The Agricultural Credit Act of 1987 (the 1987 Act) authorized Farmer Mac to promote the development of a secondary market for agricultural real estate and rural housing loans. As a GSE, Farmer Mac is a federally chartered, privately owned and operated corporation that operates as a special purpose corporation. Farmer Mac is also an independent entity within FCS, which is another GSE. When Congress passed the 1987 Act, some observers stated that a Farmer Mac-sponsored nationwide secondary market would develop quickly and be widely used. Others stated that Farmer Mac would serve more as a safety valve for the agricultural sector if FCS encountered difficulties. A secondary market is a financial market for buying and selling loans, either individually or in the form of securities backed by cash flows from groups or “pools” of loans. By authorizing Farmer Mac to promote the development of an agricultural secondary market, Congress intended to (1) increase the availability of long-term financing to creditworthy farmers and ranchers at stable interest rates and (2) provide greater liquidity in agricultural financing. Ideally, such a market would provide agricultural lenders with access to national capital markets, which, by returning cash to such lenders in exchange for the mortgages, would generate additional funds for them to lend and enhance their ability to manage credit and interest-rate risks. Under Farmer Mac’s originating statute, the 1987 Act, it was only to certify certain agricultural lenders and other financial institutions to act as third- party “poolers” that is, financial institutions that would buy qualified loans from other lenders or “originators,” assemble or “pool” the loans, and issue and sell securities that are backed by these pools to investors. Farmer Mac guarantees the timely payment of principal and interest to investors who purchase these mortgage-backed securities. The original statute did not permit Farmer Mac to buy and hold agricultural loans. The 1987 Act also required either originators/poolers to maintain a cash reserve to cover at least the first 10 percent of losses arising from defaults on the pools of loans backing Farmer Mac-guaranteed securities or holders of subordinated participation interests (SPI) to absorb these losses before Farmer Mac’s guarantee could be exercised. The purpose of the reserve requirement was to minimize risks to Farmer Mac and the federal government by requiring originators, poolers, and investors to hold most of the loan’s credit risk. Risk-based capital requirements for banks and FCS institutions required them to hold capital against the full amount of the sold loan, not just the 10 percent retained by the lender. Regulators of primary market lenders (e.g., banks and FCS institutions) viewed the retained SPI as the source of substantially all of the loan’s credit risk and, therefore, obtaining Farmer Mac’s guarantee did not reduce the amount of capital the lender was required to hold. As a result, the incentive for banks and FCS institutions major agricultural mortgage lenders Farmer Mac-guaranteed loan pools was reduced. