BlackRock document refutes Hank Paulson's story about GSE capital
As reported in Howard on Mortgage Finance and elsewhere, the government's story—that it had no choice but to place the GSEs in conservatorship in September 2008--is undermined by contemporaneous documents unearthed in discovery in Fairholme v. US.
One document, a slide presentation about Freddie's capital presented by BlackRock, appears to refute Hank Paulson's story about placing the GSEs in conservatorship. In his memoir, On the Brink, he writes:
While I was away [prior to August 15, 2008] Fannies and Freddie’s books had been analyzed by the Fed; the OCC; our adviser, Morgan Stanley; and BlackRock, the New York money manager that had a long-term relationship with Freddie. They agreed that the organizations were sorely undercapitalized. And the quality of their capital was suspect: some of it consisted of intangible items, such as deferred taxes, that would not have been counted to the same degree as capital by financial institutions overseen by the banking regulators. What’s more, the GSEs had not adequately written down the value of guarantees provided by private mortgage insurers that had been downgraded by the rating agencies. Each of the companies looked to have true, economic capital holes amounting to tens of billions of dollars.
Paulson's calculation of "true, economic capital," was based on a methodology that was different from that used by the regulator, FHFA. FHFA director James Lockhart testified that," [Fannie Mae] was adequately capitalized the day we put them into conservatorship."
BlackRock’s slide presentation, dated August 25, 2008, echoes FHFA’s finding and refutes Paulson's claims. BlackRock stated that, "Long-term solvency does not appear to be endangered - we do not expect Freddie Mac to breach critical capital levels even in stress case." It said that, as of June 30, 2008, the company was adequately capitalized. And, though there was a risk that the company might see a capital shortfall in 2009 or later, the company was most likely to maintain its $29 billion in core capital.
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In other words, if negative trends continued, Freddie Mac may need to issue more equity to offset a statutory shortfall. BlackRock rejected Paulson's belief that the companies were on the brink of insolvency. There is no way to reconcile Paulson's story with the BlackRock work product.
Paulson rejected the statutory definition of GSE capital so that he could declare a multibillion shortfall in the GSEs’ “true economic capital,” to justify conservatorship. (He also argued that the GSEs should have written down the guarantees of private mortgage insurers because they were downgraded from double-A to single-A.)
Contrary to common myth, the GSEs were not placed in conservatorship because of insufficient capital. A capital shortfall would not allow FHFA to immediately take control of the companies. Rather, the statute, 12 U.S.C. 4617(a)(3)(J), gave a GSE another 45 days to come up with a plan to restore its capital base.
The written record seems to suggest that conservatorship was justified under 12 U.S.C. 4617(a)(3)(C) which authorizes a government takeover in case the GSE is in, "An unsafe or unsound condition to transact business." Lockhart was unwilling to wait until the GSEs reached an unsafe and unsound condition. He cited vague and unspecified "safety and soundness concerns" instead. In fact, the two companies had robust liquidity and unfettered access to the unsecured debt markets as of September 3, 2008, when Reuters reported, "Fannie, Freddie debt funding smooth."
However, I have heard from knowledgable sources that the justification of conservatorship came from a different subsection, 12 U.S.C. 4617(a)(3)(I), which says:
The regulated entity, by resolution of its board of directors or its shareholders or members, consents to the appointment.
The reality, according to a highly reliable source, was that the GSE board members of were threatened by Treasury, which acted in lockstep with FHFA, the Fed, the OCC. If they went along and agreed to let the government take over the GSEs, individual board members and officers would be exempt from any legal liability.
But if they did not accede to the demands of those government agencies, high ranking officials would abuse their power to destroy these individuals' reputations, the same way that OFHEO and the SEC abused their powers to fabricate the fact-free Fannie Mae "accounting scandal." That media narrative was used to destroy the reputations of Franklin Raines, J. Timothy Howard, and Leanne Spenser, who were senior executives at the company.
The threatening nature of the government's offer was evident from the interim reviews of both companies, which were packed with lies and distortions.
Of course, the GSEs did recognize massive losses subsequent to conservatorship, up through 2011. Though most of those losses were reversed in fiscal years 2012 and 2013. Even today, the GSEs recognize substantial credit income, instead of credit expense, because of the overblown loss provisions imposed on mortgages prior to 2012.
9 comments - BlackRock document refutes Hank Paulson's story about GSE capital
If you have not read Mr. Howards book "The Mortgage Wars" I highly recommend it if you are invested in Fannie and/or Freddie. This whole mess goes back far beyond the conservatorship.
if there are in fact laws in this country then Fannie and Freddie must be released !
What do you make of the renewed fight over the documents?
As I've said before, I think the government's primary motivation is to keep stalling to avoid disclosure of anything that might be embarrassing to the government. I think we already know the story, based on unsealed records and other information in the public domain.
The Administration's goal was to replace the GSEs with a new untested system, based on the erroneous belief that the companies distorted the housing markets because they lacked free market disciIpline. So, when the GSEs over-inflated loss provisions were reversed, and, the GSEs were on the brink of making record profits, the government imposed the net worth sweep, which would be used to keep GSE at close to zero, and which could justify the false meme that the GSEs could not operate without an express government guarantee.
The answer to Brians question seems to be much more complex and may be one full article is needed to fully explain.
If NWS and perpetual conservatorship were clearly meant to protect taxpayer and serve public, then probably one can give these bureaucrats free passes. But it does not appear to be so. All out efforts were made by previous administration officials to conceal the real motives of NWS and perpetual conservatorship.
The main beneficiaries of NWS and perpetual conservatorship seem to be wall street financial establishment, big corporations, stock traders holding deep short positions and MBS holders at the cost of public, FnF shareholders, and taxpayers.
It is amazing that FnF shareholders have presented numerous bureaucratic abuse, lies, fraud, falsification but it does not have any effect on most of the Judges.
FHFA is using just one most undemocratic and controversial clause of HERA, judicial bar on injunction to avoid accountability.
Along with lawless conservatorship, the judiciary also seems to be full of judges who are promoting lawless bureaucracy.