[House Hearing, 108 Congress]
[From the U.S. Government Publishing Office]





                      GSE OVERSIGHT: THE NEED FOR
                        REFORM AND MODERNIZATION

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
                     CAPITAL MARKETS, INSURANCE AND
                   GOVERNMENT SPONSORED ENTEREPRISES

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED EIGHTH CONGRESS

                             FIRST SESSION

                               __________

                             JUNE 25, 2003

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 108-43



91-771              U.S. GOVERNMENT PRINTING OFFICE
                            WASHINGTON : 2003
____________________________________________________________________________
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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    MICHAEL G. OXLEY, Ohio, Chairman

JAMES A. LEACH, Iowa                 BARNEY FRANK, Massachusetts
DOUG BEREUTER, Nebraska              PAUL E. KANJORSKI, Pennsylvania
RICHARD H. BAKER, Louisiana          MAXINE WATERS, California
SPENCER BACHUS, Alabama              CAROLYN B. MALONEY, New York
MICHAEL N. CASTLE, Delaware          LUIS V. GUTIERREZ, Illinois
PETER T. KING, New York              NYDIA M. VELAZQUEZ, New York
EDWARD R. ROYCE, California          MELVIN L. WATT, North Carolina
FRANK D. LUCAS, Oklahoma             GARY L. ACKERMAN, New York
ROBERT W. NEY, Ohio                  DARLENE HOOLEY, Oregon
SUE W. KELLY, New York, Vice Chair   JULIA CARSON, Indiana
RON PAUL, Texas                      BRAD SHERMAN, California
PAUL E. GILLMOR, Ohio                GREGORY W. MEEKS, New York
JIM RYUN, Kansas                     BARBARA LEE, California
STEVEN C. LaTOURETTE, Ohio           JAY INSLEE, Washington
DONALD A. MANZULLO, Illinois         DENNIS MOORE, Kansas
WALTER B. JONES, Jr., North          CHARLES A. GONZALEZ, Texas
    Carolina                         MICHAEL E. CAPUANO, Massachusetts
DOUG OSE, California                 HAROLD E. FORD, Jr., Tennessee
JUDY BIGGERT, Illinois               RUBEN HINOJOSA, Texas
MARK GREEN, Wisconsin                KEN LUCAS, Kentucky
PATRICK J. TOOMEY, Pennsylvania      JOSEPH CROWLEY, New York
CHRISTOPHER SHAYS, Connecticut       WM. LACY CLAY, Missouri
JOHN B. SHADEGG, Arizona             STEVE ISRAEL, New York
VITO FOSSELLA, New York              MIKE ROSS, Arkansas
GARY G. MILLER, California           CAROLYN McCARTHY, New York
MELISSA A. HART, Pennsylvania        JOE BACA, California
SHELLEY MOORE CAPITO, West Virginia  JIM MATHESON, Utah
PATRICK J. TIBERI, Ohio              STEPHEN F. LYNCH, Massachusetts
MARK R. KENNEDY, Minnesota           ARTUR DAVIS, Alabama
TOM FEENEY, Florida                  RAHM EMANUEL, Illinois
JEB HENSARLING, Texas                BRAD MILLER, North Carolina
SCOTT GARRETT, New Jersey            DAVID SCOTT, Georgia
TIM MURPHY, Pennsylvania              
GINNY BROWN-WAITE, Florida           BERNARD SANDERS, Vermont
J. GRESHAM BARRETT, South Carolina
KATHERINE HARRIS, Florida
RICK RENZI, Arizona

                 Robert U. Foster, III, Staff Director

  Subcommittee on Capital Markets, Insurance and Government Sponsored 
                              Enterprises

                 RICHARD H. BAKER, Louisiana, Chairman

DOUG OSE, California, Vice Chairman  PAUL E. KANJORSKI, Pennsylvania
CHRISTOPHER SHAYS, Connecticut       GARY L. ACKERMAN, New York
PAUL E. GILLMOR, Ohio                DARLENE HOOLEY, Oregon
SPENCER BACHUS, Alabama              BRAD SHERMAN, California
MICHAEL N. CASTLE, Delaware          GREGORY W. MEEKS, New York
PETER T. KING, New York              JAY INSLEE, Washington
FRANK D. LUCAS, Oklahoma             DENNIS MOORE, Kansas
EDWARD R. ROYCE, California          CHARLES A. GONZALEZ, Texas
DONALD A. MANZULLO, Illinois         MICHAEL E. CAPUANO, Massachusetts
SUE W. KELLY, New York               HAROLD E. FORD, Jr., Tennessee
ROBERT W. NEY, Ohio                  RUBEN HINOJOSA, Texas
JOHN B. SHADEGG, Arizona             KEN LUCAS, Kentucky
JIM RYUN, Kansas                     JOSEPH CROWLEY, New York
VITO FOSSELLA, New York,             STEVE ISRAEL, New York
JUDY BIGGERT, Illinois               MIKE ROSS, Arkansas
MARK GREEN, Wisconsin                WM. LACY CLAY, Missouri
GARY G. MILLER, California           CAROLYN McCARTHY, New York
PATRICK J. TOOMEY, Pennsylvania      JOE BACA, California
SHELLEY MOORE CAPITO, West Virginia  JIM MATHESON, Utah
MELISSA A. HART, Pennsylvania        STEPHEN F. LYNCH, Massachusetts
MARK R. KENNEDY, Minnesota           BRAD MILLER, North Carolina
PATRICK J. TIBERI, Ohio              RAHM EMANUEL, Illinois
GINNY BROWN-WAITE, Florida           DAVID SCOTT, Georgia
KATHERINE HARRIS, Florida
RICK RENZI, Arizona
                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    June 25, 2003................................................     1
Appendix:
    June 25, 2003................................................    45

                               WITNESSES
                        Wednesday, June 25, 2003

Cochran, Jay, Research Fellow, The Mercatus Center, George Mason 
  University.....................................................    22
Eagan, Sean J., Managing Director, Egan-Jones Ratings Co.........    17
Petrou, Karen Shaw, Co-Founder and Managing Partner, Federal 
  Financial Analytics, Inc.......................................    24
Schatz, Thomas A., President, Citizens Against Government Waste..    85

                                APPENDIX

Prepared statements:
    Oxley, Hon. Michael G........................................    46
    Baker, Hon. Richard H........................................    47
    Clay, Hon. Wm. Lacy..........................................    50
    Gillmor, Hon. Paul E.........................................    52
    Kanjorski, Hon. Paul E.......................................    54
    Maloney, Hon. Carolyn B......................................    56
    Royce, Hon. Edward R.........................................    58
    Shays, Hon. Christopher......................................    59
    Cochran, Jay (with attachment)...............................    61
    Eagan, Sean J................................................    72
    Petrou, Karen Shaw...........................................    78
    Schatz, Thomas A. (with attachment)..........................    85

              Additional Material Submitted for the Record

Maloney, Hon. Carolyn B.:
    Left Out of Bill, Old Vision for Radical Reform, American 
      Banker, June 25, 2003......................................   104

