[House Hearing, 111 Congress]
[From the U.S. Government Publishing Office]



 
                        FHFA OVERSIGHT: CURRENT

                          STATE OF THE HOUSING

                    GOVERNMENT SPONSORED ENTERPRISES

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


                                HEARING

                               BEFORE THE

                    SUBCOMMITTEE ON CAPITAL MARKETS,

                       INSURANCE, AND GOVERNMENT

                         SPONSORED ENTERPRISES

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                     ONE HUNDRED ELEVENTH CONGRESS

                             SECOND SESSION

                               __________

                              MAY 26, 2010

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 111-142




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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                 BARNEY FRANK, Massachusetts, Chairman

PAUL E. KANJORSKI, Pennsylvania      SPENCER BACHUS, Alabama
MAXINE WATERS, California            MICHAEL N. CASTLE, Delaware
CAROLYN B. MALONEY, New York         PETER T. KING, New York
LUIS V. GUTIERREZ, Illinois          EDWARD R. ROYCE, California
NYDIA M. VELAZQUEZ, New York         FRANK D. LUCAS, Oklahoma
MELVIN L. WATT, North Carolina       RON PAUL, Texas
GARY L. ACKERMAN, New York           DONALD A. MANZULLO, Illinois
BRAD SHERMAN, California             WALTER B. JONES, Jr., North 
GREGORY W. MEEKS, New York               Carolina
DENNIS MOORE, Kansas                 JUDY BIGGERT, Illinois
MICHAEL E. CAPUANO, Massachusetts    GARY G. MILLER, California
RUBEN HINOJOSA, Texas                SHELLEY MOORE CAPITO, West 
WM. LACY CLAY, Missouri                  Virginia
CAROLYN McCARTHY, New York           JEB HENSARLING, Texas
JOE BACA, California                 SCOTT GARRETT, New Jersey
STEPHEN F. LYNCH, Massachusetts      J. GRESHAM BARRETT, South Carolina
BRAD MILLER, North Carolina          JIM GERLACH, Pennsylvania
DAVID SCOTT, Georgia                 RANDY NEUGEBAUER, Texas
AL GREEN, Texas                      TOM PRICE, Georgia
EMANUEL CLEAVER, Missouri            PATRICK T. McHENRY, North Carolina
MELISSA L. BEAN, Illinois            JOHN CAMPBELL, California
GWEN MOORE, Wisconsin                ADAM PUTNAM, Florida
PAUL W. HODES, New Hampshire         MICHELE BACHMANN, Minnesota
KEITH ELLISON, Minnesota             KENNY MARCHANT, Texas
RON KLEIN, Florida                   THADDEUS G. McCOTTER, Michigan
CHARLES A. WILSON, Ohio              KEVIN McCARTHY, California
ED PERLMUTTER, Colorado              BILL POSEY, Florida
JOE DONNELLY, Indiana                LYNN JENKINS, Kansas
BILL FOSTER, Illinois                CHRISTOPHER LEE, New York
ANDRE CARSON, Indiana                ERIK PAULSEN, Minnesota
JACKIE SPEIER, California            LEONARD LANCE, New Jersey
TRAVIS CHILDERS, Mississippi
WALT MINNICK, Idaho
JOHN ADLER, New Jersey
MARY JO KILROY, Ohio
STEVE DRIEHAUS, Ohio
SUZANNE KOSMAS, Florida
ALAN GRAYSON, Florida
JIM HIMES, Connecticut
GARY PETERS, Michigan
DAN MAFFEI, New York

        Jeanne M. Roslanowick, Staff Director and Chief Counsel
 Subcommittee on Capital Markets, Insurance, and Government Sponsored 
                              Enterprises

               PAUL E. KANJORSKI, Pennsylvania, Chairman

GARY L. ACKERMAN, New York           SCOTT GARRETT, New Jersey
BRAD SHERMAN, California             TOM PRICE, Georgia
MICHAEL E. CAPUANO, Massachusetts    MICHAEL N. CASTLE, Delaware
RUBEN HINOJOSA, Texas                PETER T. KING, New York
CAROLYN McCARTHY, New York           FRANK D. LUCAS, Oklahoma
JOE BACA, California                 DONALD A. MANZULLO, Illinois
STEPHEN F. LYNCH, Massachusetts      EDWARD R. ROYCE, California
BRAD MILLER, North Carolina          JUDY BIGGERT, Illinois
DAVID SCOTT, Georgia                 SHELLEY MOORE CAPITO, West 
NYDIA M. VELAZQUEZ, New York             Virginia
CAROLYN B. MALONEY, New York         JEB HENSARLING, Texas
MELISSA L. BEAN, Illinois            ADAM PUTNAM, Florida
GWEN MOORE, Wisconsin                J. GRESHAM BARRETT, South Carolina
PAUL W. HODES, New Hampshire         JIM GERLACH, Pennsylvania
RON KLEIN, Florida                   JOHN CAMPBELL, California
ED PERLMUTTER, Colorado              MICHELE BACHMANN, Minnesota
JOE DONNELLY, Indiana                THADDEUS G. McCOTTER, Michigan
ANDRE CARSON, Indiana                RANDY NEUGEBAUER, Texas
JACKIE SPEIER, California            KEVIN McCARTHY, California
TRAVIS CHILDERS, Mississippi         BILL POSEY, Florida
CHARLES A. WILSON, Ohio              LYNN JENKINS, Kansas
BILL FOSTER, Illinois
WALT MINNICK, Idaho
JOHN ADLER, New Jersey
MARY JO KILROY, Ohio
SUZANNE KOSMAS, Florida
ALAN GRAYSON, Florida
JIM HIMES, Connecticut
GARY PETERS, Michigan

                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    May 26, 2010.................................................     1
Appendix:
    May 26, 2010.................................................    41

                               WITNESSES
                        Wednesday, May 26, 2010

DeMarco, Edward J., Acting Director, Federal Housing Finance 
  Agency (FHFA)..................................................    10

                                APPENDIX

Prepared statements:
    Kanjorski, Hon. Paul E.......................................    42
    Bachus, Hon. Spencer.........................................    44
    Marchant, Hon. Kenny.........................................    45
    DeMarco, Edward J............................................    47

              Additional Material Submitted for the Record

DeMarco, Edward J.:
    Written responses to questions submitted by Chairman 
      Kanjorski..................................................    57


