concluded that one of them is bound to fall on his face. And, of course, this leads to a number of concerns about the problem of moral hazard, with respect to the Home Loan Bank System.

In a system where the Banks are doing highly collateralized advances, the issue raised by joint and several liability is muted. That is at a lower order of concern, I think, because of the highly collateralized advances that you are operating with.

But now the System is expanding into new areas. Proposals to restructure the System to allow multidistrict membership have emerged. I must say, in both instances, I, it is my own position, that the board cannot do this without coming back to Congress for a statutory change.

Senator BENNETT. If you had been here, Secretary Abernathy would have taken the same position.

Senator SARBANES. Yes. If banks are put into a position of competing with each other for members, for example, as they would be under multidistrict membership, or for business with each other's members, as in the Shared Funding Program, what danger do you see in the possibility that Banks would engage in a race to the bottom, relaxing collateral, capital standards, and others in order to attract or retain members?

The GAO said, "Under the joint and several structure, the potential for moral hazard exists; that is, Federal Home Loan Banks may have incentives to take financial risk, knowing that their losses would be covered by other Federal Home Loan Banks or ultimately by the Federal Government."

What is your view of that?

Mr. RICE. That is a big question. I will take them in pieces.

Number one, I really do believe that the way in which we are managing mortgage purchases, and the way in which the Finance Board reviews it, and through the examination of safety and soundness, I do not see that risk growing. And I think that the oversight that we have from our Board, and the way in which we direct profitability and the like, are well served in this process.

Senator SARBANES. When you say "by our board," you mean the Seattle Board?

Mr. RICE. Our board of directors of the Seattle Bank. But at the end of the day, all Banks are examined. All Banks' capital plans have to be approved by the Finance Board. There is oversight over all of the Banks, and I think that that oversight is the protection that you get in managing these programs.

The second issue that you have on multidistrict, I believe that the degree of consolidation that has gone on in the System necessitates some direction about modernization and accepting what is there. Whether that is the Congress' job or not, I think that if Congress chooses to move in that area, then I think it can resolve that issue, but we are not moving for multidistrict. The chairman of the Finance board is not entertaining any notion, and I do not think there will be a proposal before the Finance board to do so.

I forgot the last one, but I will defer to my colleagues.

Senator SARBANES. Mr. Middleton, do you want to address any of that?

Mr. MIDDLETON. May I just address components of it, Senator? [Laughter.]

to the multidistrict, the Atlanta Bank raises a conink it might introduce unhealthy competition, but of the reality of what is going on in the financial Os it should be looked at by somebody in authority. de that you choose is fine.

of member assets, I can assure you that at the Atjust completed an exhaustive strategic plan that we egulation. And one of the directives that the board ement and ensured that we are properly allocating resources that are sufficient to assure competent e prior to any significant growth or expansion of a product line. We would do in that measure normal because we all have a day job at our banks.

you that we devoted a tremendous amount of recussion to the endeavor. We are not going to elimijob is to manage risk. We want to manage risk in nt manner possible. So that is at the forefront of our he Atlanta Bank.

BANES. Let me throw another factor into the mix as ng. As I understand it, the bulk of Federal Home ances go to a small number of very large members. s over 8,000 members, but the largest 1 percent of count for 50 percent of the advances. In some Fedn Banks, the concentration is even higher. In San 80 percent of the advances go to only five institu

raises the question, you know, what is the purpose and why should the Home Loan Banks be devoting w-cost funding to such large institutions which have o the capital markets themselves? Should we gradm the Federal Home Loan Bank System at some

t is the purpose of this? I mean, from the point of itution, it is a good deal, but what is the public purwhy are we, in effect, running perhaps a significant rder to do this?

do we not go to you here.

ell, I am asking the same question, Senator. I do not believe Congress's most recent pronouncement on the amm-Leach-Bliley, clearly put an emphasis on comsmaller institutions. I do not begrudge the ability of tion to use the System. They do, they always have, d continue in the traditional line of business of ad

on these new controversial business lines and new ice that is being more predominantly used for large nators, it does not, you know, they have a lot of sotheir own to manage interest rate risk associated portfolios. Why do they need the Federal Home stem to be stepping up to the plate and providing do not understand it either.

it is telling that even those large originators are t a little worried, I think, because the regulatory was set up assumed a system that would continue

its traditional line of business of fully collateralized advances, which is a very low-risk business. The lines that they are getting into now are not low-risk businesses. And if this is the direction the System is going to take, then they need dramatically enhanced regulatory scrutiny, which is I think why world savings are calling for concurrent action on the Federal Home Loan Bank System as it appears Congress moves toward the creation of a new enhanced regulator at Treasury for Fannie and Freddie.

Do not forget, a lot of these large and small institutions hold a lot of system capital stock. And if the System gets in trouble, that stock is going to be in trouble, too, which could have systemic implications for the banking system.

Senator SARBANES. I might note, in that regard, we just received a letter from Washington Mutual:

The housing GSE's should have a strong regulatory oversight structure that ensures both the safe and sound operation of the GSE's and the fulfillment of their housing missions. The best way to assure this goal would be for Fannie Mae, Freddie Mac, and the Federal Home Loan Banks to be regulated by an independent agency within the U.S. Treasury Department.

The Agency should have a single director and should be funded through user fees, like the other bank regulatory agencies under Treasury, with appropriate recognition of the unique nature of the Federal Home Loan Banks as cooperatives, compared to the other housing GSE's, which are publicly traded companies.

Mr. Chairman, I presume this letter is in the record, but, if not, I would like to put it in the record.

Senator BENNETT. It shall appear in the record.