 
                      GSE OVERSIGHT: THE NEED FOR
                        REFORM AND MODERNIZATION

                              ----------                              


                        Wednesday, June 25, 2003

             U.S. House of Representatives,
        Subcommittee on Capital Markets, Insurance,
               And Government Sponsored Enterprises
                           Committee on Financial Services,
                                                   Washington, D.C.
    The subcommittee met, pursuant to call, at 10:01 a.m., in 
Room 2128, Rayburn House Office Building, Hon. Richard Baker 
[chairman of the subcommittee] presiding.
    Present: Representatives Baker, Ose, Shays, Gillmor, 
Bachus, Castle, Lucas of Oklahoma, Royce, Manzullo, Oxley (ex 
officio), Kelly, Ney, Fossella, Green, Miller, Hart, Kennedy, 
Tiberi, Harris, Kanjorski, Hooley, Meeks, Inslee, Moore, Frank 
(ex officio), Ford, Lucas of Kentucky, Crowley, Clay, McCarthy, 
Baca, Miller, and Scott. Also present: Representatives Watt and 
Maloney.
    Chairman Baker. I would like to call this meeting of the 
Capital Markets Subcommittee to order.
    June 15, 2002 was an important day in the history of our 
national economy. The accounting firm of Arthur Anderson was 
found guilty of obstructing justice by a Texas jury on that 
day. The decision ultimately led to the demise of the 
accounting firm and brought about a thorough reexamination of 
our entire accounting industry. Frankly, the outcome could have 
been a lot worse. Our understanding of corporate accounting 
practices was limited, and action was quickly taken to enhance 
the regulatory oversight of the industry with the passage of 
the Sarbanes-Oxley Act.
    However, there continue to be important elements of our 
economy left, inappropriately in my opinion, outside the scope 
of the Sarbanes-Oxley required disclosures. These are the only 
two Fortune 500 corporations today exempted from these 
essential reforms. Why were they exempted? The answer is that 
they are too well run to worry about. They have set a standard 
of corporate governance to be emulated by others. And by the 
way, we want to make sure we don't throw anyone out of the 
opportunity of homeownership. They are, of course, the two 
housing GSEs.
    The events surrounding the fall of Enron are indeed 
unfortunate, particularly for the employees, but for anyone who 
had a financial stake in the corporation. However, if either of 
the nation's GSEs were to suffer a financial reversal of 
similar scale, the systemic consequences are difficult to 
comprehend.
    The Capital Markets Subcommittee is meeting today on this 
very important matter, but frankly as a result of events that 
are not of our own making. The announcement by Freddie Mac that 
their recent accounting practices did not properly reflect 
their operations is cause for significant concern. In fact, the 
initial restatement announcement was again amended just this 
morning, raising the total misreported income from the original 
estimate of $1 billion to $3 billion, now to in excess of $4 
billion. The revelation underscores the importance of what has 
been previously observed by many, and that is our current 
regulatory oversight is not adequate.
    To those who point out that this is an announcement of an 
increase in revenue, not losses, we should not miss the 
troubling point of this news if you were a shareholder of 
Freddie Mac. If you sold your interest in the company before 
the balancing adjustment was corrected, you were denied your 
fair distribution of company earnings by this unfortunate 
manipulation. I believe you will find adequate legal filings 
now on record to confirm this view.
    More importantly, the explanation given for the misstep is 
that the corporation did not have enough properly trained staff 
to oversee its complicated derivatives portfolio. Why were they 
exempted from Sarbanes-Oxley? I ask again. Where was the 
regulator during the 3 years this error was unreported? If 
Freddie did not have enough invested in staff to properly 
oversee these complex activities, how can anyone argue that 
OFHEO was properly supported for the same purpose?
    We should be more than just concerned. In fact, we should 
feel like any other corporate CEO in America whose oversight 
has been found lacking. These enterprises are our creation and 
clearly our responsibility Today, nothing stands between 
corporate losses and the American taxpayer except the 
regulators. We are the regulator of last resort.
    In spite of this circumstance, some may suggest that any 
examination of the GSEs will result in market instability and 
potentially throw unsuspecting victims out of the opportunity 
for homeownership. I have only one question to ask. How is that 
a now readjusted restatement figure, up from $3 billion to now 
in excess of $4 billion, over a 3-year period of operations, 
has not crippled corporate activity and the housing market 
generally? Is there any action this Congress could take that 
could possibly approach the significance of these revelations? 
When such disclosures were made by Enron, WorldCom and other 
corporate wrongdoers, the consequences were devastating to 
employees and shareholders alike. The value of corporations was 
decimated, and some executives are now in court defending their 
actions.
    What is even more troubling than the restatement at Freddie 
Mac is the realization that market observers looked past the 
corporate misstatements and directly into the taxpayers's 
pockets. There was no reason to be concerned as an investor 
about corporate misconduct, as long as the taxpayers were 
standing by ready to pick up the loss. This is, in my opinion, 
the most troubling aspect of all. What stands between corporate 
losses and the taxpayers's pocket is the regulator and not much 
else.
    Looking to the current structure, in fairness, the effort 
made by OFHEO has been significant in light of the resource 
limitations placed on them. If Fannie and Freddie were 
regulated the OCC and were commercial banks, they would be 
assessed by formula almost a $70 million charge for their 
regulatory purpose. We have fought difficult battles in the 
Congress to get OFHEO to a $30 million level. Either the OCC 
really has it wrong or OFHEO is dramatically underfunded. I 
think I know which it is.
    However, these problems have persisted for too long. It is 
no longer possible just to put a coat of paint on the walls at 
OFHEO and regain the respect of the marketplace. It is time to 
construct a new regulatory mechanism. It must be funded by 
assessment on the enterprises. It must have real authority to 
act on par with other financial regulators. It must be 
constructed to ensure independence and marketplace credibility.
    H.R. 2575 is built on these principles. I have not proposed 
any controversial modifications to the charters of either GSE. 
I have not suggested a repeal of the current line of credit to 
the U.S. Treasury. I have not included the Federal Home Loan 
Banks in the proposal. This is a narrowly drawn, carefully 
crafted resolution intended not to create political debate, but 
to effect real change.
    The legislation is carefully constructed to bring about 
only three goals. One is to ensure we have an independent 
regulator. Two is to ensure there is reasonable funding for the 
supervision. The third is to equip this regulator with all the 
necessary tools any other financial marketplace regulator 
utilizes. That is it. There should be no controversy over the 
legislation at all in light of the revelations over accounting 
irregularities. However, where there are identified concerns 
that can be supported by logical argument, I am certainly open 
to any constructive modification that gets us to the stated 
goals of this effort.
    Some may suggest an alternate location for the regulatory 
home. That is fine. Others may have some objection to a 
particular enforcement authority. We will examine it, but I 
cannot envision such disagreements resulting in a failure to 
act on the overall mission.
    To date, we have been fortunate in that no significant 
reversal in the housing market has occurred on our watch. But 
do not forget these enterprises exist as a result of 
congressional action that created them. They continue their 
favored market position with our concurrence. As long as there 
is profit to share, the market works well and shareholders are 
happy.
    The Congress is, however, directly responsible for their 
supervision and regulation. If we fail in this effort by 
failing to provide minimal resources for a competent regulatory 
structure, the fall could be disastrous. When a GSE fails, it 
will quickly fall through its limited capital, right through 
the shareholders, directly to the taxpayer. That is an outcome 
we cannot accept. H.R. 2575 is a modest step to give us some 
assurance we take all appropriate actions to prevent that from 
ever happening.
    I began my remarks this morning revisiting the events of 
June 15, 2002, the day Arthur Anderson was found guilty of 
obstruction of justice by a Texas court. Another historic event 
occurred just 24 hours earlier on June 14, 2002, not receiving 
near as much attention. An object known as 2002 NM passed 
within 75,000 miles of Earth, to be known in astronomical terms 
as a ``near miss.'' How close is that really? Well, the moon is 
about 137,000 miles away. So this object passed inside the 
orbit of the moon. As far as we know, this was the second 
closest near miss in human history.
    So what else is significant about this event? Well, how 
about this fact: Scientists on earth did not know about 2002 NM 
until three days after its passage. How is this possible in 
this world of scientific technological sophistication? The 
answer is simple. We don't have enough resources committed or 
enough people watching to assure against a clearly cataclysmic 
event from occurring.
    Now, I do not want to turn this hearing into a science and 
technology assessment, but the parallel is clear. Unless we act 
to enhance our supervisory capacity of the two housing GSEs 
that Congress has created, we may not see the next systemic 
event coming until it is too late. I sincerely hope that is not 
the committee's decision. Today, we will hear from four 
different individuals about their concerns and their 
recommendations for action this committee may consider. It is 
my hope the committee will find the adoption of H.R. 2575 as an 
appropriate next step in this most important responsibility.
    [The prepared statement of Hon. Richard H. Baker can be 
found on page 47 in the appendix.]
    Mr. Kanjorski, you are recognized.
    Mr. Kanjorski. Thank you, Mr. Chairman.
    Maybe as an aside, we should move through this and adjourn 
as quickly as possible so we can return to our families.
    [LAUGHTER]
    Mr. Chairman, our nation's system for housing finance is 
not only extremely successful, but it is also the envy of the 
world. Almost 68 percent of Americans own the homes in which 
they live. Government-sponsored enterprises have contributed 
greatly to this accomplishment.
    This success, however, should not stop us from asking 
whether or how we can do a better job with respect to 
regulating Fannie Mae and Freddie Mac. We should also examine 
ways by which we can improve regulatory efficiency and lower 
mortgage rates. The recent events at Freddie Mac related to its 
earnings restatement and its management changes have 
highlighted the need for continued examination of these 
matters.
    As you know, Mr. Chairman, I am also one of the few 
remaining members of the committee who participated in the 
entire congressional battle to resolve the savings and loan 
crisis. I am therefore acutely aware of the need to protect 
taxpayers from risk. It is in the public's interest that we 
ensure that Fannie Mae and Freddie Mac continue to operate 
safely and soundly. We must further ensure that these public-
private entities achieve their public responsibilities for 
advancing homeownership opportunities.
    We can best achieve these dual objectives by pursuing a 
three-pronged supervisory approach that includes regular 
congressional oversight of, sustained effective government 
regulation over, and increased market discipline for the two 
GSEs. Through our extensive studies and hearings over the last 
40 months, we are fulfilling our obligation in the Congress to 
conduct regular oversight of the GSEs.
    Although we have not reached consensus on legislative 
reform during the last dozen hearings on GSE regulation, I do 
believe we have reached agreement on at least several key 
points. First, we have agreed that we have the world's most 
successful housing finance system and gained an appreciation 
for the important role that the GSEs play in the system. 
Secondly, we have agreed that Fannie Mae and Freddie Mac have 
grown significantly in recent years. Finally, we have agreed 
that we must have strong regulators for the housing GSEs.
    As I said at our very first hearing on GSE regulation in 
March 2000, ``We need to have strong, independent regulators 
that have the resources they need to get the job done.'' I 
continue to support strong GSE regulation. A strong regulator, 
in my view, will protect the continued viability of our capital 
markets, ensure against systemic risk, and expand housing 
opportunities for all Americans.
    To ensure that we have strong GSE regulation, I believe 
that any legislative reforms considered by the Congress in the 
future should adhere to at least five key principles. First, in 
order to conduct robust supervision, a strong regulator must 
have a funding stream separate and apart from the annual 
appropriations process. Second, a strong regulator must have a 
single leader for a set term with sole responsibility for 
making decisions. Third, a strong regulator must be independent 
and free from political interference. Fourth, a strong 
regulator must focus like a laser exclusively on GSE issues. 
And fifth, a strong regulator must have enhanced supervisory 
and enforcement powers similar to those of other federal 
regulators for financial institutions.
    The primary goal of today's hearing is to advance our 
examination of what structural changes might be necessary at 
the Office of Federal Housing Enterprise Oversight or the 
Department of Housing and Urban Development to ensure 
comprehensive and complete oversight of Fannie Mae and Freddie 
Mac. Today, we will hear primarily from one side of the debate: 
those who have often been critical of the GSEs and their 
regulators. In fact, many of our witnesses have already called 
on the Congress to reform GSE regulation, alter their statutory 
structure, or disband these entities entirely.
    Nonetheless, as we proceed in the future, it is my hope 
that we will develop a balanced, deliberate and bipartisan plan 
of action for addressing GSE matters. In other words, we should 
move judiciously and objectively in conducting our oversight 
responsibilities. We also should understand the facts behind 
the current and recent events at Freddie Mac before considering 
any legislation.
    Moreover, we should not once again upset the securities 
markets. On at least one occasion, our committee's actions have 
unfortunately discouraged investors and raised homeownership 
costs. As we proceed today, we must renew our efforts to ensure 
that we do not repeat that mistake.
    In closing, Mr. Chairman, I commend you for your continued 
leadership on these issues. I will continue to work with you to 
conduct effective oversight over the housing government 
sponsored enterprises and to ensure that we maintain an 
appropriate and sufficiently strong supervisory system over 
them.
    [The prepared statement of Hon. Paul E. Kanjorski can be 
found on page 54 in the appendix.]
    Chairman Baker. I thank the gentleman.
    Mr. Ose?
    Mr. Ose. Thank you, Mr. Chairman.
    I would like to thank you also for your continued hard work 
on this issue and for holding this hearing today. You obviously 
are dedicated to a strong financial market, to disclosure and 
accountability, and both the membership and the country is 
well-served by that. Mr. Chairman, recent actions at Freddie 
Mac have led many in the public and on the Hill to take a 
closer look at how government-backed institutions are 
regulated. Specifically, many are asking if greater disclosure 
and accountability requirements are necessary. This is a 
serious question and one that we must examine very carefully.
    Of particular concern is whether or not the current 
agencies with oversight authority have the ability, authority 
and personnel to properly regulate this vital industry. Let us 
look at just one part of such authority and the questions that 
it raised in recent weeks, the authority of the Office of 
Federal and Housing Enterprise Oversight, OFHEO, to oversee 
executive compensation at the GSEs.
    When the accounting irregularities led Freddie to review 
its past actions here recently, the board at Freddie apparently 
was upset enough at executive actions to fire one senior 
executive and to ask two others to resign. However, these three 
individuals were still eligible for extremely generous 
compensation packages and stock bonuses. OFHEO reported said 
these would not be paid out until an investigation was carried 
out. You and I wrote OFHEO asking what authority they had to 
freeze such payments and whether their orders were being 
carried out. To date, there is still conflicting information on 
this question. I hope we will get clear answers soon.
    Perhaps part of the trouble is that OFHEO is not home to 
the experts on financial services matters. The Department of 
Housing and Urban Development does many praiseworthy things, 
but it is just not experienced as regulating a financial 
market. I am pleased to join with you in offering the 
legislation, H.R. 2575, to move the oversight authority to the 
Department of Treasury, where there is a greater depth of 
experience on financial oversight and a far greater likelihood 
of proper oversight.
    Mr. Chairman, I would like to thank you for taking a closer 
look at this industry. Liquidity and soundness in the housing 
marketplace is crucial. So is accountability. I look forward to 
hearing from our panel today and I look forward to the hearings 
on this matter in the future.
    Chairman Baker. Thank you, Mr. Ose.
    Mr. Scott?
    Mr. Scott. Thank you very much, Chairman Baker, Ranking 
Member Kanjorski.
    I certainly want to concur with my colleague and commend 
you, Chairman Baker, for your insight and your knowledge on 
this issue and this industry. I certainly look forward to 
working with you as we develop legislation that will certainly 
address this problem.
    As I have said before in this committee, no program is so 
good that it should not be reviewed. The public's confidence in 
our financial institutions is paramount to this country and the 
welfare of our economic system. Our nation is staggering under 
scandal after scandal of accounting practices of some of our 
most revered and large and impactful financial and economic 
institutions. It is especially important that Freddie Mac and 
Fannie Mae have meaningful oversight of their safety and 
soundness because of the implicit guarantee that the United 
States treasury will intervene, rather than let them fail.
    Over the last 10 years, the housing GSEs have had their 
obligations rise from $1 trillion to $3.2 trillion. With this 
increase in credit risk and the recent accounting problems that 
Freddie Mac had with Arthur Anderson, Congress should ask 
questions and we will ask questions, and we get some answers. A 
financial crisis at either company could shake our entire 
domestic economy.
    With that said, I believe that we must keep oversight 
focused on what is best for the consumers and the marketplace. 
Freddie and Fannie do serve important roles in housing markets, 
especially when they focus on their core missions such as 
increasing minority homeownership. From 1998 to 2002, African 
American homeownership rates rose from 45.6 percent to 47.3 
percent, compared with the overall national average increase 
from 66.3 percent to 67.9 percent. With interest rates at 
historical lows, I believe that we must push even harder to 
help increase minority homeownership rates.
    Freddie Mac and Fannie Mae have brought stability to the 
housing market. I believe that when they focus on their 
congressionally mandated mission, they provide a vital tool for 
market stabilization. That is one reason why I hope that Fannie 
Mae will reach a reasonable agreement with the manufactured 
housing industry to provide 30-year home mortgages.
    There are some very serious questions that we need to raise 
this morning and get some answers to. For example, in the 
Monday New York Times, there was an article that questioned 
Fannie Mae's financial reporting. The article stated that a big 
loss last year was obscured by accounting complexities. I think 
we need to figure out if Fannie Mae's accounting practices show 
the true net value of assets. And for the Office of Federal 
Housing Enterprise Oversight or OFHEO, we need to question if 
with just 140 full-time staffers and an operating budget of $30 
million, is OFHEO up to the task of regulating Fannie and 
Freddie? Because in fact, they are monitoring the fiscal health 
of two companies that together own or back nearly half of this 
nation's residential mortgage debt.
    Also, we need to ask the question, is it fair to judge 
Fannie Mae based upon Freddie Mac's missteps. And if Freddie 
Mac only understated their earnings, then why did they fire 
their CEO and then let their President and CFO leave? Serious 
questions that the American people are looking to get serious 
answers from.
    So I look forward to joining with you, Chairman Baker. I 
commend you for taking the leadership on this and I look 
forward to working with you as we put forth a fair and balanced 
piece of legislation to address this issue.
    Chairman Baker. I thank the gentleman for his fine 
statement.
    Mr. Ney?
    Mr. Ney. Thank you, Mr. Chairman. First, Mr. Chairman, I 
want to thank you for your hearings. You have shown strong 
leadership over the past years on the issue of GSEs. As we all 
know, the events of the past few weeks have made it clear that 
this committee will closely examine the regulatory structure 
for government-sponsored enterprises. These companies have been 
a vital part of promoting homeownership and bolstering the 
housing market over the past few years in particular. We all 
know during the tough economic times in the past three years 
one of the few bright spots has actually been the housing 
market itself. Because of the liquidity they provide, Fannie 
Mae and Freddie Mac have been an integral part of the vibrant 
housing market to have supported what I would call a fragile 
economy.
    However, their importance to the housing market stresses 
why it is so vital that we have a sound regulatory regime for 
the GSEs. Fannie Mae and Freddie Mac have been at the forefront 
of disclosure, having taken steps that go above and beyond what 
most companies would provide. This year they took additional 
steps and met the requirements of the joint Treasury-SEC-OFHEO 
mortgage-backed security disclosure study. I just point that 
out because since Sarbanes-Oxley amends the 1934 SEC Act, it 
applies to SEC registrants, defined as issuers. Fannie Mae and 
Freddie Mac both agreed to register their equity securities 
under the 1934 Act. Therefore, when Fannie Mae filed their Form 
10 and 10(k) with the SEC on March 31, 2003, they became a 
full, irrevocable registrant under the SEC as I would 
understand it, and as such are fully bound by provisions within 
Sarbanes-Oxley.
    However, today's nearing obviously will go towards the 
problems that have erupted and will have to go towards OFHEO, 
obviously, and what has been brought into question rightfully 
so is the effectiveness of OFHEO as a regulator for the GSEs. 
Fannie Mae and Freddie Mac are too important to our nation's 
housing market to allow a lack of confidence to develop in 
their regulation. That is why we have to diligently, but 
cautiously, pursue regulatory reform. These companies have been 
leaders in safety and soundness and we have to ensure that 
investors continue to have faith in that fact.
    That is why I want to again commend Chairman Baker for this 
hearing. That is why I believe that we are all here today to 
endorse taking strong steps to guarantee that the housing GSEs 
have a strong regulator. I think many of us also agree that we 
must work with the Treasury Department and the administration 
to ensure that any change to the GSE regulatory structure be 
done in a way that preserves the companies' roles as GSEs in a 
way that strengthens the effectiveness of the safety and 
soundness regulation without foiling the financial markets. So 
this committee is going to have to have a balance in the need 
for strong GSE regulation with the need to be sensitive to the 
housing markets.
    I was joking with my good friend Sherry Boehlert, the 
Chairman of the Science Committee the other day when this first 
was all announced. Everybody was scrambling for a hearing in 
the Congress. I told Sherry since Freddie Mac uses electricity 
in their building he as the Science Committee maybe he ought to 
have a hearing on Freddie Mac. I think that this is the perfect 
venue here for the hearings and I want to just point out that 
if there is wrongdoing, it has to be gone after. We cannot 
tolerate that.
    If there is slippage in the regulatory scheme, we have to 
correct it. I want to echo the comments of my colleague, Mr. 
Kanjorski, I think we have to do it also in a balanced way so 
that we in fact to not affect the markets and hurt a lot of 
innocent people. There is a difference with Enron where it 
imploded and 15,000 people weren't around to be saved. In this 
case, we need to do the right thing in the regulatory 
mechanism. We also need to do the right thing in the markets in 
fairness to all Americans.
    Thank you.
    Chairman Baker. I thank the gentleman.
    Mr. Miller?
    Mr. Miller of North Carolina. Thank you, Mr. Chairman.
    The opening statements today have sounded in some cases 
more like opening jury arguments than they have like opening 
