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Another bill before your Subcommittee, S. 3508, would also establish a secondary market for conventional mortgages but would do so through a new corporation established within the Federal Home Loan Bank Board rather than in FNMA. It would only cover savings and loan associations. We see no reason for a limited proposal such as this. It would be far preferable to establish a market covering all mortgage lenders, and we therefore favor S. 2958 over S. 3508.

With respect to S. 3442, covering some of the recommendations of the Commission on Mortgage Interest Rates, The American Bankers Association generally favors this legislation, although we do have some reservations about one of its provisions. This is to grant trust powers to Federal savings and loan associations for Smathers-Keogh (H.R. 10) self-employed pension funds purposes. We do not think it desirable to grant such trust powers to savings and loan associations even for the limited purpose of permitting them to serve as trustees for retirement plans for the self-employed. Basically, the reason is that these associations are not subject to the same type of regulation and supervision as are trust companies and the trust departments of banks.

Fortunately, the purpose of the Congress in providing for self-employed retirement plans may easily be accommodated by a more direct means. This would be to amend the Internal Revenue Code and relevant regulations to make savings accounts of insured savings and loan associations eligible for direct investment of the funds of self-employed retirement plans. The same could be done, as logic and fairness would dictate, for the savings accounts of commercial banks.

At the present time the following are qualified for direct investment of Keogh plans :

1. Non-transferable retirement annuity contracts
2. Non-transferable face amount certificates

3. United States Retirement Plan Bonds. The first of these—annuity contracts—are provided by insurance companies. The second-face amount certificates are provided by certified investment companies registered with the S.E.C. under the Investment Company Act of 1940. The third-retirement plan bonds were made available by the United States Government specifically for Keogh plans.

It would be logical to add to these three investment media the savings accounts of insured savings and loan associations and of commercial banks.

At the present time, commercial banks with trust powers can accept H.R. 10 funds, but must do so within the formal constraints of a trust instrument. The proposal here is to add a new-subsection to Section 405 of the Internal Revenue Code similar to that covering United States retirement bonds. For example, nontransferable certificates of deposit could be issued for an indefinite period of time, not redeemable until age 5942 or death. Interest would be due and pay. able only upon redemption. The conditions and restrictions necessary to qualify the savings certificate for income tax purposes could be outlined in special Treasury Department regulations, which in turn could be incorporated by reference (or verbatum) in the special savings certificates. Moreover, the terms and interest rates on such certificates would have to meet the requirements set by the supervisory agencies.

Such self-employment retirement funds would be an ideal source of money to savings and loan associations and to commercial banks, because they would, for the most part, be extremely long-term investments, some of which might continue for 30 or 40 years or more, and therefore, more than suitable for housing loans.

With the above pension plan alternative, we endorse S. 3442. In particular the legislation would do a singular service to the cause of adequate mortgage money flows by dealing squarely with the problem of ceilings on VA and FHA mortgages. This recommendation of the Commission on Mortgage Interest Rates to modify the present unworkable system of discounting insured and guaranteed mortgages is one of the most valueable contributions of the Commission.

Under the proposal a dual interest rate system for FHA and VA mortgage loans would be created. Lenders, (acting in agreement with borrowers) would have the option of making these loans without regard to rate ceilings provided they charge no points. Alternatively, they could comply with the administered FHA-VA ceilings, presently set at 8.5 percent, and thereby be permitted to charge points. Incidentally, the Commission was wise not to commit itself to a recommended or "appropriate” level of interest rates to enable low- and middle-income families to afford "decent" housing. There are alternatives to rate ceilings and I will discuss some at a later point in my testimony.

The lender and borrower will agree on which of these options to use. The Secretary and Administrator are required to ensure that prospective borrowers have information as to (a) the alternative methods of establishing interest rates, (b) current mortgage interest rates and discounts in the area, (c) the amount of any discount to be charged to each party to the transaction, expressed in terms of dollars and yield, and (d) the amount of allowable settlement cost and other fees.

We are in accord with the recommendation of a trial period for this dual rate system rather than the outright exclusive adoption of the first option. In some circumstances, permitting intermediaries to charge "points" may be a requirement for the effective functioning of a distribution system of mortgage funds if such intermediaries have a strong preference for receiving a portion of their income in this form. It is hoped, however, that the availability of an alternative pricing arrangement would reduce the use of the discount system which at times had had an inhibiting effect on homebuilding and financing.

