Government Sponsored Enterprises: Advantages and Disadvantages of
Creating a Single Housing GSE Regulator (Letter Report, 07/09/97,
GAO/GGD-97-139).

Pursuant to a congressional request, GAO reviewed the advantages and
disadvantages of creating a single regulator for the three housing
government-sponsored enterprises (GSE).

GAO noted that: (1) GAO's ongoing work has strengthened its belief that
the housing GSE regulators would be more effective if combined and
authorized to oversee both safety and soundness and mission compliance;
(2) nothing GAO has observed has caused it to modify GAO's criteria for
an appropriate regulatory structure; (3) although there have been
changes in the regulatory oversight of the housing GSEs since GAO first
established these criteria, neither the Office of Federal Housing
Enterprise Oversight (OFHEO), Department of Housing and Urban
Development (HUD), nor the Federal Housing Finance Board (FHFB) meets
all five criteria; (4) in particular, GAO notes that FHFB is not an
arm's-length regulator, and it is still involved in governance of the
FHLBank System; (5) in addition, regulation of Fannie Mae's and Freddie
Mac's mission compliance and safety and soundness is the responsibility
of HUD and OFHEO; (6) combining oversight into one agency would have
several advantages; (7) such an agency could be more independent and
objective than the separate regulatory bodies and could be more
prominent than either one alone; (8) although the GSEs operate
differently, the risks they manage and their missions are similar; (9)
the regulators' expertise in evaluating GSE risk management could be
shared more easily within one agency; (10) the primary disadvantage to
combing oversight into one agency would be whatever short-term
disruption reorganization might cause to the ongoing operations of the
regulators; (11) GAO's analysis of different regulatory structures
indicated that an independent, arm's-length, stand-alone regulatory body
headed by a board would best fit GAO's criteria for an effective
regulatory agency structure for the housing GSEs; (12) an independent
regulatory body, as opposed to one within an executive branch
department, should be better positioned to achieve the autonomy and
prominence necessary to oversee the large and influential housing GSEs;
(13) using a board to govern the independent regulatory agency would
enable Congress to provide for representation that could help ensure the
regulator's independence and provide appropriate balance and expertise
in the regulators' deliberations of both safety and soundness and
mission-related issues; (14) having an independent board would allow it
to be structured to provide equal links to HUD, due to its role in hous*

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  GGD-97-139
     TITLE:  Government Sponsored Enterprises: Advantages and 
             Disadvantages of Creating a Single Housing GSE Regulator
      DATE:  07/09/97
   SUBJECT:  Government sponsored enterprises
             Financial management systems
             Government guaranteed loans
             Regulatory agencies
             Risk management
             Lending institutions
             Mortgage loans
             Agency missions
             Federal agency reorganization
             Interagency relations
IDENTIFIER:  Farm Credit System
             
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Cover
================================================================ COVER


Report to the Chairman, Subcommittee on Capital Markets, Securities
and Government-Sponsored Enterprises, Committee on Banking and
Financial Services, House of Representatives

July 1997

GOVERNMENT-SPONSORED ENTERPRISES -
ADVANTAGES AND DISADVANTAGES OF
CREATING A SINGLE HOUSING GSE
REGULATOR

GAO/GGD-97-139

Single Housing GSE Regulator

(233521)


Abbreviations
=============================================================== ABBREV

  FCA - Farm Credit Administration
  FHFB - Federal Housing Finance Board
  FIRREA - Financial Institutions Reform, Recovery, and Enforcement
     Act
  GSE - government-sponsored enterprise
  HUD - Department of Housing and Urban Development
  MBS - mortgage-backed securities
  OCC - Office of the Comptroller of the Currency
  OFHEO - Office of Federal Housing Enterprise Oversight
  OTS - Office of Thrift Supervision

Letter
=============================================================== LETTER


B-277390

July 9, 1997

The Honorable Richard H.  Baker
Chairman, Subcommittee on Capital Markets,
 Securities and Government-Sponsored Enterprises,
Committee on Banking and Financial Services
House of Representatives

Dear Mr.  Chairman: 

This report responds to your request for our analysis of the
advantages and disadvantages of creating a single regulator for the
three housing government-sponsored enterprises (GSE).  You asked that
we address the question of whether safety and soundness and mission
oversight should be vested in the same regulatory body.  On the basis
of discussions with your office, we also agreed to address the
regulatory agency structure that might best provide for protecting
the government's interest by ensuring that the GSEs carry out their
public purposes (mission) in a safe and sound manner.  To do so, we
considered whether the regulator should be an independent office
within an agency, such as the Department of Housing and Urban
Development (HUD) or the Department of the Treasury (Treasury), or a
stand-alone, independent agency and whether it should be governed by
a board or director.  Finally, we briefly discuss other issues that
are important in deciding how best to regulate the GSEs.  The current
regulatory arrangement for the housing GSEs involves three
regulators.  The Office of Federal Housing Enterprise Oversight
(OFHEO) regulates the safety and soundness of the Federal National
Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage
Corporation (Freddie Mac).  HUD regulates Fannie Mae's and Freddie
Mac's mission compliance and has general regulatory authority over
matters not made exclusive to OFHEO by statute.  The Federal Housing
Finance Board (FHFB) regulates both the safety and soundness and
mission compliance of the Federal Home Loan Bank System (FHLBank
System). 


   BACKGROUND
------------------------------------------------------------ Letter :1

Fannie Mae, Freddie Mac, and the FHLBank System are the GSEs Congress
created to help make credit available to finance home purchases,
because the private market was perceived as not effectively meeting
credit needs.  The GSEs' charters largely limit activities to their
public missions, and they receive financial benefits from the
government that help them carry out those public missions.  For
example, the three GSEs are exempt from Securities and Exchange
Commission registration requirements, and they have conditional lines
of credit with Treasury.  They receive other benefits directly and
indirectly related to their federal charters.  Most importantly,
although the government has no legal obligation to protect GSE
creditors, federal ties with the GSEs have contributed to the
perception by investors that the federal government would not allow
any of the GSEs to default on their obligations.\1

The mission of both Fannie Mae and Freddie Mac is to enhance the
availability of mortgage credit by creating and maintaining a
secondary market for residential mortgages.  The Federal Housing
Enterprises Financial Safety and Soundness Act of 1992 (the 1992 Act)
required HUD to establish affordable housing goals directed at Fannie
Mae's and Freddie Mac's efforts to finance housing for low- and
moderate-income families and housing in central cities and other
underserved areas.\2 Fannie Mae and Freddie Mac borrow funds in the
capital markets and use the funds to purchase residential mortgages
from lenders, such as banks and thrifts.  Fannie Mae and Freddie Mac
retain some mortgages in portfolio but pool a majority to create
securities called mortgage-backed securities (MBS) that they sell to
investors in the secondary mortgage market.  As of December 31, 1996,
Fannie Mae and Freddie Mac had total on balance sheet assets of $351
billion and $174 billion, respectively, not including MBS.  Both GSEs
are stockholder-owned corporations governed by boards of directors. 
Each board of directors includes 13 members elected by stockholders
and 5 members appointed by the President of the United States. 