statements. I join with Mr. Kanjorski in pointing to the 
remarkable success it is for our country, for our nation that 
we have the kind of widespread homeownership that we have. We 
certainly need to extend it more broadly. We need, as Mr. Scott 
points out, higher homeownership among African Americans and 
others. But the extent of homeownership by the middle class in 
this country is a remarkable success, and these institutions, 
these government-sponsored enterprises, have played a huge role 
in that. Homeownership is how the middle class develops wealth. 
It is how they save for their children's college educations; 
how they save for retirement. It is a great asset.
    The housing market in this country in the last few years 
has been one of the few bright spots in a very bad economy, a 
lot of which has been driven by the available capital for 
housing and for homeownership. We certainly do need to pay 
close attention to these institutions. We need to make sure 
they are solvent and they are sound. But I have learned in my 
brief service on this committee that accounting is in fact 
surprisingly imprecise. It is not terribly surprising that with 
interest rates dropping precipitously as they have in the last 
couple of years, that there would be some imprecision in the 
accounting treatment of these two government GSEs given the 
nature of their business.
    So before I prosecute someone or convict them, I would like 
to identify exactly what the problem was, whether there was 
anything that merits being compared to Enron or Arthur 
Anderson, and I certainly want to make sure that we do not 
choke off the supply of capital that has gone into making 
homeownership possible for the middle class.
    Thank you, Mr. Chairman.
    Chairman Baker. I thank the gentleman for his statement.
    Chairman Oxley?
    Mr. Oxley. Thank you, Mr. Chairman. I want to thank you for 
convening this important hearing on the oversight of the GSEs. 
The recent management reorganization of Freddie Mac should give 
us all pause to assess how well the operations of these GSEs 
are being monitored by OFHEO.
    Freddie Mac and Fannie Mae account for billions of dollars 
in mortgage-backed securities which are widely held by pension 
funds, mutual funds and individual investors. Given the 
complexity of these institutions and their importance to the 
secondary mortgage market, it is critical that their regulator 
be capable of exercising rigorous oversight to ensure their 
safety and soundness. Over the past six months, as Freddie Mac 
first announced that it would restate its earnings and then 
dismissed its three top officers, OFHEO has appeared to be 
habitually slow to act and unable to predict these crises.
    Chairman Baker has been tireless in his review of the 
issues surrounding the GSEs and was instrumental in the 
agreement by both Freddie Mac and Fannie Mae to voluntarily 
register their securities with the SEC. This voluntary 
registration will lead to more transparency in the operations 
of the GSEs, which will make for a more efficient and better-
informed marketplace.
    The U.S. housing market has remained strong through 
difficult economic times and is the most sophisticated in the 
world. This is largely due to the liquidity provided through 
the secondary mortgage market in which Freddie and Fannie are 
the key players.
    I look forward to hearing from our distinguished panel. 
Their insights as third party observers will be critical to our 
consideration of this issue and future actions this committee 
may take.
    I yield back the balance of my time.
    [The prepared statement of Hon. Michael G. Oxley can be 
found on page 46 in the appendix.]
    Chairman Baker. I want to express my appreciation to the 
Chairman for his participation here today and also to 
acknowledge that it has been with his leadership and counsel 
that we have moved to this point in the process, and recognize 
that this issue is obviously controversial and difficult, and I 
certainly appreciate his willingness to be a strong leader in 
the effort as well.
    Mr. Meeks?
    Mr. Meeks. Thank you, Mr. Chairman.
    Mr. Chairman, considering the recent events of the past two 
years regarding the validity of various companies' financial 
statements and the related fraud committed by the management of 
Enron to WorldCom, it is my understanding that Congress would 
want to take a careful look at its GSEs that are so critical to 
the homeownership market in this country.
    Upon hearing about the removal of Freddie Mac's top brass 
and the accuracy of their financial statement was in question, 
all of us who have this primary responsibility for safeguarding 
the country's financial system had to have concern about the 
extent of the problem and be prepared for the necessary 
committee action.
    However, I counsel prudence in taking legislative action 
based on the initial reports. All indications thus far are that 
the GSEs are still two of the best capitalized and financially 
solvent financial services companies in America. They have met 
OFHEO's risk-based capital standards and met their cooperative 
agreements for transparency. Once Freddie Mac registers its 
common stock, something Fannie Mae has already done, they will 
have completed another step in complying with additional calls 
for transparency.
    There are individuals who believe that GSEs need a stronger 
financial regulator. There are others who are seeking greater 
regulatory control over their products and programs. Perhaps 
those concerns have some validity that needs further 
exploration. But let me tell you about my concerns. My concerns 
are that GSEs continue to help Americans achieve the highest 
homeownership rate we have ever experienced. I am concerned 
with GSEs's continuing to close the gap in minority and non-
minority homeownership rates. My concerns are with the GSEs's 
continuing to make homeownership more affordable to low-and 
moderate-income individuals in America.
    Of course, safety and soundness must be our primary concern 
as legislators. But we cannot let a rush to judgment lead us 
down the path of unintended consequences. The role of GSEs is 
too critical to our economy to have their mission interrupted. 
We must not throw the baby out with the bathwater and we must 
make sure that we keep and strengthen these institutions.
    I yield back the balance of my time.
    Chairman Baker. I thank the gentleman for his statement.
    Mr. Green?
    Mr. Green. Thank you, Mr. Chairman.
    I will be brief. I don't want the opening statements to 
overtake the testimony. I want to associate myself with your 
remarks in particular, and that of my colleague, the Chairman 
of the Housing Subcommittee, Congressman Ney. Look, Fannie Mae 
and Freddie Mac are a vital part of our housing finance system. 
I think we understand that. I think we also understand that 
nothing that we undertake here today or talk about here today 
is discussed in a vacuum. There are observers and there will be 
reactions. We must tread carefully because of the sensitivity 
to the potential responses by housing market observers.
    On the other hand, I believe tread we must. People may not 
fully understand the role of Fannie and Freddie in our economy 
and the housing finance system. More importantly, they will 
never understand why we failed to take action when we could 
when we learned that there are in fact changes that need to be 
undertaken. So while we do need to tread carefully, again I 
think we have no choice but to take certain steps and tread we 
must.
    With that, I yield back, Mr. Chairman.
    Chairman Baker. I thank the gentleman.
    Ms. Maloney, by unanimous consent, not a member of the 
committee, but who would like to make a statement. Without 
objection, she is recognized.
    Mrs. Maloney. Thank you, Mr. Chairman. I request permission 
to put my comments in whole in the record, but to summarize it, 
I thank you for your leadership and would like permission to 
put in the record the lead article today in the American 
Banker, which outlines the work of this important committee.
    [The following information can be found on page 104 in the 
appendix.]
    I would just like to say that oversight of the GSEs is one 
of the most important issues the Financial Services Committee 
presides over. These institutions are pillars of our housing 
system and millions of our constituents benefit from the 
liquidity they provide our lending institutions.
    At the same time, the recent events at Freddie Mac are 
deeply troubling. While the company's new leadership is trying 
to repair the damage, the reality of the accounting and 
corporate governance shortcomings that occurred at the company 
are unsettling given the size of the institution.
    I joined this committee just as our country was emerging 
from the S&L crisis. My first vote was a huge bailout of these 
institutions. Because of this experience, I regard 
congressional oversight of the safety and soundness of the 
financial services industry as really our most important 
responsibility. In this regard, I have long supported efforts 
to provide more resources to the Office of Federal Housing 
Enterprise and Oversight and I joined the Chairman last year, 
along with Representative Bentsen and Kanjorski, in legislation 
that would have removed the agency from the appropriations 
process, thereby making it more independent.
    I want to note that OFHEO took very, very long to come 
forward with its risk-based capital rule, but despite these 
shortcoming in OFHEO's history, I do believe in taking a 
deliberative and thorough approach to legislating major changes 
to our nation's housing markets. I understand the Chairman is 
coming forward with a total change to this, but I have not had 
a chance to look at that legislation. Before acting, we need to 
know exactly what happened at Freddie Mac and whether it 
represents a one-time occurrence or a systemic problem.
    The U.S. mortgage market is the best in the world, as we 
all know, and in the current low interest rate environment 
mortgages are being refinanced at a record rate that would be 
impossible without automation from national laws like the FCRA 
and our incredibly successful mortgage finance system. The 
Washington Post detailed the impact that the ability to 
refinance so easily is having on our economy in a June 8 
article. I request permission to put this article in the 
record. I just want to note that it pointed out that since 
2001, banks have processed more than 27 million mortgage 
refinances by the end of this year, and in total since 2001 
refinancing will have delivered about $300 billion directly to 
consumers who will have more money to spend and pump up the 
economy. That is in comparison to the $263 billion that the 
Bush tax cuts of 2001 and 2003 will have put into the economy 
by year's end. So I thank the Chairman for his oversight, for 
calling this hearing, and really for his leadership. I look 
forward to working with him to make sure that our housing 
system remains preeminent in the world. I thank him.
    Chairman Baker. I thank the gentlelady for her statement. 
Her statement, of course, and all ancillary materials 
referenced will be included in the record without objection.
    [The prepared statement of Hon. Carolyn B. Maloney can be 
found on page 56 in the appendix.]
    Mr. Bachus?
    Mr. Bachus. First of all, Mr. Chairman, I want to thank you 
for this legislation. I think it is a measured approach, and 
for your approach to these hearings. We are going to 
investigate the matters.
    There has been absolutely no suggestion by anyone that 
Fannie and Freddie are not sound financially. What has been 
suggested, and I think recent events have borne out, and that 
is that OFHEO has failed to be the regulator that they needed 
to be. Your approach has been to shift regulatory oversight to 
the Treasury Department. That has been suggested for some years 
as the best approach. The Department of Treasury has years of 
financial regulatory experience and has proven to be up to the 
task.
    Other than what the others have testified, I would simply 
add is evidence that we do need to transfer oversight and 
regulation to the Department of Treasury. The budget for OFHEO 
last year was $27 million. Despite this, in their latest report 
to Congress, OFHEO certified that Freddie Mac's audit functions 
were independent and effective. So obviously they failed to do 
their job.
    Now, it could be that they simply did not have the 
authority that the Treasury has, but your bill takes care of 
that by transferring it to Treasury and then OTS, and giving 
the regulator of Fannie and Freddie the same authorities as 
your other bank regulators have. So for whatever reason, it may 
have simply been that they did not have sufficient authority in 
their regulation.
    One thing that I do want to express some reservation about, 
and I have discussed this with you, is the part of the 
legislation with regard to HUD's new program authority. I do 
not want to stifle innovation in the marketplace by micro-
managing these new product issues. I think we ought to take a 
very careful look at that. But other than that, I think you 
have a good bill and I look forward to working with you.
    Chairman Baker. I thank the gentleman for his kind remarks 
and his cosponsorship of the measure as well.
    At this time, the Ranking Member of the full committee, Mr. 
Frank.
    Mr. Frank. Thank you, Mr. Chairman.
    I want to apologize, first, because this committee has a 
bill on the floor which I will be managing. It is very 
important bill. It will be up this morning on suspension, to 
provide a gold medal to Tony Blair and I guess payback his 
legitimate part of things. So I will be temporarily absent 
while I preside over that important piece of legislation.
    I just want to say that I am glad to hear members talking I 
think in very thoughtful terms. We are not talking about a 
crisis that is comparable to those that affected some of the 
major corporations. We have a general agreement that the 
important function of easing housing finance at the two big 
companies involved here is important to protect. I think it is 
very legitimate for us to look at what went wrong here and 
what, if anything, we could do legislatively to stop it. But I 
would include in this that this is an issue it seems to me not 
simply of Freddie Mac, but also of accounting.
    I had not, I must say, prior to becoming the ranking 
member, paid as much attention to the accounting industry as my 
duties now require me to. I think part of the question now is I 
think to a good part of America, the issue is whether 
accounting more resembles astrology or alchemy in the way in 
which it is practiced. As we deal with the question of what is 
the appropriate structure for the GSEs, I think this is a 
reminder that we also need to look further in to the question 
of how we regulate the accounting industry because some of 
these issues are not just GSE-specific, but they are generic to 
the question of accounting.
    That also includes, and I hate to say this because I cannot 
think of anything that would be less fun for us, but 
derivatives also is something we have to look into. I say that 
with all the enthusiasm of being told that we have to go back 
to trigonometry and take a test in it. But it does seem to me 
that, as I said, some of this is possibly GSE-specific, but 
much of it deals with generic accounting issues and derivative 
issues and I think these need to be on the agenda.
    Thank you, Mr. Chairman.
    Chairman Baker. I thank the gentleman for his remarks.
    Mr. Gary Miller?
    Mr. Gary G. Miller of California. Thank you, Mr. Chairman.
    I applaud you for holding this hearing today and the 
approach you have taken on this issue has been very 
deliberative and reasonable. We all know that home equity 
appreciation is one of the most important drivers of wealth 
creation in the United States. By helping people become 
homeowners, we promote long-term economic stability for our 
nation.
    Congress must continue its goal of helping millions of 
Americans to achieve the dream of homeownership by ensuring 
that Americans have access to mortgage funds at the lowest 
cost. Fannie Mae and Freddie Mac were chartered by Congress in 
1970 to provide stability and ongoing assistance to the 
secondary market for residential mortgages and to promote 
access to mortgage credit and homeownership in the United 
States. It is imperative and important to ensure the safety and 
soundness of the secondary mortgage market.
    The question of impropriety that has surfaced as a result 
of the revelation of accounting irregularities at Freddie Mac 
could be devastating to the strong housing market. We must 
examine whether OFHEO is truly up to the task of regulating 
Freddie and Fannie. It is our responsibility to examine the 
situation and understand how Freddie Mac's regulators could 
have released an annual report that the audit functions at 
Freddie Mac were effective and that the internal-external audit 
functions had the appropriate independence necessary. This was 
a mere three days before Freddie Mac's announcement that its 
top three executives were being ousted because of accounting 
irregularities.
    As we proceed with our examination, we must be cautious and 
deliberative. Chairman Baker has proposed creating a new safety 
and soundness regulator in the Treasury Department with 
independent funding, reasonable enforcement authority, and 
sufficient standing to provide Congress and the investigators a 
clear and accurate financial assessment of GSEs. We must be 
mindful that our ultimate goal is to expand the supply of 
affordable mortgage credit in order to stimulate the production 
of affordable housing. As we move forward, we must be sure we 
completely understand the implications of changes in the 
regulatory structure in meeting this important goal.
    In California, we have had some very difficult economic 
times and the housing industry has really kept California 
afloat, and this is a tremendously important issue for 
California.
    I yield back, Mr. Chairman.
    Chairman Baker. I thank the gentleman.
    At this time, I don't know that there are other members on 
the Democrat side to be recognized.
    Let me ask it this way, are there others wishing to make an 
opening statement at this time?
    Mr. Crowley. Mr. Chairman?
    Chairman Baker. Mr. Crowley?
    Mr. Crowley. Thank you. Mr. Chairman, I want to express my 
pleasure in your holding these hearings and at the same time 
express some concerns about what I believe may be too broad an 
approach when we are examining these issues. There is no 
question that the troubles of Freddie are troubles we on both 
sides of the aisle are concerned about. We know that Fannie Mae 
right now registers with the SEC so its corporate documents can 
be disclosed to the public and investors.
    What I really question is why we are focusing on all the 
GSEs when not all of them have problems. In fact, Fannie has 
received clean financial reports. It is as if we looked at 
Coca-Cola and saw that they had problems in their accounting 
and then also looked at Pepsico; or if we go a little further, 
examining Halliburton after the failure of Enron. I do want to 
recognize that both these entities, as mentioned on the other 
side, are sound institutions and have historically provided 
great opportunities for Americans. I just don't want to see, 
and I don't think this committee will do that, Mr. Chairman, 
with your leadership, a degradation of these two institutions. 
With that, I yield back.
    Chairman Baker. I thank the gentleman.
    Mr. Royce, did you have an opening statement?
    Mr. Royce. Thank you, Mr. Chairman.
    I want to thank you for holding this hearing. I would like 
to commend you for your unwavering commitment to the topic of 
GSE regulatory reform. I also greatly look forward to hearing 
from our witnesses today to see what they have to say to 
contribute on this ongoing discussion.
    Government-sponsored enterprises have really focused on 
homeownership and have been around since 1934. Since that time, 
they have played an important role in developing the secondary 
mortgage market in the United States. Fannie Mae and Freddie 
Mac buy mortgages from originators in order to provide 
liquidity in the market. The Federal Home Loan Bank system 
provides advances to banks and thrifts so that those 
organizations can offer mortgage products to their customers.
    Like the rest of corporate America, the GSEs have developed 
comprehensive business models to achieve their mission and to 
get results for their shareholders. As a result, the housing 
GSEs have become three of the most sophisticated financial 
institutions in the world. In total, the three GSEs have over 
$2 trillion in debt and a derivative portfolio with a total of 
$1.9 trillion. As a result of their evolving business models, 
the three housing GSEs now must protect their balance sheet not 
only from credit risk, but also from interest rate risk.
    With these facts in mind, I think that it is crucial that 
these organizations are subject to competent regulation. I 
regret to say that I do not have enough confidence in the 
Office of Federal Housing Enterprise Oversight which regulates 
Fannie Mae and Freddie Mac, or in the Federal Housing Finance 
Board which regulates the Federal Home Loan Bank system.
    I believe that we need to fold these two regulatory bodies 
into a new agency under the umbrella of the Treasury 
Department. In my view, such a regulatory institution will have 
better direction through its association with the Treasury and 
its sister regulators, the OCC and the OTS. The new regulator 
will also have the ability to achieve best practices of 
regulation because it will have a broader scope than either 
OFHEO or the FHFB has today, and it will be focused on 
protecting the taxpayer from like-types of systemic risk.
    I think that it is important for this committee to act on 
this matter through perception and reality or both. All three 
housing GSEs are inadequately regulated. I look forward to 
working with my colleagues to create a new, more effective 
regulatory structure for Fannie Mae, Freddie Mac and the 
Federal Home Loan Bank system.
    I would like to thank our witnesses here today and would 
once again like to thank Chairman Baker for his longstanding 
interest in this issue.
    I yield back the balance of my time.
    [The prepared statement of Hon. Edward R. Royce can be 
found on page 58 in the appendix.]
    Chairman Baker. I thank the gentleman for his remarks.
    Ms. Harris?
    Ms. Harris. Thank you, Mr. Chairman.
    I want to express my appreciation for your willingness to 
conduct these hearings on the oversight of the government-
sponsored enterprises. This morning we will consider the 
oversight body of Fannie Mae and Freddie Mac, focusing upon the 
structural changes that may be necessary to improve the 
oversight of these two GSEs.
    As this committee examines the proposed reforms, we must 
recognize the vital role that both Fannie Mae and Freddie Mac 
play in maintaining the health of our nation's housing 
industry. The housing industry serves as the backbone of our 
American economy, having enjoyed vibrant growth and economic 
prosperity while other sectors of our economy have struggled 
recently. In particular, I believe we must remain aware of the 
impact that additional hearings or legislation could have upon 
the housing industry and global markets. Our actions could 
provoke unintended consequences in the market for mortgage-
backed securities.
    Recent events have prompted multiple agencies to 
investigate the accounting operations of Freddie Mac. I hope 
these investigations will produce findings that can help us 
frame the legislation that will alleviate the concerns that 
these events have created, while preserving those positive 
contributions that Freddie Mac has made to the housing 
industry.
    I wish to thank the individuals who are here today on our 
panel for their insights regarding the oversight of Fannie Mae 
and Freddie Mac, and moreover I look forward to a healthy 
debate regarding this critical matter.
    Thank you, Mr. Chairman.
    Chairman Baker. I thank the gentlelady.
    Mr. Shays?
    Mr. Shays. Thank you, Mr. Chairman.
    Mr. Chairman, I would like to submit a written statement, 
but just say that we are looking at two fine companies in 
Fannie Mae and Freddie Mac, the second and fourth largest 
financial institutions on the New York Stock Exchange. Fannie 
is under the 20th largest company; Freddie the largest under 
40th. I mean, these are huge and important companies. But it 
blows me away that they are not by law under the 1933 and 1934 
Securities Acts. When we dealt with Enron and WorldCom, all 
those reforms did not apply to them because they were under the 
SEC requirements and they were not part of it. It blows me away 
they pay no federal and state taxes. They are not under the 
privacy laws, state consumer laws, truth-in-lending laws. I am 
amazed that they are under a regulator that has half the 
resources, and I feel quite candidly that they tell the 
regulator what to do, not vice versa. I am hoping that your 
legislation will move forward. We will have a stronger 
regulator. It will be under the Treasury Department. I hope 
they will have greater powers and will treat this on a level 
playing field.
    I do not fault Fannie and Freddie for not wanting to have 
to play by the rules that everyone else plays by, but I do 
fault Congress for not addressing this issue. I am grateful 
that we are beginning to.
    Chairman Baker. I thank the gentleman for his statement.
    [The prepared statement of Hon. Christopher Shays can be 
found on page 59 in the appendix.]
    If there are no members desiring to make any further 
statements, at this time I would like to recognize our first 
witness. Welcome to each of our panelists this morning for your 
endurance.
    Our first witness is Mr. Sean Egan, Managing Director of 
Egan-Jones Rating Co. Welcome, sir.
    Let me quickly add, all statements will be made part of the 
official record. To the extent possible, if you can constrain 
your remarks to five minutes, it will enable the committee to 
engage in more thorough questioning. We appreciate your 
participation.
    Welcome, Mr. Egan.

