mr. Howard, if you could make—respond on that as well. Are there—what are the rates of return between the mortgage investments and just for lack of definition or just the——

    Mr. DELK. I am not sure that rates of return on any type of activity has anything to do with mission creep. But you mentioned nonmortgage investments. I would argue that every nonmortgage investment that we own is mission related, because it has a specific purpose so that we can meet the purposes for which Congress chartered us.
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    Mr. HOWARD. We currently have a liquid investment portfolio that is about 7 percent of our total assets. We have a self-imposed limit of 15 percent which we have never reached. We think it is important to have liquid assets as a means of ensuring that we always have access to liquidity, even in the highly unlikely event that some completely unforeseen and really unforeseeable event happens that blocks our access to the debt markets.

    So, having a reasonably-sized liquid investment portfolio, and having securitizable assets on the balance sheet that we can pledge and borrow against, gives us the market access that entities that have gone into financial difficult have not had. That is yet another reason why you and the Congress can be comfortable that we present a very, very minuscule risk of loss to the taxpayer.

    Mr. COOK. Would I be right in assuming, from your answer and from Mr. Delk's answer, that any investments in the nonmortgage areas have a lower rate of return?

    Mr. HOWARD. For the most part, they do. I can't say that all of them do. But we have many investments where we have returns of 10 basis—spread returns of 10 basis points which put—against equity, get a very low ROE. We use those investments as a temporary investment vehicle for capital that we feel we may need to finance growth or for other purposes.

    Mr. COOK. Mr. Bartlett.

    Mr. BARTLETT. Congressman, the hearing is about over, but I would say for the record that our members would profoundly disagree with the statements, respectfully, that there is a clear bright line. There is not only not a clear bright line, but there is no enforcement authority or parent authority. In fact, we have and we will, the committee continues to demonstrate just activity after activity after activity that are outside the underlying mission of liquidity in the secondary mortgage market.
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    We can go into it now, if you choose, but I want for the record to say that the record is replete with examples. We will provide those at any opportunity the subcommittee would like.

    Chairman BAKER. Mr. Thompson.


    Mr. THOMPSON. Tommy Thompson, with the National Association of Home Builders.

    On this subject of new products, I think it is absolutely essential that the new products are allowed to be rolled out if, in fact, the GSEs are going to meet a more aggressive standard and be able to meet those unmet needs.

    Just quickly, I, as a home builder in Owensboro, Kentucky, have seen the benefits of many GSE programs in terms of availing home ownership opportunities to people who otherwise would have been disenfranchised, such as energy efficient mortgages, lower down payment mortgages.

    And most recently I was in Cincinnati, Ohio, about two weeks ago; and I was observing some significant and impressive downtown renovation that is taking place there. Fannie has put into place a so-called location efficient mortgage that is availing home ownership to a lot of lower income minority people in downtown Cincinnati that otherwise would have not had that ability.
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    I think one of the unintended consequences—and Mr. Kanjorski spoke to that earlier—of a single regulator, which I personally don't think will provide a benefit to the system, would be that there would be an interruption in the flow of those new products. I think, as Bill Apgar said appropriately earlier, the housing goals are very aggressive. Can they be more aggressive? Yes. Are they seriously moving in that direction? I think yes.

    If you ask the GSEs if they will have to stretch to meet those goals, I think they will say yes. But that is what—they need to be—the gentleman earlier said they need to be on the cutting edge because of the subsidy. I think they are moving in the direct of the cutting edge, for example, like in Cincinnati providing an innovative product like that. But they should be allowed to continue that. I think the present regulatory system can allow to do that. Can it be improved? Can it be enhanced? Can it be stronger? Yes. But I think it could be done within the system that we have now and continue to be productive and effective.

    Mr. TAYLOR. Mr. Cook, it is good to hear the home builder appropriately support the notion of Fannie and Freddie providing more low- and moderate-income products.

