Fallout from Fannie Mae may affect mortgage rates

WASHINGTON -- The fallout from allegations of serious accounting problems at Fannie Mae has rattled investors and could even bump up mortgage rates down the road.

Coming 15 months after an accounting scandal erupted at the other huge government-sponsored mortgage financer, Freddie Mac, news of federal regulators' findings of pervasive earnings manipulation at Fannie Mae roiled Wall Street this week.

The two companies, which buy home mortgages from banks and other lenders, supply trillions of dollars to the mortgage market to keep interest rates lower for home buyers. Though not directly guaranteed by the government, they have special privileges -- notably the ability to borrow directly from the Treasury, which makes their borrowing rates lower than the norm.

Regulators at the Office of Federal Housing Enterprise Oversight who investigated Fannie Mae's books said the problems they found, at least in one key area of accounting, were more serious, far more complex and wider in scope than those at rival Freddie Mac -- which was fined a record $125 million in a settlement with the agency.

The regulators have even raised "safety and soundness" concerns regarding Fannie Mae. Those were not an issue in the case of Freddie Mac.

With the OFHEO allegations and the disclosure of a Securities and Exchange Commission inquiry into Fannie Mae's accounting, earlier efforts by lawmakers and the Bush administration to tighten the government's reins over the two companies -- and possibly crimp their privileges -- could get fresh momentum.

"It gives an increased impetus to do something about them," said Bert Ely, a banking expert based in Alexandria, Va.

Critics of Fannie Mae and Freddie Mac abound. Federal Reserve chairman Alan Green-span has warned that they could pose a threat to the U.S. financial system if their ability to assume new debt was not restrained. The problem, Greenspan and other critics say, is that investors widely believe that should either company get into financial trouble, the government would bail it out even though the bonds they issue explicitly state they are not backed by the federal government.

If that perception eroded, investors from around the globe could become less willing to lend money cheaply to Fannie Mae or Freddie Mac -- which in turn might pump fewer dollars into the home mortgage market, putting upward pressure on interest rates.

Congressional action "could raise the probability that the issue [of implicit government backing] could come to be tested," said James Owers, a professor at Robinson College of Business at Georgia State University in Atlanta. "We would not want a major disruption in our mortgage markets."

Similarly, the OFHEO regulators could order Fannie Mae to lessen its financial leverage by raising fresh capital or buying fewer mortgages -- potentially making it harder for some home buyers to obtain financing.

A letter from OFHEO Director Armando Falcon this week to members of the Fannie Mae board said an agreement the agency is negotiating with the company includes "remedial actions."

In mid-2003, soon after the crisis surfaced at Freddie Mac, Fannie Mae Chairman and Chief Executive Franklin Raines said that a surge at the time in mortgage rates was caused at least in part by uncertainty stemming from Freddie Mac's problems and concern over what the government might do in response to them. Several economists disputed that notion, however.

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On the Net:

Fannie Mae: http://www.fanniemae.com

Freddie Mac: http://www.freddiemac.com

Office of Federal Housing Enterprise Oversight: http://www.ofheo.gov

Securities and Exchange Commission: http://www.sec.gov