                        FHFA OVERSIGHT: CURRENT


                          STATE OF THE HOUSING


                    GOVERNMENT SPONSORED ENTERPRISES

                              ----------                              


                        Wednesday, May 26, 2010

             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 notice, at 2:02 p.m., in 
room 2128, Rayburn House Office Building, Hon. Paul Kanjorski 
[chairman of the subcommittee] presiding.
    Members present: Representatives Kanjorski, Sherman, Lynch, 
Scott, Maloney, Donnelly, Childers, Adler, Himes; Garrett, 
Castle, Royce, Biggert, Capito, Hensarling, Gerlach, Campbell, 
Neugebauer, Posey, and Jenkins.
    Also present: Representatives Watt and Marchant.
    Chairman Kanjorski. Good afternoon. This hearing of the 
Subcommittee on Capital Markets, Insurance, and Government 
Sponsored Enterprises will come to order.
    Pursuant to committee rules and prior discussions with the 
ranking member, each side will have 15 minutes for opening 
statements. Without objection, all members' opening statements 
will be made a part of the record. I yield 5 minutes to myself 
for an opening statement.
    We meet this afternoon to examine the Federal Housing 
Finance Agency in its oversight of Fannie Mae, Freddie Mac, and 
the Federal Home Loan Bank System. This hearing is the fourth 
in a series the Capital Markets Subcommittee and the full 
Financial Services Committee have, so far, convened in this 
Congress to examine the future of housing finance.
    The Housing and Economic Recovery Act of 2008 created the 
Federal Housing Finance Agency and gave the regulator many new 
powers. At the request of then-Secretary Paulson, the law also 
authorized the Treasury Department to provide emergency 
backstop liquidity for Fannie Mae and Freddie Mac. Within weeks 
of enactment, policymakers in the Bush Administration decided 
to place the two Enterprises into conservatorship and make 
available government support. Since then, the two Enterprises 
have worked to improve the quality of loans they buy and to end 
problematic programs.
    The Treasury Department has also purchased $144.9 billion 
in senior preferred stock of Fannie Mae and Freddie Mac. In 
addition, the government has purchased more than $1.3 trillion 
of the Enterprises' mortgage-backed securities. Together, these 
sizable commitments have helped to preserve housing credit 
during tough economic times.
    As our housing markets have begun to stabilize, the 
government has now started to scale back its efforts. 
Specifically, at the end of March, the Federal Reserve ended 
its program to purchase mortgage-backed securities. Going 
forward, we must continue to return to the private sector those 
functions that properly belong with the private sector. We need 
to closely monitor the mortgage rates and investor demand, as 
well.
    Chairman Frank has noted that two important points of 
consensus have emerged from our two most recent hearings on the 
future of housing finance. First, the Enterprises' major losses 
have come from their pre-conservatorship activities. Second, 
the major players in our housing markets have agreed that we 
could cause considerable economic harm if we simply abolished 
Fannie Mae and Freddie Mac without putting something new in 
their place. I very much agree with both assessments.
    We will, in the near future, complete our work on the Wall 
Street Reform bill. During these debates, some have regularly 
sought to use questions about the future of Fannie Mae and 
Freddie Mac as a toxic poison pill to forestall progress on 
this must-pass legislation. I find this situation very 
unfortunate, as the bill includes important provisions to alter 
the securitization process, impose risk retention requirements, 
and strengthen rating agency accountability. Once we resolve 
these baseline policy issues, we can turn our full attention to 
broader questions about how to reorganize our housing finance 
system.
    Today's testimony will help us to determine how to move 
surgically and strategically on these important matters. It 
will help us to decide what elements of our housing finance 
system we need to keep and what aspects we should discard. In 
the months ahead, I plan to convene more hearings on these 
matters.
    Before closing, I want to express my disappointment at the 
failure of our witness to respond to the request to address the 
issues related to the Home Valuation Code of Conduct in his 
written testimony. The House-passed Wall Street Reform bill 
contains my comprehensive appraisal independence and regulatory 
reforms, which many view as fixing the Code's implementation 
problems.
    The bill also includes Congressmen Miller and Childers' 
amendment to sunset the Code. Because Congress is very focused 
on these issues, we need an update from the regulator.
    In sum, today's hearing is part of a deliberative process 
that will ultimately lead to a new housing finance system. My 
goals in these debates are to limit taxpayer risk and establish 
a more stable, long-term funding source to help hardworking, 
responsible middle-class American families to buy a home with 
an affordable mortgage. I look forward to the testimony.
    Now, I would like to recognize the ranking member, Mr. 
Garrett, for 3\1/2\ minutes.
    Mr. Garrett. I thank the chairman. And just as an aside, 
before I begin, I would just like to comment on the chairman's 
comments. There are those of us who say, yes, reform needs to 
be done, and we do support moving reform legislation through 
the House and the Senate. But we see no reason why it cannot 
include reform of GSEs at the same time.
    But I do thank the chairman and I thank the witness who is 
here today. During normal times--well, actually, I should step 
back. When Congress passed the Housing and Economic Recovery 
Act, we created a new regulatory body for the GSEs called the 
FHFA. In that legislation, there is a requirement that the head 
of the FHFA comes before Congress once a year. And I was going 
to say during normal times, a once-a-year requirement for such 
an appearance might be reasonable. But under current 
circumstances, when, quarter after quarter, the American 
taxpayers are forced to hand out literally billions and 
billions and billions of dollars to keep Fannie and Freddie 
solvent, this requirement is really not sufficient.
    Currently, Fannie and Freddie are costing us more than all 
the other bank bailouts combined. That is why I am pleased to 
cosponsor legislation that's being introduced today, I believe, 
by my good friend from Texas, Mr. Hensarling. And that would 
require the Director to come to Congress and testify every time 
Fannie and Freddie thinks they need an additional infusion of 
taxpayer bailout funds.
    Too many times when this committee has been debating the 
problems with the GSEs, the focus has been on past mistakes 
instead of the future. Regardless of whose fault it was that 
these two entities encouraged the creation of the subprime 
housing crisis and the collapse of our financial sector and the 
economy, there is a litany of problems that need to be 
addressed by this body, and we need to do it today.
    So, no matter how much my colleagues on the other side of 
the aisle attempt to ignore these problems, they really do 
persist.
    And when the Administration and the Majority are faced with 
problems of Fannie and Freddie Mac and what are they going to 
do about it, it seems up until now, they turned a blind eye to 
it. We need to have more and more oversight hearings, and 
create an independent inspector general within the FHFA. They 
have turned a blind eye to those ideas.
    When Fannie and Freddie need to be put on budget, so that 
taxpayers know what they are exactly on the hook for, as my 
bill would do, well, they have turned a blind eye to that, as 
well.
    When we had an opportunity to stop the bailouts and end 
additional taxpayer losses, well, they turned a blind eye to 
that.
    And when we have an opportunity to address the future of 
these entities in the regulatory reform bill, well, we have 
seen what has happened in the Senate; they have turned a blind 
eye to that, as well.
    My friends in the Administration and the other side, the 
Majority, continue to ignore and delay dealing with these 
problems. But at some point in time, they are really going to 
have to open their eyes to reality. In fact, the only time that 
this Administration or Congress will do anything about the 
future of these two entities is when they say they need an 
increase in the bailouts of the GSEs, and the fact that they're 
receiving them and receiving them from the taxpayers at further 
risk with their ineffectual mortgage modification programs. 
That's basically just throwing good money after bad.
    So, when it's all said and done, the bailouts of Fannie Mae 
and Freddie Mac will go down as the most expensive bailouts of 
this crisis by wide margins. However, this Administration and 
this Congress just want to keep acting like there is really no 
problem, and keep turning a blind eye to it.
    So, I look forward to today's hearing, and hope that this 
is a sign that this committee is starting to get serious about 
addressing the multitude of serious issues relating to Fannie 
and Freddie, and the future of housing finance in this country.
    And with that, I yield back the balance of my time.
    Chairman Kanjorski. Thank you, Mr. Garrett. Next, we will 
hear from the gentleman from California, Mr. Sherman, for 3 
minutes.
    Mr. Sherman. Thank you, Mr. Chairman. I want to bring up 
two issues.
    The first is this new predatory financial scheme called the 
private transfer fee covenants. Under these covenants, buried 
in the loan documents or sale documents is a requirement that 
for 99 years, whenever the house is sold, a percentage of the 
sale price needs to be mailed to some Wall Street investor. 
This is a new private real estate transfer tax with the money 
going to Wall Street.
    It's my understanding that the FHFA has refused to 
participate in such transactions. I would hope that the Fannie 
and Freddie would do likewise. This is: first, a matter of 
consumer protection; second, a matter of avoiding undue 
complications in what is already a very complicated 
transaction; and third, a matter of the security of the GSE, in 
that this impairs the value of the home.
    Second, we have a fragile recovery. Nothing could destroy 
this recovery more than a double-dip in home prices. We need to 
stabilize home prices. Home prices reflect and home values 
reflect transactions. Transactions have to be financed. And for 
middle-class people, all financing today goes through Fannie, 
Freddie, or FHFA.
    What we will see at the end of the year is a dramatic 
decline in the size of transactions that Fannie, Freddie, and 
FHFA can deal with in high-cost areas. In Los Angeles, where 
it's 729, 750, that drops probably to 625, but perhaps into the 
500's if Congress does not act this year. And that would 
devastate southern California. It would--nothing is more likely 
to push us into a double-dip recession.
    I want to commend to my colleagues the Sherman-Miller bill 
that would say that we simply do not have a decline in these 
conforming loan limits. It is my understanding that the GSEs 
actually make a profit on those loans that are over $417,000 
and as high as $729,000.
    And second, I want to advise my colleagues that whereas in 
some rural parts--and even some urban parts--of this country, a 
home that sells for $417,000 is a mini-mansion. Even today, in 
Los Angeles, in New York, in San Francisco, working class 
people struggle and save and they have to buy a home for 
$500,000 or $600,000. The economy of the area is built on that. 
And if we say, ``No, your home is too lavish because it sells 
for more than $417,000,'' that doesn't apply to my district, 
where such a home is certainly not lavish. I yield back.
    Chairman Kanjorski. Thank you. Now I will recognize the 
gentleman from California, Mr. Royce, for 2\1/2\ minutes.
    Mr. Royce. Thank you, Mr. Chairman. Once upon a time, the 
GSEs were involved in securitization of loans here in the 
United States. They weren't involved in arbitrage, they weren't 
leveraged 100-to-1. They weren't buying massive amounts, 
trillions in subprime loans. But Congress did get in the act in 
1992, passed the GSE Act, and changed a lot of that.
    One of my more vivid memories is the Federal Reserve coming 
here and warning us that we faced systemic risk if Fannie and 
Freddie collapsed because of the subprime loans that were 
mandated on them by Congress--subprime and Alt-A had to be half 
of the loans--that this would be a systemic shock that would 
affect the financial system, and we would end up with a 
collapse in housing; in 2002, 2003, and 2004, we were warned by 
the Fed on this.
    Because of the legislation that was passed, that is why the 
GSEs became the largest purchasers of junk mortgages. That is 
why, in those portfolios, they held those junk mortgages that 
they purchased at the end of every quarter. And this meant 
that, despite the low quality of the loans, millions of 
Americans--the perception at the time was, well, maybe a 
million Americans have a mortgage now that they otherwise could 
not afford, even though 30 percent of those transactions every 
year were people flipping homes within 6 weeks.
    Well, pairing those affordable housing mandates with the 
GSE excessive leverage was a toxic combination that was at the 
heart of the housing bubble. When we tried to reign in the GSEs 
by decreasing those mortgage portfolios--that they held in 
their portfolios, our efforts were blocked because they were 
viewed, unfortunately, as a tax on subsidized housing. They 
weren't, but the argument went out, and the Democrats in the 
Senate were able to stop legislation from reaching the Floor. 
Chris Dodd played that role at the time. And my legislation 
here on the House Floor failed.
    Going forward, we must reconsider the flawed notion that 
zero downpayment loans and subprime and because everybody has 
to own a house--you're going to create the moral hazard of a 
system like this that tries to trump economic reality. Because, 
in the end, the Fed is right. You will face that systemic risk, 
as we did here. And that is, I think, the one thing that we 
might glean out of this that would keep us from allowing an 
institution to so overleverage in the future. Thank you, Mr. 
Chairman.
    Chairman Kanjorski. Thank you, Mr. Royce. Now, we will hear 
from the gentleman from Georgia, Mr. Scott, for 3 minutes.
    Mr. Scott. Thank you very much, Mr. Chairman, and it's good 
to have this timely hearing.
    I think one fact that certainly pervades our thinking today 