    I would suggest to Mr. Thompson, of the Home Builders, that it would be a benefit to having those products open to a process that allows for public input. I mean, we have been dealing, Mr. Thompson, with these products for quite a while and—as to how effective or how responsive they are to the needs of potential low- and moderate-income home buyers. And to have a process where there is a regulator who is overseeing this new product development and getting input from the public to say, ''This isn't good enough,'' or ''This is a terrific product, we support it,'' or ''It would be a better product if it changed in this aspect or that aspect,'' would be extremely beneficial to us and I think also to your members who build these homes. So I would say that there is some value to that aspect of H.R. 3703.
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    Chairman BAKER. Mr. Cook, if I can suggest, we are going to give each Member five minutes to do a wrap-up, or are you concluded? We are going to give everybody five minutes. I am going to go to Mr. Ryan, then you. Mr. Cook, Mr. Kanjorski, myself, that is the process.

    Mr. Ryan.

    Mr. RYAN. Thank you, Mr. Baker.

    These are interesting seats. Because as I watched someone testify I see half the room shaking their head no, the other half the room shaking their head yes. Then you see someone else. And the other half shakes their head no. And the other half shakes their head yes. It has been fun to be on this side of the aisle. I wish there were a chiropractor around.

    Clearly, there are differences of opinion on mission, on bright lines. I think what you are seeing here with Mr. Glaser, with the financial roundtable is a difference of opinion. And I believe that it is the intent of this subcommittee that this is a legislative work in progress that requires input. The goal, clearly and hopefully, is not to harm the GSEs, but to improve the GSEs—to improve the GSEs from a standpoint of mission-critical objectives, seeking the objectives, making home ownership more affordable for lower income people and protecting the taxpayers.

    That is, from my perspective, what my constituents, I believe, think we ought to be looking out for. Hopefully, we can reach a consensus. A single regulator in my opinion is a good idea. I respectfully disagree. I think that is something that can be attained because it can also give us some comfort level so we don't have to say tell us that you are not being too risky. Somebody to objectively and a third party with the kind of expertise, the sophistication to certify that this is the case, clearly is something in everyone's best interest I believe.
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    So I would like to say that, you know, I think you are world-class institutions. You have very bright, talented people in these institutions. But there are some contradictions here. It is a unique charter that has inherent contradictions within your charter. There are differences of opinions here, and they are very, very clear and important differences of opinion.

    Hopefully, the goal of this work in progress is to assert what everyone believes is a bright line so that we can move on with our businesses without any fear that we are going to be taken out by some unfair competitor; and hopefully we can reach an agreement on a third party regulator that can show us that the debt issue is one that is not needlessly putting taxpayers at risk. And I think those questions are still—have yet to be answered. Hopefully, that is the goal that can be achieved by all of this.

    With that, I yield.

    Chairman BAKER. Thank you, Mr. Ryan.

    Mrs. Jones.

    Mrs. JONES. Thank you, Mr. Chairman. I would like to thank you for the opportunity to participate in this hearing this afternoon. I do have an opening statement I would like to provide for the record. With regard to my closing statement, lots of things I want to say.

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    One of the things that is very interesting to me as an African American is to sit here and hear how concerned everyone is about the opportunity for African Americans to have a chance at a piece of the pie. Yet when we were dealing with financial modernization it was very difficult for anyone to agree that CRA ought to be extended to all these institutions that are now enjoying the opportunities that bankers do. So I would ask that all of you that join in this great support for African American opportunities in banking would reconsider your position with regard to CRA since we have given you greater opportunity to engage in the practices of the depository lenders that you are not subjected to.

    I second want to say I find it very interesting as we talk about predatory lending that there has been very little discussion about how many primary lenders are parents of the subprime lenders and enjoy what—the fruits of subprime lending, all the benefits, but sit here and are not concerned about predatory lending.

    I think that you as prime lenders have the prime opportunity to do self-regulation and say we are not going to allow predatory lending to occur in our country, and we are not going to let our subsidiaries in the subprime market damage the equity that people throughout this country have enjoyed. It is very important to me, because I see this issue of predatory lending as the next civil rights issue in many of our communities.

    Those who are low-income people are generally going to pass a house to their next generation. If they don't pass anything, they may pass a house. If they have to pass a house, the house that is passed with a financial agreement that far exceeds the real value of that piece of property in the next generation will be detrimental to all the hard-working people that operate, who have worked in this country.
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    I want to read just for a moment as we talk about mission creep one section of the charter of Fannie Mae and—Fannie Mae and Freddie Mac—I usually say Fannie Mac and Freddie Mae—but, Section 302(B)(3) of the charter which says, and I quote: ''The corporation is authorized to purchase, service, sell, lend on the security of, or otherwise deal in, loans or advances of credit for the purchase and installation of home improvements.''

