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under it still maintains the integrity of what the Federal Home Loan Banks is and allows I think for good regulation.

Chairman SHELBY. Senator Bennett.

Senator BENNETT. Thank you very much, Mr. Chairman. The more I sit here, the more I realize I need to sit here.

[Laughter.]

First, I asked a question of the previous panel, have they ever missed their goals? Mr. Gould, you came back fairly strongly and said you disagree and that you have not missed your goals. Mr. Raines, do you also disagree that you have not missed your goals? Mr. GOULD. I have said that there is disagreement with the study that Mr. Martinez was citing as to our not leading, but lagging. In terms of meeting our goals, as my testimony says, since those goals have been permanent we have met them every time. There were some temporary goals in the early to mid-1990's that we did not meet.

Senator BENNETT. That was the period of time that he cited, 1993 to 1995.

Mr. GOULD. Yes, sir, that is correct.

Senator BENNETT. Mr. Raines, do you have a comment on that? Mr. RAINES. Yes. The current goal structure we have met every year. In the first year that they established the goals, they had a different goal called a central cities goal, in the very first year, which we did not meet nor, I believe, did Freddie Mac meet. But that goal was then eliminated. So when we are talking about, have we met our goals, if you look at the goals that we have had over this period we have met them every year.

But I agree with George Gould on the question of leading the market, that we believe the data clearly shows that we do lead the market. But let us be clear of what that means.

Senator BENNETT. I wanted to get more clarification on that. Mr. RAINES. What leading the market means is that we are acquiring a greater share of a type of loan than the market creates. Now that may sound like an easy thing to do, but we are in the business of buying loans that other people have originated and which they have voluntarily decided to sell. So leading the market is not just simply our opening up the doors and saying, give us the loans you have. Indeed, if you look at our major lenders, if we only relied on our single family lenders we could not even meet the HUD goals, let alone lead the market.

But also, this Committee has instructed other lenders, particularly depositories, that they are to lead the market. So when they acquire loans that may fit our goals, if they decide to hold them then they are leading the market and we are unable to lead the market. So the fact that we lead the market is a big deal. It is not a small thing.

This debate, I hope you understand, between us and HUD on the statistics, which we can go over with your staff with the statistics, is a question of, they believe we might be behind the market by 1 percent, and we believe we might be ahead of the market by 1 percent. So this is not a question of wholly failing. This is a difference between 41 percent and 42 percent.

But the important thing is the fact that Fannie Mae and Freddie Mac can even come close to the market on this kind of a detail is

an indication of the kind of effort we make because we can only buy loans that people voluntarily want to sell to us. We cannot make them sell them to us. Indeed, we have to induce them to originate the loans. Then we have to induce them to sell them. And then we have to induce them to sell them to us. All of which goes into leading the market.

So when we say we lead the market, it is not as though we just opened up the doors and business came in. It is a very hard thing to do when you do not originate the loans yourself.

Senator BENNETT. So everybody has to lead the market. It is a little like Lake Woebegone where everybody is above average. Mr. RAINES. Yes.

Senator BENNETT. Let me ask about the cost of funding. GSE's are successful largely due to their access to relatively low-cost funding. So how would the different issues relating to creating a new regulator and possibly moving program authority-these are the two fundamental issues I keep hearing over and over again; what role is HUD going to have? What role is the regulator going to have? I think there is general agreement agreeing with Senator Carper, here is the list of things that we all agree on, and there is general agreement that there needs to be stronger regulation; a higher class, world class-whatever that means-regulator for everybody. And there is general agreement that that, for the GSE's at least, should be in Treasury. Mr. Rice is not quite sure he is ready to move in that direction yet. I can understand that.

But how would the different issues related to creating a new regulator and then moving the program authority out of HUD affect your access to low-cost funding?

