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f opening statement, but I have also brought prepared ith more thorough discussion of several key topics afFederal Home Loan Banks I have been asked to ad

ENNETT. Without objection, your testimony shall appear

10. Thank you, Mr. Chairman.

portant issues are facing the Nation's Government Enterprises, including, certainly, the Federal Home - In the interest of time, I highlight the aggressive ve taken at the Federal Housing Finance Board, the ulator, first, to strengthen the agency's oversight capasecond, to improve financial disclosures by the Federal Banks through voluntary registration with the Securihange Commission.

iatives will benefit not just the Federal Home Loan heir more than 8,000 member institutions, but also the to purchase their debt, and ultimately the homebuying e taxpayers.

· President Bush named me Chairman in December mined that the Finance Board lacked many of the necarces to effectively oversee the Federal Home Loan afety and soundness and achievement of their housing ion. Just one example demonstrates this point. At the nance Board had only eight bank examiners on staff to supervise 12 financial institutions with, at the time, 700 billion in assets, more than $30 billion in capital, 550 billion in outstanding debt. Yet, at the same time, had eight people in its Office of Public Affairs. The relion of resources simply did not meet the agency's statu

es.

tely addressed these problems beginning with the renew leadership for the agency's Office of Supervision. onal search, the Finance Board hired a new Director Deputy Director of Supervision, who, between them, rs of Federal bank regulatory experience.

man, I appreciate your comments about the improveave made in our supervisory and examination function. that while often much is made of the times that my ard colleagues and I do not agree, on this issue, as on - my colleagues deserve equal credit for our initiatives . My fellow Finance Board members and I acting toased the resources available for supervision, expanding tion staff to 17 full-time examiners. Our goal is to have by the end of this calendar year and 30 by the end of get year.

ow conducting more thorough examinations, focusing on isk assessment processes, internal control systems, and corporate governance. And we are communicating the hose examinations more effectively to the Banks. Now ations recognize that banking, even AAA-rated, GSE a business of managing risks, and the responsibility of visors is to ensure that the institutions they regulate

understand those risks and that they monitor and control them through prudent practices.

On the subject of enhanced financial disclosures, last summer I formed a working group with the Finance Board and the Federal Home Loan Banks to review the issues associated with voluntary registration of the Banks with the Securities and Exchange Commission.

Earlier this year, I concluded that voluntary registration is indeed the best approach to enhancing public disclosure of the governance and finances of these important institutions. I reached this conclusion based on two premises.

First, the Banks' long-term access to global capital markets will be enhanced by providing investors in consolidated obligations with maximum reliable transparency into the finances and governance of each of the 12 Banks. Markets function best, especially in times of stress, when needed information is readily available and reliable. Second, as public trusts, these 12 GSE's have a duty to contribute both to the smooth functioning of capital and mortgage finance markets and to public confidence that the benefits of GSE status are used wisely.

The Federal Home Loan Banks and the staff of the SEC have held numerous meetings to address the process for voluntary registration. In fact, another meeting was held only yesterday. It is now time, I believe, to bring this process to a positive conclusion.

I note that this summer the boards of the Federal Home Loan Bank of San Francisco and the Federal Home Loan Bank of Atlanta, as Secretary Abernathy mentioned, resolved that if SEC registration was the determined course of action, then the Federal Housing Finance Board should adopt a regulation requiring it.

In response to those requests, tomorrow at our regularly scheduled meeting the Federal Housing Finance Board will consider a proposed regulation requiring the Banks to register a class of their securities with the SEC.

The proposed rule provides for a lengthy, 120-day comment period, during which, I hope, the Banks will each meet with the SEC to work out the necessary details to effectuate registration and begin meeting the periodic financial reporting requirements of the 1934 Act.

Mr. Chairman, distinguished Members of the Subcommittee, I focused on these two areas of safety and soundness oversight and improved financial disclosures because of their importance to the strength and resiliency of the Federal Home Loan Banks. Certainly we are dealing with many other issues at the Finance Board, which are addressed in my written testimony, and I welcome the opportunity to discuss any and all of them with you.

Thank you again for your time this afternoon. I look forward to addressing your questions.

Senator BENNETT. Thank you very much.

The Federal Home Loan Bank System has traditionally focused on providing advances to their members. In the last couple of years, Home Loan Banks have initiated a program of directly acquiring loans from their members. At what level should the Home Loan Banks participate in the secondary market in this way, in

one of you want to go first on that question?

ATHY. I am happy to proceed, Mr. Chairman. Let me - securitization issue first, if I may.

ENNETT. Certainly.

ATHY. I think it is important to understand the nature
al Home Loan Bank System as a cooperative system.
t than a lot of other systems. They were put together
tive system. The Banks are owned by their members.
verned by their members. The Banks have this joint
liability responsibility to shore up and assist each of
mbers.

at is important to keep in mind when you are looking
on of securitization. These institutions were created to
embership, and in our view, anything that would sug-
ey should be securitizing something for sale outside of
ship is something that is outside of the concept of the
e Loan Bank System as it is presently constituted.
er hand, I think with regard to some of the innovative
at have been established that are currently in oper-
are all kept within the System. They provide an impor-
of liquidity to the member banks, and by that I mean
banks of the Federal Home Loan Bank System, the
e members of each of the Home Loan Banks. And as
an see, they are providing an important service both
to the individual banks and the people who are most
e people who take out the mortgages and buy and sell
based upon that financing.