is this monumental loss of value in our homes--over the last 3 
years, $9 trillion in value. Nothing has been more devastating 
to our homeowners than the fact--to see how their most basic 
investment for wealth building, that they have lost so much 
value in their homes. And I think that is a challenge for us to 
look at, all of us that are involved in this, of how we can 
recover that and assist our homeowners in recovering the lost 
value. It's going to be difficult.
    But we have come through a period where we have had these 
adjustable mortgage rates that have come through with teaser 
rates that were used that ballooned the payments up over the 
last 3 years. And we are paying the price for that now.
    But we do have a rather structured oversight with the new 
supervision of the FHFA, and as we know, it was structured to 
regulate the operations of the GSEs and to ensure that another 
financial crisis like this does not happen on our watch.
    And so, it's very important that we examine very carefully 
how we got into this situation. It's the best way of 
determining how you get out.
    And in addition to this structured oversight, we have to 
continue to be alert to economic indicators--again, learn from 
our past experience in this financial system. For example, in 
my own home State of Georgia, we continue to lead the country 
in bank failures. And that must stop.
    But I think we can learn from what happened in my State of 
Georgia, where 32 banks--32 banks--collapsed within the last 2 
years alone, to see what we must not do, and to see what we can 
correct and also to see, as we move on, how we can help. These 
were small, these were basically largely community banks who 
make up 85 percent of lenders that hold stock in Fannie and in 
Freddie, and also worked to bring access to capital to many of 
my constituents.
    It is a fact that we know--and maybe we can do something 
about the fact--when smaller banks would be so overleveraged. 
And the one fact we found out of a common characteristic of 
these small banks in Georgia was that most of them had nearly 
or over 80 percent of their loans, of their lending capacity, 
in real estate. And they really manifested the real estate 
bubble, and it burst on them.
    We have some very serious questions that we need to take a 
look at. There is one question that I hope we can deal with, in 
terms of looking at the role that the Federal Home Loan Banks 
can play, which have done an admirable job in this crisis, and 
I think have a lot more that they can offer in the housing 
financial system. And I think we should use and look to them, 
and build on the good work that they have done.
    And then, the overall question of what role should 
government play? What role should we play in this entire reform 
of the GSEs to make sure that they are adequate sources of 
liquidity? These are very important questions. Learn from the 
past. Look from the past, look how we're going forward.
    This is a very timely hearing, Mr. Chairman, and I look 
forward to hearing from Mr. DeMarco.
    Chairman Kanjorski. Thank you very much, Mr. Scott. Now, we 
will hear from the gentlelady from Illinois, Mrs. Biggert, for 
2\1/2\ minutes.
    Mrs. Biggert. Thank you, Mr. Chairman. Since entering into 
conservatorship in the fall of 2008, U.S. taxpayers have 
propped up Fannie Mae and Freddie Mac to the tune of nearly 
$150 billion. And taxpayers are on the hook for $5 trillion in 
outstanding mortgage obligations. Let me repeat that number: 
Taxpayers are on the hook for $5 trillion.
    Edging out private sector mortgage market participants, 
Fannie and Freddie guaranteed or financed over three-quarters 
of new single-family mortgages in 2009. And I have said it 
before and I will say it again. Taxpayers deserve to know where 
their dollars are going, what risk they are being exposed to, 
and how these institutions are being managed or mismanaged.
    On May 6th, the Oversight and Investigations Subcommittee 
held a hearing entitled, ``The End of Excess, Part One: 
Reversing Our Addiction to Debt and Leverage.'' During that 
hearing, we learned about our country's unsustainable levels of 
debt, a barrier to our future economic prosperity. High taxes, 
inflation, and higher unemployment rates will be the byproducts 
of the current Administration's fiscal irresponsibility.
    Linked to this irresponsibility is the Administration's 
unlimited guarantee of the debt of Fannie and Freddie. During 
the O&I hearing, I cited a Wall Street Journal article that 
said that Fannie and Freddie were twice as leveraged as Bear 
Stearns. Yet the Administration has not appointed an inspector 
general to provide objective, independent oversight over the 
Federal employees who now control the GSEs.
    It is inconceivable that the officials managing these 
liabilities would not be allowed to do so without proper 
transparency, independent oversight, and thorough reporting to 
Congress and the American people. Thus, I asked the GAO to 
expand their study on leverage, as mandated under EESA, to 
include a review of the balance sheets of the GSEs. We expect 
the GAO to produce that important study in the coming months.
    A thorough examination by the GAO is critical in ensuring 
that Congress and taxpayers understand how the markets 
collapsed, what risk taxpayers are still being exposed to, and 
how to keep it from ever happening again. In the meantime, it 
is unacceptable that the Administration continue to kick the 
can down the road and still have no firm exit strategy to spare 
taxpayers from future losses associated with Fannie and 
Freddie.
    Republicans are ready to address this problem and get 
taxpayers out of this mess. And with that, I yield back.
    Chairman Kanjorski. Thank you, Mrs. Biggert. We will now 
hear from the gentlelady from West Virginia, Mrs. Capito, for 2 
minutes.
    Mrs. Capito. Thank you, Mr. Chairman, for convening this 
hearing today. The committee will be having more hearings on 
the future of housing finance and the role of Government 
Sponsored Enterprises Fannie and Freddie, while we are sitting 
here today with the Director of the Federal Housing Finance 
Agency. And thank you for coming.
    The future of regulatory reform is looming over Congress. 
The Senate has acted, and we are now headed to conference. 
Unfortunately, neither the House nor the Senate package 
addresses one of the most major causes of the financial 
downturn: the role of Fannie and Freddie in our mortgage 
markets. These entities now owe--as we have heard from several 
others--the taxpayers a total of $147 billion. And last 
Christmas Eve, it was announced that we were removing any 
limits on the Federal funds to cover the losses of the GSEs.
    This is a missed opportunity for our Nation. The troubles 
in the mortgage markets were at the root cause of the financial 
downturn. Yet the current Administration does not seem willing 
to acknowledge the serious need to start working on a plan for 
the future of housing finance.
    House Republicans on the Financial Services Committee 
worked together on a list of goals and principles for GSE 
reform. We stand ready to work with our colleagues to properly 
reform the GSEs and create a system where the taxpayers are no 
longer on the hook for the losses of Fannie and Freddie.
    Again, I thank the chairman, and I look forward to the 
testimony from Director DeMarco. Thank you.
    Chairman Kanjorski. Thank you very much, Mrs. Capito. Now, 
we will hear from the gentleman from Massachusetts, Mr. Lynch, 
for 2 minutes.
    Mr. Lynch. Thank you, Mr. Chairman, for holding this 
important hearing. I want to thank Mr. DeMarco for appearing as 
a witness and offering to help the committee with its work.
    I think we have all learned much more about the mortgage 
securitization process since the financial crisis began, and 
just how central a role it played in the meltdown. Through 
investigative reports that we have received before this 
committee, as well as in the popular press, such as in in-depth 
accounts like Michael Lewis', ``The Big Short,'' and Andrew 
Ross Sorkin's, ``Too Big to Fail,'' we have seen just how much 
took place in the dark, without proper oversight from the 
regulators, and in some cases under morally suspect 
circumstances.
    The way that mortgage-backed securities have been created, 
packaged, marketed, and managed has shed a great deal of light 
into how the system worked and how a lot of people made a lot 
of money from it. Unfortunately, Fannie Mae and Freddie Mac 
were not immune to this. They may have come late to the game, 
but we know that Fannie and Freddie began to enter the subprime 
and Alt-A markets just as the subprime market was tripling in 
size.
    Rather than guaranteeing these less creditworthy loans, 
Fannie and Freddie increasingly purchased, and actually held in 
their portfolios, many securities backed by subprime and Alt-A 
loans. Fannie and Freddie should have never been allowed to 
purchase such dangerous and risky loans. I know they were 
concerned about losing a big part of the market, but the 
housing finance system that was created in the wake of the 
Depression to promote homeownership led to the rise of the 
middle class. But the mortgage markets have changed a great 
deal over the last 25 years, and it's clear that the change is 
needed, and new structures need to be established.
    I agree with the decision to deal with Fannie and Freddie 
separately from the financial regulatory reform bill considered 
by this committee. However, as that process winds down with the 
appointment of a conference committee, I think the time has 
come to address this important issue.
    I look forward to an informative discussion on the future 
of housing finance and the current state of the Government 
Sponsored Enterprises, and I thank the chairman for the time. I 
yield back.
    Chairman Kanjorski. Thank you very much, Mr. Lynch. Now, we 
will hear from the gentleman from Texas for 2\1/2\ minutes. Mr. 
Hensarling?
    Mr. Hensarling. Thank you, Mr. Chairman. I can't help but 
notice that yesterday, the full Financial Services Committee 
had a hearing on a $350 million--with an ``M''--housing 
proposal, and here we are today, at the subcommittee level, 
having a hearing on a program that has now cost taxpayers $147 
billion and, as the gentlelady from Illinois so aptly pointed 
out, $5 trillion on the hook.
    I have been informed that this is a required hearing under 
HERA. And if that is indeed correct, I lament the fact that we 
don't have greater participation, and are not doing this at the 
full committee level. This is something I don't understand, 
which, as our ranking member has pointed out, is one of the 
reasons I have introduced H.R. 5391, the Federal Housing 
Finance Oversight Board Increased Transparency Act, to ensure 
that any quarter that either of the Government Sponsored 
Enterprises requests more taxpayer bailout money, we will have 
testimony received at the full committee level.
    If there are any two institutions that demand more 
accountability and more transparency, it's the Government 
Sponsored Enterprises and, as many of my colleagues have 
pointed out, the most polite term I can think of is ``curious'' 
that we would have major financial reform legislation--some of 
the most major legislation in decades--dealing with our 
financial crisis, and somehow Fannie and Freddie are left out 
of the mix. This I don't understand.
    Now, the distinguished chairman of the Senate Banking 
Committee said, ``Well, this system is very complex.'' And so 
the answer from the Senate side is that, ``We will conduct a 
study.'' The answer from the Administration is, ``We will 
monitor.'' And the answer from the House is, ``We will exempt 
them from the purview of this legislation,'' and allow the 
taxpayer hemorrhage, unfortunately, to continue.
    Mr. Chairman, that is simply unacceptable. Fannie and 
Freddie were at the ground zero of the economic crisis. This is 
the most expensive bailout--more than AIG, more than GM, more 
than Chrysler, more than any other bank--and here we are, 
again, having a hearing relegated to the subcommittee level. 
And these two financial Frankensteins that have wreaked so much 
havoc on our economy can no longer be ignored.
    With that, I yield back the balance of my time.
    Chairman Kanjorski. Thank you, Mr. Hensarling. We will now 
hear from the gentleman from Texas, Mr. Neugebauer, for 2 
minutes.
    Mr. Neugebauer. Thank you, Mr. Chairman. And like my other 
good friend from Texas, I am a little surprised, too, that we 
aren't having this hearing in the full committee when you look 
at the amount of risk that the taxpayers are already at, and 
what they have already put into this.
    Twenty months and at least $145 billion later, taxpayers 
are asking what they're getting for their money that they put 
into Freddie Mac and Fannie Mae. They not only own 80 percent 
of these companies, but they continue to report quarterly 
losses in the billions of dollars. As long as these losses 
continue, the government has pledged unlimited supply and 
support of taxpayer dollars.
    While Congress and the Administration continue to put off 
planning for the future of Fannie Mae and Freddie Mac, we can't 
afford to put off the oversight of the hundreds of millions of 
dollars that are already at risk and continue to climb. We need 
to understand how these entities are operating today, and what 
risks they are taking, and whether their losses are in the 
older mortgages or if they're in the newer mortgages, as well.
    We need to know how the GSEs plan to manage the risk of 
their large portfolios, especially since the Treasury relaxed 
the benchmarks for portfolio reduction.
    With Fannie Mae and Freddie Mac responsible for three-
quarters of the mortgage market, and functioning as wards of 
the state, we need to know whether these companies are being 
run to minimize further losses to the taxpayer, or as tools to 
carry out the Administration's policy goals.
    The GSEs can't be shut down overnight, but we can start 
phasing down the size now, until we get a plan in place. When 
is Congress going to put a limit on taxpayer support and set a 
deadline for winding these companies down?
    With that, I yield back my time, Mr. Chairman.
    Chairman Kanjorski. I thank the gentleman from Texas. Are 
there any other requests for time on the Democratic side? I see 
none, so we are ready to take the testimony from our witness.
    Today, we have Mr. Edward DeMarco, Acting Director of the 
Federal Housing Finance Agency. Thank you for appearing before 
the subcommittee today. Without objection, your written 
statement will be made a part of the record. You will be 
recognized for a 5-minute summary of your testimony.
    Thank you, Mr. DeMarco. You have the floor.

