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1 1 (January 4, 2021)

handle is hein.crs/goveadl0001 and id is 1 raw text is: at m¼~h [41 ,~ ~ u 0 January 4, 2021 Introduction to Financial Services: The Housing Finance System Background Prior to the Great Depression, U.S.residential mortgage markets operated at local levels and were highly sensitive to local conditions. Lenders funded mortgages by relying on localdeposits, which were concentrated in heavily populated areas, such as Chicago and New York, rather than less populated areas in needofloans. Interstate banking restrictions made it difficult to move funds from geographical areas with large concentrations of deposits to areas with comparatively s maller amounts. The immobility of funds contributed to differences in mortgage rates and underwriting (loan qualifying) criteria across the nation. During economic downturns, frequent deposit withdrawals led to cash flow (liquidity) shortages that stymied lending. At the time, savings and loan associations (S&Ls)- nonprofit, member-owned cooperative financial institutions that relied on members' savings deposits to fund mortgages-were theprimary sources ofhome financing during liquidity shortages. S&Ls were unable to borrow temporary funds fromthe Federal Reserve Systembecause they were not eligible members. For this reason, the lending terms ofresidential mortgages were structured to reduce liquidity risks borne by S&Ls. For example, borrowers were required to make large down payments (e.g., 50%- 60%) to mitigate default risks and to reduce mortgage sizes, thereby reducing the amount of funds small lenders needed to collect to make loans. Mortgages typically had variable interest rates and 10-to 12-yearmaturities,thus mitigating cash flow disruptions due to frequent changes in local mortgage rates. Government Interventions to Facilitate Mortgage Market Liquidity Over the years, Congress has addressed market liquidity issues, particularly for single-family mortgages (i.e., loans securedby residential dwellings having 1-4 separate units), by establishing federal agencies and government-sponsored enterprises (GSEs). Some of the key ones are listed below. * Federal Home Loan Bank (FHLB) System.Created in 1932 (P.L. 72-304), the FHLB Systemis a GSE that currently consists of 11 regional FHLBs. Each FHLB provides liquidity to member lending institutions in its district in the form of advances, which are temporary cash loans that mustbe collateralized (secured) by members' eligible assets that promote housing finance and community development (e.g., mortg ages, mortgage-related assets, and certain smallbusiness loans). The FHLBs initially served as lenders-of-last- resort for S&Ls; Congress expanded theirmembership in 1989 to serve in that role for banks and credit unions. The FederalHousing FinanceAgency(FHFA) is the primary regulator of the FHLB Sys tem. * Federal Housing Administration (FHA). The National Housing Act of 1934 (P.L. 73-479) created FHA, now a Department of Housing and Urban Development (HUD) agency. FHA ins ures private lenders against the default risks on mortgages meeting certain criteria. FHA introduced fixed-rate mortgages with maturities of 20 years or more, evolving into the 30-year fixed rate mortgages commonly used today. * Department of Veterans Affairs (VA). Congress created the VA home loan programin 1944 (P.L. 78- 346). Similarly to FHA, the VA loan guaranty program insures privatelenders againstthe default risks on mortgages made to veterans who meet certain criteria. Unlike FHA, VA does not insure 100% of a loan's default risk; a percentage of the default riskis guaranteedbased on the loan's principalbalance. * Fannie Mae (Federal National Mortgage Association). Title III of the National Housing Act of 1934 initially established Fannie Mae as a federal agency to purchase federally insured mortgages from lenders. By holdingresidentialmortgagesonits balance sheet, Fannie Mae extended the risk-bearing capacity of the mortgage market when small lenders lacked capacity and access to funds. In 1968, Congress split Fannie Mae into two distinctorganizations (P.L.90-448). The private-sector organizationretained theFannie Mae name and operated like an interstate lender, purchasing mortgages and funding themby is suing debtsecurities. Ginnie Mae (Gowrnment National Mortgage Association). Congress created the federal agency Ginnie Mae in 1968 after splitting Fannie Mae. Ginnie Mae sells to private investors the interest rate risks linked to mortgages thatare federally insured against default risk by FHA or VA. * Freddie Mac (Federal Home Loan Mortgage Corporation). Congress created Freddie Mac in 1970 (P.L. 91-351) as aGSE and subsidiary of the FHLB System. Freddie Mac was authorized to buy conventional mortg ages, which are mortgages without insurance provided by a federal government agency. Freddie Mac largely purchased mortg ages fromS&Ls and funded themby issuing debt securities. Following passage of P.L. 101-73 in 1989, the business models and missions ofFannie Mae and Freddie Mac (F&F) were harmonized, allowing themto purchase mortgages and sellmortgage-backed securities (MBS) linked to the underlying mortgages. (MBS investors are typically large institutional investors, such as pension funds, domestic banks, foreign banks, and hedge funds.)

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