40. Mr. Chairman, do you want me to respond?
ENNETT. Yes.

MO. Secretary Abernathy has outlined the concerns in ontext very well. I think it is appropriate to mention ow Federal Housing Finance Board regulations do not ral Home Loan Banks to issue or guarantee mortgagerities. There has been no request from any Bank or nk's Board of Directors to seek such approval.

the question does come before us, obviously we will at the whole question of legal authority and the safety ess basis for making a judgment. I do not know if there more to say about that at this point, but that goes to your question.

ENNETT. I want to go back to the first part of my quesat level should the Banks participate in the secondary his way? Because, again, traditionally, as you pointed ry Abernathy, the Banks exist to serve their members. ave gone in the direction of acquiring loans from the opposed to making advances to the members. And is ncial level for this activity that would raise any concern -t, or do you assume that that would be fine and this go?

NATHY. Well, I think perhaps the most flexible definifar they should go would be how far their capital and _n appropriately finance the risk that would be involved

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with purchasing the mortgages from their entities. But so far, the requirements for purchasing the mortgages from their member banks has been that the mortgages must be just as good as if they were being held for collateral, in which case it is difficult to say that they are taking on much more of a risk than they would by holding these merely as collateral.

I think that is an important requirement, that the quality of the loans they purchase be of a high level so that they can manage that risk appropriately.

Senator BENNETT. Looking ahead to the debate as to whether or not they should be allowed to compete directly with Fannie Mae and Freddie Mac, is that the same level of safety that is required for Fannie and Freddie?

Mr. KORSMO. In fact, sir, I would argue it is higher. The riskbased capital standards under which the Federal Home Loan Banks act are actually higher. I think Secretary Abernathy is right in portraying this particular aspect of the Banks' function, which is indeed providing more direct liquidity for mortgage lending. Advances, of course, are fungible, and to some extent, while they have to be collateralized with approved collateral that meets the standards of our regulations, the reality is that while advances remain by far the most significant aspect of Federal Home Loan Bank portfolios, the growth of acquired member asset programs truly reflect a member need.

Senator BENNETT. Okay. Quickly, because my time has expired, but I want to follow up before we have lost the thought. Assuming that you are correct that the standard for a Home Loan Bank is higher than the standard for the other GSE's, does that mean if you get into direct competition that in the Home Loan Bank System they would like to lower the standard to that that exists with Fannie and Freddie?

Mr. ABERNATHY. I think there is direct competition. I think everybody recognized that when they made their most recent filing with the SEC. They listed who their competitors were, and they indicated they are the Federal Home Loan Banks. But they are a competition at a certain level. It is a competition for those higher quality

Senator BENNETT. Yes. At a certain level do we see

Mr. ABERNATHY. In a different form, I should mention.

Senator BENNETT. Would we see a lowering of the standard that you have just described? Do you think that is going to happen?

Mr. KORSMO. I would certainly hope not. That would not be the view of this regulator, anyway, to permit it, and right now the statute would not.

Mr. ABERNATHY. I think there is a certain value in making sure that the mortgages purchased are very similar to the collateral requirements.

Senator BENNETT. Okay. Thank you.

Senator Johnson has left, so, Senator Corzine, you came in next on the minority side. We will turn to you.

STATEMENT OF SENATOR JON S. CORZINE

Senator CORZINE. Thank you, Mr. Chairman, for holding this important and timely hearing.

have to ask the following question: What is the basis he standards of the Home Loan Bank are superior to other GSE's? Is it a risk-based model? Does it take into prepayment exposures and convects the exposures that ult to manage in all financial institutions, in my perd, second, what type of off-balance-sheet exposures, if of credit or other forms, exist in the Home Loan Bank I how can we be certain that those are factored into the odels?

10. Certainly, sir, I am not exactly sure where to start stion, but certainly we could assure you that the overe provide and the constraints that the regulatory envit we have created or the Finance Board has created y strict. These are very conservative institutions. They y a very conservative model and driven by, as I meny conservative regulatory structure.

ORZINE. Was the Treasury prepared to make thatNATHY. I do not know that I would have phrased it the 3 Chairman Korsmo with regard to the Federal Home having a higher quality of portfolio. Fannie and e created particularly to establish secondary markets, andate is broader. They are required to go into more n the Federal Home Loan Banks are. Because the Fedoan Banks are required to have a very high level of the advances they give, and their program was deatch that standard with regard to the loans they purare only targeting a certain segment of the home mort

d Freddie were required to address a much broader ct, with a particular emphasis on middle to lower ino because of that you would expect that they would be -hat might be considered riskier mortgages, but they edging and other types of strategies to manage that as institutions, I would not like to have on the record that Fannie and Freddie are riskier institutions than Home Loan Banks. They are required to have a broadI think is the point I would make.

MO. I would certainly agree with that, but I would mene leverage requirements of our risk-based capital reguigher in the sense that we have a 4-percent leverage versus the 2.5 that applies, I believe, to Fannie and really am not terribly familiar with the Fannie and el, frankly.

ORZINE. They have a minimum of 2.5, and then they based standard.

10. Right, exactly.

ORZINE. As an add-on.

MO. You also asked about off-balance-sheet items. Our require that derivatives be used only for hedging. FedLoan Banks cannot use them for investment purposes. percent of the derivative use makes a perfect match es in consolidated obligations. So, again, I think the r is that the regulatory environment that we have crestrict, and I think there is no question about that these