ben s bernanke : gse portfolios, systemic risk, and affordable housing remarks by mr ben s bernanke, chairman of the board of governors of the us federal reserve system, before the independent community bankers of america's annual convention and techworld, honolulu, hawaii ( via satellite ), 6 march 2007. * * * the subject of my remarks today is the regulation and supervision of two large financial companies : the federal national mortgage association ( known familiarly as fannie mae ) and the federal home loan mortgage corporation ( or freddie mac ). fannie mae and freddie mac were created by acts of the congress and are thus known as government - sponsored enterprises, or gses. the congress chartered these two companies with the goal of expanding the amount of capital available to the residential mortgage market, thereby promoting homeownership, particularly among low - and middleincome households. although they retain their government charters, fannie and freddie were converted ( in 1968 and 1989, respectively ) to private, publicly traded, for - profit companies. 1 fannie and freddie are regulated by the office of federal housing enterprise oversight ( ofheo ), with additional oversight by the department of housing and urban development ( hud ). the regulatory framework under which the gses operate has two principal objectives : first, to support the gses ’ mission of promoting homeownership, especially access to affordable housing ; and second, to ensure that these two companies operate in a financially prudent manner. for various reasons, including recent problems with accounting and internal controls at the gses, a consensus appears to exist that the regulatory and supervisory framework needs to be strengthened, and the leaders of the banking committees in the congress have expressed optimism that agreement on legislation can be reached this year. the federal reserve board concurs that a stronger regulatory framework for the gses is needed, and we hope to see a bill passed this year that addresses the important public policy issues raised by the operations of these entities. because of its responsibility to help ensure financial and economic stability, the federal reserve board must be concerned with any potential financial difficulties at the gses that might have broader systemic implications. in addition, the federal reserve board recognizes the great value that the congress attaches to the gses ’ affordable - housing mission. in my remarks today, i will offer some thoughts on how gse regulatory reform could reduce the systemic risks posed by these organizations while increasing their institutional focus on promoting access to affordable housing

supply side of the economy. in the case of a negative demand shock, both economic activity and inflation will tend to fall. typically, a financial crisis is one example of a negative demand shock : credit conditions are restricted, aggregate demand is restrained and firms are encouraged to undercut their competitors, thereby exerting downward pressure on inflation. to the extent warranted by the magnitude of the shock, the central bank thus faces an unambiguous policy prescription, namely to provide additional monetary accommodation. in the case of a negative supply shock, the central bank has a policy dilemma as economic activity and inflation move in opposite directions. a drop in productivity is a case in point : an increase in companies ’ cost per unit of output makes production less rewarding, and thus lowers the amount of goods and services supplied relative to demand. here, the central bank either temporarily accepts higher inflation, or – in an attempt to keep inflation right on target – it reinforces the disturbance driving down output. but this trade - off is weakened when the central bank can credibly commit to its price stability objective. knowing that the steady state remains the ultimate goal of policy, private agents will not factor in the temporary increase in inflation into their price - and wage - setting behaviour. as a consequence, the central bank can afford a more measured conduct of policy in the face of a negative supply side shock. of course, this is not to say that central banks have carte blanche to adopt any tool or tactic that may appear suitable for dealing with any short - run challenge. the way policy is conducted can, in itself, impinge on the central bank ’ s credibility to meet its objective. one example is the monetary financing of fiscal deficits, which may severely undermine the capacity of a central bank to freely decide on an appropriate course of action. the flexibility of policy conduct is clearly limited to those measures that preserve the central bank ’ s room for manoeuvre to independently determine its monetary policy stance – now and in the future. to summarise, for a central bank to be able to confront short - run challenges while anchoring long - run expectations, it must stick to three principles. first, it has to consistently and unambiguously align any policy action with a clearly specified objective. second, it has to adjust its policy conduct flexibly to the specific nature of the macroeconomic shocks hitting the economy. and third, in doing so it has to design its policy conduct in a way that does