Testimony of Ralph Nader on THE HOUSING FINANCE REGULATORY IMPROVEMENT ACT

Testimony of Ralph Nader on THE HOUSING FINANCE REGULATORY IMPROVEMENT ACT U.S. House of Representatives Subcommittee on Capital Markets, Securities, and Government Sponsored Enterprises Committee on Banking and Financial Services, June 15, 2000

Mr. NADER. Thank you very much, Chairman Baker and Members of the Subcommittee:

I am quite pleased that you are holding this hearing, especially to receive comment on your legislative effort to upgrade the oversight regulation of the three Government-sponsored enterprises which dominate the housing finance markets.

While there are clear differences between the thrift industry and GSEs, H.R. 3703 is a reminder of what Congress failed to do to protect the taxpayers and the savings and loans a quarter of a century ago.

For years, this Committee and its companion Banking Committee in the Senate handled the savings and loan industry with soft kid gloves.

The Federal Home Loan Bank Board was allowed to carry out its functions more as a cheerleader than a regulator of financial institutions.

And so when the savings and loan industry began to fall apart in the 1980’s, it was politically difficult to impose stringent regulations and higher capital standards on this industry.

Only after the failures caused staggering multi-billion dollar losses to deposit insurance funds and taxpayer funds did the Congress reform the regulatory machinery, raise examination standards, and establish mandatory criteria to trigger an early warning system and require prompt corrective action.

Looking back at this episode, Mr. Chairman, historians will wonder how the Congress could have failed to establish these protections long before the disasters of the 1980’s.

And of course, others honestly viewed the savings and loans as a primary source of funds critical to the production of badly needed housing in their districts, while other Members of Congress were very chummy with the industry and too willing to look the other way when the speculators and quick buck artists moved into the industry.

As a result, tough oversight and strong regulation was not imposed on this industry. Of course, the savings and loans people were quite happy to use this line as a defense against what few reformers ventured forth in the Congress.

In the end, this ”see-no-evil/hear-no-evil/speak-no-evil” approach to oversight and regulation left the thrift industry a near wasteland and the taxpayers an estimated half a trillion dollars poorer in principle and interest over a thirty-year period.

Today, the housing GSEs and their supporters are borrowing pages from the old savings and loan manuals on how to slow reforms.

Any suggestion for change in the high flying lifestyle of Fannie Mae, Freddie Mac or the Federal Home Loan Banks invariably elicits an immediate bombardment of charges from the GSEs that proponents of reform are destroying the great American dream of home ownership.

Quote: ”It is a tax on home ownership,” is a favorite cliche of Fannie Mae in response to even the mildest proposal for reform.

I once said to a Fannie Mae executive: ”I guess your higher and higher salaries are also a tax on home ownership.” Congress needs to look behind such facile, anemic defenses.

For too long, Congress has played the role of an indulgent parent to the GSEs, with few exceptions, such as yourself.

The GSEs have long since grown beyond adolescence. It is time for the GSEs to give up ties to the Federal Government that have made them poster children for corporate welfare.

Most of all, Congress needs to look more to the protection of taxpayers and less to the hyperbole of the GSE lobbyists that form a standing army on Capitol Hill, some of whom are right in this room.

The housing-finance GSEs were born as creatures of the Federal Government and have evolved as hybrid enterprises where much of the risk remains with the Government and the taxpayers while the profits flow to private shareholders.

Chairman Baker, your bill, H.R. 3703, takes a big step toward providing a more rational and stronger regulatory system and removing some of the more obvious subsidies to the GSEs.

H.R. 3703 creates a five-member, full-time, presidentially-appointed Housing Finance Oversight Board as an independent agency and consolidates all regulatory authority for the GSEs under that Board.

This will eliminate three separate agencies.

One, the Office of Federal Housing Oversight, known as OFHEO; the Federal Housing Finance Board; and the Secretary of Housing and Urban Development, which currently share supervision of the housing GSEs.

The establishment of a single regulator for the housing GSEs tracks the 1997 recommendations of the General Accounting Office—whose budget needs to be restored, by the way, to its former self. It will provide greater focus and consistency on oversight and safety and soundness of the housing GSEs than is possible in the present scattered system. The Board will include the Secretary of the Treasury, Secretary of HUD, and three citizen members.

When this Committee was considering the so-called financial modernization legislation during the last three Congresses, I urged the same type of consolidation of the separate agencies that regulate depository institutions. That proposal got nowhere. I hope the future of supervision of the GSEs fares better.