   STATEMENT OF SEAN J. EGAN, MANAGING DIRECTOR, EGAN-JONES 
                          RATINGS CO.

    Mr. Egan. Thank you.
    Chairman Baker, members of the subcommittee, good morning. 
I am Sean Egan, Managing Director of Egan-Jones Ratings 
Company, a credit rating firm. By way of background, I am the 
Co-founder of Egan-Jones, which was established to provide 
timely accurate ratings to institutional investors.
    Our business model differs significantly from other rating 
agencies in that we are not paid by issuers of debt, which we 
view as a conflict of interest. Instead, we are paid by 
approximately 300 firms consisting mainly of institutional 
investors and broker-dealers. Unlike the major rating firms, we 
provide early warning to investors on major debacles such as 
Enron, WorldCom, Global Crossing, Genuity and ABB. We are based 
in the Philadelphia, Pennsylvania area, although we have 
employees that operate from other offices.
    The three areas I would like to briefly address today are 
the GSEs's current status, their development, and our proposed 
reforms.
    Regarding their current status, Fannie Mae and Freddie Mac, 
collectively the GSEs, started life under the protection of the 
federal government and were given a line of credit from the 
U.S. Treasury. When they were small, the $2.5 billion line of 
credit was adequate. However, as they have grown, that line has 
become inadequate. I direct everyone's attention to the chart 
that we have on the first page of my written testimony. That is 
a list of the asset base of Fannie Mae and Freddie Mac. If you 
look at the asset base, as of the year 2000, they had $675 
billion in total assets. That is the first line. It grew in 
2001 to approximately $800 billion and in 2002, to $877 
billion.
    The next line is shareholders equity. It is interesting. It 
went from basically $21 billion down to $16.3 billion. They 
reported profits last year. I don't think they paid out $2 
billion in common stock dividends, so it is still a mystery how 
they went from $18 billion to $16 billion, but they did it. The 
more telling figure is equity divided by assets. In the year 
2000, it is 3.1 percent. It dropped down to 1.9 percent in the 
year 2002.
    Freddie Mac, interestingly, its equity to assets looks 
fairly reasonable. However, we are always skeptical of some of 
these accounting results. It is very easy with derivatives, to 
manipulate the valuation of derivatives. Keep in mind that the 
GSEs are providing a lot of liquidity for these derivatives to 
bolster the earnings and capital account.
    What we take away from these two charts is that 1.9 percent 
equity to assets and the 3 percent is really just a sliver. It 
is a sliver of capital for institutions that have huge 
positions.
    Let me move on. As the GSEs grew, they were not able to 
grow their capital base sufficiently to keep pace with the 
rapid asset growth. What used to be high leverage has become 
excessive leverage. Below is a comparison of the GSEs's current 
ratios to other firms' ratios. It is difficult to find perfect 
comparables to the GSEs. They are unique institutions in some 
regards, but there are some that at least provide some 
guidance. You see in the second chart on page two, Countrywide 
Financial which is rated by Moody's A3, by S&P an A. You see 
the total debt-to-capital is 89 percent. It means that they 
have roughly 10 percent capital. That compares to Fannie Mae's 
less than 2 percent capital. It just means that there is a big 
difference, but yet they are given a AAA rating.
    Let me move down. Egan-Jones currently rates Fannie Mae at 
A+, which is approximately four notches below S&P and Moody's 
AAA ratings. Egan-Jones uses the same rating categories as S&P 
in the investment-grade segment.
    Attached is a history of our ratings and below our comments 
from a June 10, 2003 report on Fannie Mae. This is quoting from 
the report. ``Far from a AAA, Fannie Mae is not fully backed by 
the U.S. and only has a sliver of equity. The general rule for 
banks is to maintain equity at 8 percent of assets. Fannie Mae 
has only 1.96 percent. Also, Fannie Mae has greater volatility 
than some banks because of its business focus and absence of 
loan prepayment penalties.'' In other words, if you borrowed 
from a bank and if you want to prepay that bank loan, you have 
to pay a penalty because a bank normally is match-funded with 
liabilities so they don't have to worry about prepayment. In 
the case of Fannie Mae and Freddie Mac, they don't have that.
    Although Fannie Mae claims that it is hedged, there are few 
perfect hedges. Keep in mind, they are one of the biggest 
hedging institutions probably in the world. Most traders say 
there are very few perfect hedges. That applies here. Still 
unresolved is the support Fannie Mae will get from the federal 
government if it gets into trouble. Fannie Mae's prospectuses 
state that the federal government is under no obligation to 
support Fannie Mae, but most investors assume it will, probably 
up to only $2 billion. The assumption of the U.S. guaranteeing 
all Fannie Mae's debt and shareholders getting the up-side is 
likely to change.
    Egan-Jones currently rates Freddie Mac at A, which is 
approximately five levels below S&P. Let me skip forward. We 
have similar comments on Freddie Mac. A reasonable question 
would be why one rating agency, Egan-Jones, would rate the GSEs 
at A and A+, whereas Moody's and Standard & Poor's and Fitch 
would rate the GSEs at AAA. Our view is that, number one, there 
is substantial pressure on major rating agencies to maintain a 
high rating for various large issuers. Number two, there is 
relatively little penalty if the rating ultimately proves to be 
wrong.
    Regarding pressure to maintain a high rating, Moody's, 
Standard & Poor's and Fitch obtain approximately 90 percent of 
their revenues from issuers such as the GSEs. I am quoting from 
the Wall Street Journal. Over the years, S&P and Moody's have 
rated over $500 billion of Freddie Mac debt and earned tens of 
millions of dollars of fees. They don't tell you exactly how 
much they have earned, but if you use their standard rate of 2 
basis points, that adds up to $100 million for one of the 
agencies for one of the GSEs. That is a lot of money. It has to 
be one of their biggest clients, if not their biggest clients.
    Unlike Moody's, S&P and Fitch, Egan-Jones is not paid by 
the issuers for its ratings. Regarding the lack of penalty if 
Moody's, S&P and Fitch ratings prove to be disastrously wrong, 
there are relatively few alternatives. The major rating 
agencies therefore face few penalties. Up until earlier this 
year, the three major rating firms were the only firms 
recognized by the SEC, and DBRS which was recognized in March 
2003, has little market presence in the U.S.
    Over the past 3 years, there have been numerous examples of 
investment-grade firms filing for bankruptcy protection on 
short notice. Enron was rated investment-grade four days before 
it's filing. National Century was rated AAA 2 months before 
it's filing. WorldCom was rated at the Baa/BBB level 3 months 
before filing. The California utilities were rated at the A 
level 16 days before defaulting. Despite these failures, the 
major rating firms have regularly grown their revenues because 
of the restrictions on competition.
    We have several suggestions.
    Chairman Baker. Can you begin to conclude for us, too?
    Mr. Egan. Yes. We have several suggestions that are listed 
in the report. One is the establishment of a revised regulatory 
body. You can read that. Two is restricting the growth, 
rebuilding the capital of the GSEs. Three is encouraging the 
development of additional funding sources. I don't care if 
these GSEs are the best-managed entities in the history of the 
world, things happen. My teenage son might have put it slightly 
differently. You can't concentrate on just two agencies. If a 
bomb explodes in their computer center, you don't want to shut 
down the country. Four is enhance the ratings firms' 
independence. This is an important issue. We think that it has 
to be addressed. If it is left unaddressed, it will continue to 
fester and cause additional problems.
    [The prepared statement of Sean J. Egan can be found on 
page 72 in the appendix.]
    Chairman Baker. Thank you very much, Mr. Egan. Your full 
written testimony will be made part of the record as well.
    Our next witness is Mr. Thomas Schatz, President, Citizens 
Against Government Waste. Welcome, sir.

    STATEMENT OF THOMAS SCHATZ, PRESIDENT, CITIZENS AGAINST 
                        GOVERNMENT WASTE

    Mr. Schatz. Thank you very much, Mr. Chairman and members 
of the subcommittee. I appreciate being here today on behalf of 
Citizens Against Government Waste.
    We are pleased to testify about the adequacy of oversight 
of Fannie Mae and Freddie Mac. We agree that Fannie Mae and 
Freddie Mac provide a very useful service to the American 
economy. We also believe that these organizations should 
ultimately be privatized.
    That being said, we do support reasonable regulation as 
well as greater accountability and transparency as interim 
steps toward full privatization. Thanks to your good work, Mr. 
Chairman, and the hearings you have held over the last several 
years and the work of this subcommittee, improved regulation of 
the GSEs has been amply examined. It is now time to act. 
Certainly the changes that have been made at the GSEs in terms 
of voluntarily registering with the SEC and other steps they 
have taken have been as a result of the work of this committee.
    The current system of GSE oversight certainly does need 
improvement. Freddie Mac is the fourth largest financial 
services company in the United States, yet as others have 
pointed out, it's safety and soundness regulator, OFHEO, gave 
Freddie Mac a clean bill of health less than a week before the 
announcement of the company's accounting problems.
    My written statement includes 15 suggested improvements for 
GSE oversight, and I would like to mention a few of them now. 
Strengthen safety and soundness regulation by moving this 
responsibility to the Department of the Treasury and provide 
the new regulator with powers comparable to those available to 
bank regulators; require that the GSEs hold bank-like capital, 
and Mr. Egan pointed out the differences between the capital 
held at banks and other financial institutions and Fannie Mae 
and Freddie Mac; fund the regulator through assessments on the 
GSEs; permit new programs as long as they do not violate the 
GSEs's charters or undermine the safety and soundness of the 
GSEs and also do not involve direct consumer lending; repeal 
Fannie Mae and Freddie Mac's exemption from federal securities 
laws; and finally, repeal the line of credit of $2.25 billion 
that exists for each GSE.
    We recognize that our list is ambitious, yet you have 
included a number of these provisions in your new bill, Mr. 
Chairman. The three provisions we believe are essential right 
now are bank-like capital for Fannie Mae and Freddie Mac; 
consolidation of safety and soundness and new program authority 
in a single strong regulator; and repeal of the GSEs's 
exemption from federal securities laws.
    Mr. Chairman, we support your bill's establishment of 
prompt corrective action powers for the new regulator, but 
again we reiterate Fannie Mae and Freddie Mac should be subject 
to the same capital standards as banks. In March of this year, 
William Poole, President of the Federal Reserve Bank of St. 
Louis, recommended that, quote, ``Over a transitional period of 
several years, the GSEs should add to the amount of capital 
they hold,'' unquote. I ask, Mr. Chairman, that the entire text 
of Mr. Poole's speech be included. I have attached it to my 
statement. Without the imposition of stricter capital 
standards, the GSEs will always pose a problem of systemic risk 
to taxpayers.
    CAGW supports your plan to move the GSEs's regulator from 
HUD to Treasury and to make it more independent by removing it 
from the appropriations process, and financing it through the 
assessment of fees on the two GSEs.
    We also believe that new program approval should come under 
this new Treasury regulator, as most of the new programs that 
GSEs propose are financial products. The possibility of 
systemic risk posed by the GSEs is inextricably tied to the 
scope of their activities.
    Finally, we believe your bill should include provisions 
comparable to H.R. 2022, legislation introduced by 
Representatives Chris Shays and Ed Markey, to repeal the GSEs's 
exemption from federal securities laws. This month's news 
regarding Freddie Mac clearly demonstrates the implication of 
the GSEs's current exemption from these laws. Any other company 
which was forced to re-state earnings must continue to file its 
financial statements with the SEC or be subject to SEC 
sanctions. In such cases, the message is clear to investors 
that the company has not complied with the law. In Freddie 
Mac's case, despite its failure to live up to its commitment to 
register, the agency did nothing and in fact did not initiate 
an investigation of Freddie Mac until after the company's 
announcement of its management shakeup. Certainly, no other 
public company would have experienced such forbearance from the 
SEC.
    We endorse the view of the Treasury, OFHEO and the SEC in 
February in terms of MBS disclosure which concluded that any 
adverse effects from additional disclosure will be short-term 
and will be outweighed by the benefits of greater information 
flowing into the MBS market. The Congressional Budget Office 
agreed with this last month, and last week Moody's Investor 
Service stated that making all GSE securities subject to SEC 
registration would be a good thing. These financial giants 
should be held to the gold standard of disclosure, as both 
former SEC Chairman William McDonough and Federal Reserve 
Chairman Alan Greenspan have said.
    Mr. Chairman, we commend the subcommittee for its continued 
oversight and efforts to improve the management of the GSEs. 
The time for inquiry is over. We believe it is time for action 
to be taken by this Subcommittee to exercise its responsibility 
to the taxpayers. We urge members of the subcommittee to enact 
legislation that will establish a strong regulator with the 
authority to impose bank-like capital standards and repeal the 
GSEs's exemption from the securities laws. Thank you, Mr. 
Chairman.
    [The prepared statement of Thomas A. Schatz can be found on 
page 85 in the appendix.]
    Chairman Baker. Thank you very much, sir.
    Our next witness is Dr. Jay Cochran, Research Fellow at the 
Mercatus Center, George Mason University. Welcome, sir.

