The Government Sponsored Enterprises (GSEs) — Fannie Mae, Freddie Mac and the Federal Home Loan Banks — are arguably the engines that drive our housing market. By buying and securitizing mortgages they foster liquidity and stability. They also, however, pose an enormous risk to the American taxpayer. For several years, I have been a strong advocate for real reform that would balance the benefits and risks of GSE operations.
To appreciate fully the urgent need for meaningful GSE reform, one needs to review recent history. In 2003 and 2004, Freddie Mac and Fannie Mae were involved in major, Enron-like accounting scandals. The GSEs diverted enormous amounts of time and resources away from their important mission at a critical period in an effort to correct significant shortcomings. The aftermath further illuminated the GSEs’ excesses and their regulator’s deficiencies.
The absence of reform in the interim is particularly troubling because the GSEs play a critical role by purchasing loans originated in primary markets. The majority of these loans are packaged into securities with a guarantee and sold to investors or held in the GSEs’ own portfolios. The recent problems in our housing markets have rapidly widened the scope of the GSEs’ importance. Indeed, the GSEs now issue and guarantee the overwhelming majority of all mortgage-backed securities, more than 2.5 times their market share of just two years ago.
As the GSEs’ importance has increased, so too has their size. To put it in perspective, the total outstanding credit of Fannie Mae and Freddie Mac is roughly equal to the combined Gross Domestic Products of the United Kingdom and France (approximately $5.3 trillion).
Recently, the GSEs have incurred multi-billion-dollar losses. Such losses by any financial institution are significant. There are reasons to be particularly concerned about the GSEs, however. Where bank regulators have broad prudential authority to ensure the safe and sound operation of institutions under their purview, under current law, the GSEs’ regulator, the Office of Federal Housing Enterprise Oversight (OFHEO), does not possess similar authority.
Furthermore, the GSEs operate with the implicit backing of the American taxpayer. Standard and Poor’s recently estimated that a bailout of the GSEs would cost taxpayers nearly $1.2 trillion, and would threaten the AAA credit rating of the U.S. government. The staggering size of these important institutions and continuing stress in the housing sector only reaffirms the urgency for reform. It is time for Congress to establish a regulator with the authority and independence needed to appropriately regulate entities as large and important as the GSEs.
On May 20, the Senate Banking Committee overwhelmingly passed legislation which does just that. The first component of our bill would create a strong regulator with broad and flexible authority to address a number of important issues, such as temporary and permanent capital levels. The legislation would also empower the new independently funded regulator, for the first time, to combine mission and safety and soundness regulation. Taken together, these reforms will ensure the continued existence of the GSEs for years to come, benefitting homeowners and taxpayers alike.
While housing markets continue the slow and sometimes painful process of self-correcting, continued uncertainty remains a drag on our economy. During difficult times, it may be appropriate for the government to act to restore confidence and stability. When the government steps in, however, it must do so in a targeted way that protects taxpayers. I believe we have accomplished that goal in the second part of our bill.
This component creates a voluntary mechanism through the Federal Housing Administration (FHA) whereby borrowers at risk of foreclosure can refinance into more affordable loans. I have long said that we should do what we can to help struggling homeowners, short of asking the American taxpayer to foot the bill. I am pleased that Banking Committee Chairman Chris Dodd (D-Conn.) and I have agreed on an approach that will not only help distressed homeowners, but also will use no tax dollars.
Although this program will not solve all of the troubles in our housing markets, I believe it provides a reasonable option for those who qualify and may help restore confidence and stability in the housing sector.
The Congress has a unique opportunity to enact a law that will not only preserve the dream of home ownership for hundreds of thousands of Americans, but will also protect and preserve the GSEs which are now, more than ever, a critical part of fulfilling that dream.
Shelby is the ranking member of the Senate Committee on Banking, Housing and Urban Affairs.