The 1992 Act established OFHEO as an independent entity within HUD to
oversee the safety and soundness of Fannie Mae and Freddie Mac. 
OFHEO is led by a director who is presidentially appointed for a
5-year term and confirmed by the Senate.  Its statutory mission is to
help ensure that Fannie Mae and Freddie Mac are adequately
capitalized and operate in a safe and sound manner.  OFHEO's 1996
budget was $15 million; it had 72 full-time staff positions. 

Other than safety and soundness and certain other matters that the
1992 Act specifies as exclusive to OFHEO, the 1992 Act gives general
regulatory power over Fannie Mae and Freddie Mac to the Secretary of
HUD.  This includes the power to make rules and regulations necessary
to ensure that each GSE's mission is being accomplished, including
setting, monitoring, and enforcing compliance with special housing
goals.\3

The FHLBank System comprises 12 district banks that extend mortgage
credit by making loans (called advances) to member institutions
(thrifts, commercial banks, and others), who in turn lend to home
buyers for mortgages.  The advances are secured by home mortgage
loans or other collateral.  Although the FHLBank System's charter
contains no explicit statement of purpose, the history of the
enabling legislation and subsequent statutory language identify that
purpose as supporting housing finance.  Each bank is governed by a
board with at least 14 members, including at least 6 members who are
appointed by FHFB.\4 The capital stock of each bank is owned by its
member institutions.  As of December 31, 1996, the FHLBank System had
total assets of $292 billion, with individual bank assets ranging
from $13 to $52 billion. 

FHFB was established in 1989 as the regulator of the FHLBank System
and charged with supervising System banks to ensure first, that they
operate in a safe and sound manner and also that they carry out their
housing finance mission.\5 FHFB was authorized to issue consolidated
obligations for the System; it delegated this duty to the Office of
Finance, which FHFB established as a joint office of the System
banks.  In addition, Congress required FHFB to establish and regulate
standards for community investment and an affordable housing program
aimed at making credit available to people of limited income and to
the commercial and economic development activities that benefit them. 

A five-member Board of Directors governs FHFB, which is an
independent agency in the executive branch.  Four full-time members
are appointed by the president with the advice and consent of the
Senate for 7-year terms; the president designates one of the four as
Chair.  The Secretary of HUD is the fifth member.  At least one
member is to be chosen from an organization representing consumer or
community interests in banking services, credit needs, housing, or
financial consumer protection.  FHFB's 1996 budget was $16.1 million;
it had a staff of about 120. 

In our 1991 and 1993 reports on GSEs we identified five criteria that
a GSE regulatory agency structure should meet to facilitate effective
oversight.\6 The criteria specify that a GSE regulatory agency's
structure should provide for (1) objectivity and arm's-length status
from the GSE, (2) prominence in government, (3) economy and
efficiency, (4) consistency in regulation of similar markets, and (5)
separation of primary and secondary market regulation.  We developed
these criteria on the basis of our own knowledge and experience in
reviewing federal financial institution regulation; our review of
related literature and regulatory law; the then-current arrangement
and operations of the GSEs; and discussions with the GSEs, federal
regulators, and other experts.  On the basis of these criteria, we
stated in 1991 that regulation of a GSE's mission-related activities
cannot be effectively separated from oversight of safety and
soundness.  In 1993, again on the basis of these criteria, we
recommended merging the safety and soundness functions of the housing
GSE regulators. 


--------------------
\1 The federal government intervened when the Farm Credit System
faced severe financial stress in the mid-1980s.  Congress authorized
up to $4 billion in federal assistance and required extensive
structural and operational reform.  It also established the System's
regulator as an arm's-length regulator and gave it new powers.  See
Farm Credit Amendments Act of 1985, Pub.  L.  No.  99-205 (Dec.  23,
1985); Farm Credit Act Amendments of 1986, Pub.  L.  No.  99-509,
Title I, Subtitle D.  The government provided less direct support to
Fannie Mae in 1982 in the form of changes to its income tax treatment
and regulatory forbearance of its troubled condition.  See Farm
Credit System:  Repayment of Federal Assistance and Competitive
Position (GAO/GGD-94-39, March 10, 1994); and Government-Sponsored
Enterprises:  A Framework for Limiting the Government's Exposure to
Risks (GAO/GGD-91-90, May 22, 1991). 

\2 Pub.  L.  No.  102-550, Title XIII, codified at 12 U.S.C.  
4501, et seq.  The provisions of the act concerning HUD's
establishment of the housing goals are codified at 12 U.S.C.
4561-4564. 

\3 For discussion of HUD's promulgation of regulations setting annual
goals for each enterprise, see Housing Enterprises:  Potential
Impacts of Severing Government Sponsorship (GAO/GGD-96-120, May 30,
1996), pp.  80-84. 

\4 FHFB can authorize a board of more than 14 members (8 elected) for
districts that include 5 or more states. 

\5 Congress created FHFB as the successor to the Federal Home Loan
Bank Board, with respect to the Federal Home Loan Banks, in Title VII
of the Financial Institutions Reform, Recovery, and Enforcement Act
of 1989 (FIRREA), Pub.  L.  101-73  702, 12 U.S.C.   1422a. 

\6 GAO/GGD-91-90 and Federal Home Loan Bank System:  Reforms Needed
to Promote Its Safety, Soundness, and Effectiveness (GAO/GGD-94-38,
Dec.  8, 1993). 


   RESULTS IN BRIEF
------------------------------------------------------------ Letter :2

Our ongoing work has strengthened our belief that the housing GSE
regulators would be more effective if combined and authorized to
oversee both safety and soundness and mission compliance.  Nothing we
have observed has caused us to modify our criteria for an appropriate
regulatory structure.  Although there have been changes in the
regulatory oversight of the housing GSEs since we first established
these criteria, neither OFHEO, HUD, nor FHFB meets all five criteria. 
In particular, we note that FHFB is not an arm's-length regulator,
and it is still involved in governance of the FHLBank System.  In
addition, regulation of Fannie Mae's and Freddie Mac's mission
compliance and safety and soundness is the responsibility of HUD and
OFHEO, respectively. 

Combining oversight into one agency would have several advantages. 
Such an agency could be more independent and objective than the
separate regulatory bodies and could be more prominent than either
one alone.  Although the GSEs operate differently, the risks they
manage and their missions are similar.  The regulators' expertise in
evaluating GSE risk management could be shared more easily within one
agency.  In addition, a single regulator would be better positioned
to be cognizant of specific mission requirements, such as special
housing goals and new programs or initiatives any of the GSEs might
undertake, and should be better able to assess their competitive
effect on all three housing GSEs and better ensure consistency of
regulation for GSEs that operate in similar markets.  Coordination
and sharing of expertise among staff responsible for safety and
soundness and mission compliance should be facilitated by having all
staff in one regulatory agency.  The primary disadvantage to
combining oversight into one agency would be whatever short-term
disruption reorganization might cause to the ongoing operations of
the regulators. 

