How Does Geithner Want to Fix Fannie and Freddie?

Treasury Sec. Tim Geithner spoke today on Capitol Hill about his sweeping financial regulation plans. Much of the highlights are familiar, such as higher capital requirements for the largest banks and a new agency to protect consumers. But this line about mortgage lenders Fannie Mae and Freddie Mac is cryptic:

We cannot permit weak regulation of government-sponsored enterprises like Fannie Mae and Freddie Mac that accumulate trillions of dollars of exposure that is implicitly backed by the taxpayer.

To be sure, cryptic maxims are de rigueur in sweeping policy speeches. But what is Geithner actually saying? Is the thing "we cannot permit" (1) the weak regulation of the government-sponsored enterprises (GSEs), or is it (2) their very existence?

To the (1) point: When the first draft of financial reform came out, Arnold Kling (among others) slammed the idea that financial reform should be about regulation. Indeed, he said, the epicenter of the crisis was regulated banks and GSEs like Fannie and Freddie that were explicitly permitted to purchase doomed subprime mortgages. In football terms, as Kling artfully translates, this wasn't the fault of the coordinator picking the wrong defense. The players didn't make the tackle.

To the (2) point: If not GSEs, then what? The first draft had some thoughts:

There are a number of options for the reform of the GSEs, including: (i) returning them to
their previous status as GSEs with the paired interests of maximizing returns for private
shareholders and pursuing public policy home ownership goals; (ii) gradual wind-down
of their operations and liquidation of their assets; (iii) incorporating the GSEs' functions
into a federal agency; (iv) a public utility model where the government regulates the
GSEs' profit margin, sets guarantee fees, and provides explicit backing for GSE
commitments; (v) a conversion to providing insurance for covered bonds; (vi) and the
dissolution of Fannie Mae and Freddie Mac into many smaller companies.

Those suggestions aren't mutually exclusive. Dissolution seems most in keeping with Geithner's overall theme of abolishing institutions that are "too big to fail." But I could also imagine the dissolution of Fannie and Freddie combined with parts (iii) and (iv) to spread mortgage risk around and keep taxpayers from implicitly backing half of the country's $12 trillion mortgage market.