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Restoring American Finacial Stability Act of 2010

Floor Speech

Location: Washington, DC


Mr. GREGG. Mr. President, I wish to rise also and first I want to associate myself with the words from the Senator from Georgia. He is absolutely correct in his history of how Freddie and Fannie got started and what their purpose was and the fact that they are a great idea that went wrong, unfortunately--or went ``awry'' would be a better term, not wrong. The concept remains a good idea.

I rise to support Senator McCain's proposal because what he is suggesting is a way out of a very deep and dark hole of debt for our Nation and our American taxpayers, which is being generated by the legacy and the present activities of Freddie Mac and Fannie Mae.

Part of this amendment in which I played a role primarily is the issue of bringing on-budget and, therefore, into the light of day just how much the American taxpayers owe as a result of the situation that has occurred in those two businesses. It is estimated that the American taxpayer will end up picking up somewhere around $400 to $500 billion in costs as a result of the activities of Freddie and Fannie.

As far as the American taxpayer knows, this will be something that comes out of the sky. I mean, nobody is aware of it. Nobody is thinking about it. Nobody is talking about it. But these are actual debts that are going to get put on our books and which will affect our credit worthiness as a nation and which all Americans will have to pay back.

Why is this going to happen? It is going to happen because during the halcyon days of taking on debt, or taking on obligations in the area of mortgages which were not properly underwritten--and there will be a later amendment by Senator Corker which I will support in the area of underwriting--but which were not properly underwritten and which were securitized and basically insured, for all intents and purposes, by Freddie and Fannie, we ended up with a situation where they own a lot of paper which does not have the value it is supposed to have and which is not being paid back at the rate at which it was supposed to be paid back.

Unfortunately, there was a tacit understanding that grew up in the markets that the American taxpayer was going to stand behind that paper. It was never explicit, but it became tacit, and people expected that. Then when the actual event occurred, as these defaults started to accelerate, it became real and the American taxpayer is now having to stand behind all of this debt.

It is certainly going to come as a shock to most Americans that they owe approximately $ 1/2 trillion--$ 1/2 trillion--because of very bad decisions that were made by a group of people who were underwriting and basically securitizing these loans.

Why did that happen? Well, there will be a lot of recrimination on this subject. But the basic reason was that the Congress decided that Americans should own houses whether they could afford the houses or whether the houses sustained the value of their loans, Americans should be able to go out and buy houses. So a lot of houses were sold which did not have the underlying value necessary to support the loans which were made on them, and which the person who bought the house and took out the mortgage did not have the income over the extended period of time of that loan to pay
it back. Everybody knew it at the time the house was bought. Everybody knew it at the time the mortgage was made. But they figured: Well, appreciation will always occur in real estate prices. So that will not bother us with the value of the house. Well, maybe this person who got the loan for the house, maybe their income will increase, or when the reset day occurs on that mortgage they will be able to take care of it in some way.

So nobody faced up to the problem at the time, and literally millions, millions of homes were purchased under that basic scenario. That is what caused the implosion, basically, of our financial markets back in late 2008, and Freddie and Fannie are a large part of that implosion. But a lot of the initiative for that came from the Congress, basically asserting that people should be able to get those types of loans, and pushing Freddie and Fannie from using what had been very standard and traditional underwriting standards in the 1990s into much more aggressive standards as they moved into the early 2000 period.

As a result, we had this proliferation of loans which simply did not have the underlying value and did not have the capacity to be repaid. They were all securitized by Freddie and Fannie. So now the American taxpayer ends up with this huge bill.

I think we have an obligation as a Congress to at least be honest with the American taxpayer on this and tell them this is how big the bill is. And it is huge. It is huge.

So this bill is now hidden in the drawer under the Federal accounting system where we do not even acknowledge that it exists under the Federal budget, even though we know we owe it, even though we know it is going to be put on the books of the Federal Government, even though we know the American taxpayer is going to have to end up picking this up in the long run. We do not even acknowledge it. It is stuck in some drawer somewhere in Washington.

