"The Mission" of Fannie and Freddie

To get rich, not to help the public. One more example of commissions and bonuses trumping anything else. See the movie "Glen Garry, Glen [something]."

One more example of deregulation. Of course profits is "all" under deregulation. Don't we learn this under Econ 101? What we have under deregulation of monopoly power is, the economics textbooks say, the definition of "failure."


new_york_times:http://www.nytimes.com/2008/08/23/business/23nocera.html

By JOE NOCERA
Published: August 22, 2008
Whenever the mortgage finance giants, Fannie Mae and Freddie Mac, find themselves in a tough spot — and boy, are they in a tough spot now! — they always seem to find a way to blame their problems on “the mission.” “We exist to expand affordable housing,” says Fannie Mae on its Web site, and although it also lists its other mission — providing liquidity for the American housing market — it is the former that has long been the companies’ trump card.
That mission of creating affordable housing is the reason that Alan Greenspan, the former Federal Reserve chairman, could testify, year after year, that Fannie and Freddie had become so large, and took so much risk, that they could one day damage the nation’s financial system — only to be utterly ignored by the same members of Congress who otherwise hung on his every word.
The mission is why Representative Barney Frank, the powerful, and usually clear-eyed, chairman of the House Financial Services Committee, will defend Fannie and Freddie even now, when their misdeeds are so clear. The mission is why the two companies were able to run roughshod over their regulator for years, and why the Bush administration was unable to rein them in, even after an accounting scandal.
The mission is why their two chief executives, Daniel Mudd at Fannie and Richard Syron at Freddie, could take home a combined $30 million last year, while presiding over one of the great financial disasters of all time, posting billions of dollars in losses with no end in sight.
Thus it was that a few weeks ago, Mr. Syron gave an interview to The Boston Globe that was at once astonishing and completely predictable. The day before, my colleague, Charles Duhigg, had written a devastating story in The New York Times, describing how Mr. Syron, shortly after becoming the C.E.O. of Freddie Mac in 2004, had been warned by David A. Andrukonis, then the company’s risk officer, that that Freddie Mac was buying loans that “would likely pose an enormous financial and reputational risk to the company and the country.”
The article continued: “Mr. Syron was also warned that the firm needed to expand its capital cushion, but instead its safety net shrank. Mr. Syron was told to slow the firm’s mortgage purchases. Instead, they accelerated.”
And what was Mr. Syron’s response the next day in The Globe? You guessed it: “If you’re going to take aid to low-income families seriously, then you’re going to make riskier loans,” he said. “We have goals to meet.”
As for the claims made by Mr. Andrukonis to The Times, Mr. Syron said that Mr. Andrukonis had “disagreed” with the chief executive’s decision to reorient Freddie Mac “towards the housing mission.” The major source of friction between the two men, he strongly implied, was that Mr. Andrukonis just didn’t care enough about affordable housing.
And if you believe that one ...
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Fannie Mae and Freddie Mac occupy a complicated place in the nation’s financial system, but the more you understand what they did, the angrier it should make you — especially since it’s likely that you, the taxpayer, will wind up having to pay for their sins. As the two companies continue to post mammoth, multibillion-dollar losses, the Treasury Department is drawing up contingency bailout plans, which will surely include the assumption of hundreds of billions of dollars in potential liabilities.
That would be hard enough to swallow if the cause had, in fact, been the companies’ willingness to finance low-interest loans to working-class home buyers. But the real reason was greed. You know that statistic you always hear about how half the nation’s $12 trillion in mortgages is “touched” by Fannie or Freddie? The implication, of course, is that the two companies are the very heart and soul of the nation’s housing market. But the majority of the mortgages in question are ones that are held by Fannie and Freddie as part of their gigantic portfolio of mortgage-backed securities — the same kind of complex derivatives that brought down Bear Stearns and have caused untold pain to most of the big Wall Street firms.
Holding those securities has nothing to do with “the mission.” What Fannie and Freddie are supposed to do — their real mission, if you will — is to create liquidity in the housing market. (The affordable housing mission was added to their charters much later.) They do this primarily by buying mortgages from banks, insuring them, and creating mortgage-backed securities that they then sell to Wall Street. With a long-term mortgage, for instance, Wall Street takes on the interest rate risk, but doesn’t have to worry about the risk that homeowners will stop paying their loans. Fannie and Freddie assume that risk. That arrangement gives the banks more capital to make yet more housing loans, and supposedly frees them to continue loaning even when the economy takes a dip.
