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NEW YORK (CNN) - Federal Reserve Chairman Alan Greenspan Thursday suggested that the nation's mortgage lending giants, Fannie Mae and Freddie Mac, are taking advantage of their implicit government subsidy to pad their profits with investments that are too risky, which is not helping the nation's homeowners.

"The Federal Reserve has been unable to find any credible purpose for the huge balance sheets built by Fannie and Freddie other than the creation of profit through the exploitation of the market-granted subsidy," Greenspan said in a speech at a conference sponsored by the Federal Reserve Bank of Atlanta.

At the same time that Greenspan was speaking, Fannie Mae was deemed "adequately capitalized" as of March 31 by its chief regulator, the Office of Federal Housing Enterprise Oversight (OFHEO), with a projected surplus over its minimum capital requirements sufficient to absorb the uncertain impact of accounting errors on its capital.

OFHEO, which oversees both Fannie Mae (Research) and Freddie Mac (Research), had classified Fannie as "significantly undercapitalized" as of Dec. 31. By law, the regulator classifies Fannie and Freddie as adequately capitalized, undercapitalized, significantly undercapitalized or critically undercapitalized.

Accounting problems at Fannie are still being investigated and may result in an earnings restatement of as much as $11 billion. But OFHEO said the company was "on target and has adequate contingencies in place" to hit its required level of a 30 percent surplus over minimum capital by Sept. 30.

Fannie Mae and its smaller cousin, Freddie Mac, were created by Congress to provide financing for the $8 trillion home-mortgage market. They are called "government-sponsored enterprises," or GSEs.

Fannie and Freddie buy up billions of dollars of home loans each year, for which they guarantee repayment, and then bundle them into what are called "mortgage-backed securities."

They also issue bonds called "agency bonds" to fund their mission. These bonds are considered only a little riskier than U.S. Treasury bonds and therefore are widely held by big institutional investors and by some small investors.

Mortgage-backed securities are also highly popular among investors around the world. For one thing, they are backed by a very high-quality collateral: people's homes. Also, Fannie and Freddie both have a small but guaranteed line of credit with the Treasury Department to fall back on in the event there were widespread mortgage defaults and the value of their portfolio fell.

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Ben S. Bernanke does not think the national housing boom is a bubble that is about to burst, he indicated to Congress last week, just a few days before President Bush nominated him to become the next chairman of the Federal Reserve.

U.S. house prices have risen by nearly 25 percent over the past two years, noted Bernanke, currently chairman of the president's Council of Economic Advisers, in testimony to Congress's Joint Economic Committee. But these increases, he said, "largely reflect strong economic fundamentals," such as strong growth in jobs, incomes and the number of new households.

Bernanke's thinking on the housing market did not attract much attention before Bush tapped him for the Fed job Monday but will likely be among the key topics explored by members of the Senate Banking Committee during upcoming hearings on his nomination.

Many economists argue that house prices have risen too far too fast in many markets, forming a bubble that could rapidly collapse and trigger an economic downturn, as overinflated stock prices did at the turn of the century. Some analysts have warned that even a flattening of house prices might cause a slump -- posing the first serious challenge to whoever succeeds Fed Chairman Alan Greenspan after he steps down Jan. 31.

Bernanke's testimony suggests that he does not share such concerns, and that he believes the economy could weather a housing slowdown.

"House prices are unlikely to continue rising at current rates," said Bernanke, who served on the Fed board from 2002 until June. However, he added, "a moderate cooling in the housing market, should one occur, would not be inconsistent with the economy continuing to grow at or near its potential next year."

Greenspan has said recently that he sees no national bubble in home prices, but rather "froth" in some local markets. Prices may fall in some areas, he indicated. And he warned in a speech last month that some borrowers and lenders may suffer "significant losses" if cooling house prices make it difficult to repay new types of riskier home loans -- such as interest-only adjustable-rate mortgages.

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Originally posted by glassman:
big shock...

Greenspan is refreshingly honest.

He also predicts interest rates will reach double digits in the coming years in order to thwart inflation.


last months consumer price index numbers dropped due to gasoline prices dropping... everybody cheered and the Fed lowered...

however? gasoline prices are already going back up this month, and the Core CPI was up (everybody ignored that)
The core CPI, which doesn't include volatile energy and food prices, is expected to increase 0.2 percent in August, according to the Thomson/IFR poll. The core index rose 0.2 percent in July and 0.2 percent in June.

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WASHINGTON (AP) -- Former Federal Reserve Chairman Alan Greenspan acknowledges he failed to see early on that an explosion of mortgages to people with questionable credit histories could pose a danger to the economy.

In an upcoming interview, Greenspan said he was aware of "subprime" lending practices where home buyers got very low initial rates only to see them later jacked up, causing severe payment shock. But he said he didn't initially realize the harm they could do.

"While I was aware a lot of these practices were going on, I had no notion of how significant they had become until very late," he said a CBS "60 Minutes" interview to be broadcast Sunday. "I really didn't get it until very late in 2005 and 2006," Greenspan said.

An excerpt of the interview was released Thursday.

A meltdown in the subprime mortgage market has rocked Wall Street. Foreclosures and late payments have soared and lenders have gone out of business. Nervous financial institutions tightened credit standards, making it harder for even more creditworthy borrowers to get financing. This has increased chances the economy might slide into a recession this year.

Greenspan, who ran the central bank for more than 18 years - the second-longest serving chairman in history - left in 2006. His successor, Ben Bernanke, has had to deal with a credit and financial crisis stemming from the subprime mortgage mess.

When he was at the helm, Greenspan maintained there was little the Fed - which also oversees the safety and soundness of banks - could do about the subprime situation. One of the Fed's governors, however, had raised a red flag about questionable lending practices.

"Well, it was nothing to look into particularly because we knew there was a number of such practices going on, but it's very difficult for banking regulators to deal with that," Greenspan said in the interview.

Some blamed Greenspan's interest rate policies for feeding the housing frenzy. Sales had hit record highs and house prices galloped from 2001 to 2005. Then the market fell into a deep slump.

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