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FCIC Commissioners today have been much more aggressive than they’ve been in any hearing thus far. Watching Bill Thomas go after Fannie Mae exec Robert Levin on lobbying was really satisfying. But where was this tenacity yesterday, or in February? The way Thomas rambled on endlessly in previous hearings, it almost seemed like he was trying to sabotage the events by subjecting viewers to huge sections of total boredom.

Angelides was pretty strong against Rubin yesterday, and put in some good barbs with Dugan late in the hearing, but none of the previous hearings had anything approaching the continuous level of pressure at today’s hearing.

This could be a sign that the Commission is hitting its stride, but it could also just reflect the priorities of the committee’s Republican appointees. Bill Thomas and Peter Wallison really hate Fannie Mae and Freddie Mac, but they don’t feel similarly motivated to hold Wall Street executives accountable.



The afternoon hearing with OFHEO is kind of a non-event. OFHEO really didn’t have the resources to take on Fannie or Freddie. The regulator was outrageously underfunded for an agency charged with overseeing a very substantial chunk of the mortgage market. They had around $35 million a year– to put that in perspective, that’s about what it cost the Lehman Brothers bankruptcy trustee to perform an autopsy on Lehman, which was much smaller than either Fannie and Freddie, and already bankrupt.

Commissioners are focusing on a decision by OFHEO in March 2008 to actually lower capital requirements on Fannie and Freddie, allowing the companies to increase leverage.

That sounds pretty crazy, but of all the things regulators screwed up during this crisis, I don’t think that was really so bad. In retrospect, Fannie and Freddie were totally, completely doomed by March 2008. The mortgage market was falling apart, and if the government didn’t do something to support it, things could have actually turned out worse than they ultimately did. The government decided to do that via Fannie and Freddie, even though they weren’t yet in conservatorship, by effectively giving them more money to buy and guarantee mortgages.

That’s an important point about the companies today. Taxpayers are going to lose a ton of money on Fannie and Freddie, not only because the firms were so poorly managed prior to the 2008 takeover, but because they’ve been supporting the mortgage market ever since. It’s not fun to see all of that red ink, but what other options have policymakers really had? Today, something like 90% of all new mortgages are issued through the government. Without a big commitment from Fannie and Freddie (in conservatorship), we wouldn’t even have a mortgage market. Without a mortgage market, home prices would plunge further, housing wealth would be wiped out and foreclosures would increase. There’s really no responsible public policy story that can be told that doesn’t involve letting Fannie and Freddie take on a lot of the mortgage market from 2008 through the present, even though doing so sets taxpayers up for trouble.

I should note, however, that the above discussion doesn’t excuse the government for allowing Fannie’s CEO to take home $6 million in pay for his work in 2009, when the company had been nationalized. There was never any excuse for the insanely large paydays the former executives paid themselves when the company was private, and that kind of pay as a government-owned company is also absurd.



More from Wallison. He notes that Fannie always just barely met the HUD affordable housing minimum requirements, and implies that this shows how affordable housing requirements were torpedoing the firm.

Two points are worth considering.

If a hyperleveraged, multi-trillion-dollar mortgage firm that engaged in absolutely no affordable housing business had hit the same crisis in 2008, would it have survived? Almost certainly not. Fundamentally, what killed Fannie Mae was a refusal to prepare for a crisis by building appropriate capital cushions, and an eagerness to binge on risky mortgage-backed securities.

Second, the affordable housing goals Wallison is referencing allowed purchases of subprime mortgage-backed securities to count as affordable housing. Subprime lending did not promote affordable housing.

The main idea here is that making generous loans to poor people didn’t kill the economy. Preying on people with outrageously expensive subprime loans, by contrast, did create big problems. It’s a mistake to conflate the poor business decisions made by Daniel Mudd & Co. with an overeagerness to help poor people.



Good question by Douglas Holtz-Eakin.

Fannie had two basic businesses. In one, it bought mortgages issued by banks, guaranteed them against losses, and packaged them into securities for sale.

In the second business, Fannie bought mortgage-backed securities issued by other banks. These securities were frequently very risky, because they were backed by lousy subprime loans, and they didn’t really do much to expand access to affordable housing.

So Holtz-Eakin is asking why they engaged in the second business at all. The answer is because it was highly profitable, much more profitable than the first business. But it also ended up really slamming Fannie when the bank-issued securities went bad.



Great accounting question by Georgiou. Fannie waited for a loan to be delinquent for 24 months before it recorded any losses. All kinds of shenanigans go on in mortgage accounting to inflate companies’ earnings. If a loan hasn’t been paid for two years, it’s not delinquent, it’s doomed. That should be recorded much, much earlier.

This nonsense isn’t unique to Fannie. Every bank uses the most optimistic accounting scheme it can come up with to keep its earnings high, and a lot of times, this is a distortion of the real world.



Byron Georgiou is asking about the budget for Fannie’s regulator, OFHEO, which was pathetically small, making it impossible for OFHEO to really do anything about what went on at Fannie.

“Their budget was set by Congress . . . we didn’t have anything to do with that,” Mudd says.

Fannie lobbied Congress hard to keep OFHEO’s budget small. Mudd is denying this, but it’s just not credible, and Georgiou is showing that from 1998 – 2008 it spent $80 million lobbying Congress. There is no way they spent all of that money, and didn’t use it to try to defang their regulator.



