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
Introduction
Te U.S. governmen is arguably he larges and mos inuenial nancial insiuion inhe world,
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wih abou $2.7 rillion ousanding in loans and loan guaranees.
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Amongoher hings, hese ederal credi programs help college sudens aord uiion, rs-imehomebuyers access aordable morgages, and budding small businesses ge he capialhey need o expand.In hese and many oher cases, he privae secor will simply no lend o cerain borrow-ers or will lend only under unaordable or unmanageable condiions. Ta’s why we rely on ederal credi programs: Te U.S. governmen can bear cerain risks ha he privaesecor canno o achieve cerain public goals such as increasing he global compeiive-ness o our workorce, reurning sabiliy o he U.S. housing marke, and adding jobshrough business expansion.Tese programs ypically run a very low cos o axpayers. On average, every $1 allocaedo loan and guaranee programs generaes more han $99 o economic aciviy rom indi- viduals, businesses, nonpros, and sae and local governmens, according o our analysis.
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Bu in he wake o cerain widely publicized credi blunders, mos noably his passummer’s bankrupcy announcemen rom solar company Solyndra LLC, some havecalled ino quesion Washingon’s abiliy o manage nancial risk. Conservaive criicsconend ha he governmen is incapable o accuraely pricing risk, and ha polii-cal pressure encourages governmen agencies o rouinely underesimae he risk oaxpayers when exending credi.
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Governmen underpricing o risk is a convenien heory or ree-marke ideologues bui runs conrary 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 quie accurae in is risk pricing. In ac, he majoriy o governmen crediprograms cos less han originally esimaed, no more.
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Specically, we ound ha:
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Based on iniial esimaes over he pas 20 years, he governmen expeced is crediprograms o cos axpayers 79 cens or every $100 loaned or guaraneed. Based onrecenly updaed daa, hose cos predicions were reasonably accurae bu slighly underesimaed. Te curren budgeary impac o hese programs is abou 94 cens per$100 loaned or guaraneed.
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Tere’s litle evidence ha credi programs are biased oward underpricing risk. Inac, a litle more han hal o all nonemergency ederal credi programs will cos hegovernmen less han wha hey are expeced o over he lie o he program.
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Te remainder is accouned or by he losses suered by he Federal Housing Adminisraion on loans made in 2008 during he peak o he housing crisis.Excluding ha book o loans, all nonemergency ederal credi programs cos slighly less han expeced.Conservaive criics oen porray a world in which governmen bureaucras haphazardly issue loans and loan guaranees wihou considering axpayer exposure o risk. Ta’ssimply no he case. Tis issue brie explains how he governmen prices credi risk in heederal budge, how well hose cos esimaes have reeced realiy over he years, and why he governmen is in a paricularly good posiion o assume cerain ypes o risk.
Budgeting for credit risk
Federal governmen agencies adhere o sric budge and accouning sandards o careully assess he risks and poenial losses associaed wih credi programs. Here’s how i works.Beore an agency can issue any loans or loan guaranees, Congress mus rs auhorizeand allocae unding or he program.
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In mos cases Congress sars by deermin-ing how much money he program will be auhorized o guaranee or loan and henappropriaes a cerain percenage o ha amoun o cover he program’s expeced coso he governmen. Ta cos esimae—assessed by boh he agency adminisering heprogram and he presiden’s Ofce o Managemen and Budge—akes ino accounexpeced repaymens, deauls, recoveries, and any ineres or ees colleced over he lieo he loan, adjused o curren dollars.Te ne cos o he ederal governmen as a percenage o oal dollars loaned or guar-aneed is known as he subsidy rae.
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As an example, say Congress approves a $100million loan guaranee program wihin he Deparmen o Agriculure. Te deparmen
3Center or American Progress | Managing Taxpayer Risk
models expeced marke condiions and loan aciviy and hen esimaes a subsidy rae, which he Ofce o Managemen and Budge independenly esimaes as a check on heagency’s mehodology. Le’s say he esimaed subsidy rae is 0.75 percen. Ta meanshe governmen expecs o ake a ne loss o 75 cens or every $100 i guaranees overhe lie o hose loans. o cover expeced losses on he $100 million in loan guaranees,he governmen ses aside $750,000 in a special accoun a he reasury Deparmen.Tis is similar o a loan loss reserve a a privae bank.Each subsequen year, he Ofce o Managemen and Budge and he agencies recalcu-lae he subsidy rae o reec acual loan perormance, curren economic condiions,and anyhing else adminisraors may have learned abou a program. Tese revised num- bers are repored in he presiden’s budge each year, which gives us a prety good ideao each program’s “acual” coss and he governmen’s abiliy o assess nancial risk.I conservaive claims were accurae in saying ha he ederal governmen canno accu-raely price or risk, hen one would expec he iniial cos esimaes o be signicanly lower han he more recen re-esimaes. Using he Deparmen o Agriculure exampleabove, i he criics were righ, he re-esimaed subsidy rae would presumably be muchhigher han 0.75 percen, and acual oulays would be higher han esimaed. Le’s seehow he governmen’s risk esimaes acually sack up.
Government risk estimates are quite accurate
o es his heory, we analyzed credi daa published in he presiden’s 2013 budge. We compared iniial and updaed cos esimaes, also known as subsidy re-esimaes, oreach book o nonemergency loans and loan guaranees or each ederal credi programsince 1992, he rs year or which comprehensive daa are available. We limi our analysis o nonemergency credi programs, omiting programs creaed inresponse o he recen nancial crisis. Tis includes programs creaed hrough he roubled Asse Relie Program—he so-called Wall Sree rescue package passed by Congress ahe heigh o he housing and nancial crises—and he U.S. Deparmen o he reasury’spurchase o securiies issued by he wo roubled housing nance gians Fannie Mae andFreddie Mac. Boh o hese programs are emporary, aypically large, and are accouned orin he ederal budge using dieren sandards han all oher credi programs.
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I we had included hese “emergency” programs, i would drasically skew he overallresuls—bu skew hem in avor o our basic argumen. Based on our analysis o daapublished in he 2013 budge, hese programs will cos he governmen abou $130 billion less han iniially expeced.
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So heir inclusion would make i seem as hough hegovernmen signicanly overesimaed he cos o all credi programs over he pas 20 years, which is no he case.
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Managing Taxpayer Risk
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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