It’s not a wonderful bureaucracy

Bankers’ resistance to meaningful reform of their Federal Home Loan Banks invites the invocation of filmmaker Frank Capra.

It’s Christmas 2022. Old Man Potter needs cash to run his bank. He has two choices. He can increase the interest he pays to his depositors from less than 1 percent currently to 3 percent and attract funds. Or he can borrow the funds from his uncle, Sam, on Wall Street at 2 percent. Sam is happy to oblige because his cost of funds is less than 2 percent, thanks to a robust taxpayer subsidy of his debt. 

Potter is a curmudgeon, but he is not a fool. As he has done for decades, he elects to borrow the money from Sam. The citizens of Bedford Falls become poorer. Potter gets richer. So does Sam. 

Word gets around about this arrangement and Clark, an eager newspaper reporter, manages to corner Potter for a brief interview. He asks Potter why he went with his uncle in New York rather than with his own neighbors for the funds. Potter responds defensively saying it was not because of “greed” but because he has to manage his bank’s “liquidity.” 

“Besides,” Potter adds, “the money I borrow from Sam goes right back into the community in the form of mortgage loans on family homes.” 

Clark shoots back, “Wait, your bank stopped making loans on 1-4 family homes many years ago.” A visibly irritated Potter responds, “Maybe so, but Sam makes below-market-rate loans for affordable housing.” 

Clark does some research and discovers that Sam makes no affordable housing loans in Bedford Falls or in any of its surrounding towns because Potter, like most other bankers, does not participate in Sam’s affordable lending programs. Clark also finds out that Sam’s support for affordable housing is minuscule. He calls Potter for a comment. Potter never returns his phone call.  

And so, it’s business as usual for Potter and for the good people of Bedford Falls.

It’s a familiar story. Potter stands for any banker you may know. His uncle Sam stands for our Uncle Sam and, in this telling of the story, for Uncle Sam’s offspring, the Federal Home Loan Banks. 

No doubt, you have wondered how today’s Potters get away with paying less than 1 percent on savings accounts while interest rates on loans skyrocket. Just last week, the Wall Street Journal reported that had the five largest banks paid competitive rates on their savings and money market accounts they would have put $42 billion in customers’ pockets in the third quarter alone! But why do that when you have Uncle Sam (the FHLBs) to borrow from cheaper?

Bankers are loath to give up this cheap source of taxpayer funding and the rich stream of dividends the FHLBs payout. They and their lobbyists have perpetuated this arrangement for decades pitting bank customers against their own government. To do so, they create three fictions.

First, is the fiction that FHLBs’ loans to their members promote housing. They do not. This was confirmed by the Government Accountability Office when it found “limited empirical information” that the FHLBs are fulfilling their housing or community mission. Second, is the fiction that bank liquidity is a public good. It is not. Liquidity is code for “profit.” Profit is a private benefit. Third, is the fiction that the FHLBs seriously address affordable housing. They do not. Less than 5 percent of the $6.3 billion annual taxpayer subsidy of the FHLBs finds its way to affordable housing.

Removal of these fictions exposes the raw inequity here.

Now, after nearly 100 years and a succession of complacent regulators, change is afoot. The FHLBs’ regulator, the Federal Housing Finance Agency, has undertaken a “comprehensive review” of the FHLBs. No ordinary review, this project cuts to the very mission of the FHLBs.

This is a stunning turn of events. Never has a regulator in any sector of the U.S.  economy called for a top-to-bottom reevaluation of the very industry it regulates.

Bankers warn the regulator and the public, “Don’t mess with success.” 

Despite the warning, Brookings Institution and Boston University will hold a symposium in Washington this February to chart a better course for the FHLBs and for the nation.

Stay tuned. 

Cornelius Hurley teaches financial services law at Boston University School of Law. He served as an independent director of the Federal Home Loan Bank of Boston from 2007-2021.