Our analysis of different regulatory structures indicates that an
independent, arm's-length, stand-alone regulatory body headed by a
board would best fit our criteria for an effective regulatory agency
structure for the housing GSEs.  An independent regulatory body, as
opposed to one within an executive branch department, should be
better positioned to achieve the autonomy and prominence necessary to
oversee the large and influential housing GSEs.  Using a board to
govern the independent regulatory agency would enable Congress to
provide for representation that could help ensure the regulator's
independence and provide appropriate balance and expertise in the
regulators' deliberations of both safety and soundness and
mission-related issues.  Having an independent board would allow it
to be structured to provide equal links to HUD, due to its role in
housing policy, and Treasury, due to its roles in finance and
financial institution oversight.  Having a single director, rather
than a board, as head of the regulatory agency might provide for
management efficiencies and clearer accountability.  However, such an
arrangement would sacrifice the advantages of having the different
perspectives, expertise, prestige, and stability a board could
provide. 


   SCOPE AND METHODOLOGY
------------------------------------------------------------ Letter :3

Because we had done a substantial amount of work on these GSEs in the
past, we relied heavily upon that work.  However, we reviewed our
historical positions in light of the current regulatory structure and
GSE activities.  In addition to reviewing our past and ongoing work
related to these GSEs and their regulators and consistent with our
methodology in our earlier work, we solicited views of housing, GSE,
and regulatory officials.  They included officials from OFHEO, FHFB,
Fannie Mae, Freddie Mac, the FHLBank System, HUD, and Treasury. 

We requested oral comments on a draft of this report from the Chief
Executive Officers, or their designees, of Fannie Mae, Freddie Mac,
the Council of the FHLBanks of which 9 of the 12 FHLBanks are
members, and the FHLBanks of New York and Chicago;\7

and the heads, or their designees, of OFHEO, FHFB, HUD, and Treasury. 
Their comments are discussed at the end of this report. 

We did our work in Washington, D.C., between May and June 1997 in
accordance with generally accepted government auditing standards. 


--------------------
\7 The FHLBank of Dallas declined to comment on the draft. 


   WE CONTINUE TO SUPPORT A SINGLE
   HOUSING GSE REGULATOR
------------------------------------------------------------ Letter :4

In our 1991 report on GSEs, we recommended that Congress create a
single regulator for all GSEs.  We determined that a single
regulatory body could best fit our criteria of being (1) independent
and objective, (2) prominent in government, (3) able to achieve
economy and efficiency, and (4) able to provide consistency in
regulation.  We also maintained that regulation of primary and
secondary markets could be separated within a single regulator to
avoid potential conflicts.  In that report we discussed an option
that involved regulation of the GSEs according to the markets they
serve, such as housing.  In our subsequent 1993 report on the FHLBank
System, we recommended that a single regulator be created for the
three housing GSEs that would assume the duties of OFHEO and FHFB. 
In that report, we concluded that the new regulator would have the
following attributes. 

  -- The regulator would be more independent and objective than
     separate regulatory bodies can be.  Because the operations and
     interests of the FHLBank System, Fannie Mae, and Freddie Mac do
     not align precisely, there should be a healthy tension in the
     oversight of the entities that could help prevent the regulator
     from being "captured" by the GSEs. 

  -- The regulator would be more prominent in government than either
     OFHEO or FHFB can be individually. 

  -- The regulator would create some economies and efficiencies. 
     Staff could share expertise in such areas as examinations,
     credit and interest rate risk monitoring, financial analysis,
     and economic research.  Administrative support functions could
     be combined. 

  -- The regulator would provide consistent regulation for GSEs
     serving the same economic sector and sharing the public purpose
     of providing credit for housing.  Although the System, Fannie
     Mae, and Freddie Mac do not directly compete in all of their
     activities, they are all participants in the residential
     mortgage market.  Consolidating their regulation would enable a
     regulator to take into account the competitive effects that
     regulatory decisions made concerning Fannie Mae and Freddie Mac
     would have on the FHLBank System, and vice versa. 

The criterion of separating primary and secondary market regulation
would not be violated, because the new regulatory entity would not be
responsible for overseeing other regulated entities that are
counterparties (customers) of the three GSEs, such as banks and
thrifts. 

Since we did our work in 1991 and 1993, we have continued to monitor
and evaluate the GSEs and their regulators.  We have found no
evidence that would cause us to alter our previous positions. 
Rather, our ongoing work has strengthened our belief that OFHEO and
FHFB would be more effective if combined.  A single, more prominent
regulatory agency could help attract and retain staff with the
special mix of expertise and experience needed to examine and monitor
these sophisticated GSEs.  Our 1995 report and preliminary
information from ongoing reviews of OFHEO operations show that hiring
and retaining expert staff has been an ongoing concern for OFHEO.\8
In our ongoing work, OFHEO officials told us that because there are a
limited number of individuals with the particular skills and
experience that OFHEO needs, it must compete with other financial
regulators as well as private firms for staff.  Although a new
regulator may have to compete with private firms and banking
regulators for staff and would be somewhat new and unknown, the new
entity should be able to provide greater opportunities for staff
growth and advancement than either OFHEO or FHFB separately. 

Several officials we spoke with believed that establishing a single
regulator for the housing GSEs to assume the responsibilities of
OFHEO and FHFB would create valuable synergies among regulatory
staff.  We concur with this view.  Although the GSEs operate
differently, the risks they manage are similar.  OFHEO must evaluate
its GSEs' management of credit risk associated with mortgages they
purchase and management of interest rate and other risks associated
with the portfolio operations.  Similarly, FHFB must evaluate the
credit risk of mortgages FHLBanks receive from members as collateral
for advances.  FHFB must also oversee FHLBank management of interest
rate and other risks. 

In addition, OFHEO's current work in setting capital standards and
developing a stress test for its GSEs could be useful in government
oversight of the FHLBank System.  In our 1991 report, we recommended
that adequate capital standards be set for all housing GSEs based on
the risks they undertake.\9 OFHEO is developing what is to be a
comprehensive financial modeling capability to determine how much
capital Fannie Mae and Freddie Mac are required to hold to withstand
a variety of credit and interest rate scenarios.  The results of this
work may be helpful in evaluating the risks to the FHLBank System and
the adequacy of its capital. 

Further, certain GSE programs could foster competition among the
three GSEs, and a single regulator could provide consistent rules and
interpretations more easily than three different regulators.  Under
the existing regulatory structure, there would be no provision for
the regulator to consider how such programs would affect enterprises
it did not regulate.  For example, in 1996 and 1997, FHFB approved
three FHLBank pilot programs that involved services Fannie Mae or
Freddie Mac could have or already did provide.  One bank is to
purchase senior interests in certain whole mortgages and other
related loans.  The loans would be acquired from both member and
nonmember institutions and would include loans members have made to
low- and moderate-income borrowers.  Another FHLBank is to fund and
hold mortgages originated by its member institutions.  FHFB found
that this pilot program would provide member institutions a way to
move mortgages off their books without having to pay fees associated
with selling mortgages to Fannie Mae or Freddie Mac or to other
secondary market participants.  According to OFHEO officials, they
independently assessed the competitive impact of these programs on
Fannie Mae and Freddie Mac.  However, had a single regulator been
responsible for all three GSEs, a single assessment could have
combined consideration of all competitive effects and ensured
regulatory consistency of oversight.  Such an assessment could be
difficult, however, because of possible conflicting interests of the
housing GSEs in pursuing their lines of business and missions. 

