FROM THE OFFICE OF PUBLIC AFFAIRS

It is a pleasure to be here at AEI today, to leave the Do Tank to spend some time at a Think Tank.  I am not embarrassed to reveal, having spent virtually my whole career at one place or another in government, that people in government draw a lot of water from the deep wells of thought and creativity found in places such as the American Enterprise Institute.  I make little claim to original thinking, but I do make a claim to being able to recognize good thinking.  And I am not shy to make use of someone else’s good ideas.  I consider it part of the package enshrined in the constitutional right to petition government.

I like to say, because it is true, that I get my best ideas by listening to the people who have to live with the consequences of decisions made here in Washington.  So I take every opportunity to talk with business people and with their customers, when they come to Washington, and when I travel throughout the country.

Let me cite an excellent example.  We recently passed an important piece of legislation, the Fair and Accurate Credit Transactions Act of 2003.  Early last year, President Bush determined that we need to give consumers, law enforcers, and businesses new tools to fight identity theft. 

But what tools would work?  We found out by consulting with victims of identity theft, with law enforcement people, with regulators, with businesses.  The result was a powerful, important piece of legislation that President Bush signed into law in December, that will strengthen the ability of consumers, law enforcement people, and businesses to deter identity theft, to increase the chance of catching the thieves, and to reduce the time it takes for victims to restore their good name.

A lot of thought went into that bill.  Not all of the thoughts we heard went into the bill.  Some ideas we heard were impractical, some not appropriate for the federal level, some would have been counterproductive.  But we heard a lot of good thoughts, came up with a couple of our own—inspired by ideas that people shared with us—and they made up the bill.  This year we are in the process of implementing that legislation.  For a long time, many identity thieves have had it easy.  They won’t have it so easy anymore.

I want to congratulate AEI for doing a lot of thinking, and encouraging others to do a lot of thinking, for a long time, about our system of government sponsored enterprises, particularly the GSEs that are chartered to focus on housing:  Fannie Mae, Freddie Mac, and the Federal Home Loan Banks.  We appreciate the high priority that you have placed upon them, because this Administration places a high priority on them as well.

It is no secret that these housing GSEs have an inadequate system of supervision.  And it is a poorly kept secret, that they have never had an adequate system of supervision. 

I am quick to admit that the supervision of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks has in fact improved recently.  Supervisory resources are greater and better focused, the regulators are hard-nosed about doing their job.  But despite the best efforts of the current leadership of the GSE supervisors, there is only so much that they can do.  There is only so much that can be done with the limited authorities and resources and stature that have been granted to these regulators under the existing law.  The GSE supervisors today are working hard with what they have.  They show no signs of letting up or easing off, and yet it is not enough.  The law does not give them what they need to do their job.

We have the world class—the world-leading—housing finance system, but we do not have a world class supervisory system.

What do we do about it?  That is the theme of the series of conferences that you have held.  And your conferences, and others on this subject, are stirring up people’s minds, getting the thought processes moving.  They are stimulating fundamental thinking.  They are asking questions that need to be asked.

It is no surprise to many of you here, that while we strongly share and appreciate the sense of importance and timeliness of the focus, the Administration does not support the calls for “privatizing” the housing GSEs.

Fannie Mae and Freddie Mac have special status in the housing finance market because they were created by Congress for a specific purpose:  to increase homeownership among low- and moderate- income families by creating a strong secondary market to make it easier for these families to secure loans to buy homes.  The Administration shares that original commitment, and wants to ensure that GSEs live up to their responsibilities, in a way that strengthens the safety and soundness of mortgage markets and the economy at large.   And that is part of the reason why we believe that meaningful substantive reform is needed.
      
Moreover, the accounting issues and management issues and earnings issues that arose over the last year with respect to Fannie, Freddie, and several of the Home Loan Banks give us good reason to avoid being complacent.

