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The financial crisis started in earnest in august

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The financial crisis started in earnest in August 2007, when the $1.2 trillion asset-backed commercial paper (ABCP) market froze. 37 Investors were unwilling to renew the financing of the special purpose vehicles (SPVs) that housed the ABCP and the banks that set them up for fear that these banks were insolvent. With little or no access to other private market funding, the banks (through their SPVs) turned to the FHLB System. The FHLB System gives “advances” (loans) to commercial banks, thrifts, credit unions, and insurance companies that are the owner- members of the System. The advances are collateralized by residential mortgage-related assets, Agencies, and Treasuries. During the second half of 2007, the FHLB System increased its advance lending by $235 billion to $875 billion by the end of that year, a 36.7% increase. 38 In fact, the decline in the ABCP market is almost perfectly mirrored in the growth of the FHLB advances. Ten banks accounted for $150 billion of these advances. Washington Mutual, Bank of America, and Countrywide borrowed the largest amounts. As of June 30, 2008, advances stood at $914 billion. For comparison, the $1.3 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
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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.
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