Well, that should not happen any longer. We just had an amendment about transparency with the Federal Reserve. Everybody voted for it. Everybody voted for the transparency amendment on the Federal Reserve. This is the transparency amendment on Freddie and Fannie. This amendment will tell the American taxpayer just how much they really do owe. It will bring on-budget the issue of the debts of these two corporations, which are now the obligations of the Federal Government and therefore the American taxpayer. Absolutely last to be done.

I thank the Senator from Arizona for including in his amendment this language which brings this on-budget the way it should be. It opens the light of day so that the American taxpayer can understand just how much risk has been piled on their backs, how much debt has been piled on their backs as a result of the irresponsible activity, which in large part was initiated by this Congress over the years, forcing out loans and pushing a public policy that these loans should be made.

Secondly, I congratulate the Senator from Arizona for bringing forward an idea, a proposal for how we unwind this situation and how we get out of this situation by putting us on a path, a path toward basically decoupling Freddie and Fannie from the American taxpayer, having those two organizations no longer be dependent on the American taxpayer and having the American taxpayer no longer having to pick up the debts of mistakes made by those two corporations, even when those mistakes were caused, to some significant degree, by the Congress taking actions which were inappropriate--or which were bad policy, not necessarily inappropriate, but definitely bad policy.

So I congratulate the Senator from Arizona. I think this is a good amendment. As has been said, how can we take up financial reform if we do not take up the single biggest entity, the single biggest two entities, when combined the single biggest entity, that affects the financial markets relative to real estate lending in this country, which is what caused the downturn and the crisis at the end of 2008.

We cannot do it. We cannot claim we have done financial reform if we do not take on and address this issue. I understand that the administration said: Well, we will do it next year. Well, we do not have time. It needs to be done now. We need to address this now. It is a critical issue, and it is at the essence of whether we can get our house right and our ducks in the correct order relative to financial reform.

If we do not straighten out Freddie and Fannie and its relationship to the Federal Government, and specifically its relationship to the American taxpayer, we really have not done anything to solve the long-term problems of how we get our fiscal house in order because that issue of how to make real estate loans in this country is at the essence of how we correct the financial structure of this country.

This amendment, coupled with the amendment that is coming from Senator Corker on the issue of underwriting, are the two key amendments to this bill which address the two elements which are not addressed but which have to be addressed if we are going to have effective, comprehensive, lasting, and meaningful reform.

I yield the floor.


Mr. GREGG. Mr. President, I rise in support of the amendment of Senator Chambliss from Georgia and to express my very serious concerns about the language which has been brought forward by the chairmen of the committees--both the Agriculture Committee and the Banking Committee--relative to derivatives.

Let's begin with what our purposes should be. Let's remember that derivatives, as has been said before on this floor numerous times--the Senator from Alabama said it extraordinarily well--are a critical part of how Main Street maintains its economic vitality. You know credit is what makes America work. One of the great geniuses of our society is that we are able to produce credit in a fairly ready manner which is reasonably priced and which people who wish to take risk can take advantage of in order to create economic activity and jobs. The oil that basically keeps the credit available in the American capital system is derivatives, for all intents and purposes.

As has been pointed out, if you are manufacturing an item somewhere in America and you enter into a contract to sell that item--let's say overseas--there are a lot of risks on how you are going to make money on that item which you have no control over.

Let's say you make it one day and you are going to sell it 6 months later. You enter into a contract when you get the order and you produce it 6 months later. There is a lot of risk there over which you have no control. You know how to manufacture. You know how to create it. If it is credit, you know how to produce it. But you do not have control over the exchange rates you are dealing with. You do not have control over the cost of the raw materials you are using. You do not have control over whether the various parties that enter into this transaction as it moves through the commercial stream survive or go out of business or experience some huge economic upset.

Well, in order to avoid all of that and just be the person who wants to produce the good and sell it, you buy derivatives, which are essentially insurance policies, to make sure you have insurance against the risk which you cannot control. That is derivatives in their simplest form. It also affects all sorts of other instruments, of course, financial instruments, commodity instruments. But basically it is the capacity of someone to make an agreement with somebody else and know that agreement is not going to be affected by outside events or, if the outside events do occur, there is going to be a vehicle in place to protect you from the risks that outside event may create for you. So derivatives are crucial to our capacity as a society to be economically vibrant.