According to some officials with whom we met, the primary
disadvantage of creating a single regulator for these GSEs is the
short-term disruption that would come with any type of change. 
Combining staffs and creating a single system for administrative
matters, such as personnel, contracting, and budgeting, could be time
consuming and potentially disruptive at the time.  Establishing
procedures for decisionmaking and working toward consistency in
regulation and examination, where appropriate, would be a challenge. 
Important work at both OFHEO and FHFB could be disrupted.  For
example, OFHEO's efforts to develop a stress test necessary for
setting capital standards for Fannie Mae and Freddie Mac could be
delayed if key staff left or their time was directed to other work. 
On the other hand, these effects should be short term. 


--------------------
\8 See Government-Sponsored Enterprises:  Development of the Federal
Housing Enterprise Financial Regulator (GAO/GGD-95-123, May 30,
1995), a study required by the Federal Housing Enterprises Financial
Safety and Soundness Act of 1992.  In addition, Section 430 of the
Department of Veterans Affairs/Department of Housing and Urban
Development Appropriations Act of 1997 required us to assess OFHEO's
operations and determine whether its resources are adequate and being
used appropriately to fulfill its critical safety and soundness
mission.  This work is ongoing. 

\9 GAO/GGD-91-90. 


   REGULATION OF MISSION AND
   SAFETY AND SOUNDNESS WOULD BE
   MORE EFFECTIVE IF COMBINED
------------------------------------------------------------ Letter :5

In our May 1991 report on GSEs, we stated that regulation of a GSE's
mission cannot be effectively separated from safety and soundness,
and we still support this position.\10 A regulator that performs both
roles, however, must be fully independent and at arm's length from
the GSEs it regulates to ensure its objectivity.  As we noted in
1991, there is a distinction between a safety and soundness regulator
that confirms a GSE's compliance with its statutory purposes and one
that participates in the corporate governance of a GSE.  Currently,
OFHEO does neither and FHFB does both.  Our past work on GSEs
suggests that one regulator could oversee both compliance with the
statutory purposes and the financial health of a GSE, provided that
the regulator has no other responsibilities, such as corporate
governance, that could create a conflict of interest in its oversight
of the GSE.  Our 1991 report on GSEs, which discussed the thrift
crisis of the late 1980s and the thrift regulator at that time,
showed that a regulator responsible for mission-related and safety
and soundness oversight should not participate in the promotion or
corporate governance of the entities being regulated.\11

In the 1992 Act, Congress separated responsibility for mission
regulation (in HUD) from safety and soundness (in OFHEO).  There was
no conference report explaining the rationale for the separation. 
Therefore, we reviewed House and Senate Committee reports on their
respective bills that culminated in the final legislation.  Although
these reports differed in details, they generally indicated that the
regulatory structure for OFHEO was designed to provide for effective
supervision and oversight by a safety and soundness regulator
sensitive to the GSEs' critical housing missions.\12 The reports
indicated that Congress gave OFHEO exclusive authority over safety
and soundness matters to ensure that the agency would have sufficient
independence to develop and maintain a primary focus on GSE financial
health and safety.  The reports noted that GSE financial regulation
would thus be immune from political pressures and programs competing
for agency resources.  On the other hand, the reports indicate that
Congress realized the importance of maintaining a link between OFHEO
and HUD to ensure that safety and soundness regulation would not
undermine the integrity of the GSEs' programmatic missions. 
Accordingly, Congress established OFHEO as an office within HUD, and
HUD retained general regulatory authority over the housing GSEs as
well as specific authority over their housing goals requirements. 
The existing regulatory structure is one way to accomplish the
objectives of maintaining a link with HUD and also having a safety
and soundness regulator with sufficient independence.  In addition,
we discuss other options in the following sections. 


--------------------
\10 GAO/GGD-91-90, pages 29-31.  In commenting on the 1991 report,
Fannie Mae, Freddie Mac, and FHFB all agreed with our position that
safety and soundness could not be effectively separated from
statutory activities (mission).  HUD took no position. 

\11 GAO/GGD-91-90. 

\12 See S.  Rep.  No.  102-282 at 12-14 (1992) (to accompany S. 
2733, the "Federal Housing Enterprises Regulatory Reform Act of
1992"); H.R.  Rep.  No.  102-206 at 51-52 (1991) (to accompany H.R. 
2900, the "Government-Sponsored Housing Enterprises Financial Safety
and Soundness Act of 1991").  Congress did not hold a formal
conference to reconcile these bills.  The compromise resulting in the
1992 Act was added as Title XIII to the Housing and Community
Development Act of 1992, Pub.  L.  No.  102-550, 103 Stat.  3672
(1992). 


      COMBINING MISSION AND SAFETY
      AND SOUNDNESS REGULATION CAN
      BE DONE WITHOUT CREATING
      CONFLICTS OF INTEREST
---------------------------------------------------------- Letter :5.1

In the past, conflicts arose when the Federal Home Loan Bank Board,
the FHFB's predecessor agency, functioned as the promoter and
regulator for the thrift industry.  Although Congress responded, in
part, by enhancing the independence of the System's regulator, FHFB
still participates in System business, which we have stated in
previous work is inappropriate for a regulator and presents potential
for conflict.\13 For example, FHFB is required to appoint six
directors to each bank's board and approve applications for the
Affordable Housing Program.\14

FHFB has delegated some duties related to System business.  However,
the Chair of FHFB told us FHFB cannot fully delegate some of these
duties, because they are assigned to FHFB in statute.  For example,
the law provides for banks to set bank directors' compensation
subject to FHFB's approval.\15 Effective September 20, 1996, FHFB
gave the banks authority to set bank directors' compensation but
within certain reasonable limits.\16

Some FHLBank officials told us they disagree with the FHFB
implementation of the statutes on some of these issues and believe
these business matters should be fully delegated to the banks. 

We found no reason to expect that combining mission and safety and
soundness regulation in one arm's-length, independent regulator would
necessarily create conflicts.  Rather, our analysis indicates that a
healthy tension should be created with the potential for balanced
oversight.  In addition, oversight by one regulator could facilitate
congressional monitoring of the housing GSEs.  Congress has an
interest in monitoring the benefits taxpayers derive in exchange for
the benefits granted to the GSEs.\17 According to some regulatory
officials we spoke with, the tension caused by having both private
and public characteristics would be best understood and accounted for
by having a single regulator that has complete knowledge of financial
condition, regulates the mission goals Congress sets, and assesses
efforts to fulfill them in the context of the GSEs' financial health. 
This arrangement assumes a governing structure for the regulatory
agency that includes people with expertise in safety and soundness
and mission.  We discuss different governing structures in subsequent
sections of this report. 