STATEMENT OF JAY COCHRAN, RESEARCH FELLOW, THE MERCATUS CENTER, 
                    GEORGE MASON UNIVERSITY

    Mr. Cochran. Good morning, Mr. Chairman, Mr. Kanjorski, 
members of the committee. I am Jay Cochran, a Research Fellow 
in Regulatory Studies at the Mercatus Center at George Mason 
University, and adjunct professor of economics at GMU.
    Our mission at the regulatory studies program is to advance 
knowledge of the impact of regulations on society from the 
perspective of the public interest. Therefore, our work does 
not represent the views of any particular affected party or 
special interest group, but rather is designed to evaluate the 
effects of government policies on overall consumer welfare. I 
would like to emphasize, however, for the record that my 
comments today do not represent an official position of the 
university.
    In 2001, Catherine England, professor of finance at 
Marymount University and I authored a study entitled ``Neither 
Fish Nor Fowl: An Overview of the Big Three Government 
Sponsored Enterprises in the U.S. Housing Finance Markets.'' 
The big three, of course, being Fannie Mae, Freddie Mac and the 
Federal Home Loan Banks. I respectfully request, Mr. Chairman, 
that this study be incorporated into the record as part of my 
remarks here today.
    Chairman Baker. Without objection.
    Mr. Cochran. Our aim then, as now, in writing this study 
was to bring a measure of objectivity to a subject that, as I 
am sure everyone on this committee is well aware, can be quite 
contentious. This morning, I will briefly touch on some of the 
risks presented by the GSEs, as well as some of the oversight 
and regulatory issues pertaining to them.
    First with respect to risk, the big three GSEs on balance 
sheet assets have grown since 1995 from $726 billion to just 
under $2.4 trillion by the end of 2002. Mr. Chairman, in my 
written testimony provided earlier, that was a misprint and 
said $2.4 billion. It should read $2.4 trillion. This 
represents an annual growth rate over the period of more than 
18 percent per year. By comparison, real GDP over the same 
period grew by roughly 3 percent and the overall U.S. 
residential mortgage market grew by slightly more than 9 
percent per year.
    By itself, rapid growth is not necessarily troublesome so 
long as general principles of financial safety and soundness 
are followed. Of course, one of the most important principles 
of sound finance is diversification. That is, not having all of 
one's eggs in one basket. For the last several years, though, 
Fannie Mae and Freddie Mac have been placing more of their own 
eggs in their own basket. They have gone from holding a 
combined $125 billion of their own mortgage-backed securities 
in portfolio in 1995 to holding nearly $850 billion of their 
own MBS internally as of 2002, a growth rate exceeding 30 
percent per year.
    In this connection, it is well to recall that Congress's 
original aim in creating the GSEs was to help the banking and 
thrift industries off-load and spread the risks of mortgage 
finance by creating an active secondary market in mortgages 
through the GSEs. If, however, the GSEs are increasingly 
holding their own mortgage-related products in portfolio rather 
than selling them to investors, mortgage lending risks may 
again be concentrating rather than dispersing throughout the 
economy.
    To their credit, the GSEs cite adequate risk protection 
through hedging activities and by other means. However, such 
claims raise the issue of counter-party risk. Are the 
institutions on which the GSEs rely for risk-sharing 
financially sound? And just as importantly, are they likely to 
remain so during less than ideal economic conditions? But even 
beyond the basic question of financial soundness, if banks are 
important counter-parties to the hedging and risk-control 
operations of the GSEs, then in an important if less obvious 
way, the risks attendant with mortgage finance may be quietly 
reentering the banking system, only this time through an off-
balance sheet side door.
    With respect to Fannie Mae's and Freddie Mac's safety and 
soundness regulation in particular, I trust that the staff of 
OFHEO is well intentioned and doing the best job that they can, 
given the economic and political constraints that they face. 
However, no realistic assessment of GSE oversight can ignore 
the fact that OFHEO consists of just over 100 people operating 
on a $30 million annual budget. Yet this small organization is 
expected to oversee two enterprises that hold a combined $1.6 
trillion in assets and produce business volumes on a monthly 
basis measured in the billions of dollars. This vast disparity 
in size and resources may explain in part why, for example, 
OFHEO gave Freddie Mac and its audit procedures an unqualified 
endorsement, only to have that endorsement undermined by recent 
events.
    It is also noteworthy that OFHEO took nearly 10 years to 
develop a risk-based capital standard for the GSEs. To be sure, 
the risk-based capital standard that emerged is a sophisticated 
and complex model. Still, I cannot help but be concerned given 
my earlier remarks about diversification, for example, that we 
may have substituted modeling sophistication for adherence to 
basic principles of sound finance.
    In conclusion, I think the history is clear that the 
housing finance GSEs have delivered benefits, not only to their 
owners, but also to homebuyers and lenders. Despite these 
benefits, however, one must always keep in mind that the GSEs 
are neither fully responsive to market forces nor to government 
control. Being neither fish nor fowl, neither fully private nor 
fully public enterprises, prudence and rational public policy 
require that the GSEs undergo regular scrutiny by government 
and market participants. With respect to this last point in 
particular, Mr. Chairman, I would like to applaud you and the 
members of this committee for your steadfast willingness to 
undertake this difficult, but necessary responsibility.
    Thank you.
    [The prepared statement of Jay Cochran can be found on page 
61 in the appendix.]
    Chairman Baker. Thank you very much, doctor, we appreciate 
your testimony.
    Our next witness is Ms. Karen Shaw Petrou, Co-founder and 
Managing Partner of Federal Financial Analytics, Incorporated. 
Welcome.

    STATEMENT OF KAREN SHAW PETROU, CO-FOUNDER AND MANAGING 
           PARTNER, FEDERAL FINANCIAL ANALYTICS, INC.

