Rethinking Federal Credit: Managing Loan and Loan Guarantee Programs - - PowerPoint PPT Presentation

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Rethinking Federal Credit:

Managing Loan and Loan Guarantee Programs in a Changing Environment

Thursday, May 17, 2018

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Changing Economic and Policy Environments for the World’s Largest Financial Institution

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Doug Criscitello, Executive Director, MIT Golub Center for Finance and Policy Kyle Shohfi, Research Associate, MIT Golub Center for Finance and Policy

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BY EXTENDING CREDIT & PROVIDING INSURANCE, THE U.S. GOVERNMENT

FUNCTIONS AS THE WORLD’S

LA LARG RGES EST FINANCIAL INSTITUTION

2.563

2.256

1.931

1.864

0.907

5 10 15 20

FEDERAL GOVERNMENT JPMORGAN CHASE BANK OF AMERICA WELLS FARGO CITIGROUP GOLDMAN SACHS

Trillions of $

ASSETS

TS OR OR INSURED RED OBLIGATI IGATIONS NS

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DIRECT LOANS & LOAN GUARANTIES INSURANCE & OTHER SUPPORT REGULATION & OVERSIGHT

FSOC

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World’s Largest Financial Institution

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• Direct Loans & Loan Guaranties

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• Federal credit origins: post-World War I

– Farm loans refinanced – Loans to railroads returned to private control after wartime nationalization

• Expansion during ‘30s to counter depression & moderate

impact

– Loans to farmers, businesses & homeowners

• NBER (Saulnier, 1958), Federal Lending & Loan Insurance

– Comprehensive look at fed credit during 1950s – Purpose: counteract depression, fill gaps, respond to emergencies, give preferential treatment – Key Qs:

• Do credit programs reallocate resources to promote the general

welfare & achieve beneficial outcomes?

• What are the economic impacts?
• How best to organize agencies to deliver programs?

Historical perspective (thru 1950s)

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Historical perspective (thru 1950s)

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Historical perspective (1960s)

• New programs created & others

expanded

• JFK Presidential Committee on

Federal Credit Programs (1962-63)

– Reduce/remove credit gaps – gov’t support disappears over time – Subsidize credit – if valid need remains, no reasonable expectation

• f gov’t withdrawing
• President’s Commission on

Budgeting Concepts (1967)

– Basis for Congressional Budget Act (1974)

• Created CBO
• Later amended to include FCRA

(1990)

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20 40 60 80 100 120 140 160 180 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970

Face Value of Federal Credit Outstanding

Loan Guarantees Direct Loans Dollars in billions Combined

Historical perspective (1960s)

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Historical perspective (1970s-1980s)

• OMB

– Reagan-era OMB questioned need for some credit programs – Options for credit budgeting & reform

• CBO focus

– Some of its earliest work focused on size & growth of credit programs across government

• Attempts to quantify performance of guaranteed loans
• Concerns about poor data & definitional differences regarding delinquency/default

– Testimony

• Rivlin (1981): Guarantee programs shifting from actuarially sound insurance programs to

programs providing subsidy; need to assess costs

• Penner (1986): Budgetary treatment of federal credit assistance fails to depict costs

accurately

• Reischauer (1990): Need to reform credit budgeting
• “Rationing in Markets with Imperfect Information,” (Stiglitz, Weiss 1981)

– No special role for gov’t credit in perfect market – But credit markets are not perfect – asymmetric info between borrowers & lenders: – Beneficial for gov’t to fill credit gap when it leads to socially desirable outcomes where value exceeds taxpayer costs

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Economic rationale for government credit support

Perfect market for loans

Interest rate Quantity of loans supply demand

• Higher rates => lower borrower quality

Credit gap: no market-clearing interest rate

Interest rate Quantity of loans supply (actual) demand credit gap

supply in perfect market

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0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 1970 1975 1980 1985

Face Value of Federal Credit Outstanding (2018 Dollars)

Dollars in trillions Loan Guarantees Direct Loans Combined

Historical perspective (1970s-1980s)

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Historical perspective (1990s-2000s)

Improvements in gov’t financial management focused on or applied to credit programs

FCRA enacted & effective for FY92

• Implementation focus during 1990s & into early 2000s

Chief Financial Officer Act (CFO

Act)