   STATEMENT OF EDWARD J. DEMARCO, ACTING DIRECTOR, FEDERAL 
                 HOUSING FINANCE AGENCY (FHFA)

    Mr. DeMarco. Thank you, Mr. Chairman. Chairman Kanjorski, 
Ranking Member Garrett, and members of the subcommittee, thank 
you for inviting me to speak on the current state of the 
housing GSEs: Fannie Mae; Freddie Mac; and the 12 Federal Home 
Loan Banks.
    My written statement provides a detailed report. Yesterday, 
FHFA released its annual, ``Report to Congress'' which provides 
detailed summaries of our annual examination findings at each 
of the housing GSEs.
    I will briefly summarize key points in three areas: the 
purpose and goals of FHFA's conservatorships; findings from 
FHFA's oversight of the GSEs; and principles and issues that 
may be considered by Congress when contemplating the future of 
the GSEs.
    Beginning with conservatorship, the Enterprises have been 
in conservatorship since September 2008. The purpose of 
conservatorship is to preserve and conserve each company's 
assets to enable them to fulfill their mission and mitigate the 
systemic risk that contributed to instability in financial 
markets. The conservatorships have been effective to date, 
instilling confidence in the market that the Enterprises are 
capable of fulfilling their statutory role.
    Although the Enterprises' substantial market presence has 
been a key step to restoring market stability, neither company 
would be capable of serving the mortgage market today without 
the ongoing financial support provided by the Treasury 
Department. Including the amounts requested at the end of the 
first quarter, the Enterprises will have drawn nearly $145 
billion.
    While reliance on the Treasury Department's backing will 
continue until legislation produces a final resolution of the 
Enterprises' future, as conservator, FHFA is limiting the 
Enterprises' risk exposure by preventing them from entering new 
lines of business, ensuring that the new business they are 
taking on is profitable, and minimizing losses on mortgages 
originated pre-conservatorship by executing an aggressive 
program of loss mitigation that ranges from loan modifications 
to graceful options for homeowners to exit their homes, short 
of foreclosure.
    Let me briefly summarize some key points from yesterday's 
annual report. While housing finance continues to depend 
critically on the Enterprises, FHFA rates both Fannie Mae and 
Freddie Mac to be critical supervisory concerns, mainly due to 
continuing credit losses associated with the 2006 and 2007 
books of business, as well as forecasted losses yet to be 
realized. FHFA expects the high delinquency rates to continue 
for these older books of business, due to uncertain house price 
paths, weak employment, and continued economic uncertainty.
    Another problem faced by both Enterprises relates to their 
high degree of operational risk and limits to their operational 
capacity.
    With regard to the Federal Home Loan Banks, FHFA is looking 
for the Home Loan Banks to return to more traditional 
operations and activities, with a focus on advances to member 
institutions, and a gradual reduction in investment portfolios 
which are not needed to support core business activities and 
safety and soundness.
    The Federal Home Loan Banks' advance business continues to 
experience no credit losses, but it is shrinking. Advances fell 
to $572 billion, as of the end of March, which is down 9 
percent from the prior quarter, and 30 percent from a year ago. 
Advances are now down 44 percent from the peak in 2008, and are 
at the lowest level for the system since the third quarter of 
2004.
    The Federal Home Loan Banks face continued challenges from 
past investments and private-label mortgage-backed securities. 
At some banks, these investments have caused them, either 
voluntarily or as a result of supervisory action, to limit or 
suspend dividends, and to stop redemptions and repurchases of 
stock.
    Before turning to the future of the GSEs, let me pause, Mr. 
Chairman, on one other topic you asked me to address--and I do 
apologize for it not being addressed directly in my written 
statement--as you know, in 2008, FHFA's predecessor agency 
entered into an agreement with the Enterprises and the State 
attorney general of New York that resulted in the Home 
Valuation Code of Conduct, or HVCC.
    The purpose of the HVCC was to enhance the standards for 
appraiser independence. The Code has improved the independence 
of the valuation process: a critical element in assuring 
homeowners pay a fair price for properties, and that investors 
have confidence in mortgages backing securities they purchase. 
The Code has also aided efforts to combat mortgage fraud, a 
leading contributor to the housing finance crisis.
    Last week, I announced that, given the conservatorships, I 
did not deem it appropriate for the Enterprises to fund the 
independent valuation protection institute envisioned in the 
agreement. Instead, each enterprise will soon be announcing a 
complaint process.
    When the Code expires in November, I expect its benefits to 
continue into the future, as the standards that developed from 
the agreement have been incorporated directly into the 
Enterprises' seller-servicer guides.
    A word about the future. Despite the current benefits in 
the marketplace resulting from the Treasury's support for 
Enterprise activities, conservatorship is not a long-term 
solution. Legislation is needed to change the institutional 
framework for housing finance. Without disrupting the fragile 
recovery of our housing finance system, the role and the 
function of the Enterprises needs to be debated and decided 
upon.
    To start, Congress and the Administration need to clearly 
define the proper public policy objectives and the degree and 
characteristics of government involvement in the housing 
finance system to best serve those objectives.
    I look forward to working with the subcommittee and the 
full committee on legislative action to restructure the housing 
finance system, including an ultimate resolution of the 
Enterprises, and a consideration of the Federal Home Loan 
Banks.
    Thank you for this opportunity, and I would be pleased to 
answer questions.
    [The prepared statement of Mr. DeMarco can be found on page 
47 of the appendix.]
    Chairman Kanjorski. Thank you very much, Mr. DeMarco. I 
think we all have a few questions here, and I will yield the 
first 5 minutes to myself for some of those questions.
    As I understand your oral testimony, it is your opinion 
that we cannot just dismiss the existence of Fannie and Freddie 
without major disruptions within the mortgage market?
    Mr. DeMarco. That's correct, Mr. Chairman. There needs to 
be a solution--a system that--on the other end, so that we can 
preserve ongoing liquidity and stability in the mortgage 
market.
    Chairman Kanjorski. Are you aware of the preliminary 
findings from the special commission appointed to determine the 
cause of the credit crunch that occurred some 18 months ago, 
where they indicated that it is not their opinion that Fannie 
and Freddie were major contributors?
    Mr. DeMarco. Mr. Chairman, I am familiar with some of the 
documents and reports they have put out. I do know that they 
have not yet finalized any of their conclusions or 
recommendations, but they are rolling things out on an interim 
basis, yes.
    Chairman Kanjorski. Great. Would you agree with me and some 
in the Administration that before we take any final action on 
the existence of Fannie and Freddie, construct institutions to 
replace it, or provide procedures to make up for the deficit 
that would occur if those institutions were to disappear, that 
we should wait for the final approval of the commission or the 
final findings of the commission, so that we get the benefit of 
the best thinking on the subject?
    Mr. DeMarco. I understand that the commission is looking at 
the full range of involvement and causes of the crisis. How 
Congress and the Administration determine to wait for findings 
of that is up to them.
    I think currently there is plenty that we can be talking 
about, and I am pleased that you have invited me here today, 
Mr. Chairman, to begin talking about the future of the housing 
finance system, because I do believe we need to take this up 
directly and get on with it. It will be a difficult challenge, 
but it is one that we need to be working on now.
    Chairman Kanjorski. In that regard, have you, yourself, 
concluded any particular recommendations that you could make to 
this subcommittee or the full committee, as to what can be 
done?
    Mr. DeMarco. Not a particular recommendation or form or 
structure, Mr. Chairman. In my written statement, I outlined 
several things that I believe are important for all 
policymakers to consider.
    I think fundamentally--and one thing that I am pleased 
about as I listen to commentary, both from Members of Congress 
and from the Administration--is that what we're looking at here 
is not what to do with Fannie and Freddie. The question before 
us is what should be the future of the housing finance system 
in this country. And the place to start there is what are the 
government's public policy objectives, and given those 
objectives, what do policymakers conclude about the proper role 
of the government in our housing finance system?
    Starting with the answers to those questions, one can then 
move into what are the institutional arrangements, the 
charters, and the regulatory structures that accomplish the 
objectives. But one first has to determine what are the 
objectives that we have in mind, and what's the proper role of 
the government to achieve those objectives. Those are 
challenging questions, right there.
    Chairman Kanjorski. Very fundamental questions.
    Mr. DeMarco. Yes, sir.
    Chairman Kanjorski. Do you suggest we go down to the 
fundamentals before we try to construct a rescue?
    Mr. DeMarco. Yes, sir. Because, my view--sometimes this is 
talked about as the reform of the GSEs. Whether it should be 
the reform or the complete changing of the model is really part 
of the question before us.
    And I think that by having answers to those two fundamental 
questions I have, policymakers would be informed as to whether 
we're reforming Fannie and Freddie, or whether we are 
fundamentally changing the institutional structure--whether to 
have a government sponsored enterprise, as we have known those 
two to be, is what we want going forward is really part of the 
question. And I think it should be in that larger context.
    Another thing I would note, Mr. Chairman, is the 
institutions that today are serving our housing finance system 
so critically--and it has been mentioned by a number of the 
members in their opening remarks--FHFA, Fannie Mae, and the 
Federal Home Loan Banks were all created in the 1930's as 
Congress' response in the 1930's to the Great Depression.
    These are institutional arrangements and determinations 
about the role of government in housing finance that were 
decided upon by past Congresses. And here we are, 80 years 
later, and we are--those institutional arrangements, those 
structures are with us today and are holding up our housing 
financing system.
    I do think that taking a careful consideration of what we 
are doing in defining the future of the housing finance system 
is important, because the decisions that, with all respect, 
that this body will be making in the coming months could be 
with us for many decades. And I think getting this right is an 
important thing.
    Chairman Kanjorski. Thank you, Mr. DeMarco. I see my time 
has expired. The gentleman from New Jersey is recognized for 5 
minutes.
    Mr. Garrett. And I thank the chairman. Okay, so what I hear 
from your answers so far is that while the commission is out 
there and doing the studies and what-have-you, you apparently 
concur with the testimony we had from Chairman Bernanke who was 
here, saying that this was important enough and significant 
enough, as far as the cost that it's incurring to the 
taxpayers, and the risk going forward, that we need to be 
dealing with this situation today, as opposed to waiting until 
next year or any other time. Is that--
    Mr. DeMarco. I believe we should be discussing this now, 
and developing the models and the options that are out there. I 
believe that certain industry groups have actually come up with 
some thoughtful proposals, and academics and others have, as 
well. The GAO has presented them. And I think that the more we 
can be talking about and laying out what these options are and 
what the possible approach is--
    Mr. Garrett. Right.
    Mr. DeMarco. --with respect to these fundamental questions 
is--we should be doing it now.
    Mr. Garrett. Right. And just like with what's--the House 
has already moved, the Senate has already moved an entire 
financial reform piece of legislation that basically rewrites 
laws that have not been changed in 50, 60, 70 years. We did 
that without the benefit of waiting for any commission to come 
through, and I think we could probably do the same thing here.
    Your opening remarks made--and I couldn't find it exactly 
just in here; I heard you say it, though, as far--is that the 
conservatorship has a measure of effectiveness. Right? I don't 
remember the exact term that you used.
    Mr. DeMarco. Yes.
    Mr. Garrett. But how do you measure effectiveness in the 
sense that we are spending close to $200 billion now, and if we 
do ask you to come back every single time that they ask for 
more money, we will be seeing you frequently.
    Mr. DeMarco. Right.
    Mr. Garrett. So, how do you measure--I can be quite 
effective if I have--given an unlimited amount of money to 
spend in the housing market.
    Mr. DeMarco. When the conservatorships were announced, my 
predecessor, Director Lockhart, made clear--as did Secretary 
Paulson at the time of the announcement--that the 
conservatorship action was being taken because the Enterprises 
were in a situation in which they were going to be withdrawing 
from the housing finance market, and that given the state of 
the economy and the critical role that they played, where they 
were situated in the marketplace and where there were not other 
secondary market institutions, that by establishing the 
conservatorships and the Treasury backstop, there would 
continue to be a functioning mortgage market.
    So, I think that the effectiveness, Congressman, comes in 
the fact that we do have a functioning mortgage market today, 
that nearly 5 million people were able to refinance their 
mortgages in the last 15 months or so. This would not be 
possible without conservatorship.
    Mr. Garrett. Let me get to that, the idea of the 
functioning of the marketplace.
    Right now, the FHA is insuring--I don't know the numbers--
around 30-some-odd percent or more of the new mortgage market, 
and there is a question by some people, why is so much going 
over there? And some people would say it's because, well, the 
rest of the investors are not really ready to enter the market 
right now because of all of the other factors.
    But others suggested that it's because of actions actually 
by the GSEs. And I will just throw out one to you right now, 
and that's the loan level price adjustments, suggesting that 
by--and maybe you can walk me through this quickly, because I 
don't have much time--basically what that is doing is it's 
saying that with those--I'll just say it this way--higher costs 
of going into the GSEs, hey, then sure, we're going to push all 
the business into the 100 percent guarantee of the FHA.
    Can you walk us through quickly as to why it is necessary 
that you still have that as a market--the Administration tells 
us things are being--leveling out in the marketplace.
    Mr. DeMarco. So one of the reasons that the Enterprises 
have drawn $145 billion from the Treasury is poor underwriting 
and poor pricing of credit risk. So credit risk by the 
Enterprises had been underpriced, prior to conservatorship. 
And, prior to conservatorship, the Enterprises began making 
adjustments to that in their pricing mechanisms, including 
through the use of loan-level price adjustments.
    Those things are being reviewed and adjusted from time to 
time by the Enterprises, but it's a result of underpricing of 
credit risk--
    Mr. Garrett. But the credit risk going forward is better, 
right, because you have full underwriting, so you're just--
    Mr. DeMarco. Yes, sir. It is. And so, actually, when one 
looks at something like the average guarantee fees that the 
Enterprises are collecting, they are not going up the way you 
might expect because the way the loan-level price adjustments 
work, they--it's higher prices on higher-risk mortgages. 
Because the Enterprises are, in fact, booking lower-risk 
mortgages than before, the lower prices are what's applying to 
that flow of business.
    Mr. Garrett. Yes, but you know, the Wall Street Journal 
just had a piece on this a day or so ago. And they point out, 
as far as that--the risk base that you're doing there is quite 
extensive or broad, I guess, would be the terminology, and so 
that--so what you're really doing is adding additional burden 
to a much wider spectrum than maybe you should be doing, just 
to pay off what you're telling me now is the bad loans in the 
past.
    Mr. DeMarco. All I can tell you, Congressman, is that we 
are aiming for the Enterprises to be pricing their business--
first of all, that we have underwriting standards that are 
prudent and sounder than they were, and second, to be pricing 
their business so that they are covering their costs, their 
expected losses, and an appropriate rate of return.
    Mr. Garrett. Thank you.
    Chairman Kanjorski. The gentleman from California, Mr. 
Sherman, is recognized for 5 minutes.
    Mr. Sherman. Thank you. First, I want to set the record 
straight. Chairman Oxley, the former Republican Chair of this 
