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What are the Federal Home Loan Banks up to? Emerging views of purpose among institutional leadership.

In the summer of 1998, Business Week presented its readers with a quiz: "Name a lender with more assets than Citicorp and a loan book growing 25% a year. A whirling dervish in the capital markets, this outfit can sell scores of bond issues in a day, and it deals in so much overnight paper that its debt issuance has exceeded the U.S. Treasury (Silverman 1998)." Give up? The answer is the low-profile Federal Home Loan Bank System--a government-sponsored enterprise created during the Depression to support home ownership by lending to savings and loan associations. Taking its cue from a highly critical July 27, 1998 letter from then-Treasury Secretary Robert Rubin to Senate Banking Committee Chair Alphonse D'Amato, the influential business magazine went on to criticize the Federal Home Loan Banks (FHLBs) severely. Are they still needed under new economic conditions--with capital markets awash in liquidity and a highly developed secondary market for home mortgages? Do the increasingly profitable commercial banks that are now their members need the subsidy they provide, or even use it to finance housing? Or have the FHLBs run amok, using their special government-sponsored-enterprise status to raise cheap money for themselves and arbitrage it?

Business Week's conclusion that the system today "has little social purpose" is not one to draw lightly. Collectively, the Federal Home Loan Banks are a major player in financial intermediation in the United States; their liquidation would have far-reaching consequences for banks, securities markets, communities, and individual home buyers. As part of a larger research project that aims to contribute to the debate over the role of the Federal Home Loan Banks in the political economy, this article focuses on the question of how leaders within the FHLBs view their institutions' purposes in light of legislative changes to their mandates in 1989 and 1999, and considers the implications of those views for the FHLBs' behavior and governance structures.

Why should scholars of public administration be interested in Federal Home Loan Banks? There is growing recognition in the field that government relies not only on traditional public agencies to pursue its policy purposes, but also on an assortment of quasi-governmental entities, private nonprofit organizations, and private profit-seeking corporations (Kettl 1988; Light 1999). The hybrid public-private Federal Home Loan Banks were chartered by Congress to achieve public purposes without public appropriations, and they are capitalized with private money to influence the structure of private organizations' balance sheets in directions that yield outcomes deemed socially desirable. With re-evaluation of both their purposes and structure on active legislative and regulatory agendas, the FHLBs virtually demand empirical attention from scholars of public administration.


Before turning to Federal Home Loan Bank leaders' views of their institutions' purposes, we summarize the function and current condition of the Federal Home Loan Bank System, briefly review its origin, and identify its public mandates.

Function and Condition of the FHL Bank System

There are 12 Federal Home Loan Banks, each serving a district defined on the basis of state boundaries. FHLBs are owned by financial institutions--mostly commercial banks and savings and loans--headquartered in their districts; stockholders are called "members" because the Banks have some features of cooperatives. The Banks' central function is to raise money and lend it to their members. They raise money by issuing bonds called "consolidated obligations," and their loans to members are called "advances." Members use advances to manage liquidity and expand their loan portfolios. With total assets of more than $600 billion (FHLB System 2000, 28), the Federal Home Loan Bank System constitutes a formidable presence in financial markets in the United States, and increasingly it ventures into international capital markets as well.

This robust condition could not have been predicted only 10 years ago. As the savings and loans that were their members and their customers collapsed or merged throughout the S&L crisis, it was not clear the Federal Home Loan Banks would survive. The System's total assets fell from $181 billion in 1989 when FIRREA was passed to $155 billion in 1991. In company with total assets, capital stock, consolidated obligations, and advances also fell. But each of these indicators of System size and activity hit bottom in 1992 or 1993 and have risen steadily since that time (FHLB System 1992-99).

Origin of the Federal Home Loan Banks

This dynamic component of the U.S. financial institutional infrastructure was established by Congress in 1932 with the Federal Home Loan Bank Act. While there was no explicit language in the statute about the System's mission, the legislative history makes it clear. The extended House hearings in particular paint a vivid picture of the need that Congress wanted to address. It was the depths of the Depression. Foreclosure rates on home loans had accelerated sharply in 1929, again in 1930, and continued upward in 1931. People were losing homes in which they had considerable equity, and real estate values plunged as foreclosed properties were dumped on the market for whatever return they would bring. Home ownership, long valued in the United States as a means for building both community stability and individual responsibility, was in a massive rout across the land. Congress established the Federal Home Loan Banks to support home ownership by providing funds for liquidity and portfolio expansion to savings and loan associations (U.S. House 1932; Hoffmann 2001).

