Independent Community Bankers of America
John Evans, Jr.
D.L. Evans Bank
Hearing to Review the Federal Agriculture Mortgage Corporation (Farmer Mac)
House Agriculture Committee
June 2, 2004
Thank you Chairman Goodlatte and Ranking Member Stenholm for holding this hearing on Farmer Mac and for the opportunity to provide this statement for the record. I am John Evans, Jr., CEO of D.L. Evans Bank in Burley, Idaho and also the Chairman of ICBA's Agriculture-Rural America Committee.
ICBA represents the largest constituency of community banks in the nation and is dedicated exclusively to protecting the interests of the community banking industry. Seventy-five percent of ICBA's members are located in communities with a population of 20,000 or less and our members are heavily involved in financing agriculture and rural development across the country. Commercial banks continue to provide approximately 40 percent of the financing for farmers and ranchers, more than any other lender group.
We appreciate the Committee holding this hearing. As you know, Farmer Mac is a government- sponsored enterprise (GSE) within the Farm Credit System (FCS) with a mission to provide a secondary market for agricultural mortgages. Although the purpose of this oversight hearing is to review the recent General Accounting Office (GAO) report on Farmer Mac, we would also like to offer our suggestions for additional oversight activities by the Committee pertaining to GSE's.
As you know, the housing GSE's have been under considerable scrutiny by their Congressional Committees of jurisdiction and the Administration in recent months. We believe the larger agricultural GSE, the FCS, should not be exempt from close scrutiny. We are particularly concerned about the FCA's board structure and the FCA's predilection to facilitate the FCS's expansion agenda through regulatory changes. Therefore, we believe additional hearings would provide the opportunity to build upon the Committee's oversight function by focusing attention on the broader GSE, the FCS, in addition to just looking at Farmer Mac.
Furthermore, as the numbers show, the use of the Farmer Mac I program by commercial banks has decreased significantly over time. In light of this, we believe there is a need for further program enhancements that would improve the usefulness of Farmer Mac for community banks. The use of the Farmer Mac II program by banks continues to be significant.
We have several recommendations for improving the Farmer Mac I program that we believe would allow banks to more fully utilize this secondary market for agricultural real estate loans.
Greater GSE Oversight
The Senate Banking, Housing, and Urban Affairs Committee has held 7 hearings on GSE's in the 108th Congress and the House Financial Services Committee has held 3 such hearings this Congress. Given that Farmer Mac is part of the FCS, a GSE, and the Administration's recent concerns over the housing GSE's and its efforts to enact new legislation establishing a stronger regulator, we believe it would be appropriate for the Committee to hold a hearing focusing on the role the FCA plays as the regulator of the FCS, of which Farmer Mac is an independent entity.
Even though the FCS is regulated by the FCA, which is charged with regulating and examining all FCS institutions, it is important to point out that the FCA board has no mandated participation by members that are objectively and primarily concerned about protecting the general public's interests. It is possible, for example, for all three members of the FCA board to have previously been employed by the FCS and/or have direct ties to the FCS.
Here are some recent examples of the FCS expansionist agenda, which are described in more detail below.
- Allowance of illegal activities by institutions if using "excess capacity in good faith".
- Scope and Eligibility proposal that would allow unlimited lending to anyone for non-agricultural purposes even if the borrower has only a tangential involvement in agriculture.
- Development of broad new lending programs under the guise of "investment" authorities.
The FCA allows FCS institutions to engage in "illegal activities" if it is proven that the institution is operating with so-called "excess capacity and good faith". This has the effect of encouraging more FCS institutions to seek the same exemptions for illegal activities and to build up excess capacity for this purpose. We believe such decisions have dubious legal underpinnings and should cause the Committee major concerns given the FCA's role as a regulator to prohibit any illegal activities by FCS institutions. The fact that a regulator would continuously allow illegal activities to take place under the guise of "excess capacity and good faith" certainly calls into question its objectivity and the level of independence the regulatory agency and its general counsel has regarding the industry it is mandated to regulate.
Scope and Eligibility
This proposal would allow the FCS to go far beyond its traditional GSE mission of serving "bona fide" farmers as required by statute and allow the System to make an unlimited amount of loans virtually unrelated to agriculture to borrowers that have little or no real involvement in farming. This proposal is currently pending within the FCA.
Investments as Loans
The FCA board recently directed staff to prepare a proposed rule allowing FCS institutions to offer retail lending for business and consumer loans for items completely unrelated to agriculture. This "Farmers Notes" proposal would allow the FCA to take a minor statutory authority to regulate FCS investments and turn it into broad retail and consumer-lending programs. We believe this is an abuse of FCA's authorities and was never envisioned by Congress.
It is important to point out that such actions by the FCA have a direct bearing, not only on FCS institutions, but also on all lenders involved in the rural credit markets, including thousands of community banks across the country. According to the Federal Reserve, there were 2,600 agricultural banks as of June 30, 2002 and thousands of other banks lend in rural areas. Further expansion of what is supposed to be a limited purpose GSE to one that competes against the private sector by providing retail lending products and services to all rural residents will diminish the ability of community banks to serve agriculture and rural communities, resulting in fewer credit choices for rural residents.
To begin addressing some of these issues, we offer the following recommendations:
- Increase the FCA board from 3 members to 5 members, adding board members who are objective and required to be principally concerned with protecting the public interest. This would help diminish criticism of the FCA as an advocate for the FCS and allow it to be considered an arms-length, objective, world-class regulator, on par with the housing GSE regulator that the Senate Banking Committee and House Committee on Financial Services are working to establish.
- Prohibit the FCA from using the so-called "excess capacity and good faith" loophole and require the FCA to publish all instances of illegal activities by FCS institutions.
