Nexus of political influence and special interest deals paved way to financial crisis

This passed week, I've released a report that chronicles how the politicization of Fannie Mae and Freddie Mac paved the way for today's financial crisis. The truth is, Fannie and Freddie had a unique relationship with the federal government that created an environment in which the market viewed them as an extension of the U.S. government and therefore 'too big too fail.' The fact that they directly answered to the federal government and its elected officials created an environment of 'crony capitalism' similar to that of Russia or China. Emphasis began to be placed on volume of lending vs quality/sustainability of loans, meaning a policy of reduced down payments and riskier unsustainable lending. Clinton-era policies extended a pattern of behavior of lowering mortgage underwriting standards in order to drive up the national homeownership rate.

There were no limits that Fannie/Freddie officials and their allies would stop at to prolong their charade. In a number of cases, political officials even engaged in unethical conduct, helping their political allies, family members and even themselves obtain lucrative positions in the mortgage lending industry and other benefits. At a time when government intervention in private markets has become alarmingly common, government "affordable housing" initiatives offer important lessons about the dangers of government efforts to manipulate or conjure outcomes in the market.

They hired well-known academics to write papers that gave an aura of academic rigor to policy positions favorable to Fannie Mae. For example, one paper coauthored by now-Director of the Office of Management and Budget Peter Orszag, concluded that the chance was minimal that the GSEs were not holding sufficient capital to cover their losses in the event of a severe economic shock. The authors suggested that "the risk to the government from a potential default on GSE debt is effectively zero," and that "the expected cost to the government of providing an explicit government guarantee on $1 trillion in GSE debt is just $2 million." As of May 14, 2009, the taxpayers had already been exposed to $700 billion of GSE bailouts.

The report also details the symbiotic relationship that developed between Fannie/Freddie and the nexus of political advocates of affordable housing, non-bank mortgage lenders like Countrywide, the homebuilding industry and Wall Street firms that came together to create a powerful coalition led by Fannie/Freddie and their congressional allies. This group of vested interests used its money, power and influence to protect its political prerogatives and profits, blocking repeated attempts at reform and distorting the relationship between government and business. Between 1998 and 2008, Fannie Mae and Freddie Mac spent over $176 million on lobbyists. They paid lobbyists to influence Members of Congress to block legislative proposals that would have stripped them of their preferential advantages.

When Congressman Jim Leach (R-IA) proposed assessing a fee on the GSEs to offset the federal subsidy they receive on their cost of borrowing, "it took just 12 hours for Fannie to blow the idea out of the water." Fannie Mae also forced then-Treasury Secretary Larry Summers to "tone down" a report that was originally going to criticize the cozy relationship between the federal government and the GSEs.

When Congressman Paul Ryan (R-WI) sought to increase regulation of the GSEs, Fannie Mae sent lobbyists to harass him in his Wisconsin congressional district, going so far as to call his constituents and accuse him of seeking to increase mortgage rates, generating 6,000 angry responses to his office. When Ryan transferred to a committee without direct oversight of the GSEs, Fannie CEO Raines sent him a "congratulatory" note. "He meant good riddance," said Ryan.

When Congressman Christopher Shays (R-CT) introduced legislation to end the GSEs' unique exemption from SEC registration, he "had lobbyists literally barging into my room," while Fannie CEO Raines reportedly called the lawmaker to ask, "What the hell have [you] done?" The GSEs retaliated by ending their home-buying forums in Shays' congressional district in an attempt to hurt him politically.

Just as the perils of opposing the vested interests of the affordable lending coalition were rife, so the rewards for supporting them were lucrative. From 1998 to 2008, GSE employees contributed nearly $15 million to the campaigns of dozens of Members of Congress on key committees responsible for oversight of Fannie and Freddie. At the time federal regulators seized the insolvent companies, sitting Members of Congress had received over $4.8 million in political contributions since 1989, with over $3 million of that coming from the GSEs' political action committees. Not all of this fundraising was in compliance with federal law. In 2006, Freddie Mac paid the largest fine in Federal Election Commission history -- $3.8 million -- for improperly using corporate resources to hold 85 fundraisers for Members of Congress, raising a total of $1.7 million.

The housing bubble that burst in 2007 and led to a financial crisis can be traced back to this nexus of influence that put a premium on profit for the few with no regard for the future implications that would follow. Government intervention incentivized by special interest led to reckless actions exposing taxpayers to tremendous losses brought about by politicians, lenders and lobbyists who profited from the "affordable" housing market and acted to kill reforms. While government intervention and special interest peddling was not the sole cause of the financial crisis, its role was significant and has received too little attention.

Rep. Issa, a Republican, represents the 49th Congressional District of California, which includes the cities of Oceanside, Vista and Temecula. He currently serves as the Ranking Member on the House Committee on Oversight and Government Reform.

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