Federal Home Loan Banks' Public Purposes

And so for over 50 years, they functioned as a giant mechanism for tapping the bond market to raise money, which was then channeled toward the politically sanctioned social purpose of broad home ownership. But little noticed and largely unremarked by anyone not directly involved with the FHLBs, Congress expanded their mandates and changed their structure in 1989 in the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) and again in 1999 in the Gramm-Leach-Bliley Act.

Public administration scholars and the attentive public alike know FIRREA as the statute that provided the institutional infrastructure and financial arrangements for resolving the thrift crisis. Many know as well that it eliminated the old thrift industry regulator--the Federal Home Loan Bank Board--but few are aware of its provisions for the Federal Home Loan Banks. FIRREA directed the FHLB System to provide funds for several public purposes. First, the System was charged with a payment of $300 million per year for 30 years for debt service on the bonds issued by the Resolution Funding Corporation to resolve failed thrifts. Second, the Banks were to fund a new Affordable Housing Program, through which subsidies would be awarded on a competitive basis for special affordable housing projects; this annual obligation would escalate over time and settle in 1993 at the greater of 10 percent of each Bank's earnings after paying its obligation to Resolution Funding Corporation, or $100 million Systemwide. In a third mandate, each Bank was directed to design and implement a Community Investment Program in which it would provide advances to members at cost, which the members, in turn, would lend for community development projects.

In a structural change viewed by System leaders as responsible for the FHLBs' survival and which is proving critical to the evolution of their purpose as well, FIRREA opened membership in Federal Home Loan Banks to commercial banks with at least l0 percent of assets in housing. With severe contraction in the S&L industry, it was not clear the Federal Home Loan Banks would survive; whether they could achieve earnings adequate to pay the formidable assessments FIRREA levied was also doubtful. Congress permitted commercial banks to join the System with an eye to giving the FHLBs a fighting chance at raising enough revenue to meet their new liabilities. Congress also intended access to Federal Home Loan Bank advances as an inducement for commercial banks to fill the gap in housing finance left by the receding S&L industry. In a second prominent structural change, FIRREA established the Federal Housing Finance Board as the new regulator for the 12 Banks.

Late in 1999, Congress again broadened the FHLBs' public mandates and adjusted their structure in the Gramm-Leach-Bliley Act--the legislation that demolished the Depression-era Glass-Steagall wall between commercial banking and investment banking. But as in 1989, despite inclusion in a high-visibility, widely and long-debated statute, changes to the Federal Home Loan Banks have been little remarked upon, outside a very small group of involved policy makers and the System itself.

Gramm-Leach-Bliley included provisions that further displace support for the financing of owner-occupied houses as the singular public purpose of the Federal Home Loan Bank System. The statute permits community financial institutions--defined as FDIC-insured institutions with under $500 million in assets--to join a Federal Home Loan Bank even if they do not have 10 percent of their assets in housing. Federal Home Loan Banks may make advances to these banks for small business, farm and agribusiness loans, and accept such loans from community financial institutions as collateral for advances. Ironically, given that consolidation in the financial services industry is the expected effect of Gramm-Leach-Bliley, the intent of these provisions is to provide a mechanism for strengthening community banks in the face of such consolidation.

Structurally, Gramm-Leach-Bliley made adjustments to FHLB boards of directors, devolved operational issues from the regulator to the individual Banks, and required the Banks to devise new capital plans.

Thus, after functioning for almost 60 years with the straightforward public purpose of supporting home ownership by facilitating housing finance through savings and loan associations, Federal Home Loan Banks find themselves mandated or permitted to serve a longer list of public policy goals. These include contributing to the cost of resolving the thrift crisis, supporting finance for multifamily rental housing, subsidizing affordable housing for low- and moderate-income families, subsidizing financing for community development, supporting business and farm lending, and supporting the viability of small financial institutions.

How Do FHLB Leaders View Their Institutions' Purpose?

Given these considerable statutory additions to the System's mandates and permissions, and in the context of the sea change in the financial marketplace, how do leaders in the Federal Home Loan Bank System view their institutions' purpose in the political economy? What do they think they are supposed to be doing? In short, what is happening to the sense of mission in the System?

To find out, between February and June 2000, we conducted 19 interviews with FHLB executive managers and board members. We interviewed managers from three of the 12 FHLBs and board members from two of those three Banks. Management interviews were conducted in person at the respective Federal Home Loan Banks; board members were interviewed in person in their home cities or by telephone. We used a structured schedule of questions, with two slightly different forms: one for board members and another for managers. As these were elite interviews, however, we used the schedule flexibly, dwelling on different aspects with different respondents. The Banks we approached were selected based on the hypothesis that there are different emphases in the perception of mission among the Banks, and that these three Banks would provide the full range. We formulated this hypothesis on the basis of preliminary research in print sources--including individual Banks' annual reports--and exploratory conversations with knowledgeable persons. The terms of the human subjects institutional review board's approval for this research require that we do not specify the particular FHLBs we visited, nor identify respondents beyond the categories "manager" and "board member."