    Ms. Petrou. Mr. Chairman, thank you, and Mr. Kanjorski and 
members of the subcommittee, for inviting me here today to 
speak on the topic of improving the regulation for the housing 
GSEs.
    I am Karen Shaw Petrou, Managing Partner of Federal 
Financial Analytics, a firm that provides information and 
consulting services on an array of legislative, regulatory and 
policy issues that affect the financial services industry. Our 
information service includes one on the GSEs, which is used by 
combatants on all sides of this debate. On our consulting and 
advisory services, our clients include U.S. and international 
bank regulators who we have assisted over the years in 
improving their own work.
    We have been doing a great deal of work of late on the 
Basel Risk-Based Capital Accords and we also advise numerous 
firms and associations on concerns that Fannie Mae and Freddie 
Mac serve their homeownership mission, and not engage in new 
activities in a risky fashion.
    Today, I would like to focus on tenets of effective bank 
supervision that I believe can be easily, quickly and 
appropriately adopted for Fannie Mae and Freddie Mac. There is 
I believe no evidence that effective bank supervision and 
meaningful capital requirements have in any way undermined 
homeownership. I think it is very important to remember that 
Fannie and Freddie cannot serve their mission and promote 
homeownership unless America's financial services firms, banks 
and savings associations, first do theirs. They originate the 
mortgages. Fannie and Freddie then securitize them. Effective 
supervision has not inhibited the ability of lenders to 
originate mortgages and I do not believe it will be in any way 
an impediment to an effective secondary market that will 
promote homeownership.
    In fact, as this panel has recognized in its work on the 
Basel rules, effective supervision and meaningful capital has 
been a key to the success of the U.S. financial services 
industry and especially our banking sector. We lead the world. 
Many of our institutions are the largest, and most importantly 
I think without dispute, American banks are the most innovative 
on derivatives and asset securitization, many other new 
products and services that promote economic growth and serve 
consumers, and do so with effective safety and soundness 
supervision and meaningful capital.
    I believe that this will promote homeownership if applied 
to Fannie and Freddie. Indeed, I think effective supervision 
and meaningful capital will reduce the cost of homeownership if 
investors, particularly bondholders in Fannie and Freddie, have 
confidence in the regulator and believe that meaningful capital 
is a discipline on risk-taking. And if they have enough 
information on which to base informed decisions, Fannie's and 
Freddie's cost of funding will drop and that should be 
translated into reduced homeownership costs, especially for the 
minority and low-income customers for whom the benefits of the 
GSEs were initially intended. The three tenets of effective 
bank supervision as established by the Basel Committee and 
adopted by all of the U.S. bank regulators, the Fed, the OCC, 
the FDIC and Office of Thrift Supervision, are first, capital; 
second, supervision; and third, disclosure. I suggest that as 
you look at the system for Fannie and Freddie, you keep those 
principles in mind and ensure that the new regulator you 
establish has ample authority to ensure that all three of those 
pillars are strong and lasting.
    The 1992 regulatory structure established at that time for 
Fannie and Freddie, who were then one-third the size they are 
now, taking very different risks than the ones they take now. I 
must say, I view that as a divide and conquer structure which 
would have had a difficult time working under any circumstance. 
If it ever could have worked, it certainly has not. The news we 
have had from the markets of late, especially that related to 
the Freddie Mac restatement, and again the news this morning as 
more information was released by Freddie Mac as to how it sees 
its balance sheet and its earnings going forward, are deeply 
troubling.
    The role of OFHEO as the safety and soundness regulator, 
not only in anticipating, but fundamentally a safety and 
soundness regulator should prevent these types of risk. We have 
seen no signs, for example, that OFHEO has undertaken the 
reviews of internal audits, of management and of controls at 
Fannie and Freddie that the bank regulators have rightly 
undertaken in the wake of the Enron case and of Sarbanes-Oxley.
    Secondly, the regulatory capital rules need significant 
fixing. OFHEO's standards, complex to be sure, are vastly 
different than the rules the bank regulators now employ and the 
rules pending in the Basel Committee for all large financial 
services firms. They are premised on derivatives. Mr. Frank 
mentioned earlier his concern about these. I think it is 
important to note that the OFHEO risk-based capital rules 
allows Fannie and Freddie to count hedges as if they were real 
shareholder capital. They are not and they should not be 
permitted going forward. Effective supervision requires an 
independent agency and I think safety and soundness supervision 
means new program control. Often the riskiest things an 
institution does are its newest. Safety and soundness 
supervision there is essential.
    Finally, good disclosure, a real stand-alone rating, and 
SEC registration, and I think call reports comparable to those 
used by banks.
    Thank you very much.
    [The prepared statement of Karen Shaw Petrou can be found 
on page 78 in the appendix.]
    Chairman Baker. Thank you, Ms. Petrou.
    I would like to note that your observation with regard to 
the Basel Accord, capital supervision and disclosure are 
exactly the principles around which we have tried to construct 
the regulatory reform recommendation. Importantly from 
strategy, some have questioned why have we moved so quickly. It 
was to frankly get the bill into the public domain so that 
markets could respond, and through this morning, the comment 
has been very favorable and already begun to have some positive 
impact on market pricing for GSEs's capital.
    I was very troubled in understanding your testimony. I now 
know that Freddie has announced that it cannot under GAP 
standards treat any of its derivatives in portfolio as GAP-
qualified accounting hedges. You made the comment that then 
these hedges could not then count as capital or shareholder 
equity. What I am troubled by, or ask your opinion on, does the 
rules-based capital test that OFHEO now utilizes permit these 
derivatives that are not now GAP-compliant still to be counted 
as capital?
    Ms. Petrou. Yes, sir. It is my understanding that it does.
    Chairman Baker. What possible relevance could the stress 
test then have to properly assessing the capital adequacy of 
the enterprises?
    Ms. Petrou. I do not know.
    Chairman Baker. I understand, too, that Freddie now is 
having to basically take back credit risk as a result of 
implicit recourse, because it was basically backing its own 
credit risk instead of having laid off that risk to third 
parties. If that is correct, and I am making an assumption, how 
can that be consistent with its own charter obligations?
    Ms. Petrou. I do not know, sir. The charter requires all of 
the GSEs to hand-off the risk of high-risk mortgages, those 
with loan-to-value ratios above 80 percent, to qualified third 
parties, generally mortgage insurers. It is unclear from the 
results this morning the degree to which that in fact was done.
    Chairman Baker. So could that possibly be, in your opinion, 
a violation of the charter?
    Ms. Petrou. The facts will need to be carefully examined, 
but it is certainly possible.
    Chairman Baker. What about Freddie eliminating its held-to-
maturity book? And what implications does that have on Fannie 
Mae, if any?
    Ms. Petrou. Again, it remains to be seen. This gets to the 
very complicated question of the relationship between FAS 133 
and how assets are valued on the balance sheet and which assets 
are marked to market and which ones are not. Freddie Mac this 
morning reported that its investigation to date found that 
assets were held to maturity that were in fact being traded or 
sold. It is again somewhat still unclear what actually was 
going on.
    Chairman Baker. So there apparently were assets being held 
to maturity while being available for sale?
    Ms. Petrou. That is correct. And the accounting rules 
require that once that finding has been made, the entire pool 
of held-to-maturity assets is, if you will, tainted. So now 
everything has had to be moved over to available for sale.
    Chairman Baker. Let me ask each of you. I know that some 
have suggested that we go further with our regulatory reform. 
Are there any of you who have any objection to any particular 
portion of H.R. 2575 in the time you have had to review it, 
understandably being short? Are there portions of it which you 
have concerns may adversely affect the functions of either GSE 
as proposed? Anybody?
    Ms. Petrou. I would say, sir, that I think that making HUD 
the regulator for new programs is something at which I would 
suggest you take another look. It has had that authority for 10 
years. To my knowledge, it has only acted on one new program 
and that was at the direct request of Mr. Leach, going back to 
1997 when one of the GSEs decided to enter an aspect of the 
life insurance industry, and then HUD approved it. It does not 
have a good record here, nor does it have the skills to be a 
safety and soundness analyst of new programs.
    Chairman Baker. One further question before my time 
expires. It appears, and I am only acting now on a quick read 
of the morning news with regard to Freddie's most recent 
disclosure, that they are acknowledging that they did not have 
sufficient resources or personnel to sufficiently gauge and 
manage their derivatives risk portfolio. It might even be 
broader with regard to internal operational risk management 
functions. If that is the corporation's position, how is it 
possible, given the resources that Freddie does have available 
to it for risk management purposes, that we could view OFHEO by 
contrast in any credible light, not because of the quality of 
individuals, but because of the limitations of funding and 
simple numbers of personnel? Is that a fair comparison to make?
    Mr. Schatz. Mr. Chairman, if I may, I would agree with 
that. It is one of the reasons why we support your efforts to 
move the regulatory authority over to the Department of 
Treasury. These are large financial institutions that engage in 
very complex financial transactions. Certainly they are still 
achieving the goal of providing greater homeownership for the 
American people, but certainly given the developments and the 
changes in what they are now engaged with compared to 10 or 15 
years ago, Treasury is the only place where that expertise 
would reside. I would agree with Ms. Petrou's remarks about the 
safety and soundness, as well as new program authority, really 
being together as opposed to being separate.
    Chairman Baker. Thank you. My time has expired, but I have 
just got to make a comment. If the facts presented this morning 
are accurate, and I presume that they are and we will take time 
to examine it and understand it more fully, I cannot comprehend 
how anyone could go home feeling confident that the current 
regulatory structure is in any way adequate in light of the 
risk that has been published to date.
    Mr. Kanjorski?
    Mr. Kanjorski. Thank you, Mr. Chairman.
    We seem to be moving ahead, and most recently we may have 
made the error in military policy on everyone concluding on 
everyone else's statements or news reports that there is 
incontrovertible evidence of weapons of mass destruction. It 
seems that term was thrown out there, everyone accepted it, and 
accordingly policy was made, no one testing the basic premise. 
Does anyone on the panel today, can they tell us actually what 
happened at Freddie Mac? In fact, is there a serious violation 
of law?
    Mr. Cochran. Mr. Kanjorski, not having published their 
financial statements for 2002, I can't make that statement. I 
have not been able to look at them yet.
    Mr. Kanjorski. I haven't either, and that is why I am 
wondering whether or not we shouldn't first have a premise of 
what happened down there, instead of deciding that clearly what 
happened down there warrants significant substantive change. I 
am not opposed to change, and certainly in my opening statement 
I recommend and have been recommending for years certain things 
that I hear the panel agreeing with, the fact that we should 
have an independent regulator; that we should have an 
independent regulator with the same authority that other 
regulators of financial institutions have, which OFHEO has 
never been given; that it should not be funded by annual 
appropriations at a very meager amount, but should be self-
financing through assessments on the bodies being regulated. We 
all agree on those principles, right?
    I think we could very easily move forward, whether we call 
it modernization or reform or anything else. I think it would 
be something we could all agree on to do that for the regulator 
of the GSEs. But some of the things I fall out of favor with, 
or have not certainly been convinced, to taking a retail 
regulator like the Office of Thrift Supervision has the 
expertise to handle a very sophisticated, two or three 
sophisticated entities such as the GSEs. Do you really all 
believe that compared to all the regulators that exist in the 
financial institutions of the United States, the Office of 
Thrift Supervision is going to be the best regulator we could 
select? What is your opinion on that?
    Ms. Petrou. I would agree with that concern, sir. It would 
be within Treasury and it does have resources, but it also has 
many distractions.
    Mr. Kanjorski. Right.
    Mr. Egan. I would like to comment on your previous 
question, and that is the accounting discrepancies and the 
dismissal of the executives. From our perspective, that is a 
secondary issue. The primary issue with the GSEs is their level 
of capitalization. The accounting revelations were really just 
an accident waiting to happen because they have relatively 
little cushion in their capital base, number one; and number 
two, that rating of AAA is unrealistic unless you assume that 
the line of credit from the Treasury is significantly greater 
than $2.25 billion. If somebody told us it is closer to $60 
billion per institution, then we move above the single A level, 
but we have heard nothing of the sort.
    Mr. Kanjorski. So the underlying premise for this hearing, 
the recent news releases and the firings at Freddie Mac 
precipitated this hearing, but you are telling me they are not 
the basis on which this committee should be looking at new 
regulation. There are some other substantive questions.
    Mr. Egan. They run much deeper than that.
    Mr. Kanjorski. Right. I agree with you. We have been 
carrying on our examination for more than 40 months and have 
been making some progress, sometimes by voluntary disclosure 
and transparency that the two organizations have had.
    I tend to worry about our establishing some precedent for 
action based on incomplete news reports and internal actions by 
the board of directors. Quite frankly, I could understand a 
board of directors being annoyed with a set of management that 
have not complied with making restatements in a number of years 
and just getting totally fed up and saying enough is enough and 
you are gone. We are going to put somebody else in. It should 
not necessarily connote to the market or to anyone else that 
there was something criminal or improper that was carried out. 
It was just probably a great frustration or could have been a 
great frustration of the board, and a very responsible act by 
the board, I may say, if that is the derivation for the action. 
Would you agree?
    Mr. Egan. Yes, but I would characterize it as saying these 
are two critical institutions and that investors are confused 
right now. They are concerned when they see executives resign. 
They are concerned when they hear about accounting problems, 
and they are concerned about the regulatory environment of both 
GSEs. I think it requires a closer look at the entities and how 
they are regulated, and whether or not investors are investing 
on an appropriate basis, or whether another signal has to be 
sent to the market.
    There is also the issue of whether or not they lose their 
AAA rating; whether or not they still can exist in their 
current form. My understanding is that they are not putting up 
much capital for their derivatives. In fact, in a lot of cases 
they are putting up no capital because of that AAA rating. If 
that goes, a question is how badly the institutions will be 
hurt. So it is a very broad question that I think needs to be 
addressed. Whether or not it ends up that you move it to a 
different regulator is part of that broad question.
    Mr. Kanjorski. Should we as a committee be acting just 
perhaps a little more responsibly in finding our what happened 
and starting from the core of the facts of the information 
before we move? I heard so much of your testimony, ``if this 
happened, if this happened, this may have happened, this could 
be.'' But no substantial statement of facts as to what did 
happen, and yet we are speaking to the world market here in a 
way that could be very crucial at a very delicate time in our 
economic structure as a whole. I am just wondering just how 
responsible it is for us to conjecture as to what may have 
happened and talk about it as if it in fact did happen. Not 
that we should wait, but I am surprised that maybe some of our 
first witnesses are not the regulators, and aren't some of the 
officials that made the decisions within Freddie Mac to tell us 
what they did and why they did it.
    Mr. Castle. [Presiding.] If you could answer briefly, we 
need to move on to other witnesses please.
    Mr. Egan. Very quickly, from our perspective, the current 
regulator should not have allowed the capital to dwindle to the 
point that it is as a percentage of assets. That is a 
fundamental issue and investors are still thinking it is a AAA 
rating and hopefully it can be handled delicately so it does 
not cause a panic in the market.
    Ms. Petrou. If I could also just add, one thing we do know, 
we don't have any ifs about, is what OFHEO has done through 
this process. When Freddie Mac first announced its restatement 
in January, within hours the head of OFHEO said he saw no 
problems. Consistently as each revelation has come out, OFHEO 
within hours has commented on it. Bank regulators never talk 
about their charges because they believe in something they call 
constructive ambiguity. That promotes market discipline and it 
is essential. We do know that, sir.
    Mr. Castle. Thank you, Mr. Kanjorski.
    Mr. Ney is recognized for 5 minutes.
    Mr. Ney. Thank you, Mr. Chairman.
    The current regulatory regime for the GSEs has a product 
review on safety and soundness regulator split between HUD and 
OFHEO. The new proposal keeps that system with HUD regulating 
new products and the OTS regulating safety and soundness. I am 
wondering if keeping this system is in the best interests of 
the GSE regulation because they could be rather intertwined. So 
would it make sense or wouldn't it to centralize all the GSE 
regulations under one roof or not? Anybody that would like to 
answer.
    Mr. Schatz. Mr. Ney, we have made that proposal and we 
certainly urge the subcommittee to examine it, discuss it with 
the regulators, and determine whether this would be best, and 
also look at how other financial institutions are regulated to 
determine whether there is a bifurcated system out there or a 
single system. It seems to me that there is more or less a 
single system for soundness and safety. The new program 
authority is certainly unique to the GSEs in some ways, and I 
would hope that as the subcommittee moves forward and the full 
committee moves forward that you do discuss this in some depth.
    It is our view that the new programs, if they are not tied 
to safety and soundness and the same regulator is not aware of 
what the GSEs are supposed to be doing in their mission, that 
is one of the problems that could occur. There was a statement 
earlier about the fact that OFHEO in its 10 years only 
interrupted or said that it was not going to support one 
particular product indicates that they are not doing a very 
good job of making these determinations. I am sure there are 
other products that may have been reviewed or reviewed 
differently if they had been more aware, or certainly tied into 
more knowledge of the financial system that the GSEs are 
involved with as well.
    Mr. Ney. So you approve consolidating them?
    Mr. Schatz. Yes, we would approve consolidation. But again, 
I think you would need to compare this to the other financial 
institutions in the country as well, to be consistent.
    Mr. Ney. Does the rest of the panel agree with that or 
disagree?
    Ms. Petrou. I would agree with that, sir.
    Mr. Egan. Our view is whoever regulates them has to have 
in-depth knowledge of the financial market, hedges and be able 
to stress test assets and liabilities and really have a very 
sophisticated banking examiner.
    Mr. Cochran. You might pose the question oppositely and 
ask, if you keep it bifurcated like it is now, what happens if 
those two regulatory aspects come into conflict? Who dominates, 
safety and soundness or mission? So there is probably a 
rationale for keeping them consolidated under one regulatory 
roof, so to speak.
    Mr. Ney. Do you have any comments on the prior approval 
that would be in the new piece of legislation?
    Ms. Petrou. You are referring to the prior approval of new 
activities?
    Mr. Ney. Of new product. Is it enough? Does it 
overregulate?
    Ms. Petrou. Right now, all of the insured depositories and 
their holding companies need prior approval from their safety 
and soundness regulator for any new activity. Yet we have an 
industry that is by far the leader in the world in innovation. 
I think it is important because it protects safety and 
soundness. It also protects consumers. In new products there 
