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Limiting Fannie Mae's and Freddie Mac's Portfolio Size

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Publication Date: October 2005

Publisher(s): Library of Congress. Congressional Research Service

Series: RS22307

Topic: Banking and finance (Financial instruments)

Abstract:

Federal Reserve Chairman Alan Greenspan and Treasury Secretary John W. Snow recently have urged the 109th Congress to pass legislation to limit the size of Fannie Mae's and Freddie Mac's portfolio to reduce the risk to the federal government and the economy. In 2003, these government-sponsored enterprises (GSEs) combined retained portfolio had risen to $1.6 trillion from $136 billion in 1990.

One of the more controversial aspects of GSE reform is this proposal to limit the size of the investment portfolios, which consist of mortgages and mortgage-backed securities (MBSs) that are subject to several types of financial risk. If these risks are not managed properly, or if market movements turn dramatically against the GSEs, the government may face two unsatisfactory alternatives: either let the GSE go into default and hope that the financial repercussions can be controlled, or step in and assume payments on the GSE debt at a significant cost to taxpayers. Proponents of portfolio limits argue that shrinking portfolio size reduces the likelihood and cost if this choice will ever have to be made. The GSEs and their supporters argue, on the other hand, that the profits generated by the investment portfolios enhance the GSEs' ability to support affordable housing programs and reduce mortgage interest rates.

S. 190 and H.R. 1461 propose many changes in the rules governing the activities and regulation of Fannie Mae and Freddie Mac. S. 190 includes portfolio limits. H.R. 1461 does not. CRS Report RL32795, Government-Sponsored Enterprises (GSEs): Regulatory Reform Legislation, by Mark Jickling, compares them in a side-by-side report. For additional information on the GSEs, see CRS Report RS21724, GSE Regulatory Reform: Frequently Asked Questions, by Loretta Nott and Barbara Miles.

This report analyzes the types of risk that the GSEs pose to the economy, and the advantages and disadvantages of proposals to limit portfolio size. It will be updated as warranted by significant developments.