- Prohibit the FCS from using their so-called "investment authority" as a façade for expanded lending activities.
- Require the FCA to monitor and report on below-market, predatory pricing practices of FCS lenders.
- Reduce or eliminate FCA's exemptions under the Freedom of Information Act, as it appears the agency is creating a lack of transparency and accountability to the public, by using closed board meetings to consider important policy matters.
Banks' Use of Farmer Mac I
Community banks were a strong advocate for the creation of a secondary market for agricultural real estate loans when Farmer Mac was chartered in 1987. However, the participation of banks in the Farmer Mac I program has decreased from 80 percent of program loans in 1996 to 22 percent in 2002, according to the 2003 GAO report on Farmer Mac. The FCS now accounts for about 55 percent of Farmer Mac I loans. For comparison, commercial banks held 34 percent of the nationwide agricultural real estate debt in 2003, while the FCS held 36 percent. As can be seen from these numbers, commercial banks have not been able to utilize the Farmer Mac I program on a level comparable with their agricultural real estate lending volume because the program has not been user friendly for community banks and small lenders.
To give a personal perspective, my bank was the 6th largest originator of Farmer Mac I loans in 1999 and this year we haven't originated a single loan with Farmer Mac. We have dropped from originating $11-12 million in loans four years ago to $0 this year in the Farmer Mac I program. This tells me there are some issues that need to be resolved so that community banks can resume the level of activity that once existed.
New Farmer Mac Products
In 1999, Farmer Mac introduced a long-term standby purchase commitment (LTSPC) product, which is a commitment by Farmer Mac to purchase eligible loans from financial institutions at a future date if the loan deteriorates or the holder chooses to sell the loan. This program allows lenders to transfer the credit risk of loans to Farmer Mac, while maintaining the loan in their portfolio. In exchange for this agreement, the lender must pay Farmer Mac an annual commitment fee based on the outstanding balance of the loans covered by the LTSPC. Commercial banks have not participated in the LTSPC program to date; only FCS institutions have been participants in the LTSPC, which now represents approximately 40 percent of Farmer Mac's loan and guarantee portfolio. As of year-end 2003, there were $2.3 billion of LTSPC with Farmer Mac.
We will be exploring the LTSPC program further with commercial bank lenders to ascertain whether Farmer Mac is marketing the program equally aggressively to banks as to FCS associations.
In a positive move, Farmer Mac is planning to eliminate some of the pre-payment penalties on their products, which should be a help for lenders who have not used Farmer Mac because of the potential costs of such penalties if borrowers decide to pay off the loan earlier than anticipated.
Recommendations for Farmer Mac
The GAO report on Farmer Mac in 2003, "Some Progress Made, but Greater Attention to Risk Management, Mission, and Corporate Governance is Needed" outlines a number of recommendations for Farmer Mac and its board to undertake as well as recommendations for the FCA and Congress. GAO urged the FCA to assess and report on the impact Farmer Mac activities have on the agricultural real estate lending market.
But, Farmer Mac also needs to focus on further developing and enhancing its offerings to the thousands of community banks in rural America. There may be some external issues that have contributed to the reduced level of participation by community banks in Farmer Mac programs. However, we believe there are significant internal issues that need to be addressed that would allow banks to better utilize the Farmer Mac I program. We would recommend the following:
- Offer more competitive interest rate options so Farmer Mac loans are competitive with the FCS.
- Ensure consistency in the application of underwriting standards across loans.
- Provide for electronic submission of loan packages and ensure an efficient approval process (days, not weeks or months as has been the case).
- Ensure all users of Farmer Mac, both large and small, are treated equally.
- Greater outreach and communications by Farmer Mac to community banks and promote products without bias to the types and size of lenders.
- Require Farmer Mac to engage in four to six well-publicized listening sessions with agricultural lenders in different regions of the U.S. to gather input and ideas on how to streamline and enhance their products.
- Consider eventually altering the makeup of the Farmer Mac board by reducing the board size. This would include reducing the number of seats allotted to the FCS representatives, since this is supposed to be an independent entity within FCS, and placing a cap on the total number at eleven members instead of the fifteen members now on the board.
Farmer Mac II
While commercial banks' use of the Farmer Mac I program has been on the decrease, the smaller Farmer Mac II program, which buys the guaranteed portion of USDA loans, continues to be used primarily by banks. In 2003, 650 lenders participated in the Farmer Mac II program, about 95 percent of which were commercial banks. The 2003 loan volume was approximately $270 million with a total loan portfolio of $1.5 billion.
In short, Farmer Mac was to provide a simple mechanism for lenders to securitize pools of long-term agricultural real estate loans at a low overhead cost, freeing up additional capital to lend to farmers. At this point, we believe Farmer Mac still has room for improvement if it is to reach the expectations that were envisioned when it was created. In particular, if Farmer Mac is to ever achieve the success once envisioned, it must offer a better array of competitively priced products tailored to the needs of community banks. It does not now offer products that allow community banks to compete with FCS lenders. This reality is inconsistent with lowering the cost of credit to farmers. Congress should ask "Why"? Why are the Farmer Mac interest rates uncompetitive with those of the FCS? And, why is its cost of funds in the AgVantage program uncompetitive with the other sources of funds?
Again, we thank the Committee for holding this hearing and for the opportunity to provide this input. We urge the Committee to hold additional hearings in the future on the impact of both agriculturally oriented GSE's. If the housing GSE's and their regulatory structure are going to receive intense scrutiny by Congress, the Agriculture Committees would be remiss to avoid similar scrutiny over the GSE's under their oversight - particularly the Farm Credit System.
ICBA would welcome the opportunity to assist in the implementation of any recommendations that will improve Farmer Mac programs in a way that is beneficial to community banks.