We also know that during the economic downturn, during the very severe financial crisis we had, the fact that we had so many derivatives in place which were based off of contracts which were not properly supported created a huge cascading event which almost forced our entire financial structure to come to a halt--in fact, it did on one evening--and was about to put our economic house into extreme distress because the derivatives markets had not been properly regulated or managed.

Now, that wasn't the primary cause of the event of the late 2008 period. The primary causes of the events of the late 2008 period were very bad underwriting--in fact, virtually no underwriting standards in some instances--for the loans which were being made, easy money, and regulatory arbitrage. But the accelerant which took those causes and basically turned them into an event of immense proportions which almost shut down America and would have caused massive dislocation in our Nation had it been allowed to go uncontrolled, had the Fed and Treasury not stepped in and taken very definitive action, the accelerant was the derivatives market.

The classic example of that, of course, is the AIG situation, which has been cited here on the floor numerous times as the example of what was wrong with an unregulated market, where essentially you had a company which was issuing insurance based on its good name and virtually nothing else behind the insurance besides its good name. When that insurance started to get called because the contracts started to fail and the counterparties became concerned, there was no capacity to support the insurance.

So our purpose here should be to reorganize our regulatory structure so that type of an event doesn't occur again--I mean, that should be our purpose--while at the same time recognizing that we need a very robust and vibrant derivatives market if we are going to be successful as a nation, if we are going to continue to have economic vitality as a nation. So our goal should be, one, to put in place a structure which as much as possible foresees and limits systemic risk caused by the derivatives market or that could be caused by the derivatives market and, two, maintains an extremely vibrant derivatives market where America remains the best place in the world to create capital and get credit.

Unfortunately, the pending bill undermines the second part of that effort. It could be argued that the first part of the effort--foreseeing and trying to anticipate systemic risk--is addressed in this bill, but it addresses it in such an unwieldy and unmanageable and in some ways counterproductive way, it actually undermines the basic goal, which is to keep the system sound and also keep credit markets vibrant.

Why is that? Well, there are a number of reasons for it, but the two most difficult parts of this proposal relative to getting it right are the fact that it forces the swap desks to be spun off from the financial houses and it essentially forces instant movement from and basically almost total coverage of derivatives from clearinghouses into exchanges. In both those instances, you are basically going to create fairly close to the opposite result you are seeking if you pursue this course.

I would predict that if this bill were to become law in its present form, it would be likely that, one, a large amount of derivative activity would move overseas; two, a large amount of derivative activity which presently occurs and which is necessary for commerce would have to be restructured in a way that would be extraordinarily expensive for the people who are doing that commerce and would therefore significantly curtail commerce; three, the credit markets would inherently contract by a significant amount of money, probably as much as $ 3/4 trillion; and four, the institutions which would be responsible for creating the derivatives market would actually be less stable. The market makers would be less stable than what we presently have today.

You do not have to believe me to understand the seriousness of this and accept this as a statement or an assessment of what the present bill does. I mean, granted, I am just one Member of this body who has an opinion on it. But we do hire people, as a government, to take a look at something like this and say, does this work or does that work, and they are charged with the responsibility of accomplishing the two goals I mentioned: one, avoiding systemic risk, and two, having a vibrant credit market.

One of those agencies is the Federal Reserve. They have taken a look at this language in the Dodd-Lincoln bill and they have concluded: Section 106 would impair financial stability and strong prudential regulation of derivatives, would have serious consequences for the competitiveness of U.S. financial institutions, and would be highly disruptive and costly both for banks and their customers. That is the conclusion of a fair umpire, the Federal Reserve.

Now, there are a lot of people around here who do not like the Federal Reserve. But we pay them. Their job is to look at something like this and say: Does this work or does that work in making our markets more stable, more sound, more risk averse, and more competitive? Their conclusion is this language does just the opposite--would be highly disruptive and costly for both banks and their customers.

But if you do not like the Federal Reserve, listen to the FDIC. The FDIC, under Sheila Bair, during the crisis we have just gone through, has probably been one of the best performing agencies in our Federal Government. They really have stepped in on numerous occasions and stabilized banks, which had far overextended their capacity and had gotten into very serious liquidity positions, and basically settled those banks out in a way that very few customers lost anything.