A caveat is in order at the outset: The term "mission" has two different meanings in the literature with which public administration scholars and practitioners are likely to be familiar. In the sociologically influenced approach to organization theory and to understanding the bureaucracy, "mission" means the purpose that gives an organization its cohesiveness and its actions meaning; it is an expression of values. Mission evolves in response to external pressures and internal social forces, as organizational leadership tries to maintain an institution's integrity while ensuring its survival (Selznick 1957; Wilson 1989). This is the sense in which we use the term in this paper.

Yet there is a second meaning of "mission," which is reflected in the scholarly (Weiss and Piderit 1999) and practical (GAO 1998) literature of public management. Here, "mission" is a management tool--perhaps externally imposed--a device by which a principal directs the behavior of an agent. In conducting interviews for this study, we learned to avoid the term "mission" because it was often negatively associated with this second meaning and viewed as a directive from the outside (for instance, from Congress or the regulator). Mission in this second sense--as a mandate--was sometimes perceived as a threat to mission in the first sense--the unifying value that permits the organization to survive and thrive. Thus, we asked managers and board members for their views on the "purpose" of their Bank in light of statutory changes, what they thought their Bank "should be doing."

We found that while the range of congressional mandates is generally acknowledged by managers and board members and accommodated in each Bank (with varying degrees of enthusiasm), three distinguishable central emphases regarding the purpose of the Federal Home Loan Banks have emerged: support housing finance, support the viability of community financial institutions, and facilitate housing and community development. Table 1 shows our interpretation of each interviewee's view of his or her Bank's purpose. For some interviewees, a secondary emphasis is indicated as well; these are cases in which two of the three missions were expressed, and the second was viewed not only as a means to the first, but as an important end in itself.

In the following sections, we use the interview data, supplemented with information from publicly available sources, to develop the meaning of each purpose as it becomes the institution's mission. What role in the political economy is envisioned for the Federal Home Loan Banks by adherents to each purpose? What are the implications of each emphasis for the Banks' behavior and for their structure?

Support Housing Finance

For some Federal Home Loan Bank leaders, the central purpose of the System today, as it was in 1932, is to support housing finance--that is, to make home ownership broadly accessible and affordable through the structure of the financial system. As one executive manager put it, "The other side of the [government-sponsored enterprise] deal is that we are to operate for narrow purposes.... The overwhelmingly most important, and historically only, purpose was housing finance.... The essence of the Home Loan Bank is a way to create bond-based financing for home mortgages.... And the Home Loan Bank, as envisioned in 1932 and as still existing today, does that by lending money to the institutions to finance their mortgages." A board member also captured this purpose--and the intent to achieve it systemically for everyone--in arguing that the FHLB mechanism "is a way for the government to keep housing generally affordable. It's just like our government programs in the agricultural world keep food very affordable. I look at our general government policy as wanting ... reasonably priced food, and reasonably priced and available housing. And I see the Federal Home Loan Bank System as being one of the tools that it uses to make that--and keep that--happening."

This emphasis on housing finance as the FHLBs' public purpose today represents straightforward continuity with their original purpose and mechanism. Yet for leaders who emphasize housing finance as their mission, close adherence to the original conception of purpose does not imply a static System. Serving a longstanding value in a dynamic financial environment requires change, and this interpretation of the Banks' mission has led to a surprising innovation: The Federal Home Loan Banks have entered the secondary market for home mortgages. While this move was, unquestionably, not anticipated in the original Federal Home Loan Bank Act nor in FIRREA, it has been confirmed by the Banks' regulator and by a federal appeals court as consistent with the Banks' housing finance purpose (Inside Mortgage Finance 2000, 1).

The initial vehicle for FHLB entry into the secondary mortgage market was the Mortgage Partnership Finance (MPF) Program. The brainchild of post-FIRREA Chicago Bank president Alex Pollock, MPF does not copy the approach of dominant secondary market institutions Fannie Mae and Freddie Mac, which buy whole mortgages from originating financial institutions. Rather, in the MPF program, the risks comprising a home mortgage are unbundled: The FHLB buys the interest rate risk (the risk market rates will rise while the rate on the mortgage is fixed) and the options risk (the risk the borrower will pay early), which it is best-suited to handle, but leaves the credit risk (the risk the borrower will not pay) with the originating lender, whose expertise lies in credit judgments. And while Fannie Mae and Freddie Mac securitize the mortgages they buy, the Federal Home Loan Bank holds its mortgages in portfolio (Mayer 1997, 21). Launched in 1997, the MPF program had grown considerably by the end of 1999, though its share of the secondary mortgage market remained very small compared to Fannie Mae and Freddie Mac. Six FHLBs participate in the MPF, and two more are planning to join (Brockman 2000a,b). Three others, with the Indianapolis Bank taking the lead, have designed another program for buying mortgages from their members, which they expected to implement in 2000 (FHLB of Indianapolis 1999, 1).