Wallison is basically arguing the opposite of Murren. Murren criticized Mudd for using Wall Street tactics and pay to operate a nonprofit type of firm, neglecting the public purpose in the process. Wallison is saying that Fannie was too concerned with this public purpose, which Wallison says destroyed Fannie Mae’s business.



Here’s Peter Wallison. His mission in life is to pin all of the world’s problems on Fannie Mae and Freddie Mac.

Wallison is arguing that HUD was putting the company under “a lot of pressure” to support mortgages to borrowers who made less than the median income, noting that the affordable housing goals increased between 2005 and 2007.

It’s true that those affordable housing regulations did increase under the Bush administration, but it wasn’t the regulatory misstep that really hurt Fannie. Bush allowed Fannie to buy subprime mortgage-backed securities, and allow those securities purchases to count as affordable housing efforts. That was insane, because subprime mortgages are expensive– they’re high-interest loans, not affordable loans.

But Wallison doesn’t want to blame the subprime business, because that was a huge Wall Street operation, one that Fannie Mae didn’t even really engage in outside the purchase of securities. Lending to people who make less than the median income, however, makes Wallison furious, so that must have been what destroyed Fannie Mae.



There it is! Murren goes after CEO pay, asking how the company calculated it. Mudd says it was partially about fulfilling its home ownership promotion goals, partially it was about earnings, and partially it was scaled to “comparable positions in the marketplace.”

Then Murren slams him: “Comparable positions” were considered to be jobs at companies like AIG, Countrywide and Wachovia, not non-profit groups or homeless shelters. Since Fannie Mae has a public service mission, it’s executives should have had incentives that were explicitly keyed to that mission. It shouldn’t have been creating incentives like those that exist at private sector companies that have no interest in the public good (or even have outright predatory business models).

Mudd is saying that Fannie only paid 70% of “comparable positions in the marketplace” in order to balance pay with its affordable housing mission. But Murren is justifiably unimpressed: “I would say that 75 percent of a huge amount of money is still a huge amount of money.”

This is the hardest-hitting question that has been asked at any FCIC hearing to date. Why nobody hit Rubin this hard, I don’t know.


I thought Heather Murren was going to hit Mudd about CEO pay, but then she went and asked him how Wall Street expected the company to operate. The point here is that the company had a lot of pressure to operate as a highly profitable financial institution, rather than a public servant promoting affordable housing.



Another good question from Angelides. “Your leverage ratio was anywhere from 62-to-1 to 73-to-1 . . . you weren’t alone . . . but your capital held was extraordinarily low . . . What were you guys thinking?”

When company’s are superleveraged like that, they can make tons of money with very small movements in asset prices. But the big numbers work both ways– they take enormous losses if asset prices drop just a tiny bit. And when asset prices drop 40%, as housing prices have, the losses are catastrophic.

In other words, they were running a very high risk business. They were basically pushing the Wall Street business model deployed at Goldman Sachs, Bear Stearns and Citigroup.

Mudd is pleading that Fannie’s capital levels were above their regulatory standards, and that they raised as much capital as they could as the market deteriorated. Angelides should have hit him on lobbying. Fannie aggressively lobbied Congress to keep their regulator from imposing more stringent capital requirements that would have forced Fannie to reduce leverage.



Good question from Angelides. Fannie’s losses came from 2006 and 2007 loans with the features we’d expect– subprime, Alt-A, etc. Angelides asked why Fannie and Freddie decided to get involved in this business, right before this business became so terrible.

Mudd can’t give him a good answer because there is no good answer.

Angelides also notes that there was a major decline in Fannie’s market share from 2002 to 2005 as Wall Street ramped up its mortgage efforts and mortgage-backed securities business. That’s an important statistic, because it means that while Fannie made a lot of really bad decisions as a company, it can’t be blamed for causing the crisis.



Mudd: “I am sorry.”



Former Fannie Mae CEO Daniel Mudd is saying the dual mandate– promote home ownership, while maximizing a return for private investors– made their business unsupportable in 2008.

Again, probably true. But there’s no excuse for the lobbying activities.

What’s more, even without the lobbying, Mudd really ran the company like a hyperleveraged hedge fund. It’s not obvious that they needed to buy up as many mortgage-backed securities issued by Wall Street as they did.


Important point by Levin. In 2004 and 2005, Wall Street firms like started issuing huge volumes of mortgage-backed securities. And the Wall Street securities included lots of mortgages that Fannie considered too dicey to work with (subprime, Alt-A, option-ARM, etc).

So Fannie got into subprime and Alt-A as a response to the Wall Street growth. The Alt-A business (stated income loans, etc.) ended up being much worse for them than subprime, because they didn’t purchase subprime mortgages, although they did purchase lots of subprime mortgage-backed securities.


Former Fannie Mae Chief Business Officer Levin:

“Fannie Mae was restricted to one class of assets . . . and thus we took the brunt of the crisis head-on.”

This is partially true. Fannie Mae was going to get hard no matter what the did, because all they do is housing, and they’re huge. Still, things would have been a lot better for them (and taxpayers) if Fannie hadn’t lobbied Congress so hard to let them leverage themselves to the gills. If they’d prepared for a crisis, or just kept some reasonable capital reserves, things wouldn’t have ended so badly.

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