The House of Representatives is scheduled this week to take up its financial reform bill, the Wall Street Reform and Consumer Protection Act of 2009, which, unfortunately, contains several elements that would harm the Federal Home Loan Bank System, its members and the communities they serve.
For more than 70 years, the Federal Home Loan banks have provided liquidity and stability to finance housing and economic development in good times and bad. About 80% of U.S. lending institutions rely on these cooperatives for low-cost funds, and these low costs are passed on to consumers and communities.
Notably in the recent crisis, the Home Loan banks continued to supply needed funding when credit froze in other sectors. For community banks, the Home Loan banks were the only source of funds other than deposits. The Home Loan banks rapidly and prudently expanded lending to their members to more than $1 trillion at the height of the crisis, and responsibly wound that lending back to about $675 billion as the crisis has abated. Without this, the crisis would have been far worse.
Now, in the name of reform, this bill would impose new requirements and penalties on the Home Loan banks that would make them less effective no matter what the economic climate.
Perhaps the most troubling of the provisions affecting the Home Loan banks is an amendment that would create a $150 billion Systemic Dissolution Fund through assessments on financial companies with $50 billion or more of assets. Such assessments would drive up the cost of doing business. The $50 billion threshold was intended to avert an effect on community banks, but because the Federal Home Loan banks would be subject to the assessment, it would directly affect most of their member-owners — community banks. Federal Home Loan bank members would see a higher cost of funds and fewer and smaller dividends for their precious capital investments. They in turn would have less access to credit and fewer dollars available to lend in their communities.
Another troubling provision in the bill is an amendment that would impose a 20% haircut on secured creditors of insolvent, "systemically important" institutions. The Home Loan banks are prohibited by law from lending on a less than fully secured basis; therefore, they would be unable to lend to any potentially "systemically important" institution.
Large members would leave — or, more accurately — be forced out of the Federal Home Loan Bank System. The system would shrink, and the remaining members would face higher borrowing costs because the overall system's presence in the capital markets would be reduced. Credit would be less available, not only to "systemically important" lenders but also to all lenders, large and small. Because large institutions typically have the most diverse funding alternatives, the more devastating effect would be on community banks and their customers.
This is important legislation. Our nation's leaders must address systemic risk and find ways to prevent another economic crisis. But provisions that undermine the foundations of the Federal Home Loan Bank System will not help prevent another crisis; they will make another crisis more likely.