A Model of Federal Home Loan Bank System and Federal National Mortgage Association Behavior

T HE response of government policy variables to the targets or objectives of policy has received increasing attention in the literature. All of the published studies have limited their investigations to the behavior of the monetary authority.1 This concern with the reaction function of the monetary authority can be traced to three factors: (1) Since the monetary authority is independent (or semiindependent) of the government, investigators have been concerned with whether the central bank has responded to the appropriate social objectives such as price stability and full employment; (2) Central banks have often expressed concern with short-run objectives (such as interest rate stability) and investigators have examined whether the pursuit of such objectives has hindered the implementation of the social goals; and (3) Econometric modelbuilders have become concerned with the statistical problems arising from the endogeneity of policy.2 This paper reports on an attempt at estimating the reaction function of the Federal Home Loan Bank System (FHLBS) and the Federal National Mortgage Association (FNMA). Both FNMA and the FHLBS are governmentsponsored agencies (the FHLBS being under more government control than FNMA) whose major objective concerns the mortgage market and housing activity. The FHLBS makes loans (advances) to savings and loan associations which, in turn, use the funds for mortgage loans. FNMA buys (or sells) mortgages in the secondary market. During the 1960's these operations were aimed primarily at stabilizing the volume of mortgage credit with the implicit view towards stabilizing housing activity.3 There were a number of factors during the 1960's which might have prevented the FHLBS and FNMA from pursuing their objective of minimizing the variability in mortgage flows and housing starts. First, before 1968, FNMA purchases and sales of mortgages appeared in the United States budget, hence mortgage purchases, in particular, were carefully examined since such purchases added to the deficit. After 1968 this was no longer true since FNMA was made a private corporation and taken out of the federal budget. During the credit squeeze of 1966 the Johnson Administration placed severe restrictions on the debt issues of various government agencies, including the FHLBS. In effect, this meant that the FHLBS was not free to decide to raise funds to lend to savings and loan associations without severe scrutiny. In the next section, two alternative models of FHLBS behavior are derived within a utility function framework. Empirical estimates of the alternative reaction functions are presented. The same is done for FNMA behavior in a subsequent section. The remainder of the paper presents the implications of the results for a number of issues, including: (1) whether FNMA and the FHLBS have, indeed, used Received for publication June 29, 1972. Revision accepted for publication December 13, 1972. * The author wishes to acknowledge the financial support of the Federal Home Loan Bank System. The views expressed are not necessarily shared by the FHLBS. He also thanks M. J. Hamburger, S. M. Goldfeld, and an anonymous referee for their comments. 1See, for example, H. G. Johnson and W. G. Dewald, "Analysis of the Objectives of Monetary Policy," in D. Carson (ed.), Banking and Monetary Studies, Irwin Inc., 1963; and J. H. Wood, "A Model of Federal Reserve Behavior," in George Horwich (ed.), Monetary Process and Policy, Irwin Inc., 1967. 2See F. de Leeuw and J. Kalchbrenner, "Monetary and Fiscal Actions: A Test of Their Relative Importance in Economic Stabilization-Comment," in Review, Federal Reserve Bank of St. Louis, April, 1969, and the "Reply" by L. C. Anderson and J. L. Jordon in same issue. 3See Harry Schwartz, "The Role of Government-Sponsored Intermediaries in the Mortgage Market," in Housing and Monetary Policy, Federal Reserve Bank of Boston, Boston, 1970; and Ernest Bloch, "The Federal Home Loan Bank System," in Federal Credit Agencies, Commission on Money and Credit, Prentice-Hall, Englewood Cliffs, N.J., 1963.