Further, the GSEs' charters provide some safeguards to help ensure
proper balance in oversight.  GSE charters acknowledge that economic
considerations of the activities undertaken cannot be ignored,
especially where special mission requirements are addressed.  For
example, Fannie Mae's and Freddie Mac's charters specify that as part
of their purpose, they will provide "ongoing assistance to the
secondary market for residential mortgages (including activities
relating to mortgages on housing for low- and moderate-income
families involving a reasonable economic return that may be less than
the return earned on other activities)....[emphasis added]"\18
Similarly, the Federal Home Loan Bank Act (Bank Act) requires each
bank to establish a program to fund members' community development
lending and stipulates that advances for these programs "be priced at
the cost of consolidated Federal Home Loan Bank obligations of
comparable maturities, taking into account reasonable administrative
costs.  [emphasis added]"\19 The Bank Act is even more specific in
providing that bank-required participation in the Affordable Housing
Program should not contribute to financial instability.\20 It
specifies grounds for suspending a bank's required contributions and
requires FHFB to notify Congress of such a suspension.\21

Given the current financial strength of Fannie Mae and Freddie Mac
and the overall economic environment, we determined that there should
be little tension between mission compliance and safety and soundness
concerns.  At year-end 1996, Fannie Mae and Freddie Mac reported that
they both complied with the affordable housing goals established by
HUD and had return on equity of 24.4 and 22 percent, respectively. 
However, should economic conditions change for the worse, more
tension could be created between mission-related compliance and
safety and soundness as Fannie Mae and Freddie Mac try to provide
acceptable returns to their shareholders while continuing to comply
with HUD's goals.  At year-end 1996, the FHLBank System reported
return on equity of 8.3 percent and accrued $120 million to help
finance special housing needs for 1997 under its Affordable Housing
Program. 

When mission and safety and soundness regulation are performed by
different regulators, even if activities are coordinated, there is
the potential for the GSEs to try to pit the regulators against each
other, according to some regulatory officials.  In addition, possible
conflicts between rulings on safety and soundness and mission, such
as whether a GSE is financially able to meet certain special housing
goals, could be better prevented with one regulatory body as
decisionmaker.  It seems that coordination between regulatory staff
responsible for safety and soundness and those responsible for
setting, monitoring, and enforcing compliance with the housing
mission and special goals could be facilitated if staff were in the
same agency.  Also, having only one regulator to report to should
simplify the GSEs' reporting.  Finally, having one regulator
responsible for safety and soundness and mission should preclude most
misunderstandings about, or conflicts in, regulatory rulings. 

For example, any review or approval of new activities or programs
would involve only one GSE regulator.  Currently, OFHEO has
responsibility to determine the effect on safety and soundness of any
new program introduced by Fannie Mae or Freddie Mac.\22 HUD is
responsible for approving new programs concerning conventional
mortgages based on whether such programs are authorized by certain
provisions of those GSEs' respective charter acts.\23

Pursuant to this responsibility, HUD and OFHEO have recently reviewed
and did not object to a Fannie Mae proposal--a mortgage protection
plan that includes an investment in cash value life insurance.\24

Other financial institution regulators oversee both mission
compliance and safety and soundness.  For example, banks and thrifts
have special mission-related obligations under the Community
Reinvestment Act and a variety of consumer-oriented laws and
regulations.  Their respective regulators, the Office of the
Comptroller of the Currency (OCC), the Federal Reserve System, the
Federal Deposit Insurance Corporation, and the Office of Thrift
Supervision (OTS), oversee performance in both mission and financial
condition.  So, too, does the Farm Credit Administration (FCA),
regulator of the Farm Credit System--the GSE that provides credit to
the agricultural sector of the economy.\25 According to some FHLBank
System officials, because they believe their mission is adequately
stated in statute, Congress is the appropriate entity to directly
oversee compliance with their mission.  This would not seem to us to
be a practical alternative given Congress' many duties.  In addition,
Congress has indicated a preference for entrusting similar oversight
responsibilities to other GSE and financial institution regulators. 

Finally, combining mission and safety and soundness regulation would
facilitate assessing Fannie Mae and Freddie Mac for the cost of
overseeing their compliance with housing goals.  In our previous
reports on GSE oversight, we recommended that GSE regulators have
authority to assess the GSEs for the costs of federal oversight. 
This practice would help ensure that the costs of regulation are
borne by the GSEs that benefit from ties to the government.  Further,
imposing assessments helps ensure that funding for oversight is not
constrained by competing federal responsibilities.  Currently, the
cost of Fannie Mae's and Freddie Mac's mission oversight is borne by
the taxpayer as part of HUD's budget.  The cost of OFHEO's oversight
is paid by Fannie Mae and Freddie Mac through annual assessments. 
The FHLBank System is assessed by FHFB for both safety and soundness
and mission oversight. 


--------------------
\13 GAO/GGD-91-90 and GAO/GGD-94-38. 

\14 The Affordable Housing Program Regulations are set forth at 12
C.F.R.  Part 960.  The Board's approval procedures are contained in
12 C.F.R.   960.5.  On June 25, 1997, FHFB delegated authority to
approve Affordable Housing Program applications, within stated
guidelines, to the FHLBanks effective January 1, 1998. 

\15 12 U.S.C.   1427(i). 

\16 12 C.F.R.   932.27.  FHFB also has approval authority over the
compensation of each bank president and sets salary ranges for bank
officers.  See 12 C.F.R.   932.41. 

\17 We estimated that the value of the federal sponsorship to Fannie
Mae and Freddie Mac in 1995 ranged from about $2.2 billion to $8.3
billion on a before-tax basis and from about $1.6 billion to $5.9
billion on an after-tax basis.  See GAO/GGD-96-120, p.  6.  Freddie
Mac officials stated that they continue to believe, as mentioned in
our 1996 report, that our estimates of the benefits associated with
government sponsorship are overstated. 

\18 12 U.S.C.   1451 note, 1716. 

\19 12 U.S.C.   1430(i). 

\20 Congress required the FHLBank System to establish an Affordable
Housing Program to help finance housing for households with very low,
low, and moderate incomes.  Each bank is required to contribute a set
amount to the program annually.  Beginning in 1995 and subsequent
years, the amount is 10 percent of the preceding year's net income,
or a prorated amount so that the aggregate contribution of the banks
totals not less than $100 million.  12 U.S.C.   1430(j)(5). 

\21 12 U.S.C.   1430(j)(6). 

\22 Currently, OFHEO has explicit authority to determine whether a
new program would risk significant deterioration of the GSE's
financial condition.  This authority expires 12 months after the
effective date of the risk-based capital test OFHEO must promulgate
as required by the 1992 Act.  12 U.S.C.   4542(b)(2). 

\23 HUD's approval authority for new programs is set forth at 12
U.S.C.   4542. 

\24 We addressed issues related to the mortgage protection plan and
HUD's and OFHEO's responsibilities as part of an interim letter on
our review of nonmortgage investment practices at Freddie Mac and
Fannie Mae.  See Housing Enterprises:  Investment Authority,
Policies, and Practices (GAO/GGD-97-137R, June 27, 1997). 

\25 In a study completed in 1994, we found FCA to be an effective
regulator.  See Farm Credit System:  Farm Credit Administration
Effectively Addresses Identified Problems (GAO/GGD-94-14, Jan.  7,
1994). 