There is one modification, however, I would urge for the single-agency approach to the housing GSEs. I strongly recommend that the Department of Housing and Urban Development continue to analyze and establish housing goals and transmit them to the independent board established under this legislation for enforcement.

At a recent conference, a high official in HUD made the following statement, and I will paraphrase it. He said, ”Yes”—this was William Apgar, Assistant Secretary of Housing and Urban Development. Here is what he said:

Quote: ”There are two clear and indisputable facts. One, the number of Americans in need of affordable housing stands at an all-time high. Two, Fannie and Freddie are making record profits.”

I could add, three, Fannie and Freddie executives are making record compensation pay packages.

HUD remains the Federal Government’s expert on housing needs and this expertise should be utilized beyond the provision that the HUD Secretary be a member of the new board.

Just as important, the legislation clearly focuses the board’s attention on safety and soundness, and this focus needs to be maintained while HUD continues to provide the expertise on housing goals.

The legislation should also include provisions that will require ongoing disclosure of data by the housing GSEs that will provide specific information to enable the board and the public to track the geographical location, race, gender, and income levels of the homeowners whose mortgages are purchased by the GSEs. This should be disclosed by census tract.

In addition, the board should be subject explicitly to the Freedom of Information Act and Sunshine Act requiring open meetings. That really needs to be made explicit.

In an obvious effort to overcome the money problems that have hampered the operations of OFHEO, the bill provides for the board to be financed through assessments on the GSEs for, quote: ”reasonable costs and expenses”, without being subject to the appropriations process. I have misgivings about any Federal agency escaping the appropriations process—to wit, the Federal Reserve Board—but I recognize that OFHEO has special problems with the current process, problems that affect its ability to carry out its responsibilities.

OFHEO, as the safety and soundness regulator of Fannie Mae and Freddie Mac, is forced to continually battle to hang onto its meager budget. Earlier this month, an appropriations subcommittee whacked nearly $5 million off of OFHEO’s request for $26.7 million. This means fewer examiners and financial experts to track Fannie and Freddie’s far-flung empires.

In pleading for his budget, Armando Falcon, the Director of OFHEO, pointed out that his agency is trying to examine enterprises that own or guarantee $2 trillion of residential mortgages.

To cut the budget of an agency trying to cope with these mammoth financial institutions is an outrage; a slap at the taxpayers who unfortunately bear the ultimate risk. Where are the investigative reporters who should be trying to find out what is going on in the House Appropriations Committee? There they are. They are over there at the table.

[Laughter.]

Is this the result of more of the ham-handed lobbying by Fannie and Freddie to limit scrutiny of their operations?

OFHEO’s budget problems are a prime example of why the reforms in the Baker bill are badly needed now. Not only do the GSEs dominate the mortgage markets, but they have a huge share of the U.S. debt market.

As Chairman Baker has pointed out in these very hearings, the GSE debt of $1.4 trillion combined with GSE-guaranteed mortgage-backed securities of $1.2 trillion nearly total the $2.7 trillion of outstanding privately-held marketable Treasury debt. The Treasury Department estimates that the GSE debt may double to $3 trillion by 2005 and surpass the Treasury debt in three years.

We are obviously not talking about GSEs interested only in providing the American dream of home ownership, as their national advertising campaigns suggests. They have a big appetite that grows bigger as they saturate the mortgage market. They will reach out more to maintain their high levels of profits and shareholder dividends.

H.R. 3703 wisely gives the Oversight Board the duty of reviewing and limiting activities that go outside the GSEs mandate.

A lot of Fannie and Freddie’s profits come from their links with the Federal Government, which they retained after becoming a ”private” shareholder corporation. These ties to the Government have given the GSEs great benefits in the marketplace, and as a result of these benefits, the GSEs are able to borrow in the market at interest rates very close to that enjoyed by the Federal Government itself.

A study by the Congressional Budget Office estimated that 40 percent of the earnings of Fannie and Freddie in some years could be traced to the benefits of their Government-sponsored status.

Mr. Raines disputes that. He may be asked about his basis for that. Even Alan Greenspan, Chairman of the Federal Reserve Board, has chimed in with criticisms of the subsidies that pad the GSEs bottom line.

The GSEs defend this largesse with the claim that the subsidy is passed on to home buyers. CBO’s studies debunk the claim. It says that a third of the subsidy at least is pocketed by private shareholders, the corporations’ executives, and lobbyists.

Now, H.R. 3703 eliminates one of the most egregious forms of corporate welfare—a standby line of credit that could be drawn from the Treasury if the GSEs fell on bad times. Fannie and Freddie each have a $2.25 billion contingency fund at Treasury, and the Federal Home Loan Banks a $4 billion line of credit.

