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SEPTEMBER : THE TAKEOVER OF FANNIE MAE AND FREDDIE MAC 

Two days later, Fannie CEO Mudd reported losses in the fourth quarter of ,
acknowledging that Fannie was “working through the toughest housing and mort-

gage markets in a generation.” The company had issued . billion of preferred
stock, had completed all  requirements of the consent agreement with OFHEO,
and was discussing with OFHEO the possibility of reducing the  capital surplus
requirement. The next day, Freddie also reported losses and said the company had
raised  billion of preferred stock.
As both companies had filed current financial statements by this time, fulfilling a
condition of lifting the restrictions imposed by the consent agreements, Lockhart an-
nounced that OFHEO would remove the portfolio caps on March , . He also
said OFHEO would consider gradually lowering the  capital surplus require-
ment, because both companies had made progress in satisfying their consent agree-
ments and had recently raised capital through preferred stock offerings. Mudd told
the FCIC that he sought relief from the capital surplus requirement because he did
not want to face further regulatory discipline if Fannie fell short of required capital
levels. 
On February , , the day after OFHEO lifted the growth limits, a New York
Fed analyst noted to Treasury that the  capital surcharge was a constraint that
prevented the GSEs from providing additional liquidity to the secondary mortgage
market. 
Calls to ease the surcharge also came from the marketplace. Mike Farrell, the
CEO of Annaly Capital Management, warned Treasury Undersecretary Robert Steel
that a crisis loomed in the credit markets that only the GSEs could solve. “We be-
lieve that we are nearing a tipping point; . . . lack of transparency on pricing for vir-
tually every asset class” and “a dearth of buyers” foreshadowed worse news, Farrell
wrote. Removing the capital surcharge and passing legislation to overhaul the GSEs
would make it possible for them to provide more stability, he said. Farrell recog-
nized that the GSEs might believe their return on capital would be insufficient, but
contended that “they will have to get past that and focus on fulfilling their charters,”
because “the big picture is that right now whatever is best for the economy and the
financial security of America trumps the ROI [return on investment] for Fannie and
Freddie shareholders.” 
Days before Bear Stearns collapsed, Steel reported to Mudd that he had “encour-
aging” conversations with Senator Richard Shelby, the ranking member of the Senate
Committee on Banking, Housing, and Urban Affairs, and Representative Frank,
chairman of the House Financial Services Committee, about the possibility of GSE
reform legislation and capital relief for the GSEs. He intended to speak with Senate
Banking Committee Chairman Christopher Dodd. Confident that the government
desperately needed the GSEs to back up the mortgage market, Mudd proposed an
“easier trade.” If regulators would eliminate the surcharge, Fannie Mae would agree to

raise new capital. In a March  email to Fannie chief business officer Levin, Mudd
suggested that the  capital surplus requirement might be reduced without any
trade: “It’s a time game . . . whether they need us more . . . or if we hit the capital wall
first. Be cool.” 