   ADVANTAGES AND DISADVANTAGES OF
   HAVING A STAND-ALONE
   INDEPENDENT AGENCY OR AN
   INDEPENDENT OFFICE WITHIN AN
   EXECUTIVE BRANCH AGENCY
------------------------------------------------------------ Letter :6

A single independent regulator for housing GSEs could be a
stand-alone agency or an office within an executive branch agency,
such as HUD or Treasury.  Existing structures for financial
regulators illustrate that either arrangement is plausible;\26 each
has its advantages and disadvantages.  One of the most important
considerations in establishing a single housing GSE regulator would
be to ensure that it has the independence and prominence that would
allow it to act independently of the influence of the housing GSEs,
which are large and politically influential institutions.  If a GSE
had more political clout and prominence than its regulator, it would
be that much more difficult for the regulator to implement corrective
action.  We believe a stand-alone agency would best meet the
criteria, which we established in past GSE reports, of independence
and prominence in government.\27

One of the primary advantages of creating a stand-alone agency,
rather than an independent agency within a department, is that it
should be better able to establish independence and be further
removed from the potential political influence of a cabinet-level
department.  A stand-alone agency should also be in a better position
to avoid potential conflicts in ensuring that regulation is carried
out at arm's length, because it would not have a parent organization
with its own particular interests.  In addition, a stand-alone agency
may be in a better position to ensure that safety and soundness and
mission are more equitably overseen, because it would not be
affiliated with a government department that has another focus, such
as HUD.\28

One disadvantage of having a stand-alone agency is that the
administration may not be able to exercise direct control as easily
over the agency even if there were a perceived need to do so in the
public interest.  A stand-alone agency would not have a formal
relationship with a potentially powerful ally, such as a
cabinet-level department, that could facilitate seeking assistance or
other support.  Further, a new stand-alone agency would probably be
relatively small with no track record other than that of the
predecessor agencies to rely upon and lend credibility to its
actions.  Although it would be larger than FHFB and OFHEO are
individually, it might not immediately acquire the level of
government prominence needed for overseeing Fannie Mae, Freddie Mac,
and the FHLBank System.  Nonetheless, a stand-alone agency structure
for a combined regulator would probably have greater prominence than
either FHFB or OFHEO individually. 

The advantages and disadvantages of having a new regulator that is
set up as an independent office within an executive branch agency
would vary depending on the agency.  HUD and Treasury would be the
most appropriate agencies to be considered because of their roles in
housing and finance.  These roles are the basis for some advantages
but also create the potential for conflicts.  HUD is the principal
federal department responsible for programs dealing with housing,
community development, and fair housing opportunities.  HUD's public
policy focus on housing could serve to help ensure that the GSEs
fulfilled their mission of supporting housing.  Further, HUD has
knowledge about the housing finance system that would be useful. 
Although OFHEO has functioned independently within HUD, establishing
a new housing GSE regulator within HUD could create the potential for
conflict with HUD's role as a housing promoter, unless the new
regulatory office had at least the same level of independence as
OFHEO.  Having an office within HUD responsible for safety and
soundness supervision may conflict with some partnership arrangements
HUD has initiated with Fannie Mae, Freddie Mac, and other
HUD-affiliated agencies, such as the Federal Housing Administration
and the Government National Mortgage Association.\29 Finally, HUD's
history of operational weaknesses and inefficiencies could taint the
reputation and hamper the effectiveness of any office within it.\30
However, we have not reviewed OFHEO's relationship with HUD or
potential impacts this arrangement may have on OFHEO's operations. 

If the office were created within Treasury, it could benefit from
Treasury's financial expertise and prominence.  A Treasury
affiliation could also create more opportunities for coordination
with OTS and OCC, both of which are independent offices within
Treasury.  OTS and OCC examiners and other staff could share
expertise with the GSE regulator's staff.  Currently, OFHEO
supplements its examination staff with examiners from OCC.  Finally,
this affiliation would also reinforce the importance of safety and
soundness oversight as the regulator's top priority to protect the
government from risk should any GSE fail and would ensure that the
GSEs remain strong enough to carry out their missions. 

Having an office within Treasury also has several disadvantages. 
GSEs could be viewed as a Treasury competitor because they issue what
could be viewed as competing debt, and Treasury could become a GSE
creditor.  Under these circumstances, its objectivity and
arm's-length status could be questioned.  This potential conflict
stems from Treasury having two specific responsibilities relating to
GSEs.  First, Treasury is authorized to approve or disapprove the
timing and terms of new GSE debt issuances.\31 Because GSE debt is
part of the U.S.  agency debt market, these issuances could compete
in some way with Treasury's own debt securities.  Second, Treasury is
authorized to extend credit to the housing GSEs, among others. 
Specifically, the FHLBank System has a $4 billion line of credit with
Treasury, while Fannie Mae and Freddie Mac each have a $2.25 billion
line of credit.  Use of the lines of credit is subject to Treasury's
discretion, and, according to Treasury officials, there are no rules
or guidelines governing situations when such credit may be granted. 
An additional disadvantage of establishing an independent office
within Treasury is that this could strengthen the belief among GSE
investors that their obligations have an implicit government backing. 


--------------------
\26 Most regulators of financial institutions are stand-alone
agencies; however, a few are independent offices within executive
branch agencies. 

\27 GAO/GGD-91-90 and GAO/GGD-94-38. 

\28 Congress removed FCA from the Department of Agriculture in 1953
and established it as an independent agency to insulate it from
political influence.  See GAO/GGD-91-90. 

\29 The Federal Housing Administration is a federally sponsored
agency that insures lenders against loss on residential mortgages.

The Government National Mortgage Association is a government-owned
corporation within HUD that establishes secondary market facilities
for residential mortgages, guarantees mortgage-backed securities
composed of FHA-insured loans that are issued by private lenders, and
increases the overall supply of credit available for housing by
providing a vehicle for channeling funds from the securities market
into the mortgage market. 

\30 For additional information on our concerns with HUD's management
and operations and HUD's ongoing plans for improvement, see High-Risk
Series:  Department of Housing and Urban Development (HR-97-12, Feb. 
1997).  On June 26, 1997, HUD announced a management reform
plan--called HUD 2020--to stamp out fraud, waste, and abuse and
improve performance. 

\31 For years, Treasury scheduled GSE offerings to prevent timing
conflicts among the GSEs that might prove to be disruptive to the
government securities market.  On March 8, 1996, however, Treasury
eliminated its scheduling procedures for GSE securities offerings. 
GSEs have developed a voluntary, cooperative scheduling system that
eliminated the need for Treasury's queuing process.  Treasury's
statutory authority to approve the timing and terms of GSE securities
has not changed. 


   BOARD VERSUS DIRECTORSHIP
------------------------------------------------------------ Letter :7

We considered both a board and a single director structure for
governing a single regulatory agency and found that the board
structure best fits our criteria for an effective regulator for many
of the same reasons that a stand-alone agency is preferable to an
executive branch agency.  In fact, the stand-alone independent
financial regulatory agencies--the Board of Governors of the Federal
Reserve, Federal Deposit Insurance Corporation, National Credit Union
Administration, Securities and Exchange Commission, and Commodity
Futures Trading Commission--have boards or commissions.  Among
stand-alone GSE regulators, both FCA and FHFB are led by boards.  In
contrast, financial regulators, such as OCC, OTS, and, among the
GSEs, OFHEO, which are executive branch agencies, are led by
individual directors.  Both structures have advantages and
disadvantages, and their strengths can also be weaknesses depending
on the context. 