The problem is that while the two companies are still called government-sponsored entities, they are also publicly traded corporations. And for much of the last two decades, they have been hell-bent on growth, the clear goal being to push up their stock prices. “Wrapping” mortgages for banks — you can make money doing that, but you can’t double your earnings every five years, which was the stated goal of the former Fannie Mae chief executive, Franklin Raines.
Ah, but if you buy up the mortgage-backed securities yourself, taking on the interest rate risk as well as the credit risk — all the while using your government-sponsored pedigree to borrow at lower rates than your Wall Street competitors — well, then you’ve got a spectacular growth business. And if you’re the C.E.O., with lots of stock options and bonuses based on stock price and profits — as Mr. Raines was — you can put tens of millions of dollars in your pocket, too.
The mission? It was little more than a fig leaf that the companies trotted out whenever somebody pointed out the obvious: that its growing portfolio of mortgage-backed securities was dangerous. (Needless to say, Fannie and Freddie insist that affordable housing is their real raison d’être, and object to such characterizations.)
Then, in 2003, came the accounting scandal. Fannie Mae had to restate $9 billion in earnings, and Mr. Raines, who had made $90 million during his six years as chief executive, lost his job, replaced by Mr. Mudd, who had been his No. 2. (Mr. Raines never had to give back any of the money, though.) Freddie Mac, its smaller cousin, had to restate about $5 billion in earnings. Its chief was also booted in favor of Mr. Syron, the former executive chairman of the Thermo Electron Corporation. The accounting scandal emboldened their formerly tepid regulator, the Office of Federal Housing Enterprise Oversight, to crack down on the interest rate risk they were taking with their ballooning portfolios.
So how did Mr. Mudd and Mr. Syron respond? Did they decide to pull back, take less risk and act as a stabilizing force in the market? Not even close. Like their predecessors, Mr. Mudd and Mr. Syron put their investors — and their bonuses — first, and their mission a distant second.
As we are now learning, in 2005 and 2006, the two men plunged their companies headfirst into subprime mortgages — and continued doing so even as the subprime market began to implode. According to Fannie Mae documents obtained by The Washington Post, Mr. Mudd described getting into subprime mortgages as taking a step “towards optimizing our business.” Mr. Syron did the same — as Mr. Duhigg’s article in The Times made clear. The two companies also got heavily into underwriting so-called Alt-A mortgages, which, as the Post article put it, are “often made with no verification of the borrower’s income.”
These are the loans that Mr. Syron is now claiming were made to comply with “the mission.” But the mission had nothing to do with it. Fannie and Freddie got involved with subprime mortgages for the same reason as everyone else on Wall Street: they offered higher rates of return than ordinary mortgages. Why? Because they were riskier. As we now all know.
You want to know the truth about “the mission?” The country doesn’t even need Fannie and Freddie to help with affordable housing. Several laws mandate that banks reinvest in the communities in which they operate — and that mandate has come to be defined largely as making loans available for affordable housing. Several executives involved in community-based banking told me that Fannie and Freddie actually refused to buy those mortgages — they weren’t profitable enough. (A spokeswoman for Freddie Mac denies this.)
With any luck, once we get through this crisis, the country can figure out a better way to provide both liquidity and stability for the housing market without being so reliant on Fannie and Freddie. But for now, given the paralysis in every other sector of the market, the country badly needs Fannie and Freddie to do what they are chartered to do: “wrap” loans so that banks will keep writing mortgages.
That’s why Congress recently passed a law that allows Fannie and Freddie to insure mortgages up to nearly $625,500, from the previous limit of $417,000. That’s also why the Treasury is now taking pains to ensure the marketplace that the companies will not go bust, even if it means a government takeover. If Fannie and Freddie were to file for bankruptcy — the fate, frankly, they deserve — the mortgage market (not to mention the entire financial system, just as Mr. Greenspan once predicted) would quite likely freeze up completely. In the midst of the worst housing crisis since the Great Depression, that would be disastrous.
All right, so be it, we’ll keep them alive for the greater good of the country, moral hazard be damned. But let’s at least acknowledge that there is something deeply flawed with an arrangement in which the shareholders and executives reap the profits in good times, while the government and the taxpayers absorb the losses when things go awry. At the very least, the companies should stop using the mission as an excuse, and acknowledge they did the wrong things for the wrong reason.
Their only mission has been to get rich, and it has hurt us all.