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Restoring American Finacial Stability Act of 2010 - Continued

Floor Speech

Location: Washington, DC


Mr. McCAIN. Mr. President, it is with regret that I come to the floor to announce my opposition to this piece of legislation. I express regret not because this is somehow a good bill with a few flaws serious enough to warrant a no vote--I express regret because this bill is an abysmal failure and serves as yet another example of Congress' inability to tackle tough problems and institute real, meaningful and comprehensive reform.

In the past 2 years America has faced her greatest fiscal challenges since the Great Depression. When the financial markets collapsed it was the American taxpayer who came to the rescue of the banks and big Wall Street firms--but who has come to the rescue of the American taxpayer? Certainly not Congress. So what has Congress done? By enacting policies that can only be described as inexplicable generational theft--we've saddled future generations with literally trillions of dollars of debt. Since January of 2009 we have been on a spending binge the likes of which this nation has never seen. In that time our debt has grown by $2 trillion. We passed a $1.1 trillion ``stimulus'' bill. We spent $83 billion to bail out the domestic auto industry. We passed a $2.5 trillion health care bill. The President submitted a budget for next year totaling $3.8 trillion. We now have a deficit of over $1.4 trillion and a debt of over $12.9 trillion. Unemployment remains at almost 10 percent. And, according to, a record 2.8 million American households were threatened with foreclosure last year, and that number is expected to rise to well over 3 million homes this year. And how has the Senate responded to this crisis of staggering debt, catastrophic job loss and unimaginable foreclosure rates? Did the majority take on the special interests? Did they seize the opportunity to develop a bill that goes right to the heart of the problem and make serious, meaningful and comprehensive reforms? Nope. They punted. Out of pure political expediency, they shrugged their shoulders and kicked the can down the road and left the tough decisions for an unluckier group of Americans.

It is clear to any rational observer that the housing market has been the catalyst of our current economic turmoil. And it is impossible to ignore the significant role played by the government-sponsored enterprises--GSEs--Fannie Mae and Freddie Mac. The events of the past two years have made it clear that never again can we allow the taxpayer to be responsible for poorly-managed financial entities who gambled away billions of dollars. Fannie Mae and Freddie Mac are synonymous with mismanagement and waste and have become the face of `too big to fail'.

A May 6th editorial in the Wall Street Journal stated:

Fan and Fred owned or guaranteed $5 trillion in mortgages and mortgage-backed securities when they collapsed in September 2008. Reforming the financial system without fixing Fannie and Freddie is like declaring a war on terror and ignoring al Qaeda.

Unreformed, they are sure to kill taxpayers again. Only yesterday, Freddie said it lost $8 billion in the first quarter, requested another $10.6 billion from Uncle Sam, and warned that it would need more in the future. This comes on top of the $126.9 billion that Fan and Fred had already lost through the end of 2009. The duo are by far the biggest losers of the entire financial panic--bigger than AIG, Citigroup and the rest.

From the 2008 meltdown through 2020, the toxic twins will cost taxpayers close to $380 billion, according to the Congressional Budget Office's cautious estimate. The Obama Administration won't even put the companies on budget for fear of the deficit impact, but it realizes the problem because last Christmas Eve it raised the $400 billion cap on their potential taxpayer losses to . . . infinity.

Moreover, these taxpayer losses understate the financial destruction wrought by Fan and Fred. By concealing how much they were gambling on risky subprime and Alt-A mortgages, the companies sent bogus signals on the size of these markets and distorted decision-making throughout the system. Their implicit government guarantee also let them sell mortgage-backed securities around the world, attracting capital to U.S. housing and thus turbocharging the mania.

During the debate on this financial reform bill, we heard much about how the U.S. Government will never again allow a financial institution to become too big to fail. We heard countless calls for more regulation to ensure that taxpayers are never again placed at such tremendous risk. Sadly, the bill before us now completely ignores the elephant in the room--because no other entities' failure would be as disastrous to our economy as Fannie Mae's and Freddie Mac's. Yet the majority chose not to address them at all in the bill before us.

There have been numerous warnings about the mismanagement of both Fannie and Freddie over the years. In May of 2006, after a 27 month investigation into the corrupt corporate culture and accounting practices at Fannie Mae, the Office of Federal Housing Enterprise Oversight--OFHEO--the Federal regulator charged with overseeing Fannie Mae--issued a blistering, 348-page report which highlighted the culture of corruption which was rampant at Fannie Mae. The report stated things such as:

Fannie Mae senior management promoted an image of the Enterprise as one of the lowest-risk financial institutions in the world and as ``best in class'' in terms of risk management, financial reporting, internal control, and corporate governance. The findings in this report show that risks at Fannie Mae were greatly understated and that the image was false.

During the period covered by this report--1998 to mid-2004--Fannie Mae reported extremely smooth profit growth and hit announced targets for earnings per share precisely each quarter. Those achievements were illusions deliberately and systematically created by the Enterprise's senior management with the aid of inappropriate accounting and improper earnings management.