We believe one advantage would be that a new regulator led by a board
would best be able to establish the requisite independence in
government and would also allow Congress to provide balance for the
regulator's decisionmaking body.  For example, Treasury and HUD could
be permanently represented on the board.  Another advantage would be
that the Secretaries, or their designees, would provide valuable
experience in safety and soundness oversight, finance, and housing
policy.  They would also provide important links to the two
government departments most affected by the GSEs' performance while
affording a structure where any potential conflicts could be
addressed.  A chair could be appointed by the president with the
advice and consent of Congress.  A larger board could include a
person with expertise in the low- and moderate-income housing fields. 
To help provide stability and political balance, terms could exceed 4
years and be staggered. 

According to some officials with whom we spoke, one disadvantage in
having a board is that it could be less efficient than a single
director.  Having a board necessarily involves consultation among its
members directly or through staff.  It is logical to assume that
resulting inefficiencies would increase as board size increased. 
Thus, a small board can be more efficient than a large board.  Unlike
a directorship where there is a single person accountable, another
disadvantage of a board structure is that it may make determining
individual accountability for actions difficult.  However, part of
this potential inefficiency can be overcome by placing a
presidentially appointed chair or chief executive officer in charge
of daily operations of the agency and having other members of the
board serve part time.\32 Another disadvantage of a small board
structure is that it may face challenges in complying with the
Government in the Sunshine Act, which generally requires meetings
held by regulatory bodies to be public.\33 Because a meeting requires
a quorum, the Government in the Sunshine Act can create a problem for
three-member boards to the extent that discussions between two
members could be subject to the Government in the Sunshine Act. 

Other officials we spoke with view a directorship as a higher profile
position than board membership and thought that this would be an
advantage and make a director-led agency more prominent and
ultimately lead to more qualified nominees for the position.  Another
advantage is that a director-led agency would establish a clear line
of accountability.  One possible disadvantage is that if the director
were viewed as weak or inappropriately influenced by the regulatees,
there is no means to bring balance to the oversight.  Additionally,
although vacancies on a board can impede oversight, a single-director
structure has a more serious problem when the position is left vacant
for long periods.\34

Among the financial regulators, we could not find any examples of
stand-alone agencies that were not headed by boards or commissions. 
It seems there are good reasons for these structures being linked. 
That is, although a stand-alone agency structure provides
independence and prominence in government, the board structure has
the advantages of allowing different perspectives, providing
stability, and bringing prestige to the agency, as well as allowing
Congress to provide balance for the regulator's decisionmaking body
by requiring that members have certain expertise. 


--------------------
\32 Whether board members should serve in a full- or part-time
capacity is debatable.  Opinions varied on whether part-time
positions would attract more or less qualified candidates. 

\33 See Pub.  L.  No.  94-409 (1976) 5 U.S.C.   552b.  The
Government in the Sunshine Act requires that every agency meeting
must be open to the public unless the meeting falls within a
delineated exemption. 

\34 With respect to OFHEO, the 1992 Act provides that the Deputy
Director shall serve as the acting Director in the event of the
Director's death, resignation, sickness, or absence until the
Director's return or the appointment of a successor by the president
with the advice and consent of the Senate.  12 U.S.C.   4512(e)(2). 
Statutory schemes also exist for filling vacancies and absences in
other offices led by a Director.  See 12 U.S.C.   4 (OCC) and 12
U.S.C.   1462a(c)(3) (OTS).  Under the OCC provision, the First
Deputy Comptroller would be first among the Deputy Comptrollers to
succeed or act in the capacity of the Comptroller.  Under the OTS
provision, a vacancy is to be filled by presidential appointment,
with the advice and consent of the Senate. 


   OTHER ISSUES
------------------------------------------------------------ Letter :8

Creating a well-functioning regulator for housing GSEs cannot be
achieved by simply merging the functions of OFHEO and FHFB, because
regulatory issues would have to be addressed.  In our 1991 report on
GSEs, we identified the following issues as important.  First, as
mentioned in our discussion, if mission and safety and soundness
oversight are vested in the same regulatory body, the regulator
should not have a role, other than oversight, in the governance of
corporate affairs of GSEs.  Second, GSEs should be responsible for
funding all of the costs associated with their federal oversight. 
Therefore, Fannie Mae and Freddie Mac should be paying for their
mission-related oversight through assessments. 

Third, the regulator should have all the powers and authorities
granted other safety and soundness regulators.  Specifically, it
should have the authority to set rules that establish boundaries for
safe GSE operations in order to protect the government's interest in
achieving a GSE's public purpose.  A regulator should also have the
authority and responsibility to monitor and examine all GSE
operations and have access to all GSE books and records.  The purpose
of this authority is to have an ongoing assessment of the financial
health of each GSE and to ensure that its operations are advancing
the purposes of its charter.  The regulator needs the authority to
establish capital standards to provide some ensurance that an
adequate buffer exists to absorb unforeseen losses and keep them from
becoming taxpayer losses.  Further, the regulator must have the
authority to enforce regulations and capital requirements through
enforcement actions.  Finally, the regulator would need the authority
to levy assessments to cover costs of supervision. 

An additional issue that may need to be addressed is whether a new
regulatory agency should be excluded from the appropriations process. 
Most financial institution regulators, including OFHEO and FHFB,
assess the institutions they oversee for the cost of regulation. 
Thus, they are not funded from tax revenues and typically are not
subject to appropriations.  OFHEO, however, is subject to the
appropriations process and, compared with other regulators, has less
control over its resources.  The appropriations process could subject
the agency to budgetary pressures that could conflict with the
agency's needs as a safety and soundness regulator.  On the other
hand, the appropriations process does provide an additional mechanism
for Congressional oversight. 


   AGENCY COMMENTS AND OUR
   EVALUATION
------------------------------------------------------------ Letter :9

On June 30 and July 1, 1997, we obtained oral comments on a draft of
this report from senior officials responsible for GSE oversight at
OFHEO, FHFB, HUD, and Treasury and from senior officials of Fannie
Mae, Freddie Mac, and FHLBanks.  Specifically, we met with OFHEO's
Acting Director, Chief Economist, and Director of Congressional
Relations; FHFB's Managing Director and Director of Congressional
Relations; HUD's Director, Government-Sponsored Enterprises,
Associate Deputy Assistant Secretary for Economic Affairs, Assistant
General Council for GSEs/RESPA Division, and Program Analyst;
Treasury's Acting Director for the Office of Policy, Planning and
Analysis and Economist from the Office of Financial Institutions;
Fannie Mae's Director of Regulatory Policy; Freddie Mac's Director of
Agency Relations, Director of Public Policy, Assistant General
Council, and Vice President of Financial Research; Senior Vice
Presidents from the FHLBanks of Atlanta, Boston, and San Francisco
representing the Council of FHLBanks; FHLBank of Chicago's President
and External Affairs Representative; and FHLBank of New York's
President. 