The Federal Credit Reform Act of 1990 (FCRA)

1990

Accountability of Tax Dollars Act of 2002 (ATD)

2000

Improper Payments Elimination and Recovery Act of 2010

2010

Federal Information Security Management Act

• f 2002

Debt Collection Improvement Act of 1996 (DCIA) Federal Debt Collection and Procedures Act of 1990 Cash Management and Improvement Act Amendments of 1992 Federal Financial Management Improvement Act of 1996 (FFMIA) Information Technology Management Reform Act of 1996

(Clinger-Cohen Act)

Government Management Reform Act of 1994

(GMRA)

Government Performance and Result Act of 1993 Act of 1982 (FMFIA) 16

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0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

Federal Participation Rate in Credit Market

*Outstanding federal direct loans & guarantees divided by total liabilities of domestic nonfinancial sector

Historical perspective (1990s-2000s)

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500 1000 1500 2000 2500 2007 2010 2007 2010

Post-crisis Growth

Energy SBA USDA VA ED HUD

Commitments Outstandings Dollars in billions

Historical perspective (2007-2010)

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• Today, it is clear that government loan programs to finance the acquisition
• f homes, businesses, farms, and college educations have become a well

established part of U.S. credit marketplace

– Two departments with portfolios exceeding $1 trillion – Others managing significantly larger portfolios than in past

• Questions

– Have we receded from concerns about role of government in credit marketplace? – Has the government’s role post-financial crisis, combined with FCRA budgetary treatment, created complacency in addressing appropriate role of government in credit markets? – How will advances in data & technology be used to assess & revise programs?

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Historical perspective (2010-present)

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0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0 2.2 2.4 2.6 2.8 3.0 3.2 3.4 3.6 3.8 4.0 4.2 4.4 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015

Face Value of Federal Credit Outstanding (2018 Dollars)

Combined Dollars in trillions Loan Guarantees Direct Loans

Bringing it all together

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0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4

Federal Credit Obligations/Commitments (2018 Dollars)

Dollars Percent of Credit Market

Dollars in trillions

Bringing it all together

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$4.34 Trillion 500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000 3,500,000 4,000,000 4,500,000 5,000,000 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2017 $ (in millions)

Federal Loans Outstanding (Direct & Guaranteed)

Other Business Education Housing

Looking forward: President’s FY19 Budget

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President’s FY19 Budget: Credit Programs

Direct lending of $163 billion in ‘19 drives direct loan portfolio above $1 trillion for first time BIG CHANGES PROPOSED FOR NEW LOAN REPAYMENT OPTIONS

• New, single Income Driven Repayment (IDR) plan
• Maximum payment of 12.5% of monthly income
• 15 years for undergrad & 30 years for grad borrowers (forgiveness follows)
• Severely delinquent borrowers auto-enrolled in IDR
• Income verification with IRS
• Eliminated subsidized loan program & public service loan forgiveness
• Risk share: raises notion of postsecondary institutions sharing portion of

financial risk associated with student loans

PRESIDENT’S 2019 BUDGET: STUDENT LOANS

BUDGET DATA POINTS

• Budget assumes student loans will generate budgetary savings in ’19,

but estimates have traditionally been overly optimistic

• Existing direct loans expected to cost $48B more than initial estimates
• Undergrad default rates forecast to drop from about 25% to 16%
• Loan servicing costs expected to exceed $1 billion in ‘19

PRESIDENT’S 2019 BUDGET: HOME MORTGAGES

• Up to additional $158 billion available if demand exceeds forecasts
• Ginnie Mae provided authority to guarantee $550 billion in new

mortgage-backed securities

PROGRAM REFORMS

• For HECM reverse mortgages, HUD has already raised premiums &

lowered share of equity homeowners can borrow against

• HUD plans to implement additional program changes for 2019 to keep

expected budgetary costs below zero

HUD/FHA forecasts $242 billion in single-family mortgage guarantees, with portfolio >$1.3 trillion by close of ‘19

BUDGET DATA POINTS

• Budget assumes single family guaranties generate budgetary savings in

’19, but estimates have consistently been too optimistic

• Single-family loans originated over past 25 years now expected to cost

$97 billion more than initially estimated

VA to guarantee $43B in mortgages, with portfolio approaching $200B by close of ‘19