This innovation in the financial system may be expected to constrain the costs of housing finance, thus serving the housing finance mission in two ways. First, it costs the originator less to sell a mortgage to the FHLB than to Fannie Mae or Freddie Mac, theoretically permitting the lender to charge end borrowers less. Second, FHLB secondary-market activity may reduce costs systemically by introducing competition into a market that has been dominated by Fannie Mae and Freddie Mac. Some Bank leaders maintain that it already has.

The traditional housing finance emphasis has led to an innovative secondary-market technique with the potential to systemically affect the cost of home ownership. But is the old technique--making advances to FHLB members-still needed to keep the cost of home financing down in the United States? The charge is being heard from the System's critics that mortgage lenders no longer need advances from FHLBs because not only can they sell their mortgages in the secondary market, they also have alternative sources of funds.

Managers and board members in the System bristle when the argument that they can tap capital markets is raised. Our interviewees generally agreed that critics are simply wrong when it comes to small banks and S&Ls, which cannot tap capital markets on their own; several respondents went on to argue that even the vast majority of institutions that are large enough to issue their own debt would pay considerably more for money than they pay at their FHLB, thus increasing the cost of housing. One board member estimated that if a particular institution in that FHLB district raised funds by issuing its own debt rather than by taking an FHLB advance, under market conditions at the time of the interview, it would have to raise the interest rate on a 30-year mortgage by about 1.5 percent.

According to our interviewees, advances remain important to FHLB member lenders, not only because tapping capital markets directly is problematic, but also because raising funds through the traditional source---deposits--is becoming increasingly difficult as well. Disintermediation continues quietly, though little remarked in public policy forums since the S&L crisis. Further, we encountered evidence that not just interest rate, but also mortgage structure, may still depend on the operation of the FHLBs in the financial system. One manager told us that in a section of his or her Bank's district, fixed-rate mortgages disappeared after the S&L industry contraction, returning only as commercial banks in the area joined the Federal Home Loan Bank and learned to use advances.

In addition to its implications for FHLB behavior--innovation in the secondary market and continuing emphasis on advances--this view of the Banks' mission as supporting housing finance has implications for their governance structure. Two structural questions are currently on active agendas. First, FHLBs are developing new plans for the structure of their capital stock, per the requirements of Gramm-Leach-Bliley, and it has become clear to the System's leadership that new capital structures will necessitate adjusting the way boards of directors are selected. Second, there is ongoing discussion about whether the separate FHLBs should be consolidated.

The logic of the housing finance mission has the potential to favor increasing influence on FHLB boards for large members at the expense of small members. Each Bank's board comprises two kinds of directors: "industry" directors, who are elected by the Banks' member financial institutions and always constitute a clear majority, and "public interest" directors, who are appointed by the Federal Housing Finance Board, the FHLB regulator. Currently, the procedures for electing industry directors preserve the influence of small member institutions: Members vote their stock only up to the average holding of all members, limiting the influence of larger institutions. A sense of mission, focused on systemically keeping the cost of housing down, provides no obvious rationale for preserving the influence of small institutions out of proportion to their asset size. In our interviews, we found this view of mission related to support for "true corporate democracy," in which each member votes the full extent of its stock in selecting directors, thereby wielding influence proportional to its size.

Emphasis on housing finance as the FHLB System's mission may favor increasing the size of Federal Home Loan Banks themselves, as well as their member institutions. If the System's mission is to facilitate housing finance, isn't the FHLB System essentially another housing government-sponsored enterprise, like Fannie Mae and Freddie Mac? Should it not, then, be structured as they are--as a unitary actor in the capital and secondary markets, with permanent capital and publicly traded stock-and with the same regulator? Moreover, the System's current 12-district design did not contemplate interstate banking and branching with the resulting super-regional commercial banks that are now joining FHLBs. Should we not consider consolidation to account for this development? Would it not be more cost effective to operate fewer FHLBs? In our interviews, support for FHLB consolidation was occasionally volunteered, but only by leaders who view the System's mission as housing finance.