[The letter follows:]

Mr. SMITH. Back to, in terms of the large institutions, the first point here is to effect the housing market for consumers, and all consumers do not use small institutions to get their mortgages. Many consumers use large institutions. To the extent we are able to effect the cost of funds at those larger institutions, it then flows through to the same consumer base.

The second thing, when you look at our concentrations, our member base mirrors the industry. If you look at the percentage of asset distribution in the banking industry and compare it to the Home Loan Banks, we mirror that. We are a little highly weighted to the community institutions, the very small ones, but essentially we mirror the industry, and the industry is highly concentrated in its asset holdings. So, as a result, those are the institutions that typically are going to borrow more money.

And then, finally, in terms of our business model, the larger institutions provide us with scale, and that scale flows through to the small institutions. One thing you have to remember from my testimony is our boards are primarily controlled by elected directors from community and financial institutions.

If there was a concern that the larger institutions were being treated in any way better or advantageously relative to those institutions, I think our boards would be more than happy to tell us to knock it off.

Senator SARBANES. Did you want to add anything, Mr. Hemingway?

Mr. HEMINGWAY. No.

Senator SARBANES. I am not pressing you to do so, but I have one other question I want to ask, Mr. Chairman.

NETT. Sure.

BANES. You have been very generous with the time.
NETT. Well, this has been a worthwhile exchange.
BANES. Thank you.

ago the Atlanta Bank issued a notice that it would
collateral any loans that included single-premium
ce. As far as I know, no other bank has yet followed
e other banks taken any of the other steps, such as
ayment penalties that one or more of the other hous-
e taken, let alone some of the moves with respect to
that lenders of their own volition or perhaps because
have also taken.

à area where the Home Loan Banks can make a real o the reduction of predatory lending?

es.

BANES. Mr. Smith.

Yes.

BANES. Mr. Hemingway.

WAY. It sounds like a good idea to me.

RBANES. Yes, well, why do you not at least do what ank

WAY. I suspect it will be on the next agenda, Senator.

et the record show we all agree on that one.

BANES. Thank you very much.

NETT. Thank you, Senator.

thanks to the panel. This has been most informative. - your patience and your persistence in responding to g of the Subcommittee.

is adjourned.

-, at 4:28 p.m., the hearing was adjourned.]

tatements, response to written questions, and addils supplied follow:]

PREPARED STATEMENT OF SENATOR JIM BUNNING

Mr. Chairman, I would like to thank you for holding this important hearing and I would like to thank all of our witnesses for testifying today.

The Federal Home Loan Bank System has brought the American Dream of homeownership to millions in this country. The Cincinnati Federal Home Loan Bank, which represents the Commonwealth of Kentucky, has helped many in my State achieve that same dream. But with the troubles recently experienced by Freddie Mac and given the changing world of the Federal Home Loan Banks, it is very timely that you are holding this hearing here today.

There are many issues facing the Home Loan Banks, multidistrict membership, mortgage acquisition programs, SEC registration, and regulatory structure are all questions that are before the banks today. In the past, Members of this Committee have brought up questions about the salaries of the Home Loan Bank presidents. I intend to bring up some of these issues in the question and answer period.

And I thank the Chairman for bringing in these witnesses. I think we have just about everyone connected to the Federal Home Loan Banks covered today.

I look forward to all of your testimony and to talking about some of these issues during the question and answer period.

Thank you, Mr. Chairman.

PREPARED STATEMENT OF SENATOR WAYNE ALLARD

I want to thank Chairman Bennett for holding this hearing to discuss the Federal Home Loan Bank System and the integral role it plays in providing liquidity to the U.S. housing markets. The Federal Home Loan Banks provide the largest private source of residential mortgage and community development credit in the United States. The Congress, the Federal Housing Finance Board, and the Banks themselves have the important task of assessing and updating the Federal Home Loan Bank System in order to make the changes necessary to ensure its continued success in fulfilling and executing its mission.

As Chairman of the Housing and Transportation Subcommittee, I have particular interest in and appreciation for the crucial role that the Federal Home Loan Bank System plays in promoting affordable housing in our country. The Banks' Affordable Housing Program (AHP) is the largest privately funded grant program for housing in the country, and key in financing affordable housing efforts through each of the Banks. In 2002, the Federal Home Loan Banks contributed $199 million toward lowincome housing through the AHP program. The Community Investment Program (CIP) is also instrumental in funding community and economic development projects throughout the country.

The unique aspect of the Federal Home Loan Bank System that contributes to its success, is the ability of each Bank to develop its own programs in response to the needs of its membership. I am particularly appreciative of the Rural First Time Housing Program (RFHP), the Community Housing Program (CHP), the Rural Technical Assistance Program (RTAP) and the Community Development Program (CDP). These specific programs of the Federal Home Loan Bank of Topeka help aid homeownership and community development in Colorado. The Topeka Bank plays a vital role in providing liquidity to the independent community banks in Colorado so that they can, in turn, address the affordable housing andeconomic development needs of Colorado communities.

I would like to thank each witness for appearing before the Subcommittee today to address the Federal Home Loan Bank System and its role in the U.S. economy. I look forward to your testimonies.

PREARED STATEMENT OF WAYNE A. ABERNATHY
ASSISTANT SECRETARY FOR FINANCIAL INSTITUTIONS
U.S. DEPARTMENT OF THE TREASURY

SEPTEMBER 9, 2003

Thank you, Chairman Bennett, Ranking Member Johnson, and Members of the Subcommittee for this opportunity to testify today on the Federal Home Loan Bank (FHLBank) System. The Department of the Treasury is keenly interested in the operations of the Federal Home Loan Bank System because of the important responsibility that the Congress has placed with the Federal Home Loan Banks to enhance