Nearly 80 years ago, at the height of the worst economic crisis our country has ever experienced, Congress created the Federal Home Loan Bank System to provide liquidity to local banks and the communities they serve.
The system has served the vital purpose of keeping credit flowing to banks and communities ever since, especially during our current financial crisis.
By helping hometown banks and lenders continue to make safe, responsible loans in their communities, the system is an important part of the economic recovery.
The nation's taxpayers also play an important role, since government funding continues to be needed to stabilize the economy.
In the interest of protecting these taxpayers, its partners in the economic recovery, and as a further example of its strong risk management principles, the Federal Home Loan Bank System should create its own insurance fund.
Twenty years ago the system was tasked by the government with providing additional support to the financial community by using payments to fund affordable housing projects and the Resolution Funding Corp. Each year since, the 12 Home Loan banks have set aside 10% of their earnings to support the system's Affordable Housing Program, one of the most successful housing initiatives in the country.
For 10 years the banks made an annual payment of $300 million to Refcorp, which was created to borrow money to help finance the Federal Savings and Loan Insurance Corp.'s support of insolvent thrifts. In 1999, Congress changed this obligation to a variable payment of 20% of the banks' annual pre-assessment income.
Supporting the Affordable Housing Program is a permanent fixture of the system's mission.
However, the Refcorp payments were originally scheduled to end in 2030. The performance of the Home Loan banks has permitted a more rapid paydown of its obligation; given the continued success of the system, the obligation could be paid off significantly earlier than 2030. The question now facing policymakers is what to do with that 20% payment once the obligation is satisfied.
Policymakers should consider using it to help create a "protection fund" for the Federal Home Loan banks. The creation of such a fund in no way suggests that the system is struggling; the fund would serve as a backup mechanism to further insulate taxpayers and the system itself from risk.
Each Home Loan bank is run as a cooperative, which means its members must meet conservative collateral, capital and credit requirements.
The debt issued by the system is rated triple-A, reflecting not only the system's consistent profitability and superior asset quality — the system has never incurred a loss on its advances, which make up a majority of systemwide assets — but also the system's "joint and several liability" operating model. The model is a key structural support for the twelve Home Loan banks.
The idea of such a fund for a government-sponsored enterprise has worked before. The Agricultural Credit Act of 1987 created the Farm Credit System Insurance Corp. to protect both investors in the Farm Credit System and taxpayers through the administration of the Farm Credit Insurance Fund. Policymakers should let the Federal Home Loan Bank System follow this example with a fund of its own.
In today's environment, the worst any of us have seen in our lifetimes, the system has been praised for continuing to perform "remarkably well."
The creation of a fund that protects the interests of both the taxpayers and the banks and communities that rely on the system would be a continuation of the prudent risk management that has been vital to its success.