    We keep talking about mission creep. I think that is real clear as to what the opportunity for Freddie Mae—I did it again—Fannie Mae, Freddie Mac to be involved in some of the activity that they are involved with.

    Let me finally say that I have really kind of enjoyed this discussion this afternoon. For those of you who know that I am a prosecutor and judge in background, when you only get a little bit of time you can't give your time to get people to answer questions that you don't elicit. When I ask the question, I know the answer I want to get. So I have learned how to do that.

    I would believe that the discussion has been a great discussion. I would ask that, as we proceed down this process, that we don't try and fix something that is not broken. I am concerned about trying to create a single regulator for three institutions that are structurally different. I am concerned about trying to create a single regulator that might do what we think it might do when, in essence, it may not be able to do any greater job or any better job than OFHEO has already done. If it was funded appropriately and had the opportunity to do many things, we might be able to get to the issues that we have been talking about all afternoon.

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    As many of you know, this is my first term as a Member of Congress, my first time dealing with banking institutions and other areas; and I have truly enjoyed it and truly enjoyed the opportunity to engage in this intellectual discussion that we have had this afternoon. I would like to thank my Ranking Member and the Chairman for this opportunity to be heard.

    I thank all of you. The nice thing is you will be able to go home and tell everybody that Members of Congress start early, at 8:00 in the morning, and 20 minutes to 6, we are still working on issues that affect our constituents.

    Thank you, Mr. Chairman.

    Chairman BAKER. Mr. Cook.

    Mr. COOK. Just I want to commend you, Mr. Baker, and Mr. Kanjorski for organizing this roundtable and Mr. Baker for your bill. I think you are asking some of the most significant and important questions of a financial nature this Congress could be asking right now. I think it is appropriate in a time of prosperity and with housing markets that are obviously the, you know, the best in the world and the example to the world that we still could make some corrections and improvements.

    I am very skeptical about the provisions in terms of eliminating the line of credit, but I think the others are definitely very much a step in the right direction.

    And I respectfully disagree that there is no mission creep. I think there has got to be some aspects of that going on. And I think that Mr. Glaser may know it as—I may want to talk to you privately to get your exact feelings as to both sides on that one.
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    But I just want to say that I think this is going to be one of the most interesting debates. I am sure it will carry over in the 107th Congress. I am just sorry I am not going to be here for some of that.

    Chairman BAKER. Thank you, Mr. Cook.

    Mr. Kanjorski.

    Mr. KANJORSKI. Thank you, Mr. Chairman.

    After this roundtable discussion I feel a bit schizophrenic. We spent a number of years working on the financial modernization law that was passed last year. In that act we actually changed the mission of the Federal Home Loan Bank and expanded it significantly. Certainly I think Mr. Baker joined me in the effort to drive the system toward economic development. This is a significantly different mission from the mission that the two other major housing GSEs have.

    We tried very hard in the modernization act not to play the role of omnipotent individuals. We recognized that the American economy is dynamic, that we have experienced tremendous growth through these last seven-and-a-half years, and that we have room to grow and foster that success. We also tried to measure the weight of how Government regulation could suppress the economy from doing the right thing.

    I think all of us agree that we are God blessed to have this dynamic, free American economy. We therefore have to be very careful of regulating it excessively and breaking it down, whether it be for business interests or some of the parties that are worried about how the current system impacts them.
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    I look around the table, and I see some individuals that probably would not have been at this table twenty years ago, because they could not participate in this market. Their jobs or professions did not exist.

    Then I got to thinking about some things that are happening in two areas of the Federal Government that we have to really watch. I am at a loss as to what the solution is. I noticed the other day that FedEx and the U.S. Postal Service are considering entering into a new relationship and agreement. A totally private sector company and an agency of the United States Government think they can produce a product that is far more efficient to serve the American people at a cheaper price for more speedy delivery.