A large number of Fannie Mae's accounting policies and practices did not comply with Generally Accepted Accounting Principles (GAAP). The Enterprise also had serious problems of internal control, financial reporting, and corporate governance. Those errors resulted in Fannie Mae overstating reported income and capital by a currently estimated $10.6 billion.

By deliberately and intentionally manipulating accounting to hit earnings targets, senior management maximized the bonuses and other executive compensation they received, at the expense of shareholders. Earnings management made a significant contribution to the compensation of Fannie Mae Chairman and CEO Franklin Raines, which totaled over $90 million from 1998 through 2003. Of that total, over $52 million was directly tied to achieving earnings per share targets.

Fannie Mae consistently took a significant amount of interest rate risk and, when interest rates fell in 2002, incurred billions of dollars in economic losses. The Enterprise also had large operational and reputational risk exposures.

Fannie Mae's Board of Directors contributed to those problems by failing to be sufficiently informed and to act independently of its chairman, Franklin Raines, and other senior executives; by failing to exercise the requisite oversight over the Enterprise's operations; and by failing to discover or ensure the correction of a wide variety of unsafe and unsound practices.

Fannie Mae senior management sought to interfere with OFHEO's special examination by directing the Enterprise's lobbyists to use their ties to Congressional staff to (1) generate a Congressional request for the Inspector General of the Department of Housing and Urban Development (HUD) to investigate OFHEO's conduct of that examination and (2) insert into an appropriations bill language that would reduce the agency's appropriations until the Director of OFHEO was replaced.

So what steps were taken by the Congress to punish Fannie Mae for such deliberate manipulation and outright corruption at that time? Basically: none. And nothing is done to rein them in under this bill either.

Just this morning the Heritage Foundation wrote the following:

There is still nothing in this bill that addresses the perverse incentives and moral hazard that is created when the federal government sticks its nose into the housing market. Last year, the two financed or backed about 70 percent of single-family mortgage loans. They hold about $5 trillion in their investment portfolios. Both are losing money fast, with those losses being covered by the U.S. taxpayer. Last month, Freddie announced it had lost $8 billion in the first quarter of 2010 and would be asking for another $10.6 billion in taxpayer help. Not to be outdone, Fannie announced an $11.5 billion loss and asked for another $8.4 billion from taxpayers. That's atop the nearly $145 billion of your dollars that Fannie and Freddie have already received. Fannie and Freddie alone prove this bill does nothing to end ``too big to fail.'' Fannie and Freddie should be partly wound down, the rest broken up and sold off--not replaced, reformed, or rejuvenated. The Dodd bill does none of that.

As my colleagues know, I offered a good, common-sense amendment designed to end the taxpayer-backed conservatorship of Fannie Mae and Freddie Mac by putting in place an orderly transition period and eventually requiring them to operate--without government subsidies--on a level playing field with their private sector competitors. Unfortunately that amendment was defeated by a near-party-line vote.

The majority, however, did offer an alternative proposal to my amendment. Was it a good, well thought out, comprehensive plan to end the taxpayer-backed free ride of Fannie and Freddie and require them to operate on a level playing field with their private sector competitors? Nope. It was a study. The majority included language in this bill to study the problem of Fannie and Freddie for six months. Wow! Instead of dealing head-on with the two enterprises that brought our entire economy to its knees--entities which have already cost taxpayers over $145 billion in bailouts--the Democrats want to study them for 6 more months. It is no wonder the American people view us with such contempt.

Additionally, I cosponsored an amendment with my colleague from Washington, Senator Cantwell, to ensure that we never again stick the American taxpayer with another $700 billion-plus tab to bailout the financial industry. If big Wall Street institutions want to take part in risky transactions--fine. But we should not allow them to do so with federally insured deposits.

Paul Volcker, a top economist in the Obama administration and former Federal Reserve Chairman, wants the nation's banks to be prohibited from owning and trading risky securities, the very practice that got the biggest ones into deep trouble in 2008. Mr. Volcker argues that regulation by itself will not work. Sooner or later, the giants, in pursuit of profits, will get into trouble. Congress and the administration should accept this and shield commercial banking from Wall Street's wild ways. ``The banks are there to serve the public,'' Mr. Volcker said, ``and that is what they should concentrate on. These other activities create conflicts of interest. They create risks, and if you try to control the risks with supervision, that just creates friction and difficulties'' and ultimately fails.

The amendment we offered precluded any member bank of the Federal Reserve System from being affiliated with any entity or organization that is engaged principally in the issue, flotation, underwriting, public sale or distribution of stocks, bonds or other securities. Essentially, commercial banks may no longer inter-mingle their business activities with investment banks. It is that simple.