committee, had an excellent bill to provide additional controls 
for the GSEs. It was passed through the House, supported by a 
bipartisan group, and then the Republican-controlled Senate 
refused to take up the bill. And there was no Democratic 
announcement of a filibuster threat. It was the Bush 
Administration that opposed that bill. And now, as former 
chairman of this committee, Mr. Oxley has made it plain his 
frustration at the time with the Republicans in the Senate and 
the Administration.
    If only we had had a unicameral legislature, we might have 
avoided the problems we face in our economy today.
    Now, it--the GSEs are criticized for being the largest 
purchaser of subprime mortgages. Being a Californian, I know 
how it feels to be the largest in every category. We have the 
most left-handed people, we have the most right-handed people. 
The GSEs are so large compared to anybody else, particularly 
now, that they're the largest in every category, which is a 
misleading statistic.
    It's my understanding that the GSEs have $5 trillion of 
mortgage securities for which they are at risk, and that only 
10 percent of that book is subprime or Alt-A. So 90 percent 
prime is better than just about any other real estate lender I 
am aware of.
    Now, we face the risk that the conforming loan limit will 
drop precipitously at the end of this year if the bipartisan 
Sherman-Miller bill is not adopted, or some other legislation. 
And, not only would the conforming loan limit in high-cost 
areas drop from 729 down to 625, in many of those high-cost 
areas it would drop even lower, into the 500s. That would be a 
sudden, immediate shock to every attempt to sell real estate in 
a high-cost city, the 10 largest metropolitan areas, or the 
most expensive metropolitan areas.
    And I would like to ask Mr. DeMarco, what effect would it 
have on the value of the risk that Fannie and Freddie takes 
guaranteeing $5 trillion in mortgage-backed securities, if 
there was a sudden precipitous January 1st decline in the value 
of properties, not only in my district but throughout the 10 
largest metropolitan areas in the country?
    Mr. DeMarco. So, Mr. Sherman, certainly one of the things 
that affects their losses on defaulted loans is what's going on 
with house prices. And so I appreciate the concern that you 
have raised.
    I would actually, though, like to provide you with a 
clarification I think would be helpful to you. It is true--it's 
certainly my understanding--that at the end of this year, that 
the way the law works, that the conforming loan limit going 
into 2011 would be governed by HERA. And so, the temporary 
increase that has allowed certain parts of California to have a 
conforming loan limit of $729,000 would reduce.
    But FHFA has already announced and had the view, with 
respect to the conforming loan limit, that--in cases where it 
would go down, that the house price index goes down, the 
conforming loan limit would actually stay where it is, not go 
down. But before it could rise again, whatever that house price 
decline was that had taken place would need to have been 
recovered.
    Mr. Sherman. I'm going to have to interrupt, because I have 
to sneak in one more question.
    Mr. DeMarco. Okay, so we're not--
    Mr. Sherman. But it's my understanding the maximum would be 
$625,000, though.
    Mr. DeMarco. Yes, sir.
    Mr. Sherman. Right?
    Mr. DeMarco. Yes, sir.
    Mr. Sherman. So at least it would be a precipitous drop, 
$729,000 down by $100,000. And if that's just cut by 2 or 3 
percent, the value of your $5 trillion portfolio, we would lose 
a whole lot of money.
    Now let's move on to this predatory finance scheme, these 
transfer taxes.
    Mr. DeMarco. Right.
    Mr. Sherman. I described them in my opening statement. They 
are a hidden burden on homeowners. And my question is, what do 
you expect Fannie or Freddie to do, as far as their policy? 
Will they accept mortgages which have this hidden provision 
that nails homeowners with this secret tax and impairs the 
value of the security? Will they be participants in such 
transactions?
    Mr. DeMarco. Congressman, we are actually looking at this 
right now very closely. I must tell you that I am very troubled 
by what I am seeing and learning about this. And I would expect 
that the Enterprises and the FHFA will have something to say 
about it in the near future.
    In terms of coming out with a promulgation or a policy, I 
would like to know a little bit more about what it is we would 
be getting--what it is that is taking place, to know what the 
proper response is to it. But I am very concerned, and I think 
we will have a response shortly. Before I ban something, I 
would like to know what it is I am banning.
    Mr. Sherman. Good.
    Chairman Kanjorski. The gentleman's time has expired. I 
will recognize the gentleman from California, Mr. Royce, for 5 
minutes.
    Mr. Royce. Yes, I appreciate that opportunity, because 
again, for those of us who wanted to save Fannie and Freddie, 
in terms of their securitization, I remember very well in 2005, 
the whole debate. We had the Federal Reserve up here. We had 
the Chairman of the Federal Reserve tell us at the time that 
this legislation that was in the House would increase--
basically, would increase systemic risk.
    Why? Because the legislation we were trying to pass out of 
the House would have prevented the regulators from touching the 
portfolios of Fannie or Freddie. They couldn't regulate them 
for systemic risk. It would have prevented them from raising 
their capital. It would have prevented the regulators from 
doing anything to threaten to place them into receivership, to 
get them back in line.
    I remember Chris Shays sitting here and asking the hands to 
go up in the audience: ``How many of you are lobbyists for 
Fannie and Freddie?'' And as he said it, virtually every hand 
went up.
    That was the bill we passed into the Senate, and that is 
why the Treasury opposed it, that's why the Fed opposed it, 
that's why the Senate Republicans opposed it. That's why they 
put an alternative bill out of committee in the Senate, in 
order to regulate Fannie for systemic risk.
    And, sure enough, that's why, if you pick up Congressional 
Quarterly in 2005, you can see the Democrats in the Senate 
talking about preventing that bill from coming to the House 
Floor, filibustering that bill from coming to the Senate Floor.
    So, for those of us who were here at the time, involved in 
that debate--I remember this very vividly--the reason it's 
important to me is because this collapse in housing, at least 
this element of what contributed to it, could have been 
handled, had we listened to the regulators.
    So, I want to get back to a comment for our witness, our 
guest here. I wanted to ask you. Your predecessor, Mr. 
Lockhart, was of the belief that the separation of the two 
regulatory responsibilities--mission oversight on one hand and 
safety and soundness on the other--was problematic when it came 
to regulating the GSEs. As he put it, ``A separation of such 
responsibilities among GSE regulators helped cause their 
downfall. You can't really separate that.''
    So, as you know, HUD was enforcing the affordable housing 
goals, akin to mission oversight. And FHFA's predecessor was 
focusing on safety and soundness. So, I was going to ask if you 
would agree, Mr. DeMarco, with Mr. Lockhart's testimony here 
before us in the House, did the model with competing regulators 
also help cause their downfall?
    Mr. DeMarco. Yes, sir.
    Mr. Royce. Thank you. I raise this because Congress is on 
the brink of applying this failed model to the rest of the 
financial services sector, through the creation of a CFPA. It 
is not hard to imagine altruistic goals being pushed by this 
consumer financial product agency or bureau. You can see them, 
how they would push those goals, like the affordable housing 
goals, and how it could have unintended consequences.
    If you take the provision in the House bill that requires 
equal access to all products without defining equal access, 
clearly language like this enforced by an agency not focused on 
safety and soundness could raise issues down the road. And this 
is why regulators have told us, ``It is better to allow the 
safety and soundness regulator preemption to regulate these 
institutions, rather than set up competing regulatory 
agencies.'' As we have done many times, I would caution this 
body against taking this approach.
    I also wanted to ask you--today, it's widely understood 
that in order to grow and expand their profits, Fannie and 
Freddie dramatically grew their mortgage portfolios, which were 
funded implicitly by the government and by subsidized debt. 
Even then, it was understood that the retained portfolios did 
very little to promote affordable housing, but did a lot to 
benefit the shareholders and executives at the firms.
    Looking at where they are today, what is the purpose of the 
GSEs' retained portfolios, other than the fact that they really 
can't be unloaded right now? Why would they continue in the 
future to build up a retained portfolio? If I could ask you, 
Mr. DeMarco?
    Mr. DeMarco. Certainly. So, in fact, they will not be 
building up their retained portfolio. We have them on a path to 
be reducing their retained portfolio at a rate of at least 10 
percent per year, going forward.
    What's going on with their retained portfolio today, sir, 
is when a mortgage is in a mortgage-backed security and it goes 
delinquent, in order to undertake a loan modification or some 
kind of foreclosure prevention action with that mortgage, or if 
the mortgage is delinquent past a certain amount of time, the 
mortgage needs to be removed from the security. And at that 
point, it does need to be put on the balance sheet of the 
Enterprises.
    So, there is a legitimate purpose served there for that 
type of transaction. That is what we are doing with respect to 
the portfolio. And I have communicated that publicly and to the 
Enterprises, that the use of their portfolio, the growth in it, 
is actually to have capacity to bring these delinquent 
mortgages on to their balance sheet so that they can actually--
to undertake foreclosure mitigation actions.
    Beyond that, sir, our goal is for the portfolios to be 
gradually shrinking, as I say, at a rate of at least 10 percent 
per year, and that is in the preferred stock purchase agreement 
between us and the Treasury Department.
    Mr. Royce. Thank you, Mr. DeMarco. Thank you, Mr. Chairman.
    Chairman Kanjorski. Now, I will recognize the gentleman 
from Massachusetts, Mr. Lynch, for 5 minutes.
    Mr. Lynch. Thank you, Mr. Chairman. Mr. DeMarco, do we look 
like we're going to make that 10 percent for the next year, the 
reduction of the portfolio?
    Mr. DeMarco. Sir, the way this works is that their 
portfolio for the end of 2010 is supposed to be 10 percent less 
than the maximum allowed for 2009. The maximum allowed in 2009 
was $900 billion. So by the end of this year, it needs to be--
    Mr. Lynch. I don't have a lot of time. Could you tell me--
    Mr. DeMarco. The answer is it would be $810 billion or 
less, sir.
    Mr. Lynch. What's that?
    Mr. DeMarco. It will be $810 billion or less.
    Mr. Lynch. Is that 10 percent?
    Mr. DeMarco. That will be less than 10 percent of the prior 
year's cap.
    Mr. Lynch. Okay. Because I know right now, based on the 
numbers that we have, the GSEs remain the dominant source of 
funding in the secondary mortgage market. I think we're doing 
between 80 and 90 percent of all conforming loans.
    So, in addition to that, I know the Treasury has pumped 
in--well, actually, the Fed and the Treasury have pumped in a 
total of $1.35 trillion in mortgage-backed securities. So, 
while we talk about reform, it's ironic that the GSEs sort of 
followed the private market into subprime and Alt-A because 
they were afraid of losing the market share. And now, we have 
all the market share.
    And I am just wondering. If we are going to go to this--and 
I think we need to look at a different model. And I am 
wondering, how do we get there? With all you're doing right 
now, and with everything we have piled up here, how do we get 
to a better place where this is all--we have some private-label 
responsibility here, and everything is not on the GSEs. I just 
don't see how we can go from one to the other. I think we 
probably have to have a transition, some type of intermediate 
step or movement in some direction, so that we can move to that 
different model.
    I know you talked earlier about--in your testimony--about 
different mortgage industry experts, academics who have talked 
about a different model, and you're looking at it. Do any of 
those models stand out as being more promising, in your mind?
    Mr. DeMarco. To take a slightly different tack on that, 
sir, I believe that the question about whether we can have a 
functioning and robust secondary mortgage market operated by 
and served by private firms is something that I believe we can 
have. And I think that there are models available that would 
allow for the future secondary mortgage market to be served by 
private firms operating with their own at-risk capital.
    Mr. Lynch. Even though, in the recent crisis, it was really 
the GSEs that followed the private label into the riskier 
market?
    Mr. DeMarco. An important thing to understand about the GSE 
model that we had, besides the subsidies and the excessive 
leverage that was in place, was that it was a system in which, 
by law, there were just two of them. We did not have entry and 
exit from the market. We did not have a more normal competitive 
marketplace in providing this function, because the government 
had provided a set of rather extraordinary benefits, but it had 
provided them just to two companies, and only two companies 
could have access to those benefits.
    Mr. Lynch. Are there any specifics, other than just saying, 
``Sure, we can build a system on''--with private entities here?
    Mr. DeMarco. You asked about the transition, sir. And the 
senior preferred stock purchase agreement that is in place 
today may be part of helping Congress to think through this 
transition. Because that support offered by the Treasury 
Department remains in place while these companies are operating 
in conservatorship.
    So, new mortgage activity that is being undertaken by 
Fannie and Freddie is being supported with that backstop, which 
helps provide an element of stability, as one thinks about 
building a transition plan to the future.
    Mr. Lynch. Okay, thank you. I see my time has expired. 
Thank you, Mr. Chairman. I yield back.
    Chairman Kanjorski. Thank you very much, Mr. Lynch. Now, we 
will hear from the gentleman from Texas, Mr. Hensarling, for 5 
minutes.
    Mr. Hensarling. Thank you, Mr. Chairman. Good afternoon, 
Mr. DeMarco. You were last here in February.
    Mr. DeMarco. Yes, sir.
    Mr. Hensarling. And when you were here, I shared with you a 
quote from Charles Haldeman, the CEO of Freddie Mac. He was 
quoted in the Wall Street Journal as saying, ``We are making 
decisions on loan modifications and other issues without being 
guided solely by profitability that no purely private bank 
could ever make.''
    Knowing that, cumulatively, Fannie and Freddie have now 
cost--I believe, according to your testimony--$145 billion and 
counting, at the time I shared that with you, you said you were 
unaware of the quote, and that you would check with Mr. 
Haldeman and talk to him. I think you said, ``I will have to 
check that quote and talk to Mr. Haldeman.'' I assume you did 
that. Can you report on your conversation with Mr. Haldeman?
    Mr. DeMarco. Yes, sir, thank you. I would be pleased to. I 
have followed up with Mr. Haldeman. And he explained to me what 
he had in mind.
    First of all, the loan modifications in that quote is in 
brackets. So I am not sure what the reporter was putting in 
there. But what Mr. Haldeman reported to me was that the 
example that he had in mind, the issue he had in mind, had to 
do with low-income housing tax credits, of which Freddie Mac 
had roughly $3 billion worth. And we were, at that point, 
working with the Treasury Department regarding the disposition 
of those assets. And as has been made quite clear--
    Mr. Hensarling. Okay. So, Mr. DeMarco, essentially he was 
relaying to you that his comments were taken out of context. Is 
that a fair assessment?
    Mr. DeMarco. Whether it's out of--no, I don't believe 
that's a fair assessment, sir. But he had something specific in 
mind, which is if they were operating as a private company, 
they would have sold those $3 billion worth of tax credits. It 
was in the best interest of the taxpayers, determined by the 
Treasury Department, for them not to--
    Mr. Hensarling. Let me continue on this line of 
questioning. In your testimony, in defining your mission, you 
stated the purpose of conservatorship is to preserve and 
conserve each company's assets and mitigate the systemic risk 
that contributed to instability and financial markets. I am 
trying to figure out to what extent those are complementary 
goals, to what extent are those competing goals, particularly 
when I think in terms of what the Administration is doing on 
the HARP program.
    The latest report that I have had on Fannie and Freddie--
and you may have more up-to-date data--is that the redefault 
rates for their loans after 12 months after modification both 
exceed 50 percent. That may be a fourth quarter 2009 number. Do 
you have anything more recent? Is that at least a ballpark 
figure?
    Mr. DeMarco. Yes, sir. I do. Let me say, though, with 
respect to the systemic risk, you asked whether those were 
complementary or not. I believe they are, because Fannie and 
Freddie actually own or guarantee a little over half the 
mortgages in this country. Anything that brought stability to 
the housing finance system was certainly going to be a positive 