Other benefits remain, including the exemption from local and State income taxes. Even when the District of Columbia was struggling on the edge of bankruptcy, Fannie Mae refused to cough up a dollar in lieu of the $300 million in taxes they escape annually through the exemption from District income taxes.

And of course, they always imply that if they are ever required to pay District income taxes, they will move out to another jurisdiction that will be more permissive in inviting this tax escapee from the District of Columbia.

In addition, the securities of Fannie and Freddie are Government securities for the purposes of the SEC Act of 1934 and are exempt from registration. Their securities serve as eligible collateral for Federal Reserve Bank discount loans, and the Federal Reserve serves as fiscal agent for these issues. In addition, the Secretary of the Treasury approves the issues.

The obligations are also eligible for unlimited investments by national banks and State bank members of the Federal Reserve as well as federally-insured thrifts.

All these links are evidence in the eyes of the market that the Federal Government would rush to bail out the GSEs if they were in serious financial trouble. The market looks on these entities as fail-safe organizations.

Chairman Baker has expressed concern about the fact that GSE debt has become a significant part of the assets of the banking system—an estimated $210 billion at mid-year 1999. National banks may invest no more than 10 percent of their capital in corporate bonds of one issuer. But, because of the special GSE provision that I noted earlier, bank investments in GSE debt securities are not limited.

H.R. 3703 calls for a study by the FDIC of the impact that a GSE failure would have on the solvency of the banks. It is important that this study goes forward.

Clearly, the special status of the GSEs has provided lucrative benefits for its executives. The National Mortgage News in an article headlined ”Who Wants to be a GSE Millionaire?” recently came up with the figures on the top executives for 1999 and they are in the prepared testimony.

I will just point out, however, in a bizarre display of self-restraint, which I commend, the Chairman of Freddie Mac, Leland Brendsel, is making only $1,405,000, which is less than Fannie Mae’s Vice Chair, Jamie Gorelick, recently of the Clinton Administration. She is making $1,443,978. I hope that if Mr. Brendsel hears these remarks he will not ask for a raise.

While the executives may be doing well, there are important questions about the adequacy of GSEs’ support for housing in low- and moderate-income and minority neighborhoods.

An analysis of 1998 data conducted by Jonathan Brown of Essential Information indicates that in many MSAs, the GSE market share of 1 to 4 family mortgage loans in low- and moderate-income and minority neighborhoods was only one-half the GSE market share of such loans in upscale, non-minority neighborhoods.

Now Mr. Brown has very, very detailed information on this and specific maps covering most of the United States, and I would urge Members of the Committee and the Committee’s staff to contact Mr. Brown for further information.

Another study conducted by the National Community Reinvestment Coalition says that Fannie and Freddie lag behind banks in financing single-family mortgages for minorities and low- and moderate-income home buyers.

That study, based on 1995 and 1996 data, found that only 32 percent of Freddie’s and 33 percent of Fannie’s loan purchases involved single-family mortgages for low- and moderate-income home buyers. In contrast, the study said 41 percent of banks’ single-family loans went to such borrowers.

The emphasis in H.R. 3703 is on safety and soundness, and that is important. But this Committee also needs to do more to examine the adequacy of the housing goals and the performance of the GSEs on affordable housing in low- and moderate-income minority neighborhoods, and that is Jonathan Brown’s specialty.

The regulatory improvements mandated by H.R. 3703 should be adopted by the Congress in this session. They are long overdue, and there is no reason to delay these taxpayer protections any longer.

As this Committee proved in the enactment of reforms in the wake of the savings and loan debacle, bipartisan coalitions can be formed successfully on safety and soundness issues in the oversight of Federal regulation. This should happen now while the GSEs are prosperous, not when the fortunes of these institutions are sagging.

Some Members may feel these institutions are so strong and so wealthy there is no need for the protections incorporated in H.R. 3703. They see no possibilities of downturns in their fortunes. But this ignores history.

Few foresaw the collapse of the savings and loan industry. Even fewer believed tax money would be used to bail out insured institutions. But it happened, and the regulators, and for that matter the whole Nation, were poorly prepared for the disaster.

Fannie Mae has had its own downsides. In the early 1980’s, for example, Fannie was technically insolvent on a market-to-market basis and was losing money at the rate of $1 million a day.

Congress should act on this legislation while the sun is shining.

Thank you.

Chairman BAKER. Thank you very much, Mr. Nader. I really do appreciate your willingness to be here today and your forthright testimony. Thank you very much.

Mr. NADER. Thank you.