- The Washington Times - Friday, March 12, 2004

Mortgage giants Fannie Mae and Freddie Mac suffered another round of unfavorable attention this week. Treasury Secretary John Snow fired the opening shot Tuesday, declaring that the administration didn’t consider these companies to be too big to fail and that the widespread perception that the government backs these entities is mistaken. One day later, the Financial Times published an article stating that, according to its estimates, Fannie Mae may have accumulated a loss of about $24 billion on derivatives transactions between 2000 and 2003 — an estimate that Fannie has rejected. Meanwhile, financial columnists seem to be bleeding these financial Goliaths by a thousand cuts with unflattering review.

What does this all mean, other than Freddie and Fannie have had a tough time of it lately? It is primarily a call to action to Congress. Until lawmakers take action to improve oversight of these companies, this incisive focus on them will continue. Those parties that are concerned with the size of the institutions seem determined to take them down a notch.

The lax oversight of Freddie and Fannie, coupled with their size, is problematic, but it should be dealt with deliberatively by Congress and the administration. Much of the recent controversy seems to confirm our stated recommendations on Freddie and Fannie. While a new regulator to oversee the companies’ accounting practices is imperative, Congress and the administration shouldn’t over-regulate the companies, which make homeownership cheaper by making the mortgage market more liquid.

The Financial Times article on Wednesday prompted many Fannie watchers to state that the company should distinguish between its realized and unrealized derivatives losses in its annual statements. But Dwight M. Jaffee, professor of banking and finance at the University of California-Berkeley, suggests that this analysis may be misguided. The difference between realized and unrealized losses isn’t so significant, he said, since a realized loss can be offset with a new derivatives trade.

But Mr. Jaffee believes Fannie should state the value of its derivatives portfolio quarterly, as Freddie does, rather than yearly. And he believes that Office of Federal Housing Enterprise Oversight (OFHEO) hasn’t been an effective regulator. OFHEO, for example, routinely warns Freddie and Fannie which accounting areas they will be tested on ahead of time. Banks, on the other hand, aren’t told by their regulator when, if and how they will be tested.

Congress needs to act fairly soon to protect these companies, and the general economy, from lax oversight. Doing so would also insulate Fannie and Freddie from the kind of external attack that could trigger market turbulence — hardly a welcome prospect.

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