Concerning the other provisions of S. 3442, let me just say that our Association endorses them. However, there is another recommendation of the Commission on Mortgage Interest Rates which is not included in S. 3442, which we commend to the Subcommittee. This is to make any housing mortgage of good quality eligible for use at the Federal Reserve discount window without requiring a penalty discount rate. The Chairman of the Federal Reserve Board has endorsed the idea and there is growing support for such a provision both within and outside the Federal Reserve System.

We recommend that recognition be given to the special purpose and nature of making mortgages eligible for rediscounting. Although we do not recommend a specific term, little would be gained for improving the availability of home financing if the usual period of borrowing at the discount window is strictly enforced. The availability of the discount window, together with appreciably longer terms of borrowing, would add a significant degree of liquidity to mortgages which they do not now have, and would thus encourage mortgage holdings by bank lenders. We recommend further that interim financing of construction also be included in the list of eligible paper.

The Association has more serious reservations on S. 3503. This bill, entitled The Middle Income Mortgage_Credit Act, contains the following provisions :

1. The Federal Home Loan Bank system would be empowered to issue up to $3 billion in housing certificates each year, if deemed necessary by the Board under conditions of credit stringency which impede the availability of credit for middle-income housing.

2. The proceeds of the housing certificate issues are to be loaned to eligible savings and loan associations, at rates between 6 and 6-1/4 percent. The borrowing institutions would be permitted to use these advances solely for the purpose of lending to middle-income families ($10,000 a year or less) on homes priced at $25,000 or under. The effective rates on the mortgages including points, could not exceed 612 percent, plus the usual insurance premium where applicable.

3. Although the language of the bill is unclear the intent is apparently to channel Federal Reserve credit directly to the Federal Home Loan Banks for advances to eligible institutions. The mechanism, thinly disguised as discounting at 6 percent, is in reality an outright sale of 6 percent obligations to the central bank.

This procedure would be both dangerous and self-defeating. During a tight money period the Federal Reserve would be forced to offset the mandatory absorption of housing certificates by selling Treasury issues already in its portfolio. The resulting increase in interest rates competing with home mortgages and interest rates paid by thrift institutions would divert savings from the very same institutions the bill is designed to help.

Direct access to the central bank especially at a time when it is trying to curb inflation could impede that process and would clearly reinforce the expectational aspects of the situation. This would make the fight to contain inflation much more difficult, if indeed it is possible to offset infusions of Federal Reserve credit of $3 billion a year contemplated by the bill. At the very least, it would probably require a longer period of credit stringency than would otherwise be necessary, thus increasing the danger of a recession before the expectational influences are finally quelled.

The provision would also single out a particular component of the nation's economy for direct Federal Reserve aid. This would open the door to similar diversions of Federal Reserve credit for other worthy purposes. We do not question the high social priority that middle-income housing deserves. Rather, we object to the method of accomplishing that result.

Our opposition to S. 3503 does not reflect a lack of concern for the sagging housing industry. Undoubtedly, there are better alternatives.

In pursuing the alternatives, it must be borne in mind that in our type of society it should not be the job of government to provide funds directly for the general housing market. Rather, government's role is to create the instruments, the legal framework and the incentives to produce a healthy climate for private housing. We are convinced that private enterprise and financing, properly motivated, consistent with the overall good of the economy, can do the job.

For example, in keeping with the Administration's proposals on the Tax Reform Bill, a certain portion of interest earned on residential mortgages might be made deductible from the tax base. Eligibility for deductions could be limited to mortgages on homes valued at less than $25,000_and a comparable amount per unit of multi-family housing—to stimulate construction for middleand lower-income families. However, the Administration's proposed 5 percent deduction would not be nearly enough to reduce mortgage rates on middle- and lower-income housing to reasonable levels on a competitive basis with the after-tax return on other investments. By way of illustration, a 642 percent mortgage rate with an allowable deduction of 25 percent for tax purposes would be equivalent to a fully taxable 84 percent return at a 50 percent marginal rate of tax. Competition would quickly and effectively reduce the rates on mortgages eligible for deduction. In so doing, private enterprise would have a suitable incentive to demonstrate its ingenuity and capability.

