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Cut Fannie Mae Loose

There’s a too-little, too-late feel to Fannie Mae’s efforts to move on from the ominous headlines about its shoddy accounting practices. Even as the mortgage giant was announcing its agreement with its once-obsequious regulators to add billions of dollars to its cash reserves, the Justice Department, Congress and the Securities and Exchange Commission were speeding their own inquiries into Fannie’s practices.

Fannie’s practice of downplaying its exposure to risk and of managing its earnings statements to please Wall Street raises worrisome Enron analogies. And only in time will we know whether Fannie engaged in accounting irregularities as a means of masking looming shortfalls.

Regardless, it seems clear that Fannie Mae, with its $1-trillion mortgage portfolio, and younger brother Freddie Mac have outlived their purpose as federally backed entities. Fannie Mae was created in the 1930s to help establish a liquid market for mortgages and then was partially privatized in the 1960s. Now, at a time when private capital markets for mortgages are viable on their own, Fannie and Freddie still retain competitive advantages over other financial firms. These include tax benefits, looser capital requirements and a lower borrowing cost stemming from the fact that Uncle Sam remains an implicit guarantor for the institutions.

But taxpayers are not deriving enough benefit given their exposure to Fannie’s risk, as Federal Reserve Chairman Alan Greenspan and plenty of other economists have long insisted. Fannie’s advantages enhance its financial performance and enrich its shareholders and management without leading to significantly lower mortgage costs for homeowners.

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If the goal is to encourage affordable housing, the government can and should beef up more targeted efforts to encourage homeownership among people of limited means.

To be sure, Fannie Mae’s agreement with regulators to change its accounting and management practices is welcome news for taxpayers who could be on the hook if the nation’s largest home mortgage buyer fails.

The agreement was driven by a scathing report from the Office of Federal Housing Enterprise Oversight, or OFHEO, that suggests Fannie Mae manipulated its earnings and maximized executive bonuses.

OFHEO’s findings, coming on the heels of Freddie Mac’s accounting problems, are an indictment of its own record as a regulator and bolster the Bush administration’s desire to have a stronger regulator for the entities, presumably one overseen by the Treasury Department. Congress, for its part, should consider ways to make Fannie and Freddie compete in the marketplace without a taxpayer subsidy, implicit or explicit.

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