Despite its many other priorities, the Clinton administration is moving ahead on its community development agenda. This includes urban revitalization, elimination of mortgage bias, creation of a new community development fund, and toughening the Community Development and Reinvestment Act of 1977.
For banking, the key question is whether this program will add to or alleviate the industry's own problems - increased regulatory burdens, reduced profit margins, and diminished loan portfolios.
Meeting Goals Faster
Fortunately, there is another legislative issue that, if properly framed, could put the administration, the banking and industry, and consumer and community development interests on the same side. That issue is Federal Home Loan Bank System reform.
Unlike frontal assaults on the Community Reinvestment Act, which pit lenders against consumers and big banks against small, this issue could further everyone's goals. It could also give banking what it most needs: a way to reduce the regulatory costs of community lending.
The administration's community reinvestment initiative identifies all the right goals, but Home Loan Bank System reform is a quicker and more effective way of achieving them.
The Issue
Last year, Congress enacted the government sponsored enterprises bill. In addition to updating Fannie Mae's and Freddie Mac's capital standards, this law ordered a comprehensive review of the third housing government sponsored enterprise - the Federal Home Loan Bank System.
Four government agencies and a special shareholder committee were ordered to evaluate the system in the context of today's mortgage market. They are to recommend any changes necessary for it to better serve that market.
These studies, originally due at the end of April, now are being completed. They will document the changes which have occurred to housing finance, including reduced multifamily, economic development, and minority lending.
They also will provide a new context for banking's call for regulatory relief. Because the fact is banking and community lending and the Federal Home Loan Bank System are all suffering from the same problem: a regulatory environment which discourages local risk-taking. The fix for the system - an expansion of its credit powers - could provide the very relief that banking seeks.
The System
Among the Financial Institutions Reform, Recovery, and Enforcement Act's many changes was the opening of the Federal Home Loan Bank System to commercial banks and credit unions. So far, more than 1,700 banks have taken advantage of the system's low-cost funding and other community lending services.
Many have found its risk mitigation measures particularly valuable. Others have been drawn to attractive member dividends, totaling $600 million in 1992. All in all, the system has been a good-news story for banking.
This is not to say that all is well with the system. It, too, is being undermined by some legislative burdens, such as an annual fixed tax of $300 million to help fund the Resolution Trust Corp.
Second, the system's membership rules are unequal, with commercial banks enjoying voluntary membership while thrifts must belong to the system whether they use it of not.
Also, the system is required to hold too much capital, especially given the collateralized nature of its lending. This reduces its ability to compete against other funding sources.
Finally, the huge growth is securitization is reducing the system's traditional role, lending on mortgages in portfolio. This market will continue to shrink under mart-to-market and interest rate risk capital rules. Yet portfolio lending is the key to overcoming mortgage discrimination and the multifamily and community credit crunch.
Banking's Stake
System reform presents a unique opportunity to redirect an existing government sponsored enterprise to serve today's community lending needs. Banking has a special stake in this dabate, given the increasing pressure on it to fill these credit deficiencies on its own.
The requirements for sound community lending have not changed: underwriting expertise flexible and low-cost funding sources, and willingness to take some risk. What has changed in today's regulatory environment is to cost of this risk. It has gone way up - both in market terms and in regulatory terms.
The system already can provide much of what community lending needs, including asset-liability management, technical assistance, and low-cost funding.
It already has limited authority to lend for commercial and economic development purposes. What it cannot provide, however, is what lenders most need: a way to share the risk of holding nonconforming loans or enhance their ability to sell them.
There are a number of ways the system could fill this need. One is to authorize it to purchase all of parts of community housing and economic development loans. These could be held in the system's own portfolio or pooled and participated back to other members or third parties.
A second option is to give the system new credit enhancement authority in the underserved multifamily market. This could be guarantee or enhanced letter of credit authority, targeted to the low-income and moderate-income market most in need.
A third possibility is the creation of a new community bank subsidiary in the system, investment in which would be given CRA credit.
A Comprehensive Effort
These ideas could unlock the entire industry's capacity for change, without additional cost or risk to the taxpayer. But the effort would need to be comprehensive to succeed. The needs of the current membership as well as the market as a whole must be served. This means changes to the system's tax under the thrift rescue act and its unequal membership and capital rules.
Already in Place
Also, since the purchase or credit enhancement of assets would alter the systems risk profile, it would mean other structural changes as well. This would include, at a minimum, centralized credit controls and loan-loss reserves, so as to protect the system's credit rating.
Before authorizing any new community development entity, Congress needs to take a hard look at redirecting the Federal Home Loan Bank System to new purposes. The system is up, operating, and profitable.
It is a valuable and viable government-business partnership that commercial banks have joined. System reform is a far better alternative to another start-up funding mechanism that would have to be organized. System reform will put money to work in our communities quickly.
The benefits of comprehensive reform would extend far beyond the system - to banking,to communities, and to consumers. This would make system reform a win-win situation for all.
