“Paulson,” the president ribbed me later, “that’s a three bagger: in the Oval Office; with a visiting head of state; and you couldn’t find it.” I never let it happen again. wish I could say that the offending phone call concerned a critical Treasury matter, but in fact it was from my son, who had called to talk about the Chicago Bulls. one has ever accused me of being too smooth. I come at people aggressively and tell them how I think a problem should be solved. I listen to anybody with a good idea, then I make sure that the best solution is adopted. While this approach worked well for me in business, I found that decision making is much more complex and difficult in Washington, particularly on Capitol Hill. matter what the problem, large or small, there is no such thing as a quick solution when you deal with Congress. Frankly, you cannot get important and difficult change unless there’s a crisis, and that makes heading off a crisis quite challenging. effectively with lawmakers is a big part of the job of a Treasury secretary, and although I knew it would be frustrating, I underestimated just how frustrating it would be. had some early successes in the international arena, staving off potentially harmful anti-China protectionist legislation and getting a bill that clarified the process for foreign investment in the U.S. But we stalled on a number of domestic initiatives, including the administration’s attempts to reform Social Security and Medicare. Mae and Freddie Mac, the mortgage giants, presented another difficult legislative challenge. When I first arrived in Washington, I was living out of my suitcase at the St. Regis Hotel at 16th and K Streets. Washington summers are hot and humid, but I enjoyed running around the National Mall, past the monuments and museums, weaving my way through the throngs of tourists. One day in late June 2006, I had just returned to the hotel from a run, dripping wet, when Emil Henry, Treasury assistant secretary for financial institutions, and his deputy, David Nason, showed up at my room to brief me on the two GSEs. was no expert on the subject. But the administration and the Fed had warned for years about the dangers these companies posed, and it didn’t take a genius to see that something had to be done. I sat there dripping in my soggy running gear, Emil and David explained how Fannie and Freddie were odd constructs. Though they had public shareholders, they were chartered by Congress to stabilize the U.S. mortgage markets and promote affordable housing. Neither lent directly to homebuyers. Instead, they essentially sold insurance, guaranteeing timely payment on mortgages that were packaged into securities and sold by banks to investors. Their charters exempted them from state or local taxes and gave them emergency lines of credit with Treasury. These ties led investors all over the world to believe that securities issued by Fannie and Freddie were backed by the full faith and credit of the U.S. That was not true, and the Clinton and Bush administrations had both said as much, but many investors chose to believe otherwise. this murkiness, Fannie and Freddie had prospered. They made money two ways: by charging fees for the guarantees they wrote, and by buying and holding large portfolios of mortgage securities and pocketing the difference—or, in bankers’ talk, the “spread”—between the interest they collected on those securities and their cost of funds. The implicit government backing they enjoyed meant that they paid incredibly low rates on their debt—just above the Treasury’s own. companies also got a break on capital. Congress required them to keep only a low level of reserves: minimum capital equal to 0.45 percent of their off-balance-sheet obligations plus 2.5 percent of their portfolio assets, which largely consisted of mortgage-backed securities. Their regulator had temporarily required them to maintain an additional 30 percent surplus, but that still left the GSEs undercapitalized compared with commercial banks of comparable size. Together the companies owned or guaranteed roughly half of all residential mortgages in the U.S.—a stunning $4.4 trillion worth at the time. was weak. They had dual regulators: the Department of Housing and Urban Development oversaw their housing mission, while the Office of Federal Housing Enterprise Oversight (OFHEO), an overmatched HUD offshoot, created in 1992, kept watch on their finances. short, Fannie and Freddie were disasters waiting to happen. They were extreme examples of a broader problem that was soon to become all too evident—very big financial institutions with too much leverage and lax regulation. change was hard to come by. The GSEs wielded incredible power on the Hill thanks in no small part to their long history of employing—and enriching—Washington insiders as they cycled in and out of government. After accounting scandals had forced both GSEs to restate years of earnings, their CEOs were booted, and House and Senate efforts at reform broke down in a dispute over how to manage the size and composition of the GSEs’ portfolios. These had been expanding rapidly and moving into dicier assets—exposing Fannie and Freddie to greater risk. one of my many questions, Nason pointed out a simple fact: “Two-thirds of their revenue comes from their portfolios, and one-third comes from the securitization business.” didn’t need to hear much more than that. “That’s why this is next to impossible to get done,” I said. Their boards had a fiduciary duty to resist giving up two-thirds of their profit, and they would. administration, I concluded, had to be more flexible to accomplish any meaningful reform. My idea was to work off a bill that had passed the House the previous year by a three-to-one margin. It would have established a new entity, the Federal Housing Finance Agency, and given it powers, equal to those of banking regulators, to oversee Fannie’s and Freddie’s portfolios. House bill had passed with bipartisan support, and I was convinced we could negotiate tougher standards. The White House, however, had opposed it. Convinced that Fannie and Freddie were simply too powerful for their regulator to control, it wanted Congress to write clear statutes limiting the investment portfolios. The administration’s thinking was aligned with a Republican-backed Senate bill, which authorized a more powerful regulator and capped the GSEs’ portfolios. But once the November midterm elections gave the Democrats control of both chambers, the need for flexibility became clear., I had been forging relationships on both sides of the aisle. One was with longtime Democratic congressman Barney Frank of Massachusetts. With his gravelly voice and pugnacious demeanor, Barney is famous not only inside the Beltway but, for wildly different reasons, to fans of The O’Reilly Factor and Saturday Night Live. Barney’s a showman with a quick, impromptu wit. But he’s also a pragmatic, disciplined, completely honorable politician: he never once violated a confidence of mine. Secure in his seat, he pushes for what he thinks is right. To get things done, he’s willing to deal, to take half a loaf. from the start, he indicated that he was willing to work with me on GSE reform, hashing out the issues of portfolio limits and regulation. Even as we made progress, I ran into opposition inside the administration, leading to one of the worst meetings I would ever have at the White House. November 21, David Nason and I met in the Roosevelt Room with HUD secretary Alphonso Jackson and a large group of White House staff that included NEC director Al Hubbard, White House counsel Harriet Miers, and deputy chief of staff Karl Rove. Across the hall from the Oval Office, the Roosevelt Room serves as a daily meeting room for White House staff. With a false skylight and no windows, it’s designed for serious business, and this meeting was no exception. explained my position that we should be willing to negotiate on the GSEs, then we went around the table to get people’s opinions. Hubbard declined to declare himself, but everybody else was dead set against my approach. I was used to dissent and debate, but I couldn’t remember the last time everyone in the room had opposed me on an issue. I found this frustrating in the extreme. They were right on principle, but if we didn’t compromise, there would be no reform. response, more or less, was a bit petulant: “I know better than all of you on this. I’m going to send a memo to the president.”drafted my memo and sent it around. Rove protested that it was disrespectful of the administration’s no-compromise position, and he offered to help me rewrite it over Thanksgiving weekend. I swallowed my pride and accepted. In any event, Rove made clear that I would get my way.
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