contribution--
    Mr. Hensarling. I guess, Mr. DeMarco--
    Mr. DeMarco. --to their assets.
    Mr. Hensarling. --what I'm trying to figure out, if more 
than half of these loans redefault after 12 months, how is that 
preserving the assets of Fannie and Freddie to where the 
taxpayer can ever expect to even receive pennies on the dollar?
    Mr. DeMarco. Let me give you some updated data, sir. I 
don't have 12-month redefault rates in front of me. I do have 
3-month and 6-month after modification data in front of me.
    And so, with respect to modified loans, 3 months after 
modification, in the fourth quarter of 2008, the percentage of 
modified loans that were still performing 3 months later was 
about half. It was 49 percent. At the end of 2009--so 1 year 
later--77 percent of modified loans were still performing 3 
months after modification.
    Mr. Hensarling. Mr. DeMarco, if you could at some time, 
maybe--so we're comparing apples to apples--
    Mr. DeMarco. Sure, certainly, sir.
    Mr. Hensarling. --I would love, perhaps in writing, your 
latest data--
    Mr. DeMarco. I would be glad to do that, Mr. Hensarling.
    Mr. Hensarling. --on the 12-month--
    Mr. DeMarco. And I would add, as I noted in my written 
comments, I would like to, in response to concerns that have 
been raised, be making some of this information more clear on a 
regular basis by FHFA to Congress and to the public.
    Mr. Hensarling. Mr. DeMarco, some have maintained that all 
of Fannie's taxpayer hemorrhage, or problems resulting from the 
past, the most recent reports I have seen from the 
Congressional Budget Office show taxpayers will lose an 
additional $64 billion in the 10-year budget window that we are 
presently in on new mortgage originations.
    Am I somehow misinterpreting what the Congressional Budget 
Office says, that also does not have the reputation for being 
overly pessimistic? Is this--indeed, are they predicting $64 
billion of loss on new mortgage originations?
    Mr. DeMarco. I'm sorry, sir. Off the top of my head I'm not 
sure what the CBO's most recent projection is. I could 
certainly verify that and get right back to your office. I 
don't have that right in front of me.
    Mr. Hensarling. If you could, please, because it seems like 
the hemorrhaging is certainly not over, certainly not on old 
mortgages, but also on new mortgage originations, according to 
the Congressional Budget Office.
    Mr. DeMarco. Right, and I certainly make clear in my 
testimony that there are still losses to come with respect to 
the pre-conservatorship book of business at each--
    Mr. Hensarling. But this is post. Anyway, if you could 
check on that, I would--
    Mr. DeMarco. Certainly, sir.
    Mr. Hensarling. I see I'm out of time. Thank you, Mr. 
Chairman.
    Mr. DeMarco. I would be happy to do that, Mr. Hensarling.
    Chairman Kanjorski. The gentleman from Georgia, Mr. Scott, 
will be recognized for 5 minutes.
    Mr. Scott. Thank you, Mr. Chairman. Mr. DeMarco, I want to 
get a clear picture of where we are now with these GSEs. In 
1932, the first to come on board were the Federal Home Loan 
Banks to deal with the liquidity issue in the system through 
secured loans, and they used 12 regional banks. Then, in 1938, 
we brought on Fannie Mae to give credit to banks to secure 
loans for the middle class. In 1970, we brought on Freddie Mac 
to give credit and access to, basically, savings and loans 
operations.
    Given where we are now, what is your vision for each of 
these three entities, going forward? And I am specifically 
concerned about what role do you see for the Federal Home Loan 
Banks going forward, and then following that, Fannie and 
Freddie.
    Mr. DeMarco. Thank you, sir. With respect to the Federal 
Home Loan Banks, I think, in fact, the Federal Home Loan Banks 
mission, which, as you noted, was given to them in 1932, has 
served them and the Nation's financial system very well during 
this housing crisis.
    What we saw in the fall of 2007 and again in the fall of 
2008, when there was a great deal of illiquidity in the 
marketplace, is that the Federal Home Loan Banks were able to 
provide, immediately, liquidity to their members. And so, their 
advances book grew from, let's say, $600 billion to $1 trillion 
in a very short period of time, and that was serving their 
mission, and it was very important to our financial system. It 
worked very well. The liquidity crisis has gone, and they have 
shrunk.
    I believe, going forward, that they certainly remain a 
viable part of our financial system. It's something for 
Congress to consider as it takes up the future of housing 
finance, but their core business of advances seems to me to 
remain a viable and important contribution to the financial 
system.
    With respect to Fannie Mae and Freddie Mac, I believe that 
there is a range of options available, post-conservatorship, 
that move away from the government sponsored enterprise model 
that we have had all these many years. There are a variety of 
options available, and I do believe that that's an important 
part of the discussion in the coming year.
    As I have already mentioned, one of the things that I would 
hope to see is if any sort of a private sector model is 
followed, that there be greater freedom of entry and exit, so 
that there is more competition in the marketplace provided by 
securitizers of mortgages.
    Mr. Scott. Fannie and Freddie continue to absorb additional 
losses as real estate prices keep dropping nationally, as I 
alluded to in my opening remarks. How much, if any, additional 
aid do you feel Fannie and Freddie will require to survive?
    Mr. DeMarco. That's a very difficult question to answer, 
Congressman. As we look at various ways this could turn out, 
three of the key factors are: first, what happens to house 
prices, particularly--and this is not just at a national 
level--what happens to house prices in certain parts of the 
country, particularly, the harder-hit housing markets in the 
country; second, what happens to employment, because employment 
is, certainly at this point, a key factor in a household's 
ability to pay their mortgage; and third, what happens to 
interest rates.
    And so, there is a variety of scenarios we look at. In my 
judgment, the more likely scenarios are that they will incur 
some additional losses based on their pre-conservatorship book 
of business, but that those losses will not exceed the 
original--the $200 billion that had been put in place through 
this senior preferred agreement.
    But beyond that, I don't have a point estimate for you, 
sir.
    Mr. Scott. One of the other things I do want to call to 
your attention, as I mentioned before, that I am very concerned 
with, is I don't think we are putting enough attention or 
trying to figure a way to deal with this very disheartening 
reality that so many of the American people are faced with, in 
seeing this extraordinary drop in the value of their home, 
which is the basic unit of wealth-building in this country.
    What are your recommendations? What are your suggestions? 
Have you given any thought to what we can do? Even if it's from 
the standpoint of simply developing a stronger appeal system 
for a homeowner who receives word that his property has fallen 
this much in value, yet, at the same time, he is paying this 
huge mortgage on a value that was up here, and now it's down 
there. What can we do to address this phenomenon?
    Mr. DeMarco. I think that the start is sounder underwriting 
practices within our housing finance system. I actually think 
that is the place to start. In some of the States in which we 
have seen the most dramatic increase and then the most dramatic 
decline in house prices, there has been a great deal of 
speculation and investor activity that was riding this up, and 
has contributed to the collapse.
    And so, I think that more prudential underwriting is 
certainly the place to start.
    Mr. Scott. Thank you, Mr. Chairman.
    Chairman Kanjorski. Thank you, Mr. Scott. Now, we will hear 
from Mr. Neugebauer from Texas for 5 minutes.
    Mr. Neugebauer. Yes. Thank you, Mr. Chairman. I have been 
kind of trying to go through some of these charts. But I 
think--I'm looking at a Freddie Mac chart, on page 19, and it's 
talking about single-family credit guarantee portfolio 
characteristics, and it talks about book year.
    And so, for the book year 2010, I guess 3 percent of the 
total portfolio was originated in 2010. And, if I'm reading 
this right, in 2009, 25 percent of the outstanding balance was 
originated in 2009. That's double what, when you look 
historically at what was even happening in 2008, 2007, 2006, 
2005. And, in fact, it says, less originated before 2004--26 
percent of the portfolio was originated before 2004.
    And what I heard you say is you're charging a lower-risk 
premium on these loans that you're processing now because they 
are less risky, in your estimation, and so you are charging a 
lower-risk premium. The problem is that, at a very accelerating 
rate, we are increasing the contingent liability of these two 
entities, because they are basically the major market for 
securitization right now.
    I think the question is, what if you're wrong with this 
risk premium again?
    Mr. DeMarco. Sir, the earlier question had to do with loan-
level price adjustments that had been put in place, essentially 
increasing the fees charged for mortgages. And this is a--sort 
of think about it as a matrix pricing that, as the risk 
characteristics of the mortgage go up, the greater is the added 
fee or risk premium that's attached.
    Those loan-level price adjustments are still in place. The 
response I gave earlier had to do with relative to the 
mortgages that were being booked in 2006, 2007, the risk 
characteristics have improved. And hence, on average, the 
guarantee fee income is going down, because it's a higher 
quality book. But it's a risk-based pricing scheme that's 
there, it's not a reduction, per se, in the premiums that are 
being charged. In fact, it's an increase relative to where 
things were in 2006.
    Mr. Neugebauer. Well, I think I understood that perfectly, 
and I think my question still holds. What if your model is not 
correct, and we have, in one year, increased the exposure by--
in that entity in 2009 for the first--I don't know if this is 
the first quarter. It's through March 31st, I assume you're on 
a fiscal year--that means it's 28 percent of--since this entity 
went into conservatorship, we have increased the exposure by 28 
percent using this risk model, right?
    Mr. DeMarco. I see your question, Congressman. I can report 
that the early payment default on new mortgages, mortgages that 
had been originated since the start of 2009, the early payment 
default rates on those mortgages are equivalent to what we saw 
in 2003, which was a very strong performance vintage for the 
Enterprises. And it is dramatically less than was the case for 
the mortgages originated in the couple of years prior to 
conservatorship.
    So, the early performance of these mortgages are, in fact, 
the way we would expect, based upon the modeling work that has 
been done and the improved underwriting of the mortgages.
    Mr. Neugebauer. And so, then the question I have is, do 
these entities--is anybody doing a budget for these entities? 
Do you have a budget?
    Mr. DeMarco. Each company prepares a budget, yes.
    Mr. Neugebauer. Could I have a copy of that, please?
    Mr. DeMarco. I will look into that, sir.
    Mr. Neugebauer. Yes. And then the next question is that 
if--is there an interest rate sensitivity analysis of the 
portfolio?
    Because, at the rate that some of these rates that were 
originating now--what the potential--because you're taking a 
credit risk and an interest rate risk, particularly on your 
portfolio.
    Mr. DeMarco. Yes, sir. In fact, I discussed that in my 
written testimony, and also there is a discussion of it in the 
annual report that we sent up to Congress yesterday.
    It is, in fact, the case that a great deal of mortgages are 
coming on at lower interest rates. And if there is a dramatic 
rise in interest rates going forward, that would extend the 
duration of these mortgages, and that's an important risk 
element for the companies to be managing, with regard to how 
they fund and hedge their retained portfolio.
    And as--not just as conservator, but as the regulator of 
the two companies, I have a staff of people who are paying 
attention to that on a daily basis, and observing the business 
decisions of the companies, and overseeing, as a prudential 
matter, how they are managing the interest rate risk of their 
retained portfolio.
    Mr. Neugebauer. I would like to see some more recent 
analysis.
    And then just one final question. If you could, also 
furnish me with information on when you look at the losses. Is 
this--are these companies making a net operating profit? And if 
they are, fine. But in the credit losses, how much of those 
losses are coming from the portfolio, and how much of those 
losses are coming from the guaranteed portfolio?
    Mr. DeMarco. We will put that together. Of course, their 
quarterly statements are filed with the SEC. And what's driving 
the financial performance of the company are the credit losses 
on the mortgages. And the credit risk is there, whether it's 
guaranteed on an MBS, or whether that mortgage is retained in 
their portfolio. So that's the key driver of the financial--
    Mr. Neugebauer. But I think this committee--it would be 
beneficial for us to see where those losses came from, the 
guaranteed portion of the portfolio or from the portfolio that 
was retained.
    Mr. DeMarco. Very good, Congressman. I will see what we can 
do.
    Chairman Kanjorski. The gentleman's time has expired, and 
we will now recognize the gentlelady from New York, Mrs. 
Maloney.
    Mrs. Maloney. Thank you, Mr. Chairman, and welcome, Mr. 
DeMarco.
    I represent New York City. And, as you know, New York City 
has a growing problem of overleveraged multi-family properties, 
including Stuyvesant Town and Peter Cooper Village, which is in 
the district that I am honored to represent. Stuyvesant Town 
and Peter Cooper Village are rent-stabilized developments, 
housing over 25,000 of my constituents.
    As you may be aware, Stuyvesant Town and Peter Cooper 
Village was sold by Metropolitan Life to a private 
entrepreneur. And they were financed in the secondary market by 
Fannie and Freddie. The business model that came forward was 
that in order to make the payments, the loan-to-debt ratio was 
so high that the only way they could make it was for the 
entrepreneurs to aggressively turn over affordable housing to 
market rate units in order to increase the rental income.
    What was surprising about this particular deal is that 
Fannie and Freddie received affordable housing goals credits 
for their investment into Stuyvesant Town and Peter Cooper 
Village, yet the business model was such that the only way it 
could survive was to evict the tenants and move it from 
affordable housing to market rate, which was totally opposite 
of the mission and goal of Fannie and Freddie.
    What I find particularly onerous about it is that they 
received housing goals credits for this project, when the only 
way it could survive was to turn affordable housing into market 
rate, high-income housing units.
    The tenants went to court, and they won. And the 
entrepreneurs were stopped from their proceeding with their 
eviction practices, and the project is moving forward.
    I find this distressing, because Fannie and Freddie were 
used for the opposite goal of their mission. So I wanted to 
know, as you know, these GSEs invested in the secondary market 
on the Stuyvesant Town debt. Can you describe those 
transactions? Are you familiar with this case?
    Mr. DeMarco. A bit, Representative Maloney, I am. So, this 
was not a direct purchase or guarantee by Fannie or Freddie. 
They, in fact, purchased commercial mortgage-backed securities, 
senior tranches of commercial mortgage-backed securities, and 
in the pool of mortgages that underlied those securities were 
certain of the properties in Peter Cooper Village, and so 
forth.
    And so, they had some interest in those properties as part 
of that pool. And yes, I do understand that HUD provided 
housing goals credit at the time of the purchase for them. I 
share your concern that, since the purpose of housing goals is 
to be providing affordable housing, it seems questionable to be 
providing housing goals credit when the intent is, in fact, to 
turn the property into something other than affordable housing 
that would meet the definition of the goals. And so that is 
something for us to be looking at.
    With respect to housing goals currently, we have a proposed 
rule that we issued earlier this year--
    Mrs. Maloney. Before we get to that rule--
    Mr. DeMarco. Yes.
    Mrs. Maloney. --I am interested in this particular, 
specific project, because it really tells more about the goals 
and the activities and the success than talking about the goals 
in the future.
    How much did Fannie and Freddie know about the deal 
underlying these transactions when it invested in the debt? 
Were they aware that the only way it could be successful was to 
evict the tenants that were there? How much did they know?
    Mr. DeMarco. I do not know what the business people at 
Fannie and Freddie, at the time they purchased these 
securities, knew or thought about the--
    Mrs. Maloney. Can you get that information to the 
committee?
    Mr. DeMarco. I will look--
    Mrs. Maloney. The paperwork involved.
    Mr. DeMarco. I will look into that, yes, ma'am.
    Mrs. Maloney. And one of the aspects of Fannie and 
Freddie's investment that I think shocked a number of people 
was that, although the owners knew that they would have to 
aggressively turn over affordable housing to market rate units 
