paper about MBS

3 trillion in total assets controlled by the fhlb

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Unformatted text preview: 3 trillion in total assets controlled by the FHLB System exceeded those for Fannie Mae or Freddie Mac at that time ($886 billion and $879 billion, respectively). At the end of 2007 and in the first half of 2008, as Freddie and Fannie’s stock was being hammered for fear of insolvency, the FHLB System became guilty by association. Spreads on its bonds started to rise, and the cost of advances to its members rose as well. This made the FHLB System a less attractive funding facility for banks and thrifts, which turned to the Federal Reserve’s discount window and new funding facilities instead. Indeed, the Fed’s Term Auction Lending Facility (TALF) was set up in December 2007 and the Primary Dealer Credit Facility (PDCF) and Term Securities Lending Facility (TSLF) in March 2008. While the Federal Reserve is the lender of last resort, Ashcraft et al. (2009) characterize the FHLB System as the lender of next-to-last resort . 5.5 Final Thoughts This massive government support for the GSEs succeeded in shoring up the conforming housing market in 2009. This arguably prevented an even bigger collapse of U.S. housing and mortgage markets. Some mortgage-backed securities prices rallied in 2009, and mortgage 74 interest rates were at an all-time low in the first half of 2010. While the GSEs (including the FHLB System) have proven to be a convenient recession-fighting tool, Chapter 6 will argue that the involvement of the Fed balance sheet in employing this tool has raised serious issues about conflicts of interest between fiscal and monetary policy, and Chapter 8 will make a case that the recession-fighting advantage does not outweigh the costs of having large, systemically risky institutions that are trying to accomplish too many goals at once. We believe that the U.S. economy would ultimately be better served by breaking up the various functions of the GSEs. In a fundamental sense the critics of the GSEs were right: They were a problem. The specific quasi-public/quasi-private structure of the GSEs created incentives for excessive risk- taking, at the ultimate expense of the taxpaying public; and having them around in mortgage markets made it convenient for each successive presidential administration to employ them for boosting short-run consumption and spending that was centered on housing, at the expense of some future administration and again ultimately the taxpayer. The confluence of these two distortions meant that over time, the GSEs morphed into the world’s largest and most leveraged hedge funds, except that only they had government backing. In the end, the GSEs had inadequate capital for the risks that they were taking. But virtually all critics got the immediate source of the problem wrong. What caused the financial downfall of the GSEs was not the interest-rate risk embedded in their portfolios. Instead, the immediate source of the problem was the credit risk that stemmed from the poor quality of mortgages and investments that they took on and guaranteed in the middle of the decade....
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3 trillion in total assets controlled by the FHLB System...

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