Support Community Financial Institutions

A conviction that the central purpose of the FHLBs in today's political economy is to support the viability of community financial institutions is the second view of organizational mission that we encountered. Some leaders in the Federal Home Loan Bank System are convinced that smaller, locally owned and managed banks and S&Ls are crucial to economic health and clearly threatened as the banking industry consolidates. One manager elaborated rather eloquently on the perceived problem and newly emerged mission:
   A lot of it boils down to: what does this country ... really want? Does it
   want a local presence, with local citizens, providing opportunities in the
   local community--I think far greater than the bigger institutions can?
   People will not all do business over the Internet. People would like to sit
   across the table from a human being and discuss their personal financial
   situation. And ... in my opinion, there aren't enough big financial
   institutions with all of the talent that's needed to really give the same
   level of customer service that you have today with thousands of
   community-based organizations. I think the community organizations are
   truly committed to the home town America, which I don't think has gone out
   of vogue in this country. Without [the FHLBank]-if you think about this:
   here's a $50 million institution in a small town, able to access funding at
   rates comparable to the largest institutions in this country and
   effectively compete for consumer lending, mortgage lending, support of
   their local community. And I think that's been important to this country
   for years. And that's why I think you'll see a growing importance of the
   Federal Home Loan Bank System.

A board member, likewise, centered the support of community financial institutions as the Home Loan Banks' purpose today in maintaining that "what the issue is now is that ... we need a counter-point to the mega-mergers problem. We need to still be able to have a mechanism for smaller banks ... to be able to have liquidity ... as a substitute for a deposit base."

A manager who does not agree that support of community financial institutions for its own sake should be elevated to the status of FHLB System mission nevertheless recognized that this view has gained ground:
   As you go to more the public policy end of the spectrum, we are, in some
   people's eyes, supporting the existence of community banks as a very, very
   important thing, and we were never chartered, in my mind, to do that; but I
   think people have grown to believe that we exist partially to support the
   notion of community banks. Oftentimes people believe that community banks
   are important to communities.... I partially share that view as an evolving
   notion. Not that--Congress certainly hasn't chartered us that way, but I
   know in talking to people in Washington that there is a developing view
   that that's an important thing that we are doing.

Supporting local financial institutions is not a new function for the Federal Home Loan Banks. From the beginning, as the means for pursuing their housing finance mission, FHLBs worked through S&Ls, which were primarily community-based, locally owned (usually mutual) financial institutions before the industry's decline. Today, however, support of community financial institutions in itself is becoming the end for some managers and board members. In their view, preservation of local capital is the value that gives the Banks meaning and integrates their activity, and the support of local lenders' home mortgage activity has become a means through which the FHLB helps local owners of capital retain control.

How has this reversal of means and ends occurred? Congress uncoupled the FHLBs' housing finance mission from the support of small financial institutions in FIRREA in 1989. While taking pains to maintain the housing finance mission--indeed, articulating it explicitly for the first time in both the statute (cited in GAO 1993, 17) and the House report (cited in Adams, Peck, and Spencer 1992, 39)--Congress broke the link to S&Ls by permitting commercial banks, large and small, to join the FHLB System and become instruments of that mission.

The FHLBs subsequently recruited commercial banks aggressively. With ongoing disintermediation, FHLB advances became increasingly important to support small bankers' portfolio expansion, and, with innovation in their terms, advances also became better tools for liquidity management. Bankers continued to post housing collateral to secure advances, and thus their dealings with their FHLBs linked them to the housing finance mission. Yet through these housing finance-related transactions, small commercial bankers began to realize the potential of the Federal Home Loan Banks for their health in general.

Community financial institutions are threatened not only by disintermediation, but also by consolidation in the banking industry, which accelerated dramatically with passage of the Interstate Banking and Branching Act in 1994, the statute that broke down restrictions on bank acquisition and merger activity rooted in the National Bank Act of 1864 and the Bank Holding Company Act of 1956. Mergers and acquisitions among large institutions have resulted in very large banks and S&Ls, which are now on the prowl for smaller institutions to acquire: According to one of our respondents, any bank or S&L with assets under $1 billion is a target. FHLB leaders who value community financial institutions believe such institutions have a better chance to survive and thrive in partnership with a Federal Home Loan Bank than alone in today's financial marketplace.