    Nevertheless, one of these institutions has a Government component that gives it a special identification and a special marketplace. I wonder how UPS or some of the other private sector entities would feel about allowing the Postal Service and FedEx to enter into a special relationship.

    I am also thinking about a problem that was brought to my attention in my district by a group of doctors in our medical society. They brought to my attention this whole idea of why we have a prescription drug problem as exacerbated as it is today.

    They really trace it back, to a large extent, to when the FDA repealed the prohibition on advertising by drug companies. They are now able to go out directly to the market and tell individuals why they need an expensive drug for this or that purpose. for example, you have a heart problem. The company advertises the drug and asks you to tell your doctor about it. Alternatively, you can not sleep at night, here is the drug for you, please tell your doctor about it. The doctors tell me that direct advertising has increased the questions that they have from patients. People are asking the doctors to treat them with a specific, more expensive drug. They are going to the doctor and asking for that treatment. I came back to Washington thinking we had to do something about it immediately.
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    One thing we could do is just go back and bar pharmaceutical companies from advertising. It would probably cut the gross sales of pharmaceutical companies in the United States by 20 or 30 percent. In some quarters, that would be good. In other quarters, we would be denying some people information.

    We have attempted on both sides of the aisle in these last few sessions of Congress and during this Administration to develop a new paragon, if you will, for the American economy, the American Government, and their interrelationship. I think what this roundtable has helped me to realize is that there are many interested parties that are going to be worried about mission creep and invasion into the primary market.

    I understand Mr. Andrews' position, Mr. Glaser's position, and Mr. Bartlett's position. You come from industry segments that are threatened if that line is not clear. Then, we have others like Mr. Marks, who think GSEs have a mission to take care of everybody in the world. Yet Congress and the American people say, ''Be businesslike. You are not a charitable institution and you are not the United States Government. We want you to function properly.''

    We are all interested in achieving a couple of key goals. We want to increase home ownership rates, we want to decrease the cost of mortgages to the American people, we want less risk to the taxpayers, and we want greater efficiency. If we are going to be realistic, it is going to take a new way and a new approach of how Government and the private sector operate to address all of these concerns.

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    The only thing I have certainty of, Mr. Chairman, is we have gained a great deal of information, and a lot of insight from this roundtable. While we can not resolve this issue in the next three or four weeks, you have, Mr. Chairman, done a great service to this committee, this Congress, and this country. You have allowed us to start with a platform, to come forth with the issues and the ideas and see how they interrelate with one another with all the interested parties around the table. You have allowed some of us that are Members of Congress that are not as sophisticated as the members of this roundtable to understand their insight into some of these very complicated matters.

    As the Ranking Member for the Minority, I want to thank everybody that is here. I sometimes may have put you on the spot, but I did appreciate each one of your views. I hope we did not insult anyone or put anyone down. We appreciate the difficulty encountered by the regulators and the GSEs. From these proceedings, I have heard that there are things that can be done.

    I would hope, Mr. Chairman, the participants of this roundtable would start helping us structure what they see we need. I know we will not receive agreement, but let us ask them to do a little more work. After this roundtable they can prepare a page or two of an executive summary of some of the points, so that we can analyze what the consensus is, whether we need a stronger regulator, whether we need some other definition and demarcation of where the private business and the Government enterprises operate, and then work on it.

    I do hope and do suggest that maybe after we have that paper and we have an opportunity to put a work force together, we could invite these folks back together at some time later on in the fall with the draft language that is coming out of that gathering of information and have them again critique it for us. Quite frankly, I have heard a great deal of critiques, and I think the critiques we heard today were better than most we received at congressional hearings.
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    So, for having done this, Mr. Chairman, I want to congratulate you. I think you serve the Banking Committee well.

    Chairman BAKER. Thank you very much. I appreciate the courtesy of your comments and your suggestion to conduct this roundtable. I think the members who participated did find it to be useful. I hope that it does lead to a constructive conclusion.

    This is very serious business. I have been at it now for well over a decade, starting early on in the Home Loan Bank matters. And come at this rather uniquely, Mr. Kanjorski, in that I was, before I lost my mind and before I came to Congress, a home builder and realtor. I used to be doing positive work and real things. Then my friends lied to me, and here I am.

