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What GSE Subsidy?

Mr. Raines, chairman and CEO of Fannie Mae, spoke recently to the American Enterprise Institute, where he argued that the government-sponsored enterprises are not subsidized by the federal government. This viewpoint is an excerpt of his remarks.

Right now, we are hearing a lot of discussion about the secondary market in Congress as lawmakers consider ways to improve the regulatory oversight of the housing GSEs - an effort we support. As Congress has worked on this issue, however, some - including some at AEI - have sought to broaden the debate, raising fundamental questions about Fannie Mae's role in the housing finance system.

How America finances homeownership is a serious policy issue that requires a serious approach.

In that light, let's look at a few theories being advanced about Fannie Mae.

The first theory is that there is an "implied guarantee" that the government would repay our creditors if we failed.

This theory is perhaps the most fundamental point of departure for many skeptics of Fannie Mae.

Fannie Mae has a federal charter, as do 9,000 other financial institutions. Unlike many of the others, Fannie Mae does not benefit from an explicit government guarantee of our obligations.

But some assert that we have an "implied guarantee" that the market relies on. Yet it is not clear what an implied guarantee means. We do not know who is making the implication or exactly what is being guaranteed. Indeed, Treasury secretary Snow has testified that there is no implied guarantee.

I believe that the true value of our charter does not rest on a government guarantee of our obligations - implied or otherwise.

Instead, our charter signifies that the government places such a high value on our mission of expanding homeownership and affordable housing, that it goes to extraordinary lengths to ensure that the private management of our operations is closely supervised, and that our private capital is matched to our risks, even under extraordinary circumstances - all to ensure our continued success.

This is the pact that the federal government has with investors. It does not cost taxpayers anything. And so far, it has worked very well. This pact ensures that it is private capital that is at risk, not the taxpayer.

That leads to a second theory - that our so-called implied guarantee gives us a government subsidy, and we allocate this subsidy among homebuyers, executive salaries and shareholders.

It is certainly not a subsidy as Webster's defines it.

We do not receive a nickel of federal money. And we pay for our own regulation. Indeed, Fannie Mae's federal income tax expense on our core business earnings last year was $2.5 billion.

Under normal federal credit budget rules, the calculation of our subsidy would also be zero. In fact, if you took away our charter, it would curtail our business, decrease our tax expense and lower federal receipts.

In other words, if we have a subsidy, it would be the first subsidy in history that has a negative fiscal impact when you take it away.

All the calculations of a "subsidy" for Fannie Mae that we have heard result from special analytical constructs developed solely for application to government-sponsored enterprises. And as David Gross described earlier today, these calculations produce absurdly high estimates of subsidies when applied to other financial institutions.

Let me be clear. Our charter does provide significant benefits that lower our costs and allow us to lower mortgage costs for consumers. But Congress has also provided significant benefits to other financial institutions, specifically depositories that benefit from deposit insurance and access to the Federal Reserve window. Yet these benefits are rarely decried as subsidies to executives and shareholders.

The critical question when looking at Fannie Mae is what do we do with our charter benefits? How do we make our charter benefits valuable in the marketplace so that we can accomplish our charter mission?

Here is how it works.

First, our charter allows us to market our debt and mortgage-backed securities in large volumes in the agency market to a wide range of investors. That increases their value and lowers the yield we have to pay out. Second, the law matches our capital to our risk. The Basel Committee judges residential mortgage debt to be 50% less risky than the other assets banks hold. Residential mortgage debt is essentially all we hold. So it makes sense that we need to hold less leverage capital than banks do, and Basel is proposing that banks also begin to align their capital more closely with their risks. At the same time, our risk-based capital rule insures that our capital requirement moves up and down as our risk profile changes.

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