Support for community-based capital as an end in itself developed largely as an unintended consequence of FIRREA's provisions, as they were implemented by institutions linked historically to local capital, in the context of banking industry concentration. But in 1999, Congress explicitly recognized this purpose and legitimized it: Provisions of the Gramm-Leach-Bliley Act permit community financial institutions---defined as banks and S&Ls with assets under $500,000--to join a Federal Home Loan Bank, regardless of whether they engage in housing finance. FHLB s may make long-term advances to community financial institutions for business and agricultural loans and may accept such loans as collateral. According to some of our interviewees, these provisions were added to the Gramm-Leach-Bliley Act at the urging of spokespersons for smaller banks, especially those in FHLB districts such as Topeka and Des Moines, where a community bank might have little involvement in residential finance. And it was only with this lifeline tossed to small bankers that the House of Representatives finally passed a law to take down the Glass-Steagall wall, a statutory change that is fully expected to increase concentration in the financial services industry.

Does it matter--for FHLB behavior or structure-whether support for community financial institutions, rather than support for housing finance, is centered as the mission? We believe so. With regard to behavior, each FHLB's board of directors establishes its own policies, within statutory and regulatory limits, on such questions as what institutions it will admit to membership, the variety and structure of its advance products, and what collateral it will accept. These decisions depend, in part, on how each Bank sees its mission.

While avoiding the technical details, let us observe, for example, that an FHLB can design its advance products and structure its balance sheet to make it easier for small institutions to approach the Bank and receive an advance on short notice. Indeed, we encountered this objective as one explanation for FHLB arbitrage activity, which is widely criticized by those who view the System as anachronistic. The criticism is that FHLBs borrow more money than they need for advances to members. Yet according to some of our interviewees, maintaining excess liquidity is a technique that FHLBs can use to place themselves in a position to make the small advances that small members may want on one or two days notice. Alternatively, rather than invest the proceeds of their debt issuances in relatively liquid assets so that money is on hand to lend in small amounts to small members, Banks can immediately advance the proceeds of an issue in large pieces to their big bank members, who are better able to use significant amounts of money quickly.

Understanding a second implication for behavior that came up several times in our interviews requires underscoring that the new provisions for community financial institutions are permissive. FHLBs have a strong, distinctive competence in housing finance, and they will not rush into unfamiliar activity that is optional. If they see housing finance as their mission, they will be less likely to invest in developing the expertise necessary to evaluate the commercial and agricultural loans that community financial institutions may use as collateral. If, on the other hand, maintaining viable community lenders is the value institutionalized in a particular Bank, it will proceed as far with the new permissive authorities as necessary to achieve that purpose.

Implications of a focus on supporting community-based capital for the open structural questions identified earlier--how to select the board of directors and System consolidation-were not explicitly voiced in our interviews. Logic, however, points in the opposite direction from the structuring implications of the housing finance mission. There would be a concern for maintaining the weight of small institutions in voting for industry directors. And while emphasis on the housing mission is associated with a move toward corporate democracy--in which each member votes all of its stock, thereby achieving weight proportional to its size--the logic of an emphasis on supporting community financial institutions strains toward a cooperative structure, in which each member has one vote regardless of size. Likewise, consolidation of the Federal Home Loan Banks themselves, viewed approvingly by leaders who see the System's mission as housing finance, does not seem to us a structural move that leadership focused on maintaining local capital would advocate.

Housing and Community Development

The third view of the Federal Home Loan Banks' purpose today that emerged in our interviews is what we call the "housing and community development mission." While this focus is clearly distinguishable from the first two views, it is difficult to define succinctly. It is an emphasis on activities intended to improve the quality of people's lives in communities where there are social and economic challenges. Attention is directed to project-specific, subsidized, low-cost housing development; facilities for service provision, including public infrastructure; business development that promises jobs for economically disadvantaged people; and initiatives that contribute to catalyzing, developing, and maintaining the organizational infrastructure necessary for community development. As one executive manager explained it, "[Our Bank's] purpose is really to positively impact and affect the lives of people living in our district ... in terms of providing them with a home to live in, a job and a safe and growing community to live in. That's the end game of what we're trying to achieve ultimately when you really come down to it. Now, we do that ... through intermediaries and partners and various institutions including commercial banks and nonprofit organizations and whatever."

Unlike the first two views of the FHLBs' purpose today, one must stretch to find roots of the housing and community development mission in the System's original charge. Yet it is not unreasonable to see continuity with the historic S&L approach: Developing housing for working people with local capital and generating the employment opportunities that housing development is broadly acknowledged to create may be viewed as "community development." Not until FIRREA in 1989, however, did Congress give the FHLBs specific mandates to address what have come to spoken of since the 1960s as "housing and community development" needs. At that time, each Bank was directed to institute an Affordable Housing Program (AHP) and a Community Investment Program (CIP).

To comply with the AHP requirement, each Bank must use 10 percent of its annual earnings to subsidize projects that address the housing needs of low- and moderate-income people. Projects are selected in a competitive process, much like a grant-allocation process for publicly appropriated funds. The money moves through an FHLB member institution to a developer, usually a nonprofit organization. The FHLB has ongoing responsibility for monitoring.