in order to increase the rental income, Fannie and Freddie 
received affordable housing goal credits for their investments.
    Can you elaborate on FHFA's process for providing 
affordable housing goal credits? What are the factors you use 
to decide what gets credit and what doesn't? Because, 
obviously, projects like this should not get credit in the 
future. And have you changed your processes any? How did they 
get affordable housing goal credits when, obviously, they had 
to turn it into high-income property to succeed?
    Mr. DeMarco. I would be happy to provide in writing for you 
how the goal credit is actually assessed on any property, not 
just this.
    Mrs. Maloney. Can you tell us?
    Mr. DeMarco. Generally, it has to do with--we collect data 
on, with respect to multi-family, what are the rents that are 
being charged in the units, and how do those rents compare to 
area median income?
    Mrs. Maloney. So, in other words, you take a snapshot of 
what's happening right then. You don't look at the whole 
project, the debt, and other things, of how it has to be done 
in the future?
    Mr. DeMarco. That is--
    Mrs. Maloney. So that process needs to be changed.
    Mr. DeMarco. That's correct.
    Mrs. Maloney. My time has expired?
    Chairman Kanjorski. The gentlelady's time has expired. I 
now recognize the gentlelady from Illinois, Mrs. Biggert, for 5 
minutes.
    Mrs. Biggert. Thank you, Mr. Chairman, and thank you, Mr. 
DeMarco, for being here. In February, my colleagues and I 
introduced H.R. 4581, the Fannie Mae and Freddie Mac 
Accountability and Transparency Act, and then requested you to 
take a look at it and give us a redline on the bill. I think 
that was in February, and it's almost June. Are you going to 
send us the redline on the bill, or have you looked at it?
    Mr. DeMarco. Congresswoman, we will get right back to you 
on that, because we certainly have. And forgive me if we have 
not responded in a timely fashion on that.
    Mrs. Biggert. Thank you. Is it important for the FHFA, 
which now runs the GSEs, to have a watchdog or independent body 
reviewing the work?
    Mr. DeMarco. I believe, yes, it is helpful and appropriate 
for the FHFA to have an overseer, and that would be--as it 
would with any other Federal agency--the Inspector General. 
And, as the HERA act actually requires, not only that FHFA have 
an inspector general, but that that inspector general be a 
presidentially-appointed, Senate-confirmed individual.
    We have been--the Administration did recently nominate an 
individual, a career official at the Justice Department, to be 
the inspector general. The gentleman's name is Steve Linnick. 
His paperwork has been forwarded to the Senate Banking 
Committee, and I look forward to the committee's quick action 
on his nomination.
    Mrs. Biggert. Good. Have you talked to the Senate at all 
about it, or do you know when it will be scheduled?
    Mr. DeMarco. Yes, we have been in communication with the 
committee. I don't know the schedule; that's the committee's 
decision.
    Mrs. Biggert. Okay. Actually, Fannie and Freddie and the 
FHA are essentially the only games in town on home mortgages 
today. And I guess you could say they constitute about 90 
percent of the market. Is this helping the market, or is it 
subverting it?
    And what steps has the Administration taken, or what steps 
did they plan to take to bring back the private sector capital 
back into the mortgage market?
    Mr. DeMarco. I think, in the near term, the actions that 
have been taken have brought an important measure of stability 
to the country's housing finance system. I think that folks are 
able to purchase more houses, to refinance their mortgages, and 
that has been the result of an array of government 
interventions to bring support to the housing finance system.
    With respect to the Administration's plans to exit and to 
restore more normal order and greater private participation, I 
would have to defer to the Administration on that.
    Mrs. Biggert. So you haven't discussed that with--
    Mr. DeMarco. No, ma'am. Secretary Geithner and other 
members of the Administration have certainly testified before 
Congress on their plans to bring forward a proposal, and they 
have published a document for public comment raising a series 
of questions about the future of the housing finance system, so 
they are gathering input. But I don't have any particular 
insight into their timing or particular plans.
    Mrs. Biggert. Thank you. How leveraged were Fannie and 
Freddie?
    Mr. DeMarco. Excessively.
    Mrs. Biggert. Okay.
    Mr. DeMarco. By statute--the Congress created OFHEO back in 
1992. It hardwired into the statute the minimum capital 
requirements for Fannie and Freddie, setting it at 2.5 percent 
for on-balance sheet assets, and 45 basis points for mortgages 
that were guaranteed by the companies through mortgage-backed 
securities. This was an excessive degree of leverage. It's 
something that multiple Administrations had testified about, 
raising concerns about. It's certainly something that FHFA's 
predecessor agency, OFHEO, had testified repeatedly was 
problematic, and made it very difficult, if not impossible, for 
them to carry out their responsibility of assuring safety and 
soundness.
    I would say that Congress has addressed that in the HERA 
legislation, giving FHFA far greater authority with respect to 
setting capital standards. Unfortunately, it came too late.
    Mrs. Biggert. Thank you. Thank you, Mr. Chairman. I yield 
back.
    Chairman Kanjorski. Thank you very much, Mrs. Biggert. And 
now, we will hear from Mr. Childers of Mississippi for 5 
minutes.
    Mr. Childers. Thank you, Mr. Chairman, and I appreciate you 
holding this hearing today. And, Mr. DeMarco, thank you for 
being here.
    Mr. DeMarco. Thank you, sir.
    Mr. Childers. I have been, between appointments, trying to 
watch what you had to say from our office, on the monitor, and 
I guess I just want to thank you for your leadership, first of 
all.
    Mr. DeMarco. Thank you, sir.
    Mr. Childers. I sit before you today as a veteran Realtor 
and a real estate appraiser for some 32 years. I have long been 
an advocate for the real estate industry and the--strengthening 
homeownership in rural America a long time before I came to 
Congress. And I have been here about 2 years, and I plan to be 
more so now.
    I want to talk to you about HVCC, specifically. Since HVCC 
has been implemented, many--most rural appraisers--who, in my 
opinion, are people who have the best and most accurate 
knowledge of their rural market area--are being replaced by 
appraisers, quite frankly, from usually an urban area, many 
times out-of-State, many times out of the area, and they are 
being replaced with appraisers who are not familiar with the 
market area.
    I have talked to these appraisers all across my State and, 
quite frankly, because of my background in real estate, I think 
is why some across the country in rural areas chose to speak to 
me about it. I guess, in short, I just want to tell you I don't 
think it's working, and I think it is negatively affecting the 
real estate industry. I think it is negatively affecting small 
businesses being--appraisers, specifically. I have heard from 
appraisers. Basically, if they're not with one of these 
appraisal management companies, they're somewhat left out.
    I have so many problems with the appraisal management 
companies themselves that I won't go into today for the sake of 
time. But I would just like to hear your thoughts about how the 
current and future changes to HVCC will affect rural 
appraisers, because I have a great concern for rural 
appraisers, not only in the State of Mississippi, but across 
this great country.
    And I would also like to know, how would FHFA implement the 
HVCC sunset provisions in section 4312 of the Wall Street 
Reform and Consumer Protect Act, if the bill is passed, or if 
the upcoming conference report includes this provision?
    Mr. DeMarco. Fundamentally, the HVCC was about assuring a 
set of standards whereby the investor in a mortgage could be 
assured that the appraisal that went into the mortgage--the 
loan underwriting had been done independently. That's the 
fundamental premise here, is to be able to establish a set of 
processes whereby the appraiser is independent, and not subject 
to undue influence by an interested party in the transaction. I 
think that's an important goal, and it's one the HVCC was 
designed to address.
    The HVCC was not designed to favor appraisal management 
companies versus other appraisers. The difficulty of doing 
appraisals in the kind of housing market that we have had 
cannot be overstated. When you have a market in which there are 
a great deal of delinquent loans, there are foreclosures, you 
have declining house prices, economic uncertainty. Coming up 
with appraised values on houses is difficult.
    I am not aware of particular differences between rural and 
urban areas, and I would be glad to have my staff follow up 
with you to find out if there are particular things with regard 
to appraisals in rural areas that we should be more aware of. I 
would welcome that opportunity to follow up and get that 
information. But I think that what we are trying to achieve 
with the Code, and what I think will live on beyond the Code, 
is the importance of there being independence in the appraisal 
process.
    One other thing I would say is that the Code does not 
address where the appraiser is from that is doing the 
appraisal, but it does, by reference, bring in the code of 
conduct for appraisals, which includes that any appraiser needs 
to be familiar with their local area. So bringing in an 
appraiser from many miles away who is unfamiliar with the local 
market is a problem with--of appraisal standards outside of the 
Code, and it is problematic, and should be a concern. But it is 
not something that the Code itself deals with directly.
    Mr. Childers. Thank you. I would be less than a decent 
Representative if I didn't say that in the State of 
Mississippi, which is the people who hired me, my State was not 
a State with excessive foreclosures. And, quite frankly, I have 
to defend those appraisers. They didn't do anything wrong, in 
my opinion. And the law will take care of that. We have a fine 
real estate commission in our State that, if you don't do 
right, they will pull you out, make no mistake, and put you on 
the road doing something else.
    And so, I just feel like they are being punished, and I 
just have some great concerns about it.
    Mr. DeMarco. Okay. Thank you, sir.
    Chairman Kanjorski. We will now hear from Mr. Posey for 5 
minutes.
    Mr. Posey. Thank you, Mr. Chairman. Director DeMarco, I 
want to bring to your attention a recent policy change by 
Fannie Mae that, in my State, could affect borrowers who are in 
trouble.
    Fannie Mae implemented spending cuts to contract borrowers 
going into foreclosure on May 1st. And I am informed that 
Fannie Mae officials have decreed that: one, no law firm can 
give more than 50 percent of its service of process business to 
one firm, no matter how well their firm performs, or what the 
cost is; and two, the new pricing structure is suitable for the 
lowest-cost firm, but obviously could adversely affect a 
borrower. And there are lots of ramifications to that, as you 
well know, probably better than me.
    I just want to note that Florida is a judicial foreclosure 
State. That means in person. And recently, this committee 
passed a bipartisan amendment--it was the Marchant-Klein 
amendment--in the FHA Reform bill to devote more funds to in-
person contact. The intention was twofold: number one, to 
reduce unnecessary foreclosures; and number two, to reduce FHA 
losses, which the American taxpayer ultimately has to foot the 
bill for.
    Fannie Mae just announced an $11.5 billion first quarter 
loss, and asked the Treasury for another $8.4 billion infusion. 
So members of this committee surely recognize the need to 
reform Fannie Mae and stop the hemorrhaging as soon as 
possible.
    That said, it doesn't seem to make sense to cut funds that 
helps borrowers, hopefully to reduce foreclosures and to reduce 
future Fannie Mae losses--particularly in Florida, which again, 
has the second highest foreclosure rate of all the States. My 
Florida colleagues--Congressman Klein and Congresswoman 
Kosmas--and I last week sent a letter to Chairman Frank and 
Ranking Member Bachus, and we requested a 120-day stay on the 
Fannie Mae policy change so that there would be time to review 
it and the ramifications that it might have more closely.
    And the question I have now is, of course, whether or not 
you will support that stay.
    Mr. DeMarco. So, Congressman, I am going to have to get 
more familiar with the particulars of the policy change that 
you are describing to have an opinion.
    Florida is perhaps--if I might turn it around, I could use 
some help here--because Florida, as you noted, is a judicial 
State. And this is a State that, as is noted in my written 
statement, represents a considerable portion of the losses that 
Fannie Mae and Freddie Mac have been absorbing. And despite the 
tremendous efforts that each company is taking to find 
foreclosure alternatives for troubled borrowers, there is still 
a great deal of properties that need to go through foreclosure 
in Florida.
    And because of various protections and the way the system 
works--and, frankly, that the court system is overwhelmed, the 
number of foreclosures coming through--this, I fear, is hurting 
neighborhoods in Florida because it is taking so long--
    Mr. Posey. Yes, it's destroying a lot of neighborhoods.
    But my point is, where does FHA get off telling the people 
who are working the foreclosures--hopefully trying to stop 
them--that they can't use a particular firm?
    It could be the low bidder. Let's suppose there is one that 
charges, hypothetically, $1, one that charges $2, and one that 
charges $3. And let's suppose they give all their business, 400 
cases a year, to the firm that charges $1. That's $400. We have 
FHA saying, ``No, there is no way. You have to pay at least 50 
percent more than that.'' Actually, you have to pay 100 percent 
more for half of your cases if you're over the 300 mark. It 
just defies logic that you would try and--so minutely manage 
the process down there.
    And I don't see any upside to it. I was thinking that maybe 
there was some logic behind it that would be good for the 
consumer, but I don't see that anywhere.
    Mr. DeMarco. Okay. Well, I would be happy to look into 
this. You have mentioned FHA several times, and that would be 
within HUD, so that's a different jurisdiction than me. If 
you're talking about a Fannie Mae or Freddie Mac policy--
    Mr. Posey. Right.
    Mr. DeMarco. I would be happy to look into it, sir, and 
find out what the particulars are. But I am--forgive me, I am 
not aware enough of the details of what you're describing for 
me to have a ready answer for you.
    Mr. Posey. Okay.
    Mr. DeMarco. But I will look into it.
    Mr. Posey. Thank you. And I guess you will mail a copy to 
the chairman, and the chairman will get it to us.
    Fannie Mae, Freddie Mac, and FHA are essentially the only 
games in town right now, constituting over 90 percent of the 
market. And I was wondering if you think that's helping the 
market or hurting it. And I think I already know the answer, 
but I want to get your opinion.
    And I want to know what steps the Administration plans to 
take to entice some private sector capital back into the 
mortgage market.
    Mr. DeMarco. In the near term, I believe that the role 
Fannie, Freddie, and the FHA have played has brought a great 
deal of stability to the country's housing system, so it has 
been a positive. Long-term, I believe we need to figure out 
what the future is, so that there can be much more of a return 
of private businesses and private capital to the housing 
market.
    With regard to the Administration's plan, I am sorry, I'm a 
regulator, I'm not part of the Administration. I'm not an 
Administration official. So I would have to defer to them in 
terms of what their plans and timeline are, sir.
    Mr. Posey. And that's a good answer, because nobody who has 
appeared before us yet in any sector has had any kind of a 
plan. So I guess that's fair enough.
    Thank you, Mr. Chairman.
    Chairman Kanjorski. Thank you, Mr. Posey. Now, the 
gentleman from Delaware, Mr. Castle, will have 5 minutes.
    Mr. Castle. Thank you, Mr. Chairman. Mr. DeMarco, several 
questioners ago you indicated that Fannie--I think you said 
Fannie and Freddie would reduce their retained portfolios by 10 
percent per year. Did I hear that correctly?
    Mr. DeMarco. Yes, sir.
    Mr. Castle. How will they do that? I don't quite know what 
assets they are going to be reducing, and who wants them.
    Mr. DeMarco. It will generally be accomplished through the 
normal run-off of their mortgage books, so mortgage loans that 
are paying down.
    Mr. Castle. So mortgage loans that are paying down and 
paying off, or somebody--or they're sold, or whatever it would 
be?
    Mr. DeMarco. Yes, sir.
    Mr. Castle. Okay. What are Fannie and--I don't want 
specifics on this, but in general--Fannie and Freddie's 
requirements to accept mortgages, or to purchase mortgages into 
their portfolios?
    You have indicated they are excessively leveraged. Others 
have said that the collapse of Fannie and Freddie was a failure 
of management. But at some point somebody has to make the 
decision that they are going to acquire a mortgage, or do 
whatever they are going to do. Is this just a failure of good 
decision-making? Or is it blamed on the collapse of the real 
estate market in this country?
    It just seems to me that there were missteps that were 
made--and perhaps they're still being made, I have no idea how 
it's going today.
    Mr. DeMarco. In 2004, 2005, 2006, and so on, we saw the 