Motivation might also take the form of reducing reserve requirements of banks, or further reducing liquidity requirements of other financial institutions, against savings invested in residential mortgages. This could unfreeze a substantial sum for home mortgage use.

Without attempting to spell out the details of this idea, we suggest that the Federal Reserve eliminate or reduce the reserve requirements on that portion of time deposits represented by residential mortgage loans. For example, a reduction in reserve requirements equal to 1 percent of the nearly $35 billion in residential mortgages held by member banks in December, 1969 would free $350 million for further lending, plus the additional amounts arising out of the multiplier effects of the fractional reserve system. The addition of such housing related credit as construction loans and loans on mobile homes to the base eligible for reserve requirement reductions would add measurably to the amount available for new home financing. Moreover, many State statutes tie their reserve requirements to those of the Federal Reserve.

We recognize that any proposal such as this must be consistent with overall monetary policy objectives. The operation of the plan must be discretionary with the Federal Reserve, and not made mandatory by statute.

Also recommended are amendments to Section 24 of the Federal Reserve Act governing real estate loans of national banks. Many of these amendments have been submitted to your Subcommittee previously. I will not take your time to detail them here. The more important of the recommendations provide for authority to increase the maximum terms of construction loans from three years to five years, and terms of final mortgages from 25 years to 30 years. Also recommended is an increase in the maximum loan to value ratio on these final mortgages from 80 percent to 90 percent. Moreover, it is recommended that the amortization provision for all real estate loans be amended to permit loans to be liquidated within the permissible legal term and not by the date of maturity.

Finally, national banks should be permitted to invest either 100 percent of time and savings deposits (presently set at 70 percent) or 100 percent of capital and surplus, whichever is greater. These and other amendments to Section 24 would greatly facilitate the ability of commercial banks to make mortgage loans and also the ability of borrowers to manage them.

All of these proposals will encourage mortgage lending. There are others. One of the major tasks of our recently appointed housing task force is to obtain commitments from commercial banks for mortgage lending and to originate ideas for stimulating more housing credit, a few samples of which are outlined above. Our immediate aim is the development of workable solutions to our urgent housing problems. In the longer run, it is essential that a proper mix nf monetary and fiscal policy be used to maintain non-inflationary economic growth. Only in such an environment can we fully meet our housing needs.

May I conclude by indicating to the Subcommittee the extent of commercial bank participation in housing finance in the recent past. The role is large and growing, not only in dollar magnitude but also in relation to other mortgage lenders.

During the past five years, for example, commercial bank residential lending has increased by 55 percent. This compares with a 38 percent increase in loans by the savings and loan industry, an increase of 33 percent by mutual savings banks, and 18 percent by life insurance companies.

At present, commercial banks, holding almost $45 billion in housing mortgages, have continued to gain on other mortgage lenders. If trust fund holdings are included, commercial banking would already be the second largest class of residential mortgage lenders in the nation.

The banking contribution to housing finance is by no means confined to final mortgage lending for housing acquisition. The usual data reported do not ordinarily include nearly $3 billion of loans for modernization and repair; $1 billion or more in holdings of securities issued by Federal agencies concerned with housing; more than $5 billion in loans to financial institutions specializing in housing finance, and the bulk of the $60 billion in commercial bank holdings of State and local government bonds issued to finance the necessary support facilities for housing, such as streets, water and sewer facilities. In addition, there can be counted some $312 billion in loans to the construction industry, and loans on mobile homes (data for which are not readily available), to say nothing of lending to businesses manufacturing and supplying construction equipment and materials.

Much of this large volume of lending and investment can only be estimated, but an educated guess would bring the total to an amount approaching $120 billion, which would compare favorably with the housing credit extended by any other class of lender for housing.

It has been alleged that commerical banks abandon mortgage lending when tight money jeopardizes the availability of credit. The error of this inference is best demonstrated by the behavior of banks toward housing during the past year.