    The point is that I really understand, I think, some of the concerns that individuals in the marketplace have about any change that appears to be working well. But, I was also in that marketplace in the 1980's when things were working very, very well and then went very, very bad.

    We have the good fortune here today to have come out of a record decade of home ownership. Home ownership numbers are at all-time highs. These three enterprises have enjoyed exceptional growth and profitability.

    And I restate the obvious. This is not a criticism of any person, any operation, any GSE who is in business today. This is a precautionary effort. Because I have also looked in the faces of those people who were very unfortunate when Revcor auctioned off assets and peoples lives were turned upsidedown and taxpayers had to dig deep in their pocket and come up with resources to bail out something that should have never happened in the first place. And the resolution process, in my opinion, even made it worse.
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    This is a time for deliberate, active analysis. I suggest over the past eight months we have had a good bit of that.

    I also renew my request that I have made for the past eight months. If anybody in this room has constructive language to put in H.R. 3703, substitute for H.R. 3703, or anything relating thereto who wanted this subcommittee to consider, my door has been, and will remain open throughout this process.

    However, let me quickly add there are those—and I am amazed, Mr. Kanjorski, by the analysts on Wall Street who write these amazing critiques on our activities here and predicting where things are going. They actually know what I am thinking when I don't. And people invest on the basis of that, and that is the most amazing thing.

    Mr. KANJORSKI. I thought I was the only one.

    Chairman BAKER. No, you are the only one that knows. The air is not out of the tires. I don't believe you have to have a—one bill to fix all problems, ever. I don't think one bill ever fixes all. Most cases, one bill messes up stuff.

    But, I am looking for an incremental approach which I thought, believe it or not, H.R. 3703 started out to be. Out of the hundreds of recommendations from various Government studies that have been conducted over the decade, we literally ferreted out the seven or eight items that are contained in that bill. I renew my request. If there is an ability to seek out regulatory enhancements, I am going to pursue that goal in this session if I can get that ability to do so.
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    Now, I understand your concerns and that we don't want to fix something that isn't broken. But I think with contrary opinion that, looking at the facts as I understand them, we would be delinquent in our responsibilities as Members of Congress not to begin a significant push in the right direction. When the day comes—and it will—when there is a business reversal, there won't be time to act. This thing will go like a rock to the bottom of the pond. And the only thing we are going to be wanting to do is blame somebody else for the waves.

    It is our time to act. There are too many recommendations from Chairman Greenspan to the Department of the Treasury, to OFHEO, to HUD. Forget the special interests who are making a buck out of this deal. I am talking about the people who stand between the enterprises and the taxpayer. And when they tell me we are taking responsible action to do things that are advisable, I take great comfort in that.

    So, this is just a message to all those folks buying and selling off this information, I have a strong conviction to see this to an end conclusion. Now, no one ever knows what the next Congress will look like, but if I am lucky enough to come back then, I fully intend to pursue whatever the next step might be; and I certainly welcome the gentleman's involvement and contributions in that effort. We worked for a decade-plus on the Home Loan Bank. I think we each have mutual regard for our willingness to stick to something until it gets done.

    I appreciate those who participated in this roundtable today. I frankly have not heard a thing that changes my mind about the underlying elements. If anything, we need to be doing more on the mission side. In addition to the safety and soundness side, we need to be talking more about the subsidy. Who has got it, and whose pocket it is in. And I fully intend to do that. So this is an open process.
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    And if anything, out of this roundtable, foes and friends alike, if you have got a better idea, I would be happy to receive it. If you can't give us constructive comment, at least let us know why you think it is bad. I think we could have a little more explanation as to the reasons for the critics of this bill explaining why they think it is so ill-advised.

    Committees are very large corporations. Every bank in America has an investment interest in these institutions, almost every credit union. And if they were to stumble, they wouldn't just fall on their shareholders. They wouldn't quit falling until they squashed every taxpayer in sight. They are enormous. That is not going to happen today. They are good folks, running a good shop, doing a good job. My concern is when these folks aren't on deck and Paul Kanjorski isn't in the Congress, and we have to think about those days.

    I thank all of you. Hearing adjourned.

    [Whereupon, at 5:55 p.m., the hearing was adjourned.]