• Federally backed mortgage lending to veterans expected to

remain near record levels

• Key program features proposed to be extended in Budget
• VA typically provides full guarantee on first 25% of default losses

BUDGET DATA POINTS

• Cost of loan guarantees forecast to drop significantly: from $891 million in

‘17 to $110 million in ‘19

• Over time & on average, VA estimates of loan costs have been accurate

PRESIDENT’S 2019 BUDGET: MORTGAGES (cont.) PRESIDENT’S 2019 BUDGET: BUSINESS LOANS

Supports $43 billion in SBA business lending as portfolio approaches $150 billion

• Proposed counter-cyclical policies aimed at maintaining SBA operations

while ensuring private lending not displaced

• Fee adjustments across business loan guarantee programs to cover

anticipated lending & offset administrative costs

• Admin flexibility allows SBA to increase loan levels by 15%
• SBA Express loan limits increased from $350k to $1 million
• Annual fee assessed on secondary market guaranties to ensure viability
• Business & industry (B&I) loan guaranties at USDA eliminated
• ExIm Bank to focus efforts on market segments where U.S. support is

critical to compete (e.g., areas of national security importance, small & medium-sized exporters)

BUDGET DATA POINTS

• SBA fees would be set to cover expected program & admin costs
• Lending has cost $6 billion more than initially estimated over past 25 years

PRESIDENT’S 2019 BUDGET: DEVELOPMENT FINANCE

NEW DEVELOPMENT FINANCE INSTITUTION (DFI)

• Aimed at encouraging participation of US

private sector capital & skills in economic & social development of emerging markets

• Annual limit of $8B on total commitments,

including insurance activities

• OPIC traditionally provides political risk

insurance against losses due to expropriation, inconvertibility & damage from political violence

• $94 million in admin funding to cover DFI
• perations & continued administration of

USAID and OPIC legacy credit portfolios

Merger of USAID’s Development Credit Authority & Overseas Private Investment Corporation (OPIC) to support $4.1 billion in lending & other support

PRESIDENT’S 2019 BUDGET: INFRASTRUCTURE PLAN

Aims to spend $200B across a range

• f activities to stimulate

Administration-projected $1.5T in investment through leveraging State, local & private funds & shorten approval process to 2 years or less, while empowering state & local authorities, rural infrastructure & workforce development Credit assistance: Infrastructure Financing Programs—$20B to increase capacity of existing Federal credit programs and use of private activity bonds

• $14B in 10-yr budget authority to expand & broaden TIFIA,1 RRIF2 &

WIFIA3 eligibility & expand Rural Utilities Service lending programs ($28B in ‘19 lending)

• $6B to create flexibility and broaden eligibility for PABs to provide tools and

mechanisms for market participants to invest in infrastructure

1 Transportation Infrastructure Finance and Innovation Act 2 Railroad Rehabilitation & Improvement Financing 3 Water Infrastructure Finance and Innovation Act

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World’s Largest Financial Institution

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• Insurance & Other Support

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1968 National Flood Insurance Current coverage:$1.25 trillion 1916 Farm Credit System Current coverage:$251 billion 1932 Federal Home Loan Banks Current coverage:$1 trillion 1933 Federal Deposit Insurance Current coverage:$7 trillion 1970 Freddie Mac Current coverage:$2 trillion 1938 Fannie Mae Current coverage:$3.3 trillion 1974 PBGC Current coverage:$3.2 trillion

Federal Insurance Programs

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INSURANCE & OTHER ACTIVITIES*

*Excludes the Federal Reserves emergency lending facilities *Excludes federal health/life/P&C/disaster insurance *No explicit guaranty for FHLBs

7.006 5.333 3.221 1.011 0.251 1 2 3 4 5 6 7 8 Deposit Insurance (FDIC) Fannie and Freddie Pension Guarantees (PBGC) Home Loan Banks (FHLBs) Farm Credit (FCS) Trillions of $

Federally Backed Credit & Insurance Outstanding, June 2017

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President’s FY19 Budget: Insurance & Other

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World’s Largest Financial Institution

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• Regulation & Oversight

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Banking Reform Clearinghouse (BRiC)

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President’s FY19 Budget: Financial Regulation