More than any other institutional class, banks bore the brunt of the tightest money period in modern times. Despite this, banks added relatively more to the support of housing in 1969 than any other class of lender. While the deposits (including interest credited to accounts) in savings and loan associations and mutual savings banks grew in 1969 by about $4 billion and 3 billion respectively, savings and time deposits (again including interest credited) of commercial banks actually declined by more than $11 billion. Despite this huge outflow of funds, commercical banks expanded their housing loans by $374 billion, an increase of 8 percent. In comparison, during 1969 residential mortgage holdings of savings and loan associations increased 7 percent. It might be mentioned that of the total $8.8 billion rise is mortgage holdings represented by that 7 percent increase, $4 billion was accounted for by advances from the Federal Home Loan Banks and $1.3 billion by a reduction in minimum liquidity requirements. Of the other two important institutional lenders, mutual savings banks increased their loans by $1.8 billion or 4 percent, and life insurance companies by $.3 billion, a little less than 1 percent.

Much has also been made of the successive increases in the prime rate charged by commercial banks. Bankers, it has been said, take quick advantage of the tight money situation growing out of the fight against inflation. The simple truth is that banks are only the instruments and not the originator of Governmental anti-inflation policy.

What is germane here is the record of commercial banks with regard to rates charged in the housing area. According to the Federal Home Loan Bank Board data, during the latest available three months (through January 1970) commercial banks were charging an average effective rate of 7.8 percent on new home loans, including fees and other charges. Comparable figures for other institutional lenders were 8.3 percent charged by savings and loan associations, 7.8 percent by mutual savings banks, 8.7 percent by life insurance companies, and 8.6 percent by mortgage companies. The average rate for all lenders was 8.2 percent.

The story does not end there, however. Since the same three months a year earlier, while commercial banks were losing time and savings deposits in record volume, their effective rates on new home mortgages were increased an average of only 8/10 of 1 percentage point. At the same time rates charged by savings

and loan associations were raised nearly 1.1 percentage point, mutual savings bank rates by close to 7/10 of a point, rates of life insurance companies were up 1.4 points, and mortgage company rates rose 9/10 of a point.

In conclusion, may I say we are quite proud of the record of the commercial banking industry in the housing field. But we can and must do better, and we will. When the fetters of inflation are eased, we will have a far greater opportunity to expand our services and provide resources to home builders and home buyers. In the meantime, as I have indicated earlier, we have organized a task force whose objective is an immediate and substantial flow of funds into the mortgage markets.

Senator PROXMIRE. Our next witness is Mr. William Osborn, chairman of the legislative subcommittee on a secondary market for conventional mortgages, National League of Insured Savings Associations.

STATEMENT OF WILLIAM G. OSBORN, CHAIRMAN, LEGISLATIVE

SUBCOMMITTEE ON A SECONDARY MARKET FOR CONVENTIONAL LOANS, NATIONAL LEAGUE OF INSURED SAVINGS ASSOCIATIONS; ACCOMPANIED BY WILLIAM F. MCKENNA, GENERAL COUNSEL, NATIONAL LEAGUE OF INSURED SAVINGS ASSOCIATIONS

Mr. OSBORN. Mr. Chairman and members of the subcommittee, my name is William G. Osbom. I am chairman of the legislative subcommittee on a secondary market for conventional mortgages, a subcommittee of the legislation committee of the National League of Insured Savings Associations. I am also the president of Germania Savings and Loan Association in Alton, Ill. I am privileged to present the following testimony on behalf of the National League.

It is my understanding that this hearing now includes not only S. 2958 and S. 3442, but also S. 3503 and S. 3508. In view of time limitations I will not go into any greater detail as to the contents of these bills than is necessary to an exposition of the comments I wish to make.

S. 2958 would authorize FNMA to conduct a secondary market in conventional mortgages as well as in those insured by the Federal Housing Administration or guaranteed by the Veterans' Administration. The conventional mortgages so traded would have a loan-tovalue limitation of 80 percent at the time of purchase unless the excess over 80 percent is guaranteed or insured by an institution deemed by FNMA to be generally acceptable to other institutional mortgage investors.

The National League has no objection to the establishment of a secondary market for conventional mortagages in FNMA as long as a similar facility is made available through the Federal Home Loan Bank System.

S. 3508, the Federal Mortgage Marketing Corporation Act, would create such a secondary market in the Federal Home Loan Bank System for residential mortgages by establishing a corporation directed by the Federal Home Loan Bank Board and initially capitalized by the Federal home loan banks. Because the Federal Home Loan Bank System itself presently operates completely from funds supplied by the savings and loan industry rather than with Federal Gov

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