There is a metaphor that appeals to me.  Congress created Fannie, Freddie, and the Home Loan Banks as muscular workhorses to help with the plowing—and it was tough, hard plowing at first.  Congress put them in harness, to serve important national purposes of promoting homeownership.  Our focus at the Administration is on how best to control the reins to ensure that these housing workhorses focus their strength on straight and deep furrows, rather than on how to cut the reins and see what they might do if left free to wander the pasture.

That control takes strong, effective hands.  For that reason, while the Administration does not support proposals for privatization of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks, we also cannot support continuation of the status quo.  In fact, no one interested in promoting home ownership in this nation should be satisfied with the status quo.  We need a stable, dependable system of housing finance to achieve and sustain the highest levels of homeownership, now and in the future.

We are making great progress.  In 2002, President Bush announced the goal of this Administration to increase the number of minority homeowners by 5.5 million before the end of the decade.  We are ahead of schedule.  Already more than one and a half million minority families have moved into their own home since the announcement of the President’s goal.  Statistics announced just yesterday reveal that for the first time ever, more than half of minority households own the home they live in, and our national homeownership rate set a new record.

But there is still a lot more work to do, and we are doing it.  On December 16, 2003, the President signed into law the American Dream Downpayment Act of 2003, to help approximately 40,000 families a year with their down payment and closing costs, and further strengthen America’s housing market.

That is why we are so determined to bring a new, higher standard of supervision and accountability for Fannie, Freddie, and the Federal Home Loan Banks, because we are going to expect them to do even more to expand homeownership.  Second best will not do.  We need a supervisor that has all of the authority—including the stature and power to wield that authority consistently—that we would look for in any credible financial regulator.  That includes the authority to review the new activities of these government-sponsored enterprises.  Since the government sponsored them, then the government should be able to examine what they propose to do with that sponsorship.

What we do support is a prudential supervisor for Fannie, Freddie, and the Federal Home Loan Banks that has full authority to set prudent capital levels, both minimum and risk-based capital.
Some would suggest that authority over risk-based capital is all that is needed, that if you are setting capital standards based entirely on risk, what more is wanted? 

Just last week I had a frank conversation with some market place experts, experts in GSE securities.  I asked them, has the art of regulatory risk-based capital progressed to the point where it captures all of the risk, where we do not need minimum capital standards?  They shook their heads, and said, “No.”  I have not yet found capital market experts who would argue otherwise, or, more importantly, who would invest significant money on any other basis than a foundation of strong, minimum capital.

There remain risks that we cannot yet quantify, that we cannot yet fully predict, that we cannot yet fully account for.  Until we can, for the unknown, unknowable, or simply unpredictable and unidentifiable risks, we will need minimum capital.  And the regulator needs full authority to define what that minimum capital level is, and to change it as circumstances warrant.

I will tell you what else we support.  We support a regulator with full receivership authority for the orderly resolution of a government sponsored enterprise that gets into serious financial difficulty.  That includes full authority for the fair and equitable distribution of assets to avoid a legal free-for-all that could disrupt and disorganize our housing finance markets.  That means all the authority to wind up affairs in an orderly manner—reserving for Congress, in the case of Fannie and Freddie, the power to revoke charters.

We support an independent funding source, outside of the appropriations process, as Congress has already created for the federal bank, thrift, and credit union supervisors.  When Congress was recently forced into a Continuing Resolution to fund the government over the holidays, a lot of important programs were put on hold.  One of those was the much needed increase in resources for Fannie Mae’s regulator to hire the extra manpower to review the condition of Fannie Mae’s books.  That crucial regulatory need was put on hold while Fannie Mae’s regulator waited for budget authority, authority that would be paid for entirely by Fannie Mae and Freddie Mac, but which law requires the Congress to sign off on first.  We should not make the regulator of two of the four largest financial institutions in the country wait each year for an Act of Congress to get the resources to do its job.