are potential abuses, conflicts of interest, disclosure issues. 
Prior review by a skilled regulator is really essential.
    Mr. Ney. So you say it is common for every single product 
or change in existing product in all cases to have prior 
approval?
    Ms. Petrou. All new products which raise significant 
issues. Congress has rightly put in place a system for 
traditional products at traditional institutions of notice to 
the supervisor, but those are still all done in a public 
process. Any significant new activity must be reviewed by the 
regulator and put out for comment so that all appropriate views 
are considered before the deposit insurance funds or the lender 
of last resort is put at risk through a potential new activity.
    Mr. Ney. Over the years, the OTS has developed a lot of 
expertise in regulating thrifts and the unique business model 
that comes along with thrifts. Any thoughts about taking OTS 
into a whole new different regulatory venture?
    Ms. Petrou. I think it raises significant issues because we 
have ``housing finance'' here, but Fannie and Freddie are so 
huge and their hedging activities are so different that they 
could be considered housing, financial institutions or even 
hedge funds, and a supervisor with the skills to do both is 
essential.
    Mr. Ney. So you feel the OTS has been towards, again, 
thrifts and the unique situation there. But you feel 
comfortable that OTS could undertake this and be able to do 
this with Fannie and Freddie?
    Ms. Petrou. No, sir. I have some questions about that.
    Mr. Egan. I agree. From our perspective, the hedging 
operation is like the nitroglycerin of these companies. It has 
to be handled very careful, made sure it is set up properly, 
that it is matching their asset and liability structure. It has 
to be reviewed properly. The counter-parties have to be 
understood. It is far beyond the normal thrift institution. It 
is more akin to regulating CitiGroup or J.P. Morgan or some of 
the investment banks.
    Mr. Ney. Thank you. My time has expired. Thank you, Mr. 
Chairman.
    Chairman Baker. Thank you, Mr. Ney.
    Mr. Scott?
    Mr. Scott. Thank you very much, Mr. Chairman.
    I am very, very much concerned that we do move forward; 
that we work very judiciously on this issue. I certainly 
appreciate the chairman allowing me an opportunity to work with 
him on this legislation as we move forward.
    I do think we need to move with a bit of caution because 
the first question I want to ask is, what impact would our 
proposed legislation in this committee to strengthen the 
regulatory oversight have on the stated mission of these two 
entities? It is my understanding that stated mission is to buy 
home loans from banks and lenders, to supply ready cash to the 
home mortgage market, especially for middle-income and lower-
income individuals. Given that, and I don't know which of you 
might want to respond, Ms. Petrou, I certainly want to get your 
opinion on that question, what impact would it have? I think 
that is a fundamental issue here as we move forward, because 
Fannie Mae and Freddie Mac were created for a special purpose.
    The other part of this question is that it is very complex 
and complicated, but from what I am following here, the nut of 
this issue it seems to me is this business of derivatives, 
which are used to hedge interest rate risk. Now, if I am not 
mistaken, derivatives was the key role that was played in the 
Enron upheaval. So I would like to get an analysis from you of 
the derivatives in relationship to this question. If we are 
using these derivatives, if we are using them to hedge on this 
risk-taking of interest rates and it resulted like Enron, the 
fundamental question then becomes, is Fannie Mae and Freddie 
Mac taking on too much risk?
    If you could answer those for me, and I do have one other 
point I want to get to later, so Mr. Chairman, please, if they 
talk too long or I talk too long, please correct me because I 
would like to ask another question. But I would like to get an 
answer on that one, please.
    Ms. Petrou. First with regard to the mission, sir, I think 
that appropriate regulation will enhance, advance and reinforce 
that mission. One provision in the Chairman's bill addresses 
HUD's role in ensuring that Fannie and Freddie serve affordable 
housing. In my opinion to date, the goals have been too lax; 
the definition of affordable housing too generous; and the 
enforcement nonexistent. We have had a lot of rhetoric, but we 
need an effective supervisor to ensure real performance, just 
as we have bank regulators who look in and enforce in cases 
where financial services firms, especially insured 
depositories, are not doing right by their low-and moderate-
income customers.
    Mr. Scott. So you think that moving the regulatory 
oversight to the Treasury Department would help the mission?
    Ms. Petrou. Yes, sir. I know there is some issue as to 
whether or not Treasury is as devoted to homeownership as it is 
perhaps to safety and soundness and stable financial markets, 
but I think with the role of HUD and of course with 
congressional supervision and clear direction to Treasury, you 
can ensure that a new regulator takes as full account of those 
responsibilities as the bank regulators do. For example, you 
have told them to have a Community Reinvestment Act and that 
has helped bank regulators govern their charges, and you can do 
the same for Fannie and Freddie.
    Mr. Scott. What about the idea of registration of debt with 
the Securities and Exchange Commission?
    Ms. Petrou. I would support that.
    Mr. Scott. You don't feel that would hamper the mission?
    Ms. Petrou. No, sir. I think it might help in fact to 
improve it by improving investor understanding, reducing costs. 
Fannie's and Freddie's costs of funding could well diminish. 
Indeed, Moody's recently suggested that it would and that is 
what the GSEs should be passing on to the neediest homeowners.
    Mr. Scott. The other question I wanted to ask is, just for 
the record, do you believe that because of the similarities 
between Freddie Mac and Fannie Mae that Fannie Mae may be being 
tarred by the same brush? Do you think it is fair to judge 
Fannie Mae based upon the missteps of Freddie Mac?
    Ms. Petrou. I don't, sir, at this point, but I do think it 
is fair to say that both GSEs operate under divided and in many 
respects faulty regulation with inadequate capital and lack of 
appropriate market discipline.
    Mr. Scott. Okay. My final point, Mr. Chairman, the Office 
of Federal Housing and Enterprise Oversight has got 140 staff 
and a $30 million budget. Do you think that is enough? Do you 
think they are too weak to perform the task? That they need to 
be strengthened in terms of manpower and budget?
    Mr. Egan. Our view is that it goes beyond even the 
regulatory environment; that there are some problems in the 
market itself that have gotten us to this point. There are 
problems with the investment banks, all the analyst came out 
positive, I think, about 10 analysts came out positive, one 
came out negative after the disclosures on the accounting 
issues. That is a structural problem. The fact that the major 
rating firms are all paid by the issuers and get the bulk of 
their compensation from these major issuers, that is a problem. 
Regulation has typically lagged.
    It would be terrific if you set up a huge regulatory body, 
maybe you would get better disclosure, but it has to go beyond 
just that issue if you are going to protect these firms in the 
future and protect investors. The worst that could happen, they 
are doing great work, the worst that can happen is that there 
is a breakdown in the market and investors lose faith. The 
investors think that the U.S. government is behind this whole 
thing 100 percent. That is why there is a AAA rating. This 
whole area has to be addressed and the structural problems in 
the financial markets have to be addressed.
    Mr. Scott. Thank you.
    Thank you, Mr. Chairman.
    Chairman Baker. Thank you, Mr. Scott.
    Mr. Castle?
    Mr. Castle. Thank you, Mr. Chairman.
    Let me just say to you first of all, you have wandered in 
the desert for some time and I think you have found your oasis, 
and I think the rest of us had better start paying some 
attention to this. This is not something that is easily 
understood or can be swept under the rug, in my judgment. Let 
me thank the witnesses for the tutorial today, because I am 
still trying to define the problem. I haven't even gotten to 
whether there is a solution at this stage.
    Along those lines, if I could just ask you some consumer-
type questions. I want to know what is at risk here. For 
example, the housing market has been the strongest part of our 
economy for the last 3 or 4 years. I just refinanced my 
mortgage. I am pleased with that. Actually, it is not complete 
yet; hopefully it will go through. Obviously, Fannie Mae and 
Freddie Mac are tremendously helpful with that, based on all 
that I read and understand, although I could not tell you why, 
but that is what they tell me.
    My concern is, are we by taking the actions that we might 
take here, are we going to disrupt the housing market in some 
way or another, or the securities market, or even the stock 
market in terms of the stock values of these companies? In 
other words, by dealing with the additional regulation, is it 
going to be such a great burden or such a great shift that 
there is going to be tremendous impact out there? On the other 
hand, if we don't do it, is there going to be potentially an 
impact? I can't really honestly define everything that went 
wrong with Freddie Mac or whether Fannie Mae has any problems 
or not, but my sense is that they are less regulated than a lot 
of other financial entities, and that is potentially a problem 
as well.
    So if you could just, if any one of you or two of you or 
whatever, can help me with understanding the potential problem 
a little more in terms of what could happen here, I would 
appreciate it.
    Mr. Schatz. I just wanted to just jump in a little bit, Mr. 
Castle. The problem really will arise if Congress does nothing. 
After the Enron scandal and Arthur Anderson, certainly steps 
were taken to strengthen regulation over the accounting 
profession and the securities and others. Here we have two 
large organizations that are exempt from many of the laws that 
apply to their competitors, to every other publicly traded 
company. Our view is that placing them under the scheme would 
reassure investors, reassure the public. They would certainly 
still be able to compete and compete very well, as they do, in 
the marketplace, and that it would restore a great deal of 
confidence that may have been shattered not by what you are 
doing, but what happened at Freddie Mac.
    So it is in a sense a problem of their own making, but it 
does draw more attention to what the chairman and others, and 
Mr. Shays and others have been talking about for some time, 
which is simply trying to improve regulation and oversight. No 
one is talking about putting them out of business. We are 
talking about providing a structure that will give all these 
people, the shareholders, the taxpayers, consumers, the banking 
system, the housing system, more confidence that oversight is 
being exercised in an appropriate manner.
    Mr. Castle. Thank you.
    Mr. Egan. Our view is along the lines of a stitch in time 
saves nine. If you don't act, this is probably what is going to 
happen, that Fannie Mae's capital base instead of dropping from 
3.1 to basically 2, in another 2 years it will probably be 
about 1.5, and just keep dropping from there. There is huge 
pressure on these organizations to grow, so you have to hold 
them back, no constraints.
    What would be an ideal world is if there is a new 
regulatory body. It had some real powers. It encourages these 
organizations to strengthen their capital base.
    Mr. Castle. Excuse me. Let me interrupt there, because I 
wanted to ask this question anyhow. By a new regulatory 
structure, you are suggesting that OFHEO just is not capable of 
being structured in such a way that it could carry this out 
responsibly?
    Mr. Egan. We have not seen any evidence of that, and 
hopefully it won't come to that to encourage some discipline in 
the rating agency industry also, and some discipline with the 
equity analysts. Obviously there are still some problems. What 
would also help is that if you had some new mortgaged-backed 
agencies, some mini-Freddie Macs and Fannie Maes that are 
growing, so if God forbid, anything happened to these two 
entities, that we are not just counting on them; that we have 
some alternatives, some viable alternatives, in the market. If 
we could achieve that goal in another two years, it would be a 
huge positive to the people holding the mortgages, the 
homeowners, the markets, everybody would benefit. On the 
current path, it is just a problem, a sore, that is going to 
continue to fester and grow.
    Mr. Castle. Should the Federal Home Loan Banks be 
considered or included in any legislation that we do?
    Mr. Egan. I am going to defer to some other panelist.
    Ms. Petrou. I think there are some significant supervisory 
issues there that do warrant your review. The Federal Housing 
Finance Board in only the last year has taken a look and found 
that it had three times more PR people than it had examiners. 
That is for an institution which in aggregate is about $800 
billion. So I think a hard look does need to be paid.
    Mr. Castle. Thank you, Mr. Chairman. I yield back.
    Chairman Baker. Thank you, Mr. Castle.
    Mr. Miller?
    Mr. Miller of North Carolina. Thank you, Mr. Chairman.
    I am just trying to understand what is the bad thing that 
can happen here? Mr. Egan, you said things happen, and yes I 
know exactly what your teenage son would have said instead of 
that. And I know that by saying ``things happen,'' you intended 
some ambiguity that we can't possibly anticipate all the bad 
events. But it seems to me that the thing that these two 
institutions have going for them is that ultimately they rely 
upon what is for most households the ace of trumps, the 
mortgage. People may or may not pay their credit card bills, 
but they sure pay their mortgage.
    It certainly seems like Fannie Mae and Freddie Mac should 
not have to have the same kind of equity requirements that, 
say, MBNA has. What can cause the meltdown here? Is it that 
people don't pay their mortgage? Is that there are fluctuations 
in interest rates? Is it the ways that interest rate 
fluctuations are hedged is somehow risky in a way that is 
incomprehensible to 99.95 percent of the population in this 
room?
    Mr. Egan. There are a variety of things that could happen, 
and you could assess some probability of that happening. Unless 
the economic environment changes drastically, probably the 
mortgage payment rates are not going to change very much. What 
is probably going to be a bigger problem is that there will be 
some revelations that over the next six or twelve months that 
both these entities are having difficulty. Because Mr. Castle 
prepaid his mortgage perhaps yielding 7.5 or 8 percent, and now 
is only paying 5 percent.
    These entities receive that money and now can only reinvest 
it in the market at 5 percent. However, on the liability side, 
because they can't pay off all those liabilities, they still 
have to pay 5.5 or 6 percent. That is a problem. These are huge 
entities so it is difficult to hedge completely against that 
problem. Maybe they have to revalue the portfolio because they 
have to mark-to-market because they sold out some of the 
instrument, and that 1.9 percent capital goes down to 1.5 
percent. Maybe it is that our competitors S&P and Moody's 
realize that maybe this really isn't AAA and they do some 
investigation and realize the capital line is only $2.25 
billion, and no more after that, and therefore they reassess 
their position and all of a sudden it slips down to AA, and 
some major investor groups, the Japanese or the Germans, pull 
out their capital or reassess their investment.
    It is an accident to have so much water behind the dams, is 
a nice way of thinking about this. These institutions were 
built to hold so much water and there is too much water behind 
it. You need to let down the water level. You have to shore up 
the dam so that it is safer, and hopefully get some other dams 
in place, too, so that you are not dependent on this one river 
system. So there are a variety of different problems that could 
happen. It is hard to figure out which one exactly is going to 
hit, but certainly you don't have the cushion that you should 
have.
    Mr. Miller of North Carolina. If we take less water behind 
the dam, if we let down the water level, are we not inevitably 
going to make mortgages less readily available?
    Mr. Egan. No, because the markets are fluid and hopefully 
there will be some other institutions that will be encouraged 
to step up their activities. The other approach is just 
continuing to build it up and I would argue that you don't have 
enough cushion right now to continue to let it happen, and the 
forces are in place that if it is not pulled back, the asset 
base will continue to grow.
    Ms. Petrou. I would say, sir, also that when you describe 
mortgage credit risk, which is all of our desires to pay our 
mortgages off first, that is the risk Fannie and Freddie were 
established and chartered to take for the lowest-risk 
mortgages. What they were supposed to do when Congress 
established them was to buy mortgages originated by lenders, 
turn them into mortgage-backed securities so the investor would 
take all of that interest rate risk that Mr. Egan described. 
Fannie and Freddie would hand-off the riskiest pieces of the 
mortgage credit risk position to third parties, and they would 
then hold the rest, the safest piece of that mortgage credit 
risk. That is not how they are structured any longer.
    Chairman Baker. I thank the gentleman.
    Mr. Shays, you are next. And just by way of comment on the 
last exchange, the last quarter of 2002 there were reported 
negative duration gap difficulties for Fannie Mae which is a 
reflection of the mismatch in their portfolio because of the 
extraordinarily low-cost interest rates for so long. The 
solution or remedy as I understand it was to merely acquire 
mortgages and grow the portfolio, which does not necessarily 
yield any more profitability, but does increase risk to the 
taxpayers.
    And by the way, Mr. Shays, you are recognized.
    Mr. Shays. Thank you, Mr. Chairman.
    You have the second and fourth largest financial 
institutions in the United States. You have the 16th and 32nd 
largest Fortune 500 companies. Under the law, they were not 
under the 1933 and 1934 Security Acts. Neither of these Acts 
were to punish companies, correct? What are the purposes of 
both of these Acts?
    Ms. Petrou. To protect investors by informing them of a 
wide range of financial information and to give remedies when 
these protections are not in place.
    Mr. Shays. And we require all Fortune 500 companies to be 
under these requirements. Is that correct?
    Ms. Petrou. All publicly traded firms.
    Mr. Shays. All publicly traded. So if that is the purpose, 
then explain to me how putting them under the Act harms these 
companies or harms these investors? I am at a loss of words to 
understand how anyone can say putting them under the 1933 and 
1934 Acts somehow is going to harm them and harm our economy. 
Please tell me how.
    Mr. Cochran. I think the claim that is being asserted is 
that by coming under the Act, they will have to register and 
incur the costs of registration, and that cost flows to the 
bottom line.
    Mr. Shays. So it is the cost issue.
    Mr. Cochran. That would be my estimate.
    Mr. Shays. Right. And so what we did in our legislation, we 
capped them to say they would have to contribute no more than 5 
percent of the total amount to the SEC, and any other company. 
Wouldn't that minimize that issue?
    Mr. Cochran. It probably would. And by the way, I do not 
necessarily agree with that assertion in any case.
    Mr. Shays. Okay. Does anyone agree with that claim that it 
is going to hurt them? Okay.
    Let me understand Freddie's statement today about what they 
are disclosing. Would someone here tell me what you think 
Freddie said today about the fact that they have to re-state 
earnings. What is your sense? Tell me what you think is going 
on at Freddie in short-term, not a long sentence. Sean, do you 
want to do that?
    Mr. Egan. That they are still getting a handle on exactly 
what is going on; what their derivative positions are; how to 
value the securities. They are hoping they get it right this 
time, but they are not quite sure and hopefully they don't roil 
the markets too much.
    Mr. Shays. Anybody else want to add something?
    Ms. Petrou. No, we heard this morning was that the earnings 
range now will be increases of between $1.5 billion and $4.5 
billion, and that the bulk of this is resulting from 
significant new disciplines related to derivatives.
    Mr. Shays. My understanding is they said they didn't follow 
general accounting practices or what would have been required 
under the SEC, and had they followed what would be required 
under the SEC, they wouldn't be in this problem. Is that true?
    Ms. Petrou. It is unclear whether they would have been in 
this problem because firms under the SEC, of course, have also 
encountered serious issues. But I think there are questions.
    Mr. Shays. Let me put it differently. If they followed the 
requirements under the SEC, they would have not have 
encountered this.
    Ms. Petrou. This morning Freddie Mac indicated there were 
aspects of the restatement that might violate securities law 
had they been subject to them. That is all I can speak to. That 
is one of the pieces in their release this morning.
    Mr. Shays. Would you explain to me when they say that their 
earnings were understated, is that a good thing? Should I feel 
comfortable that there is potentially $4 billion of understated 
earnings in the past? Like, in other words, they have more 
earnings. Does that mean, one, they didn't pay proper taxes in 
the past? And two, should I say this is good news?
    Mr. Cochran. I think as Congressman Frank suggested, there 
are ways to interpret the application of accounting rules. But 