Each Bank must also implement a Community Investment Program, though there is no statutorily specified amount that must be spent. Under the CIP, FHLBs make advances to members at cost, which members then use to make loans for eligible projects. Eligibility is very broad: The project must serve individuals with incomes under 115 percent of the area median or be located in a neighborhood whose median income is below specified limits. Most CIP money has gone to housing, owner and rental, but the Banks increasingly appear to be using their CIP programs to support employment-generating community economic development projects. Facilities for human service provision (such as health centers) and public infrastructure projects (such as fire stations) have also benefited from subsidized CIP financing.

Projects benefiting from AHP and CIP financing look very much like projects that the Department of Housing and Urban Development funded more generously in the past. In testimony offered at a House oversight hearing on the FHLB System, former HUD Assistant Secretary for Housing Nicolas Retsinas linked responsibilities mandated for the FHLBs directly to falling appropriations for HUD. "In an era of dwindling resources," he argued, "and having been one of the victims of those dwindling resources, certainly in my Department, it is absolutely essential that this [AHP] program that works be maintained (U.S. House 1995, 12)."

While all FHLBs appear to be complying with the congressional housing and community development mandates, leaders accept them with varying degrees of enthusiasm. We may think of a continuum: At one extreme, some leaders eye these mandates as threats to the System's distinctive competence in housing finance. Moving toward a more positive view, other managers and board members see them as a legitimate tax on the System. Some leaders move further, interpreting community development as a reasonable, even compelling, extension of the traditional focus on housing. At the other extreme, for some FHLB leaders, housing and community development has moved to the center of the sense of purpose to become the mission; here, housing finance and support for member institutions become means.

At the wary end of the continuum, one board member expressed concern over a community economic development role for the FHLB:
   I have a bigger concern [than with AHP] with the notion of the Banks being
   financing sources for some of the economic development part of it. Mainly
   because there really isn't any expertise residing in the Banks to do that.
   And I don't know if it's really appropriate or efficient time-wise to try
   to get that kind of expertise into the Banks because you are really talking
   about ... public policy issues.... I think that's an area that, if it ...
   got out of control, could result in some bad loans, some financial
   losses.... What kind of businesses should go into some part of the city
   that needs some help--you know, the nourishing you have to do for those
   kinds of businesses to bring people along--I don't think that the Banks can
   really do a good job at that.... That's a lot more social engineering. I'm
   not sure if that capability really should be with the Banks.

Some managers--keenly aware that S&L lending in areas in which they lacked expertise was a factor in that industry's crisis--shared this board member's concern that housing and community development mandates may take FHLBs into areas in which they lack expertise.

A second way of viewing FIRREA's housing and community development mandates is as a tax. One manager maintained that "AHP is a tax on the industry. No question about it.... When it was proposed in 1989, we opposed it--not very aggressively--because Henry Gonzalez basically sprung it into the bill at the very last minute. He had a vision of having the System have this assessment to provide moneys to low income families." A board member also argued that "[AHP] is a form of taxation; it's a transfer payment, as the politicians noted. They couldn't get it on balance sheet, so they took it off balance sheet. Basically what they did, they wanted affordable housing, and they were running deficits back in the '70s and '80s, and that was the way to do it." Those who view community development mandates as a tax on the System generally believe that it is a reasonable tax. The manager just quoted went on to accept such taxation as an appropriate quid pro quo for the advantages that FHLBs possess as a government-sponsored enterprise; and the board member quoted observed that, given their expertise, the FHLBs are a very efficient delivery mechanism for AHP programming. The caveat that generally accompanied the belief that community development is a reasonable tax was that the amounts of money involved must stay within limits so as not to threaten the Banks' financial viability or the AAA rating on the System's debt.

Moving along the continuum, other participants in our study seemed genuinely receptive to the new mandates, interpreting them as extensions of the Banks' traditional mission. One board member, who had emphasized the continuity of support for rental housing with the original housing finance mission, went on to seamlessly link community economic development:
   We subscribe to the entrepreneurial spirit in America.... Well how does
   that entrepreneurial spirit come about...? Through small business
   people.... But we have a mechanism that historically has supported home
   ownership.... My point is this: ... vibrant, viable small business spirit
   ... is the cornerstone of housing. Because if the business is successful,
   they employ people.... You have to have a business component to this, and
   that's why I think Gramm-Leach-Bliley--that's the direction that they have
   taken. They've said: we want to use the resources of the home loan bank
   system to support business and rural areas and help them prosper.... And if
   there are employment possibilities in these areas, people will choose to
   live in these areas.