OFHEO, HUD, FHFB, Fannie Mae, and Freddie Mac officials noted that
the current oversight arrangement is working well and they saw no
compelling reasons for change.  OFHEO officials noted that although
in theory there is merit in creating a single regulator for the
housing GSEs and in combining safety and soundness regulation, the
current arrangement appears to be working well.  To date, they said,
coordination with HUD in reviewing new GSE programs has worked well. 
HUD officials also said that the relationship with OFHEO has been
working well and provides appropriate coordination for avoiding
unnecessary duplication.  FHFB officials added that if changes were
to be made, they would prefer an oversight arrangement that combined
safety and soundness with mission oversight in one independent
regulatory body.  We have not studied the regulatory effectiveness of
FHFB, OFHEO, or HUD, or the effectiveness of coordination between
OFHEO and HUD.  Therefore, we have no position on the effectiveness
of the current regulatory oversight of the housing GSEs.  However,
our experience in studying the regulation of financial institutions
has shown that it is best to make improvements in regulatory
oversight before crises occur and the government is forced to make
quick and costly decisions. 

FHFB, Fannie Mae, and Freddie Mac officials said they doubted that
efficiencies or cost savings could be achieved by creating a single
regulator.  In addition, Fannie Mae and Freddie Mac officials said
any change would be disruptive without providing the benefits
contemplated.  We do not claim that significant costs could be saved
by creating a single regulator, although some costs could be saved by
combining administrative functions.  However, as we note in the
report, the more important efficiencies to be attained relate to
sharing of expertise and synergies that could be created among
examinations staff and other technical experts. 

OFHEO officials said they believe OFHEO has established a strong
record as an independent regulator.  They agreed with the report's
observations on the appropriations process and expressed some concern
that a GSE could attempt to use the appropriations process to change
a regulator's budget or influence a regulatory decision.  They noted,
and we agree, that addressing this issue would not require making an
organizational change in the housing GSE regulators. 

HUD officials criticized the report for not adequately reflecting
regulatory changes made since the 1992 Act became effective or how
well the current structure is working in regard to Fannie Mae and
Freddie Mac.  They felt that their efforts in establishing affordable
housing goals were largely unacknowledged in the draft.  The
regulatory changes made since 1992 were described in the background
section of the draft.  We added a reference to some of our previous
work that addressed HUD's efforts in establishing affordable housing
goals (see pp.  2 and 3).  We note that the current report was not
intended to evaluate those efforts or HUD's performance. 

In addition, HUD officials pointed out that their expertise goes
beyond housing finance.  They also questioned whether an independent
regulator would have as much stature as a cabinet-level agency.  We
specifically noted that a board structure would provide the
opportunity for HUD's expertise to be represented by including the
Secretary of HUD.  A board, we noted, would also provide different
perspectives, prestige, and stability for a GSE regulator.  We also
pointed out that a potential disadvantage of an independent agency
was that it lacks the backing of a cabinet-level agency. 

Both Fannie Mae and Freddie Mac officials emphasized that they
believe that the differences in the mission, structure, and
operations of their businesses and the FHLBank System make the
application of our principles regarding a single housing GSE
regulator inappropriate.  System officials had mixed views on this
issue.  As we noted in our draft, although the GSEs operate
differently, there are similarities in the risks they manage and in
their missions.  We believe the housing GSE regulators would be more
effective if combined and authorized to oversee both safety and
soundness and mission compliance and that such a combined regulator
could take into account differences in operations. 

The Council did not have a position on creating a single housing GSE
regulator or whether safety and soundness and mission compliance
oversight should be vested in the same regulatory entity.  It raised
the issue of whether there should be an oversight mechanism for the
regulator.  We note that Congress performs a general oversight role
and it typically has provided us the authority to audit and review
GSE regulators in its behalf.  Another vehicle for congressional
oversight is inspectors general.  The Chicago and New York bank
officials generally agreed with our report. 

The Department of the Treasury does not have a position on whether a
single housing GSE regulator should be created, according to
officials with whom we spoke. 

All officials provided some technical comments that we incorporated
in the text as appropriate. 


---------------------------------------------------------- Letter :9.1

As arranged with your office, unless you publicly announce the
contents of this report earlier, we plan no further distribution
until 10 days after the date of this letter.  At that time, we will
distribute copies of the report to the Ranking Minority Member of
your Subcommittee; the Chairman and Ranking Minority Member of the
Subcommittee on Financial Institutions and Regulatory Relief, Senate
Banking Committee; the Acting Director of OFHEO; the Chairman of
FHFB; the Secretary of the Department of Housing and Urban
Development; the Secretary of the Treasury; Fannie Mae; Freddie Mac;
the FHLBanks; and other interested parties.  Copies will also be made
available to others upon request. 

Major contributors to this report are listed in the appendix.  If you
have any questions about the report, please call me or M.  Kay Harris
on (202) 512-8678. 

Sincerely yours,

Jean Gleason Stromberg
Director, Financial Institutions
 and Markets Issues


MAJOR CONTRIBUTORS TO THIS REPORT
==================================================== Appendix Appendix

GENERAL GOVERNMENT DIVISION,
WASHINGTON, D.C. 

Thomas J.  McCool, Associate Director, Financial Institutions
 and Markets Issues
M.  Kay Harris, Assistant Director
Orice M.  Williams, Evaluator-in-Charge
Katherine D.  Kitzmiller, Secretary
Donna M.  Leiss, Communication Analyst

OFFICE OF GENERAL COUNSEL,
WASHINGTON, D.C. 

Paul G.  Thompson, Senior Attorney

RELATED GAO PRODUCTS

Housing Enterprises:  Investment, Authority, Policies, and Practices
(GAO/GGD-97-137R, June 27, 1997). 

Comments on "The Enterprise Resource Bank Act of 1996"
(GAO/GGD-96-104R, June 27, 1996). 

Housing Enterprises:  Potential Impacts of Severing Government
Sponsorship (GAO/GGD-96-120, May 13, 1996). 

Letter from James L.  Bothwell, Director, Financial Institutions and
Markets Issues, GAO, to the Honorable James A.  Leach, Chairman,
Committee on Banking and Financial Services, U.S.  House of
Representatives, Re GAO views on the "Federal Home Loan Bank System
Modernization Act of 1995" (B-260498, Oct.  11, 1995). 

FHLBank System:  Reforms Needed to Promote Its Safety, Soundness, and
Effectiveness, GAO/T-GGD-95-244, Sept.  27, 1995. 

Housing Finance:  Improving the Federal Home Loan Bank System's
Affordable Housing Program (GAO/RCED-95-82, June 9, 1995). 

Government-Sponsored Enterprises:  Development of the Federal Housing
Enterprise Financial Regulator (GAO/GGD-95-123, May 30, 1995). 

Farm Credit System:  Repayment of Federal Assistance and Competitive
Position (GAO/GGD-94-39, March 10, 1994). 

Farm Credit System:  Farm Credit Administration Effectively Addresses
Identified Problems (GAO/GGD-94-14, Jan.  7, 1994). 

Federal Home Loan Bank System:  Reforms Needed to Promote Its Safety,
Soundness, and Effectiveness (GAO/GGD-94-38, Dec.  8, 1993). 

Improved Regulatory Structure and Minimum Capital Standards Are
Needed for Government-Sponsored Enterprises (GAO/T-GGD-91-41, June
11, 1991). 

Government-Sponsored Enterprises:  A Framework for Limiting the
Government's Exposure to Risks (GAO/GGD-91-90, May 22, 1991). 

Government-Sponsored Enterprises:  The Government's Exposure to Risks
(GAO/GGD-90-97, Aug.  15, 1990). 


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