Mr. RAINES. I think the impact on funding is not nearly what has been spoken about. I think that is an issue of mission. I think it is far more important, in terms of the balance between safety and soundness and mission, to get the program approval right. Because if you freeze Fannie Mae or if you had frozen us 10 years ago and said that innovation is now going to be subject to a bureaucratic procedure, we never could have done all the refinances that were done last year when 10 million loans went through our automated underwriting system, and giving people loan approvals in two minutes rather than 2 weeks. We could never have done what we have done in the last couple of years. It just would not have happened. I think it goes to the mission and our capability to serve the market. But I do not believe that moving our regulator to Treasury is going to increase our access to the market. I do not believe it will harden in any sense the implied guarantee, which I never quite understood what an implied guarantee is. Nor do I think it would be harmful, whether or not the Federal Home Loan Banks were in or out of the Treasury apparatus. I think the most important thing is that we have a strong and safe and sound-strong regulator so that the investors believe that their interests are being taken care of. I view this as a continuum. Before 1992, we essentially did not have a safety and soundness regulator. In 1992, this Committee led the way in creating one. Now here we are 11 years later to improve on it. So, I view this as more of a continuum than an abrupt change that is going to change the market's perception of Fannie Mae, Freddie Mac or of the Federal Home Loan Banks.

Senator BENNETT. Mr. Rice, do you want to comment?

Mr. RICE. The only thing I would add is that the System has had zero credit losses-and we are regulated for safety and soundness by the Finance Board, we have had an exemplary activity and a record in this whole area because we have had a very good safety and soundness regulator. I do believe that I share some of the same opinions that Mr. Raines has, and that is that it is the performance and the examination and the supervision of our activities that really does resonate with the Street.

The Street does not really ask you, who is your regulator? They really look at your financial statements and the condition of how you run your operations and that is the measure of your success. We think we have a good success record as we exist today. I think that is the reason some of the banks are questioning whether this new configuration as something that is necessary.

But I do think that all of us are realists. If you are going to create a new regulatory structure, we would like to see if maybe there could be some consistency. But I do not believe we all need to be the same. One size does not fit all, especially for the Federal Home Loan Banks, and especially for the cooperative nature in which it operates. So when you try to make these distinctions to bring this all together in one lump sum, I think that is not something that legislation can really do. You are going to have to rely on the independent regulator, who should be outside of Treasury, making those determinations which will allow you to get the accountability that Congress needs.

Senator BENNETT. Thank you. Thank you very much.
Chairman SHELBY. Senator Sununu.

Senator SUNUNU. Thank you, Mr. Chairman. Welcome to each of you. Mr. Raines, I very much appreciate, one, the time you have spent on this issue. You have spent time with me. Your staff has been very generous with my staff and that is very helpful. I think everyone on the Committee understands how important these issues are to you as businessmen and your employees, but also how important they are to the capital markets. So thank you for that. I also very much appreciate the emphasis you place on the definition and the language that is going to be used by any regulator regarding products, programs, and activities. I very much agree with that. We want to be, first and foremost, as clear as possible. We may end up with language that is not exactly the way you would write the statute. No surprise. But I very much agree that language is important, more important than exactly where the regulator overseeing those new business lines are. We want to get that right so that you can innovate, so that you can respond to changes in the market and new technologies. So, I want to emphasize that I very much agree with you there.

Certainly, as you well know, the legislation that Senator Hagel, Senator Dole, and I have introduced I think largely agrees with the perspective that you place on enforcement-you talked about that in your testimony-on independence, which you have talked about and emphasized in your testimony, and a number of other issues. So, I think we can all appreciate that there is a good deal of consensus here.

Mr. Gould, I think you suggested that the accounting issues do not affect safety and soundness. The misstatements of accounting, profits, do not affect safety and soundness; is that correct?

Mr. GOULD. I have said the accounting issues we have had do not affect safety and soundness. I am not making a generalization of that statement.

Senator SUNUNU. Sure. I want to explore that a little bit because I think a $3 billion misstatement of profit does affect safety and soundness. I would imagine it affects your access to the capital markets, and it certainly affects the interest rate at which you can borrow and the expectation of investors. Would that not be part and parcel of affecting safety and soundness?

Mr. GOULD. It might ultimately. I do not think it has affected our safety and soundness now. I do not know what tense we are speaking in, Senator. Are we talking about present tense, future tense, or past tense?

