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Managing Taxpayer Risk

Managing Taxpayer Risk

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John Griffith and Richard Caperton assess the federal government's record in handling risks to taxpayers in its loans and loan guarantees.
John Griffith and Richard Caperton assess the federal government's record in handling risks to taxpayers in its loans and loan guarantees.

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Published by: Center for American Progress on May 03, 2012
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1Center or American Progress | Managing Taxpayer Risk 
Managing Taxpayer Risk
 The Federal Government Responsibly Prices andManages Risk When Issuing Loans and Loan Guarantees
John Griffith and Richard Caperton May 2012
Te U.S. governmen is arguably he larges and mos inuenial nancial insiuion inhe world,
wih abou $2.7 rillion ousanding in loans and loan guaranees.
Amongoher hings, hese ederal credi programs help college sudens aord uiion, rs-imehomebuyers access aordable morgages, and budding small businesses ge he capialhey need o expand.In hese and many oher cases, he privae secor will simply no lend o cerain borrow-ers or will lend only under unaordable or unmanageable condiions. Ta’s why we rely on ederal credi programs: Te U.S. governmen can bear cerain risks ha he privaesecor canno o achieve cerain public goals such as increasing he global compeiive-ness o our workorce, reurning sabiliy o he U.S. housing marke, and adding jobshrough business expansion.Tese programs ypically run a very low cos o axpayers. On average, every $1 allocaedo loan and guaranee programs generaes more han $99 o economic aciviy rom indi- viduals, businesses, nonpros, and sae and local governmens, according o our analysis.
Bu in he wake o cerain widely publicized credi blunders, mos noably his passummer’s bankrupcy announcemen rom solar company Solyndra LLC, some havecalled ino quesion Washingon’s abiliy o manage nancial risk. Conservaive criicsconend ha he governmen is incapable o accuraely pricing risk, and ha polii-cal pressure encourages governmen agencies o rouinely underesimae he risk oaxpayers when exending credi.
Governmen underpricing o risk is a convenien heory or ree-marke ideologues bui runs conrary o he overwhelming evidence.
2Center or American Progress | Managing Taxpayer Risk 
Our review o ederal governmen credi programs back o 1992 shows ha on average hegovernmen is quie accurae in is risk pricing. In ac, he majoriy o governmen crediprograms cos less han originally esimaed, no more.
Specically, we ound ha:
Based on iniial esimaes over he pas 20 years, he governmen expeced is crediprograms o cos axpayers 79 cens or every $100 loaned or guaraneed. Based onrecenly updaed daa, hose cos predicions were reasonably accurae bu slighly underesimaed. Te curren budgeary impac o hese programs is abou 94 cens per$100 loaned or guaraneed.
Tere’s litle evidence ha credi programs are biased oward underpricing risk. Inac, a litle more han hal o all nonemergency ederal credi programs will cos hegovernmen less han wha hey are expeced o over he lie o he program.
Te remainder is accouned or by he losses suered by he Federal Housing Adminisraion on loans made in 2008 during he peak o he housing crisis.Excluding ha book o loans, all nonemergency ederal credi programs cos slighly less han expeced.Conservaive criics oen porray a world in which governmen bureaucras haphazardly issue loans and loan guaranees wihou considering axpayer exposure o risk. Ta’ssimply no he case. Tis issue brie explains how he governmen prices credi risk in heederal budge, how well hose cos esimaes have reeced realiy over he years, and why he governmen is in a paricularly good posiion o assume cerain ypes o risk.
Budgeting for credit risk
Federal governmen agencies adhere o sric budge and accouning sandards o careully assess he risks and poenial losses associaed wih credi programs. Here’s how i works.Beore an agency can issue any loans or loan guaranees, Congress mus rs auhorizeand allocae unding or he program.
In mos cases Congress sars by deermin-ing how much money he program will be auhorized o guaranee or loan and henappropriaes a cerain percenage o ha amoun o cover he program’s expeced coso he governmen. Ta cos esimae—assessed by boh he agency adminisering heprogram and he presiden’s Ofce o Managemen and Budge—akes ino accounexpeced repaymens, deauls, recoveries, and any ineres or ees colleced over he lieo he loan, adjused o curren dollars.Te ne cos o he ederal governmen as a percenage o oal dollars loaned or guar-aneed is known as he subsidy rae.
As an example, say Congress approves a $100million loan guaranee program wihin he Deparmen o Agriculure. Te deparmen
3Center or American Progress | Managing Taxpayer Risk 
models expeced marke condiions and loan aciviy and hen esimaes a subsidy rae, which he Ofce o Managemen and Budge independenly esimaes as a check on heagency’s mehodology. Le’s say he esimaed subsidy rae is 0.75 percen. Ta meanshe governmen expecs o ake a ne loss o 75 cens or every $100 i guaranees overhe lie o hose loans. o cover expeced losses on he $100 million in loan guaranees,he governmen ses aside $750,000 in a special accoun a he reasury Deparmen.Tis is similar o a loan loss reserve a a privae bank.Each subsequen year, he Ofce o Managemen and Budge and he agencies recalcu-lae he subsidy rae o reec acual loan perormance, curren economic condiions,and anyhing else adminisraors may have learned abou a program. Tese revised num- bers are repored in he presiden’s budge each year, which gives us a prety good ideao each program’s “acual” coss and he governmen’s abiliy o assess nancial risk.I conservaive claims were accurae in saying ha he ederal governmen canno accu-raely price or risk, hen one would expec he iniial cos esimaes o be signicanly lower han he more recen re-esimaes. Using he Deparmen o Agriculure exampleabove, i he criics were righ, he re-esimaed subsidy rae would presumably be muchhigher han 0.75 percen, and acual oulays would be higher han esimaed. Le’s seehow he governmen’s risk esimaes acually sack up.
Government risk estimates are quite accurate
o es his heory, we analyzed credi daa published in he presiden’s 2013 budge. We compared iniial and updaed cos esimaes, also known as subsidy re-esimaes, oreach book o nonemergency loans and loan guaranees or each ederal credi programsince 1992, he rs year or which comprehensive daa are available. We limi our analysis o nonemergency credi programs, omiting programs creaed inresponse o he recen nancial crisis. Tis includes programs creaed hrough he roubled Asse Relie Program—he so-called Wall Sree rescue package passed by Congress ahe heigh o he housing and nancial crises—and he U.S. Deparmen o he reasury’spurchase o securiies issued by he wo roubled housing nance gians Fannie Mae andFreddie Mac. Boh o hese programs are emporary, aypically large, and are accouned orin he ederal budge using dieren sandards han all oher credi programs.
I we had included hese emergency” programs, i would drasically skew he overallresuls—bu skew hem in avor o our basic argumen. Based on our analysis o daapublished in he 2013 budge, hese programs will cos he governmen abou $130 billion less han iniially expeced.
So heir inclusion would make i seem as hough hegovernmen signicanly overesimaed he cos o all credi programs over he pas 20 years, which is no he case.

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