What does the FDIC say when they look at this, because their responsibility is to maintain safety and soundness of banks. The Chairman of the FDIC, Sheila Bair, said in her letter to--I am not sure to whom it went; I will check that--I think it was to Members of Congress:

By concentrating the activity in an affiliate of the insured banks, [and that means spinning them off under the proposal under this bill] we could end up with less and lower quality capital, less information and oversight for the FDIC, and potentially less support for the insured bank in a time of crisis. Thus, one unintended outcome of this provision would be weakened, not strengthened protection of the insured bank and the deposit insurance fund, which I know is not the result any of us want.

Then we have Chairman Volcker, who I think everybody agrees is a fair arbiter around here, and he has also said this language in this bill overreaches and does not work.

I ask unanimous consent to have printed in the Record the Volcker letter.

There being no objection, the material was ordered to be printed in the RECORD


Mr. GREGG. So we have these independent arbiters, these fair umpires of what we should be doing in order to maintain financial stability and strong credit markets saying: Listen, do not do it this way. Do not do it this way.

There are ways to do this, however, ways to make sure we have a strong derivatives market which is also safer, more sound, and is not subject to systemic risk. Senator Chambliss's amendment accomplishes that in a very effective way.

How do you basically do it? Well, in concept, you do it this way: You make sure that for the most part, all of the derivatives are cleared. They go through a clearing process. What does a clearing process mean? Well, it basically means that you get counterparties having to put up margin. They have to put up actual assets, margins, liquidity, in order to be sure there is something behind their position so that if they have a problem and they have to be called on to pay up their position, they have the capacity to do it and it is there. That is why you have a clearinghouse, because the clearinghouse becomes basically the place where that occurs and it becomes the process by which that occurs. And you make sure the clearinghouse itself, because it stands in and basically is the guarantor, for lack of a better word, of the contract, has the capital and the adequacy to make sure those contracts will not fail.

So as a very practical matter, you can do this by creating a proper structure using clearinghouses. You make sure the clearinghouses have proper oversight from the SEC or the CFTC. And then as these instruments, these various types of derivatives--there are lots of different types of derivatives--become more standardized--and a lot already are standardized--you move them over to an exchange, which is the ultimate process of making sure you do not have an issue of solvency behind the instruments. So as you move them to an exchange, you are able to create an even stronger market. But you do not mandate that everything goes through an exchange right out the door because if you did that, you would end up with a lot of derivatives which are still too customized to be able to move to an exchange and they would simply not be able to be brought forward, and thus you would contract the market again.

You also don't take the swap desks and move them out of the financial house because, in doing that, you would have to create a whole new capital base for the swap desks, which is the concern expressed by the Fed and by the FDIC and by Chairman Volcker, which would inevitably force a massive contraction in credit because that capital would no longer be available to underwrite credit. In addition, you would have much weaker institutions standing behind the swap desks, which is again a point made by the Fed, the FDIC, and Chairman Volcker.

It is not necessary to go down the route outlined in this bill in order to accomplish the goals which we all have. In fact, if you go down the route presented in this bill, you actually undermine the goal which we all have, which is to have a derivatives market which is less prone to systemic risk and which is strong, sound, and vibrant.

Rather, what Senator Chambliss has proposed makes the most sense, which is a comprehensive reform of the derivatives market in a way that insists that for the vast majority of derivatives, they end up going through a clearinghouse process and that if they are standardizable, they end up on an exchange. If they are for purely a commercial purpose, a single-purpose commercial undertaking, then they are able to be exempt from the clearing activity. This would create a much more robust undertaking of a creation of credit. It would maintain the vitality of the derivatives market while at the same time protecting and making sure we had a sound derivatives market. It would avoid what I believe the inevitable outcome of this language will be under the Dodd-Lincoln bill, which is that we would weaken the derivatives market, weaken the systemic protections, and end up forcing overseas a large amount of economic activity which appropriately should be done in the United States and which is very important to our Nation's capacity to be competitive on Main Street. Remember, this is about Main Street.

I certainly hope Members will support the Chambliss amendment. It makes a lot of sense. It is well thought out. It is not exactly what I would do were I writing this myself, but it is a very good piece of legislation. It should be supported. I hope my colleagues will do so.

I yield the floor.


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