Senator SUNUNU. We are talking about past tense in terms of accounting misstatements that have occurred, a $3 or $4 billion misstatement of the timing of profits earned by Freddie Mac

Mr. GOULD. Have not affected our safety and soundness.

Senator SUNUNU. And whether or not that accounting issue in particular or that type of accounting issue would affect safety and soundness.

Mr. GOULD. It has not affected our safety and soundness in a past tense or in a current tense. Could it affect our safety and soundness in a future tense? Absolutely. That is why we have a number of steps of remediation to try to prevent anything like that happening again. In a sense this is, as someone said earlier, a high class problem. It happens to be more earnings. But it is also possible, in theory, if steps were not taken to correct it, that it might go the other way sometime and that certainly affect the perception and the reality of safety and soundness. So it is something that must be corrected.

Senator SUNUNU. I appreciate that, although I will qualify my own reaction as I did earlier, the fact that it was an understatement of earnings does not make it any better, any more acceptable, does not denigrate the fundamental problems than if it were an overstatement.

Mr. GOULD. I agree with you totally. I might say though, since you are on that subject and we are talking about accounting, and I think that this is very important for this Committee to understand. I am not passing judgment on whether it is good or bad, the new accounting rules under GAAP, but the fact is it introduces, particularly for someone like Freddie and Fannie, a high degree of volatility in earnings, quarterly earnings and yearly earnings, high degree compared to the past which, again since we have discussed perceptions, is something that we are both going to have to work on trying to explain the realities of the underlying economics of our companies rather than merely GAAP.

Because Freddie's transgression here has been not following GAAP. Part of the problem has been the fact that we do not think GAAP is the best explanation of the nature of our economics. But we must follow GAAP. Those are the rules. But in an accounting

sense, the future will look different from the past even with all the accounting corrected.

Senator SUNUNU. I appreciate your concern with the accounting standards and I understand in concept, in principle, your concern. But this is usually the part of the hearing when we all run for cover behind Senator Enzi. If we start getting into FASB and GAAP standards then most all of us are out of our element. But your points are very well taken. Also I want to be clear, I very much understand that you are more sensitive than anyone else in this room to the issues created by the past misstatements.

Mr. Raines, you stated that you, Fannie Mae, or the GSE's, are asking for capital to be related to risk. I totally agree. But I do not see how moving regulatory authority for a minimum capital standard to be inconsistent with ensuring that capital is related to risk. Those are not mutually exclusive, are they?

Mr. RAINES. I think that there is a concern that if you have a risk-based capital standard that you are setting gauged risk; why did you move the minimum capital standard? Our minimum capital serves a very different purpose than minimum capital in banks. Banks do not have an effective risk-based capital standard. What they call risk-based capital is simply a leverage requirement applied asset class by asset class. But it does not go up and down with changes in the economy. It does not go up and down with changes in interest rates. It has no stress test involved in it. So in their case, the only lever they have to move is the minimum capital in order to be able to affect the bank.

Senator SUNUNU. I appreciate that. I appreciate the differences between banks, and your testimony about the differences in portfolios and business activities; very important and very well taken. But it just would seem to me, and I suppose most people looking at this from a common sense perspective would say, whatever capital standards exist in order to ensure and match with safety and soundness should be the responsibility of whatever new regulator is envisioned by this Committee.

Again, I can understand your point that there are differences between banks and that banks may not have the risk-based capital standard. But whether we are talking about minimum capital or risk-based capital, it would seem to me to make sense that the new regulator have responsibility.

Mr. RAINES. Then, Senator, if that is the Committee's view then my recommendation would be, abolish the minimum capital standard and simply have a risk-based capital standard, which would be entirely based on risk and we would not have to have the discussion about whether minimum goes up or down. Because in our case, minimum capital is in some ways an anomaly, as to why you even have a minimum capital standard if you have got a risk-based capital standard. So there is another way to avoid the confusion, which is to eliminate the minimum capital standard.

Senator SUNUNU. Are you recommending that?

Mr. RAINES. No. My recommendation is to leave the capital standard that Congress has created in law and leave it the way it is and allow the regulator great flexibility in changing risk-based capital. I am not proposing a big change. I am trying to have as few changes as possible so we can actually get something done. But

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