I think what concerns the markets is that by restating the 
earnings, you are going to increase the volatility or the 
variance in the reported earnings. Other things being equal, we 
would rather see smooth earnings over time, rather than bumpy 
earnings.
    Mr. Shays. So investors would rather see constant growth, 
not really terrific years and bad years. And so if Fannie or 
Freddie experiences that kind of growth pattern, how does the 
investor respond to it?
    Mr. Egan. From our perspective, it is unsettling. It is 
unsettling because there is a lot more volatility in the 
earnings than what they would like to have been the case. They 
are trying to smooth earnings and now they found out that they 
can't, and the investors are thinking it is not quite up to the 
AAA rating that it should be.
    Mr. Shays. Okay. Just one last question, Mr. Chairman? So 
if I am an investor, I should not say this is good news that 
they had really higher earnings in the past which they 
understated.
    Mr. Egan. No, because it is going to be depressed in the 
future. It is just taking earnings that they are pushing out in 
the prior years and they won't have it in the future years. It 
just means that the volatility will be greater. It is not 
comforting.
    Mr. Shays. Okay. Thank you, Mr. Chairman. Thank you to the 
panel.
    Chairman Baker. Thank you, Mr. Shays.
    Mr. Clay?
    Mr. Clay. Thank you, Mr. Chairman. I want to thank the 
panel for their testimony today.
    First, a few observations in regard to this legislation and 
the subject matter. I think we must identify the level of 
mismanagement, be it accounting problems or criminal activity. 
Solutions for Freddie Mac must be based somewhat on those 
answers. Are we going too fast without knowing what we are 
correcting? Or are we negatively affecting the markets with 
this rush to judgment? Hopefully these hearings will bear that 
out.
    Let me ask about the proposed bill which imposes 
restrictions on non-mission-related investment by Fannie Mae 
and Freddie Mac. My understanding is that the non-markets 
investment portfolio is used as an essential risk-management 
tool. These liquid investment portfolios serve as a capital 
cushion used by the companies to manage liquidity needs. By 
restricting this risk-management too, the bill takes away 
Fannie Mae's and Freddie Mac's ability to manage a liquidity 
crisis like the one the country experienced in the fall of 
1998. Because of the current structure, Fannie Mae and Freddie 
Mac were able to step up in a turbulent time and provided 
stability in the United States housing markets. Why do you 
think this tool should be eliminated? We can start with you, 
Mr. Egan.
    Mr. Egan. I don't think it should be eliminated. I think it 
has to be properly managed or you run the risk of losing the 
tool, so to speak. These are great institutions. They have 
created a huge amount of good for a number of people. The risk 
is that they are not regulated properly; that they are 
misperceived in the market; that if the problem is not 
addressed in the near future, that you cut off access to 
mortgage funding for a lot of people. So our view is that it 
just has to be managed properly and hopefully some other 
institutions will grow to compete with these two. It is a very 
important area and it is unwise to leave just two major 
institutions fulfilling this function.
    Mr. Clay. I heard you say that before, too. Now, do you 
think that other institutions will step up and follow the 
mission statement of these two entities, I mean to really go 
after the low-and moderate-income individuals who have that 
desire to realize the American dream?
    Mr. Egan. Yes, because there is a profit incentive. The 
institutions have outgrown their $2.2 billion capital line. 
Other institutions can be set up to serve that area. So yes, I 
think that other institutions will fill the void.
    Mr. Clay. Let me ask you, based on an open-ended public 
interest standard, this new regulator that is proposed in the 
legislation could make public any information about Fannie Mae 
or Freddie Mac. Doesn't this bill throw overboard any notion of 
safeguarding proprietary corporate data or examination 
confidentiality? Wouldn't one impact be to make all corporate 
data potentially available to competitors? Anybody can tackle 
it.
    Mr. Schatz. Mr. Clay, I would expect that as the 
subcommittee and full committee review the specific provisions 
of the bill that it would protect any proprietary information 
for Fannie Mae and Freddie Mac as it would any other company. I 
would hope that would be the ultimate outcome of that 
particular piece of legislation. No one is intending that their 
proprietary information be made public. That does not happen in 
other circumstances and it would not be appropriate here.
    Mr. Clay. Would that really put those two entities at a 
disadvantage, those GSEs at a disadvantage?
    Mr. Schatz. Again, I have not examined every single word, 
but it seems to me that whatever bill comes out of the 
committee would simply not do that.
    Mr. Clay. Okay.
    Mr. Egan. A good measure of whether or not they have 
anything proprietary is whether or not they have a number of 
their officers sign confidentiality agreements pertaining to 
the software they use for managing derivatives and things of 
that nature. It would be surprising if they have that much 
proprietary information.
    Mr. Clay. Okay. From what I understand, developing a new 
product can take a lot of time, money and resources. When 
Fannie Mae or Freddie Mac make this effort and start to work 
with a group of pilot lenders, sometimes they are not sure 
whether the new idea will appeal to consumers. Why would the 
GSEs and lenders advance so much effort into product 
development if there is a greater fear and chance that a 
regulator would turn it down?
    Ms. Petrou. That is the same risk that, of course, Congress 
has asked all the nation's banks, savings associations and 
financial holding companies to take because that investment is 
backed by the taxpayer. Programs can look little. There is one 
right out there now which is described as a pilot that Fannie 
is working with some lenders to offer in 50 percent of the 
nation's mortgage markets. That is really I think a form of 
consumer lending. So prior approval which bank regulators are 
good at and banks are good at filing all those applications has 
never been an impediment to innovation and I don't think it 
would be for Fannie or Freddie either.
    Mr. Clay. I thank the panel for their answers.
    Thank you, Mr. Chairman.
    Chairman Baker. Thank you, Mr. Clay.
    Mr. Baca?
    Mr. Baca. Thank you very much, Mr. Chairman.
    First of all, let me thank the panelists for appearing here 
today. I have a couple of concerns that I would like to 
express, but before I do, I would like to recognize the work 
that Fannie Mae and Freddie Mac have both done. They have 
served an important role particularly for the Hispanic and 
minority community. Both companies have a very good track 
record of expanding minority homeownership. Hispanic ownership 
rates have increased from 44.7 percent in 1998 to 48.2 percent 
in the year 2002. In the year 2002, more than half of Fannie 
Mae's business served low-income and moderate-income families. 
And Freddie Mac also financed over $135 billion in loans to 
almost one million minority families in the year 2002. Finally, 
Fannie Mae has also created the American dream commitment to 
provide $2 trillion in financing in serving 18 million families 
by the end of the decade. I am very much concerned about the 
effects that this legislation is going to have. My question 
would be, what information can you provide me to show that 
Hispanics and other minority communities will not be hurt by 
some of the proposals that we are hearing here today? That is 
question number one. And two, in particular, what effect would 
change in the oversight from HUD to the Treasury Department 
have? That is question number two. And is the regulation 
necessary to avoid more corporate scandals? That is the third 
question.
    Any of the panelists like to tackle this? I heard Karen 
mention we are too generous. What does that mean? For whom or 
what? And what effects then will it have on minorities now who 
have the first opportunities to own a home? They never had it. 
Are we going to change it?
    Ms. Petrou. I don't think I said that any public policy was 
too generous to low-income and minority homeowners. That is the 
most struggling part of the market and it is really where the 
$13 billion of subsidies provided on an annual basis to all of 
the housing GSEs should be directed. What I tried to suggest 
and I think there is some significant research out there that I 
would be happy to submit for the record, is that good 
regulation would reduce the funding costs of the GSEs and that 
would make it easier for them to reduce homeownership costs, 
particularly at the most struggling ends of the market.
    Mr. Baca. What effects would it then have on minorities or 
Hispanics on homeownership?
    Ms. Petrou. I think it would result in increased 
homeownership. For example, if you look around many areas of 
the cities, the District of Columbia is the one with which I am 
the most familiar, aspects of the market or access knowledge, 
language barriers, and that is very costly. I think helping the 
GSEs reduce their cost of operations would permit more of those 
funds to translate into Hispanic homeownership.
    Mr. Baca. What outreach or programs would be available to 
make sure that was done? You can have the regulations, but if 
you don't have the outreach into the minority communities or 
others to what is available, and what Fannie Mae and Freddie 
Mac are doing is that they are doing that. The educational 
programs, then, would not be effective.
    Ms. Petrou. That is what a good regulator is for, to say 
here is what you do and to be sure that is what they are doing.
    Mr. Baca. It doesn't happen all the time, though. Can 
somebody else answer the additional questions that I asked?
    Mr. Egan. Our perception is that the market does not give 
gifts. That is that minority homeownership has increased 
dramatically because it has become easier in the market to 
afford the mortgage. Interest rates have dropped to record low 
levels. Hopefully, these two GSEs will continue their good work 
and the levels that they have in the past, and hopefully they 
can get some more capital. But don't confuse the record number 
of homeownership with their growing very rapidly. It is broader 
than that. It is really a function of decent economic times 
overall and the record drop in interest rates.
    Mr. Baca. Right. Well, that is why I am concerned a little 
bit with the proposal because when you open the market, then 
you target certain individuals that could lead to additional 
scandal and corruption and targeting especially minorities and 
Hispanics, and especially if the education is not out there, 
too, as well, based on these that would be available. So I 
mean, that is the concern that I have as we look at what is 
going on.
    Mr. Egan. If you are going to give some special 
consideration to a couple of entities such as a GSE, then 
encourage them to focus on minority groups and make sure that 
they actually do their job. They have incentives to do it and 
monitor it. That is probably the most effective way.
    Mr. Baca. That is why the language is very important that 
is in the proposal to make sure that we have these guarantees.
    Mr. Egan. Yes, but make sure that you do not jeopardize 
these institutions by ignoring their capital levels.
    Mr. Baca. Okay. Thank you.
    Chairman Baker. Thank you, Mr. Baca.
    Mr. Shays, you had a quick follow-up?
    Mr. Shays. Yes, thank you. Just with Mr. Schatz, in his 
statement he said Fannie and Freddie lagged the private market 
in supporting the financing of affordable housing. Why is it 
that Fannie and Freddie basically in spite of their mission 
don't do as well as banks in terms of supporting the low-income 
market?
    Mr. Schatz. Mr. Shays, certainly it is a question to ask 
when they come up to talk to you. I know the Chairman and 
others on this subcommittee have had those questions before. I 
will be happy to forward those studies. But for some reason, 
maybe it is the Community Reinvestment Act, maybe it is other 
requirements of banks, they have done better.
    One of the things we suggested is to have all of the same 
regulations and laws that apply to these banks and other 
lenders, apply to Fannie Mae and Freddie Mac and the Community 
Reinvestment Act would be one area where they might be forced 
to participate more in the affordable housing market. And 
maybe, again, looking at the dichotomy between their mission 
and their objective to bring the greatest possible return to 
shareholders, that the returns are not in the affordable 
housing market. They are in other areas of housing that do not 
improve that particular area of the marketplace.
    Mr. Shays. Let me have one last question, Mr. Egan. Let me 
ask you, will putting Fannie and Freddie under the 1933 and 
1934 Acts hurt their ratings, be neutral, or actually help 
their ratings?
    Mr. Egan. They won't change our ratings because we are 
comfortable with the ratings where they are. They may change 
S&P and Moody's ratings if they realize that the capital line 
is only $2.25 billion and it is not going to grow.
    Mr. Shays. But there you are just basically saying it is 
the knowledge that would hurt them, and that in fact would be 
that they would learn something that already exists, not that 
we created a new problem.
    Mr. Egan. More disclosure is always an advantage. What is 
the biggest problem that we see in the market is when there is 
a big jump, such as when Enron's business was gone, basically, 
they are only left with one party to go to for a savior, and 
that was Dynegy. It is a ``Hail Mary"-type pass. That didn't 
work out, and then the whole entity collapsed. We are better 
off in getting the information out there quickly, making sure 
it is accurate information, and make sure that the reports, the 
ratings that are given to the investors are representative of 
the true risk of these enterprises.
    Mr. Shays. So basically from your testimony you are saying 
more disclosure in the long run helps your ratings, rather than 
hurts them.
    Mr. Egan. Absolutely.
    Mr. Shays. Okay. Thank you.
    Chairman Baker. Thank you, Mr. Shays.
    Mr. Scott, you had a follow-up?
    Mr. Scott. I want to go back to a moment to this business 
of derivatives, because I think that is the core of this. Why 
not just ban the use of the derivatives? Billionaire investor 
Warren Buffett called them financial weapons of mass 
destruction. I mean, if he uses that kind of descriptive 
language, that is enough for me to know that we have a problem 
here.
    Mr. Egan. From our standpoint, derivatives are just another 
higher level of ownership. Initially land was wealth; if you 
owned land, you were wealthy. Then it turned into gold; if you 
held gold or silver, then you were wealthy. And then it moved 
into securities. Hold the stock of AT&T or IBM, well, I am 
wealthy. It is now moving to the point where information is 
wealth, and you can make investment decisions faster and more 
accurately by the next level of sophistication, and that is 
derivatives. The problem is that volatility increases with each 
step. The land isn't going anywhere. The people are not going 
to move dramatically over one year or two years. You can still 
use it for farming or whatever else. The hard assets, they are 
less volatile. But when you move into stocks, it is a little 
bit more volatile. And then derivatives are even more volatile. 
Who knows whether there is going to be an additional layer of 
complexity.
    But the negative is that there is a huge amount of risk. 
Values can change incredibly quickly. You can put on positions, 
take off positions within a matter of seconds. So the risk 
level is there. But to many investors, the benefit is also 
there too that you are able to hedge a portfolio if you know 
what you are doing. You can offset some positions 
inexpensively. So as I said before, it is like nitroglycerin. 
You know you can move mountains with it, but it can blow you up 
if you don't handle it properly.
    Mr. Scott. Right. As we move forward with this legislation, 
what recommendations do you give this committee to address this 
issue of derivatives? If this is the core of the problem, if 
this is one of the major reasons why we are in the shape we are 
in, if in fact it also was the major reason Enron went down, 
would we be not fulfilling our obligation if we did not address 
this in the legislation?
    Mr. Egan. No, but you should make it flexible enough to 
realize that the market is dynamic; that right now we probably 
don't have the right information infrastructure in place to 
manage many of these derivatives. Ideally, what would happen is 
that all these institutions, not only the GSEs, but also the 
financial institutions, would have a central clearinghouse for 
their derivative positions so that a regulator could monitor 
where they stand, whether or not they are getting into trouble. 
When Long-term Capital was in the process or failing, you would 
find out that XYZ Investment Bank had a huge exposure to it. 
Fortunately the New York Fed was able to step up to the task 
very quickly over the weekend and save it. But if they weren't, 
they could have been a real problem.
    So I would suggest that the old models for regulating 
businesses need to be modified. They need to go beyond just the 
10K, the 10Q, the traditional ones; developments are moving 
much faster. It is unrealistic to prohibit the use of 
derivatives. It is beyond that now. What needs to be done is 
make sure that the regulation and the monitoring of that fits 
with the prudent measures; that you are able to manage and see 
whether or not these institutions are holding enough capital; 
whether they are offsetting their derivative positions. It is a 
fairly large task, but it is something that should be addressed 
over the next couple of years.
    Mr. Scott. Thank you. May I just finish? I wanted to ask 
Ms. Karen Petrou, you are with Financial Service Analytics?
    Ms. Petrou. Federal Financial Analytics. That is a firm 
that I am Managing Partner of, along with my husband. We are a 
small business that provides information and consulting 
services.
    Mr. Scott. Very good. You compared the capital base of the 
1980s savings and loan disaster with Freddie Mac's current 
capital ratios. Do you believe that OFHEO has permitted safe 
capital ratios? If not, what would you recommend should be 
changed to improve safety and soundness for these GSEs?
    Ms. Petrou. I believe that the OFHEO capital rule, their 
so-called risk-based capital rule, is analogous to the net 
worth certificates that the then-Federal Home Loan Bank Board 
established for savings and loans in the 1980s, because it is 
fake capital. In the old days, the net worth certificates were 
basically Monopoly money, pieces of paper. The regulator said, 
``Let's pretend it's capital and hope that you grow out of your 
problem so the taxpayer does not pick it up,'' and that was 
wrong.
    Now, we have a much more complex capital rule. It is 700-
plus pages long. At the end of the day, what it says is you can 
count your derivatives as if they were capital. In other words, 
that nitroglycerin is deemed the equivalent of real shareholder 
dollars which ought to be at risk first. I do think that is a 
significant failure that needs rapid attention.
    Mr. Scott. Thank you.
    Chairman Baker. Thank you, Mr. Scott.
    I want to observe that the old rule that Ms. Petrou 
referenced in her remarks, capital supervision and disclosure, 
it may not work in every case, but it is a pretty sound 
formula. On all three counts, we are deficient, in my judgment, 
at this moment. Now, how we reconcile the deficiency is 
certainly a matter for the committee to determine. H.R. 2575 is 
only a point of beginning, not the end of the process.
    I do appreciate each of your appearances here today and 
giving the committee your insights. It has been most helpful. I 
would point out that for the concerns expressed by those 
worrying that if we touch in any manner or fashion GSE 
operations, we will render thousands homeless is not borne out 
by market performance over the last two days. In fact, as 
knowledge of H.R. 2575 has been more widely understood, markets 
appear to have responded favorably because in most views 
additional information inside the mystical black box of GSE 
performance is a helpful thing to truly understand the 
investment risk you are taking by giving them your money.
    I believe over the coming weeks and days as more critical 
analysis is given to the proposal, certainly there may be 
complaints about a particular provision. I think on balance, 
however, it will be found to be a reasonable remedy in light of 
the difficulties we face.
    Some have suggested this morning during the course of the 
committee's conduct that this really is an accounting issue 
which deserves more examination. To that end, I have contacted 
the GAO this morning and asked that they within a 90-day period 
review the current accounting methodologies, the disclosures 
made by Freddie Mac and analyze the potential impact it may 
have on Fannie's market standing within the next 90 days so 
that the committee upon its return from the August recess may 
examine those findings.
    And further to announce that in July upon our return from 
the Fourth of July recess, the committee will conduct another 
hearing for one or two purposes: one, to receive any published 
report that may be ready for public distribution relative to 
current pending inquiries; or secondly, to examine the 
advisability of moving forward with H.R. 2575 or both. To that 
end, I wanted to make those disclosures.
    For all those here representing Fannie, Freddie and the 
Home Loan Banks, if you have comments or questions you would 
like to forward to me for response, I would be happy to receive 
them.
    Meeting adjourned.
    [Whereupon, at 12:30 p.m., the subcommittee was adjourned.]



                            A P P E N D I X



                             June 25, 2003

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