And we can support placing this new regulator within the Treasury Department, provided some basic standards are met to ensure that doing so will strengthen the supervisory structure we are creating, and not interfere with another important job at Treasury, the wise and efficient receipt and use of taxpayer resources.  A case involving the Comptroller of the Currency demonstrates why that is so important.  Last year the supervisor of national banks, the Comptroller of the Currency, prohibited certain national banks from renting their charter to so-called payday lenders.  Under this practice, a payday lender would pay a national bank to set up operations in the bank’s name, but the bank would have little say over the payday lender’s operations.  Under such a scheme, the bank took on some financial risk, but it took on enormous reputational risk.
 So the Comptroller said, “You can’t do that.  The reputation of the national bank charter is too important.”

We cannot allow, no one in this nation should be willing to tolerate, renting the Treasury’s charter, its good name.  But that is what we would be doing if we placed a new regulator under the shield of the Treasury, but blocked the Treasury Secretary from any meaningful role in the key policies of that agency.

A reporter not long ago asked me, where is the compromise in the Administration’s position?  I replied that the question misunderstood the approach taken by the Administration to the problem of adequate financial supervision.  We did not begin this process by trying to stake out an excessive position from which to begin bidding.  We conducted a detailed and thorough study to identify what are the minimum elements of credible financial supervision.  We asked, what are the fundamentals?

The result was the identification of a few key, first principles of prudential supervision that make for a safe and sound supervisory system.  There cannot be and should not be any credibility in a system that is less than safe.

Earlier, I used the analogy of a work horse, which I think very appropriately applies to the important, fundamental mission assigned to our housing GSEs.  Let me now call upon another analogy that helps to understand the complex and sophisticated financial institutions they have become.

I point you to the world of Formula One racing.  From the perspective of speed and technology, Formula One racing is at the top of the racing art.  This from the official website of Formula One racing:

“A modern Formula One car has almost as much in common with a jet fighter as it does with an ordinary road car.”

These cars achieve top speeds in excess of 200 mph.  At these speeds the tolerance for error is small.  A small error may mean more than the loss of a race; it may spell disaster for the driver and serious harm to other participants.

A lot of people have a lot of fun with the statistics that apply to our GSEs, probably because it is so hard to grasp mentally the size of these institutions.  Here are a few statistical forays:  Fannie Mae, Freddie Mac, and the Federal Home Loan Banks include two of the four largest financial institutions in the United States.  Only about 10 banks or thrifts in the United States have more assets than the largest Federal Home Loan Bank, and fewer than 40 have more assets than the smallest.  Collectively, they offer more securities to the financial markets each year than does the U. S. Treasury.  Fannie and Freddie have about 40 per cent of the secondary mortgage market, and so on.

The point is, they are big, very big.  And their importance for our financial markets in general and our housing markets in particular is big.  In this case, size matters.  They are in the top tiers of financial institutions.  At this size, the tolerance for error is small.

Again from the official Formula One website:

“The construction of Formula One cars and the materials used are strictly controlled by the regulations to maximise their safety.

”The main structure of the car comprises a safety cell which contains the cockpit plus the fuel tank, which is housed immediately behind (but separated from) the driver.

”This safety cell must meet minimum size requirements and must have an impact-absorbing structure immediately in front of it. The design of the car must also include an additional impact-absorbing structure at the rear, behind the gearbox.”  

As with Formula One racing, wonderful innovations and achievements can be encouraged and realized, because of important safety rules that are imposed and enforced.  As the Formula One car has a safety cell to protect the driver, so must the GSE have capital requirements and other prudential standards tailored to protect the fundamental job of the GSE. 

It is the view of the Administration that this kind of safety regime can be and must be created.  In doing so, we provide for the safety of the spectators and the participants alike.

Keeping Fannie Mae, Freddie Mac, and the Federal Home Loan Banks on track means the highest safe speeds for our housing industry and all who benefit from it.