Since the repeal of the Glass-Steagall Act in 1999, this country has seen a new culture emerge in the financial industry: one of dangerous greed and excessive risk-taking. Commercial banks traditionally used people's deposits for the constructive purpose of main street loans. They did not engage in high risk ventures. Investment banks, however, managed rich people's money--those who can afford to take bigger risks in order to get a bigger return, and who bore their own losses. When these two worlds collided, the investment bank culture prevailed, cutting off the credit lifeblood of Main Street firms, demanding greater returns that were achievable only through high leverage and huge risk taking, and leaving taxpayers with the fallout.

When the glass wall dividing banks and securities firms was shattered, common sense and caution went out the door. The new mantra of ``bigger is better'' took over--and the path forward focused on short-term gains rather than long-term planning. Banks became overleveraged in their haste to keep up in the race. The more they lent, the more they made. Aggressive mortgages were underwritten for unqualified individuals who became homeowners saddled with loans they couldn't afford. Banks turned right around and bought portfolios of these shaky loans.

Sub-prime loans made up only 5 percent of all mortgage lending in 1998, but by the time the financial crisis peaked in late 2008, they were approaching 30 percent. Since January 2008, we have seen 264 state and national banks fail. In my home State of Arizona, eight banks have shut their doors, leaving small businesses scrambling to find credit from other banks that may have already been overleveraged.

Banks sold sub-prime mortgages to their affiliates and other securities firms for securitization, while other financial institutions made risky bets on these and other assets for which they had no financial interest. As the market grew bigger, its foundation became shakier. It was like a house of cards waiting to fall. And fall it did.

In October 2008, the financial system was on the brink of collapse when Congress was forced to risk $700 billion of taxpayer dollars to bailout the industry. These financial institutions had become too big to fail. In fact, the special inspector general of Troubled Asset Relief Program--TARP--testified before Congress last year that ``total potential Federal Government support could reach $23.7 trillion'' to stabilize and support the financial system. Ironically, some of these ``too big to fail'' institutions have now become even bigger. A recent editorial from the New York Times stated:

The truth is that the taxpayers are still very much on the hook for a banking system that is shaping up to be much riskier than the one that led to disaster.

Big bank profits, for instance, still come mostly courtesy of taxpayers. Their trading earnings are financed by more than a trillion dollars' worth of cheap loans from the Federal Reserve, for which some of their most noxious assets are collateral. They benefit from immense federal loan guarantees, but they are not lending much. Lending to business, notably, is very tight.

What profits the banks make come mostly from trading. Many big banks are happy to depend on the lifeline from the Fed and hang onto their toxic assets hoping for a rebound in prices. And the whole system has grown more concentrated. Bank of America was considered too big to fail before the meltdown. Since then, it has acquired Merrill Lynch. Wells Fargo took over Wachovia. And JPMorgan Chase gobbled up Bear Stearns.

If the goal is to reduce the number of huge banks that taxpayers must rescue at any cost, the nation is moving in the wrong direction. The growth of the biggest banks ensures that the next bailout will have to be even bigger. These banks will be more likely to take on excessive risk because they have the implicit assurance of rescue.

The Federal Government has set a dangerous precedent here. We sent the wrong message to the financial industry: you engage in bad, risky business practices, and when you get into trouble, the government will be there to save your hide. It amounts to nothing more than a taxpayer-funded subsidy for risky behavior.

The consolidation of the banking world was also riddled with conflicts of interest, despite the purported firewalls that were put into place. If an investment bank had underwritten shares for a company that was now in financial trouble, the investment bank's commercial arm would feel pressure to lend the company money, despite the lack of merits to do so. This amendment would have eliminated some of these conflicts.

It is time to put a stop to the taxpayer financed excesses of Wall Street. No single financial institution should be so big that its failure would bring ruin to our economy and destroy millions of American jobs. This country would be better served if we limit the activities of these financial institutions. Banks should accept consumer deposits and invest conservatively, while investment banks engage in underwriting and sales of securities.

In an op-ed titled ``Bring Back Glass-Steagall,'' Wall Street Journal columnist Thomas Frank summed up the situation very nicely recently when he wrote:

One of these days, we will finally dispel the `New Economy' mysticism that beclouds this issue and begin to think seriously about how to re-regulate the financial sector. And when we do, we may find the answer involves some version of the idea behind Glass-Steagall--drawing a line between banks that the government effectively guarantees and banks that behave like big hedge funds, experimenting with the latest financial toxins. Hopefully, that day will come before Wall Street decides to take another headlong run at some attractive cliff.

Unfortunately, our amendment was defeated by a procedural motion and was not even brought up for a vote.

Again, I regret that I have to vote against this bill. I assure my colleagues, and the American people, that if this were truly a bill that instituted real, serious and effective reforms--I would be the first in line to cast a vote in its favor. But it is not. It serves as evidence of a dereliction of our duty and a missed opportunity to provide the American people with the protections necessary to avert yet another financial disaster. They deserve better from us.


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