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More Questions, Fewer Answers from Treasury on Sweep Legal Saga

In an extraordinary revelation reported in the media today, we see how the U.S. Treasury Department apparently aimed to conceal its thought process on the fate of Fannie Mae and Freddie Mac.

A 2010 internal memo reveals Treasury officials assuming the privatization of the GSEs was “essentially the path laid out” under the Housing and Economic Recovery Act of 2008, which put Fannie and Freddie into conservatorship. We have long shown how this interpretive leap cannot be rationalized by the law.

Remarkably, Treasury withheld that highly-relevant memo in court cases stemming from shareholders’ claims that Treasury went well beyond HERA in its dramatic move in 2012 to lay claim to the GSEs’ revenues, commonly known as the Third Amendment Sweep.

This raises questions about whether Judge Royce Lamberth had the all the information needed when he dismissed the plaintiffs’ claim.

In addition to the serious issues of transparency and the integrity of the legal process this disclosure raises, it shows how Treasury officials early on embarked on a path to dismantle the GSEs. This would account for the systematic denial of capital the GSEs needed to become sound and solvent. This practice has, of course, now put taxpayers at risk of having to foot the bill for another bailout of the mortgage finance giants.

As analyses by officials who were intimately involved with drafting the law have shown, Congress intended the conservatorship to be an interim measure to return Fannie and Freddie to a “safe and solvent” condition so that options on their long-term role in mortgage finance could be debated.

The memo from Under Secretary Goldstein to Secretary Tim Geithner asserted that the GSEs would need 300-400 bases points (3-4%) of capital against guaranteed mortgages.  This is far below the ten percent that some officials, notably Michael Stegman, Treasury’s chief housing advisor, have suggested publicly.

The memo also shows Treasury’s awareness of the fact that in the absence of the GSEs, 30-year-fixed-rate mortgages would disappear, making home financing much harder to obtain for working families, and also make financial markets subject to more volatility.  It also raises questions about how affordable housing programs will be paid for if the GSEs were put out of business.

Additionally, the memo also characterizes efforts to wind down the GSEs as in line with a “bank-centric model” that “benefits larger institutions,” raising concerns about mortgage lenders being too big to fail and borrowers at smaller institutions being subject to higher costs.

Treasury’s response affirmed its hostility to the GSEs but said nothing about why it did not make the memo available in court proceedings.