emergence of a private-label mortgage-backed security market, 
not just for subprime mortgages, but for other non-traditional 
mortgages, which are called Alt-A mortgages, low documentation 
mortgages.
    So, as this emerged, as an alternative to the conforming 
conventional market, Fannie Mae and Freddie Mac, over time, did 
make management decisions to lower their underwriting 
standards, adjust their pricing so as to remain what they saw 
as competitive in the marketplace. They also became purchasers 
of the senior tranches of these private-label mortgage-backed 
securities, both for purposes of meeting certain housing goals, 
and for the purpose of profitability. They thought that they 
could make money on those investments.
    These were, in fact, business decisions made over time. 
Like many other participants in the housing market, they under-
estimated the credit risk that they were undertaking, and they 
certainly did not have enough capital to support it.
    Post-conservatorship, they're not leveraged in the sense 
that the Treasury backstop is there to bring shareholder equity 
basically to zero, but they are operating in conservatorship 
with much tighter underwriting standards, and more appropriate 
risk-based pricing, so that they are able to serve their 
statutory mission of providing a liquid and stable secondary 
mortgage market as we go along now, but do so in a way in which 
they are not adding to the losses that they incurred in their 
book of business, pre-conservatorship.
    Mr. Castle. Thank you. This is going to have to be a little 
bit vague, because I don't quite understand it at all, but I am 
curious about the timeline for revamping the GSEs. And I ask 
that in conjunction with the financial regulatory bill that has 
been passed in the House and the Senate, and it's now going 
into conference, in which the statement has been made, ``We 
just can't deal with the GSEs in this piece of legislation,'' 
which I thought we should have dealt with.
    And the discussion has been from the Administration--and 
maybe you're not even involved in this, I don't know--but that 
there is going to be a redoing of Fannie and Freddie, in 
particular, recommended at some point. But it wouldn't be part 
of that bill, it would be some time in the future.
    You can comment on that, but I would be curious as to 
what--whether or not there is a timeline for doing anything 
different with Fannie and Freddie, or just letting them work 
out their problems, such as the way you have just described in 
the previous answer.
    Mr. DeMarco. I can't speak for the Administration's 
timeline of coming before Congress with a specific proposal. 
They have said that they will.
    I would say that, as I have said earlier, conservatorship 
is not a long-term option. And policymakers are going to have 
to deal with the future of the housing finance system. And, in 
that context, deal with the--what is the post-conservatorship 
world for the Enterprises and, more generally, for the 
secondary mortgage market.
    But I don't have a specific timeline. That's for 
policymakers to develop and act upon.
    Mr. Castle. Going back, what, 40 years ago or whenever 
Fannie Mae was created, and then Freddie Mac thereafter, as we 
all know, the U.S. housing finance market was basically funded 
by, I guess, demand deposits from banking institutions in this 
country. And then we got into this whole business of using 
Fannie Mae and Freddie Mac, which had some advantages, 
obviously, and some disadvantages.
    But is there a better mortgage finance model than 
securitization, or does this securitization provide some sort 
of stability or liquidity to the banking institutions, and 
therefore should not and is not going to go away? Or could we 
revert to some sort of a just demand deposit circumstances?
    Mr. DeMarco. I would be awfully cautious about returning to 
a demand deposit-based system of financing housing. The thrift 
crisis in the late 1970's and into the 1980's demonstrated the 
considerable risk that can be realized if one if funding a 30-
year asset with basically overnight money. The interest rate 
risk of trying to finance a 30-year mortgage with short-term 
deposits is considerable, and the costs of properly hedging 
that are very difficult.
    What securitization does give the Nation's homeowners is 
the following. I think of it as that is the--those are the--
that's like the plumbing that connects, on the one hand, 
individual housing transactions across the country, the average 
size of which is only $200,000 per mortgage. But when you 
aggregate that across the United States, it's a single-family 
mortgage market of roughly $10 trillion.
    And so, what securitization--the power of securitization is 
it's a way of aggregating all of these $200,000 transactions 
that add up to a cumulative amount of $10 trillion, and then 
securitization allows one to tap into global financial markets, 
to institutional investors, not just in this country but around 
the globe, that can deal with the interest rate risk of a 30-
year fixed-rate mortgage, and have the capacity and have the 
capital to want to fund in that kind of volume.
    And so, securitization can be a powerful element to 
enhancing our financial system and providing great benefit to 
homeowners because it provides a channel to connect from that 
individual transaction to the size of investment that 
institutional investors around the globe want.
    The trick here, and what we have to improve upon, really, 
is how does one assure these global investors that are going to 
have no idea about the actual credit worthiness of any 
individual borrower of $200,00, what are the credit protections 
that are in place so that the owner of that mortgage-backed 
security can have confidence in the credit characteristics of 
the pool of mortgages?
    Now, in the GSE model, that was looked upon as the backing 
of the GSEs. But we had this very awkward and unfortunate 
framework in which investors relied on not just the guarantee 
of Fannie and Freddie, but the implicit guarantee of the 
Federal Government if anything happened to Fannie and Freddie. 
And, quite to our regret, that implicit guarantee had ended up 
being realized.
    I think what Congress is grappling with in the future of 
the housing finance system, is what is going to replace that 
model of a Fannie and Freddie GSE guarantee and an implicit 
government backstop behind it, so that in the future, we can 
continue to be able to tap into global capital markets to 
finance housing in this country, but do so in a way in which we 
have better managed who owns the credit risk, and how that 
credit risk is being managed, and what kind of private capital 
is supporting it.
    Mr. Castle. Thank you. I yield back, Mr. Chairman.
    Chairman Kanjorski. I recognize the gentlelady from New 
York for several questions. Mrs. Maloney?
    Mrs. Maloney. Thank you so much, and that was a very good 
explanation, Director DeMarco. Thank you for your service.
    I would like to get back to the rather startling example in 
Stuyvesant Town and Peter Cooper, where the financing from 
Fannie Mae and Freddie Mac enabled a situation where affordable 
housing was in the process of being converted to high-income 
housing, and many people were forced out of their homes, or 
evicted.
    Looking back on it, do you believe Fannie and Freddie 
should have received housing goals credit for their investment 
in the Stuyvesant Town/Peter Cooper deal?
    Mr. DeMarco. To the best of my knowledge, the awarding of 
housing goal credit on the transaction was done in accordance 
with the rules and the policies that were in place at that 
time. So it was not inappropriate, given the way the housing 
goal framework and policies existed at that time. So, the 
answer then is no.
    But I share with you the concern about transactions that 
are, in fact, aimed at turning affordable housing into 
something else, and whether there is a way of, whether through 
policy or regulation or legislation, avoiding that peculiar 
outcome, where one is awarding affordable housing goal credit 
on a transaction that is designed, in fact, to turn the housing 
into something other than affordable housing.
    I would note that we have a proposed rule out--the comment 
period is closed and we are evaluating it--regarding the 
housing goal rules going forward. And in that we have raised 
the question as part of the comment period about whether 
commercial mortgage-backed securities, such as the ones Fannie 
and Freddie purchased in the instance you're referring to, 
should get housing goals credit at all, regardless of what the 
investor's intent with respect to the property is.
    And so, that's a question that we raised in our proposal.
    Mrs. Maloney. I will look forward to commenting on it, and 
I believe many people will comment on it. And recently, 
Chairman Frank and I sent you and others a letter, urging you 
not to give credit for projects that are, in fact, converting 
affordable housing into market rate, high-income housing.
    Last week, I introduced H.R. 5361, the Responsible GSE 
Affordable Housing Investment Act, and the goal of this bill is 
to take away the incentive for GSEs to invest in properties and 
projects that would lead to an aggressive turnover of 
affordable units to market rate. It does so by giving the FHFA 
authority to reduce credits for those investments that do not 
lead to an increase or preservation of affordable housing, and 
by requiring GSEs to do better due diligence when they are 
investing in the secondary market, and to obviously not just 
look at the snapshot of the day, but how the financing affects 
the overall project.
    Simply put, if the rental income at the time the deal is 
done is not enough to satisfy the debt service, then the GSEs 
should not receive affordable housing goals credits for those 
investments.
    The bill does not prohibit GSEs from investing in those 
properties. It merely says that they can't receive a housing 
goals credit for those investments.
    Mr. DeMarco, what is your view of the bill, or the goals of 
the bill? Do you think it gives the FHFA the right authority to 
ensure that GSEs invest in properties that actually increase 
affordable housing?
    Mr. DeMarco. Mrs. Maloney, I appreciate that our staffs 
have had productive discussions about this. I am sorry I have 
not reviewed all of the provisions of the bill you introduced 
last week, so I don't have a particular response. But I do know 
that we have had some productive exchanges about it.
    And, as I have already said, I certainly share the 
overriding principle here, which is awarding goals credit on 
properties that are designed, in fact, to turn affordable 
housing into not affordable housing is something that we need 
to figure out an appropriate way of fixing. And I look forward 
to us continuing that discussion, so that we can be 
constructive--
    Mrs. Maloney. Thank you, that's constructive.
    Mr. DeMarco. --in this area.
    Mrs. Maloney. I know the FHFA just issued its proposed 
housing goals for 2010 and 2011, and I believe the public 
comment period has ended. How did stakeholders respond to the 
proposed goals? Can you tell the committee what changes were 
made to the goals from the previous years?
    Mr. DeMarco. Because this is in a rule-making process, I 
can't comment on the decisions that we are in the midst of 
making in response to the comments. The comments that we 
received are available on our Web site.
    As you did note, the comment period is closed, and we are 
looking to go through the comments and then make appropriate 
adjustments to our proposal, and then we will be publishing a 
final rule.
    Mrs. Maloney. Thank you very much, and I look forward to 
continuing to work with you for the housing goals of--and 
certainly the goal of more affordable housing. Thank you very 
much.
    Mr. DeMarco. Thank you.
    Chairman Kanjorski. Thank you, Mrs. Maloney. We will 
recognize the gentleman from New Jersey.
    Mr. Garrett. Just for one last question. Can you remind 
me--and we may have discussed this in the past--can you just 
sort of walk me through the methodology you use on hedging--on 
your interest rate risk? And who it is--the second half of 
that, I guess, would be who is on the other side of that?
    Mr. DeMarco. There are some big banks and financial 
institutions on the other side. And a lot of this is actually 
plain vanilla interest rate swaps that are undertaken by Fannie 
and Freddie to hedge the interest rate risk in their portfolio.
    It's a matter of ongoing observation by us, as the 
regulator. We assure that each company has appropriate 
operating limits, with respect to the interest rate risk they 
take on. Those are both management limits and board limits we 
monitor that ensure the companies remain operating within those 
limits.
    And we think that--the only thing that we have been 
encouraging germaine to your question is working with both 
Fannie and Freddie and the Federal Home Loan Banks to look at 
what derivatives activity they are undertaking that can be 
effectively moved to central clearing, so as to improve the 
transparency and the risk management in their hedging activity.
    Mr. Garrett. Wasn't this--
    Mr. DeMarco. So that's an ongoing issue we have right now.
    Mr. Garrett. Yes, wasn't there some work on that already, 
and that that was going to be--so that's not--is that done, as 
far as the transparency of--what's the word I'm looking for? 
Yes, well, as far as the clearing of them?
    Mr. DeMarco. They have not moved to central clearing, yes.
    Mr. Garrett. Shadow clearing?
    Mr. DeMarco. But it is being looked at. And this is a 
developing area right now that's involving not just us, but the 
CFTC and the other banking regulators with regard to moving 
various derivative transactions to central clearing.
    Mr. Garrett. Yes. Well, I understand that. So isn't it just 
like--correct me if I'm wrong--is there only just like maybe 
just four or five partners on the other side that we're really 
dealing with?
    Mr. DeMarco. There are a limited number of counterparties, 
as a general matter, which is part of the reason for wanting to 
see this moved to central clearing, to improve the counterparty 
risk management.
    Mr. Garrett. Because we were just discussing this up here. 
You're doing everything you can--I understand--that if interest 
rates tomorrow go like this, that you guys are all protected, 
and we don't have to call you back in and say that you did 
everything good.
    Mr. DeMarco. Yes, sir.
    Mr. Garrett. But we were just saying do we have to have 
another hearing to bring in the four or five guys on the other 
side?
    Because now, because interest rates went through the roof 
and you have gotten rid of all your risk, but those three or 
four guys have to come in and say, ``We picked up all that 
risk,'' is that something that we have to worry about or no?
    Mr. DeMarco. This gets into an area that is certainly 
beyond my expertise, but certainly--and this is being discussed 
a lot in the context of financial regulatory reform--is that 
derivatives can be a helpful thing for financial institutions 
to be managing risk. Derivatives themselves need to be properly 
overseen. We need to assure liquidity in the derivatives 
market. Derivatives activity is dominated by a relatively small 
number of large institutions. How they are laying off that risk 
or managing it on their end is something for their prudential 
regulators to be overseeing.
    And so, with the major U.S. banks that are key derivative 
counterparties of Fannie Mae and Freddie Mac, the Federal 
banking agencies are overseeing that as part of their 
prudential oversight of those companies. Moving to central 
clearing would provide a different mechanism, a broadened 
mechanism, for that kind of oversight and risk management.
    Chairman Kanjorski. If I may just add on to that question, 
how is it that--take AIG Financial Products in London, why did 
it not come to anyone's attention that they did not have 
anywhere near the amount of equity necessary to support their 
derivative activity?
    As a regulator, did you have an occasion to look at their 
capacity to be a counterparty or to take the risk on some of 
these transactions, or did anyone else in the field do that?
    They had, as I understand, $2.8 trillion in derivatives 
without any actual physical support of funds out of AIG itself, 
until far down the line, when the market started deteriorating.
    Why was this not examined, either by the regulators or by 
the parties involved?
    Mr. DeMarco. I'm sorry, Mr. Chairman, but I just don't feel 
that I'm expert enough to be able to respond to what is a very 
important question.
    My limited understanding here involves things that--for 
example, some of the derivative transactions that--for which 
AIG had great difficulty were certain credit default swaps and 
other things that are of different characteristics than what 
the Enterprises used to hedge their interest rate risk on their 
retained portfolios.
    But I would have to defer to the appropriate regulators for 
what was going on in the AIG case. That's outside my area of 
expertise.
    Chairman Kanjorski. Thank you very much. The Chair notes 
that some members may have additional questions for this panel, 
for this witness, which they may wish to submit in writing. 
Without objection, the hearing record will remain open for 30 
days for members to submit written questions to this witness, 
and to place his responses in the record. Without objection, it 
is so ordered.
    There are no statements to be submitted into the record. 
Therefore, the panel--or the witness--is dismissed, and this 
hearing is adjourned.
    [Whereupon, at 4:09 p.m., the hearing was adjourned.]


                            A P P E N D I X



                              May 26, 2010
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