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Scandal Too Close to Home

June 13, 2003

There are few things more precious to homeowners than 5% mortgages. Any scandal that jeopardizes today's historically low interest rates could tarnish the brightest part of an otherwise gloomy U.S. economy. That's why federal investigators and Congress should move quickly to uncover what's going on at Freddie Mac, one of two major guarantors for many of those low-rate mortgages.

The huge government-created company just fired its president and demanded that its chief executive and chief finance officers resign. Federal investigators are starting to use such familiar phrases as "weakness in [accounting] controls" and "misconduct." There's also evidence of an over-the-top executive compensation package.

Few Americans know what Freddie Mac and its larger sister company, Fannie Mae, do. The companies -- originally established to make home loans easier to get and more affordable -- have helped finance 90 million home loans in the last three decades. They guarantee loans against default, freeing up mountains of money that savings and loans and other lenders then use to make more home loans.

Americans are the envy of would-be homeowners worldwide when the system works as planned. But the idea of financial impropriety could turn investors in the publicly traded companies jittery and make mortgages more expensive for consumers. So far, Fannie Mae has escaped serious criticism, and it's possible that even Freddie Mac will emerge with its reputation and financial strength intact. But in the post-Enron environment, investors and lenders won't be patient in waiting to learn the truth.

A quick and thorough audit of Freddie Mac's finances could be difficult, however, because its accountants in January forced it to restate earnings for the last three years, sparking questions about the veracity of the company's claimed profits. Investigators also must determine whether Freddie Mac has properly accounted for the increasingly complex financial instruments used to balance risks associated with guaranteeing home loans.

A hot-off-the-press annual report that the Office of Federal Housing Enterprise Oversight just sent to Congress describes the two companies as "safe and sound." Given the recent disclosures, the 10-year-old agency formed to regulate Freddie Mac and Fannie Mae seems less reassuring than out of touch with what's really going on. That gives the Securities and Exchange Commission, the Justice Department and Congress more reason to speed up their own investigations and Freddie Mac's newly named top executives and accountants more reason to pledge their full cooperation.

Mortgage rates haven't risen, but it will take big doses of reassuring truth to keep them low.

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