One board member believed the Banks were accepting Congress's community development mandates, but wanted them to go further to make community development their mission. "The challenge throughout the system," this director argued, "is to move community development from a program to a central focus, how the Banks work."

We found that some among the FHLB leadership, including the manager quoted at the beginning of this section, have already accepted this board member's challenge to center community development as the mission for their Bank. What are the implications of this third view of institutional purpose for FHLB behavior and governance structure?

One manager who viewed the mission as housing and community development captured significant behavioral implications in explaining that his or her Bank devotes more than the statutorily required amount to its Affordable Housing Program, and has voluntarily expended considerable resources--money, expertise, and reputation--to catalyze new organizational infrastructure necessary to carry out community development in the Bank's district. An FHLB that sees its mission this way is also likely to be actively engaged with nonprofit community development organizations, promoting partnerships and urging them to approach member banks with project proposals.

Where can this third emphasis lead with regard to the current structural issue of how to select industry directors? With a housing and community development mission, FHLB member institutions are not the ultimate client for their FHLBs, but rather partners with their Banks in serving the mission. Small members and large members are valuable, though large ones have some advantages. Beyond their control of more capital, large members have the necessary expertise on their staffs to assemble complex projects that create jobs or low-cost homes and enough slack to comply with project-monitoring requirements; small commercial banks and S&Ls often lack such personnel resources. Moreover, if large institutions' executives, as opposed to those of small banks, were elected to FHLB boards, they would bring valuable sophistication to the table, enabling the Bank to perform better in today's rapidly changing and increasingly complex financial environment. A way to bring this expertise onto the FHLB board, suggested by one manager who sees housing and community development as the Bank's mission, would be to select industry directors based on classes rather than by states (as is the current practice). Member institutions could be grouped--as small, medium, and large, for example--and a certain number of the elected directorships allocated to each class. This approach would give more influence to large members than current arrangements, but not so much as would the corporate democracy favored by some who center the housing finance mission.

The structural issue of System consolidation did not arise in interviews with leaders who view their Banks' mission as housing and community development. Logic would indicate, however, that like those who emphasize support of community financial institutions, leaders focused on housing and community development in their districts would not share the preference for System consolidation expressed by some who center the housing finance mission.

Summing Up

Among the FHLB System executive managers and board members we interviewed, we found three clearly distinguishable views of their institutions' missions: Support housing finance, support the viability of community financial institutions, and facilitate housing and community development. One of these three views is in a dominant position at each Bank we visited, though it is not the case that every person interviewed at each Bank expressed the same view of its central purpose. We would expect to find that in each of the other nine FHLBs as well, one of these three missions has moved, or is moving, to a position of central significance.

Does the formulation of the mission matter? To be sure, all three purposes are served in each Federal Home Loan Bank we visited. Yet distinctive views of the central mission held by leadership were associated with divergent opinions regarding open questions of governance structure and have led to emphasis on different activities--activities that may be expected to have real outcomes in the political economy in the practices and structure of mortgage markets, the extent of banking industry consolidation, and the social and economic health of disadvantaged communities.
Table 1 Interviewees' View of Mission

                        Mission Emphasis
Interviewee   Housing       Support        Housing and
code          finance      community        community
                             banks         development

     1           *
     2           *             **
     3           *             **
     4                         *
     5           *             **
     6           *
     7                         *
     8           *
     9           *
    10                         *
    11           *
    12                                          *
    13           *                             **
    14                                          *
    15          **                              *
    16           *
    17           *
    18                         *               **
    19                         *               **

* Central emphasis

** Secondary emphasis


The authors would like to thank the FHLB managers and board members who participated in this study. Each Bank that we approached was responsive, and each person we interviewed was generous with his or her time.


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Susan Hoffmann is an assistant professor of political science at Western Michigan University. Rather awed, in a former career as an urban planner, by. the influence of financial institutions for good and ill in the political economy of the city, she currently studies such institutions. Her book Politics and Banking: Ideas, Public Policy and the Creation of Financial Institutions (Johns Hopkins University Press, 2001) identifies the public philosophies embedded in the structures and processes of U.S. banking. Email: susan.hoffmann@

Mark Cassell is an assistant professor of political science at Kent State University He is the author of How Governments Privatize: The Politics of Divestment in the United States and Germany (Georgetown University Press, 2002) and the 1999 recipient of the American Political Science Association's Leonard D. White Award. His research centers on understanding the economic impacts of market-based reforms to the public sector across advanced industrialized countries. Email:
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Author:Hoffmann, Susan; Cassell, Mark
Publication:Public Administration Review
Geographic Code:1USA
Date:Jul 1, 2002
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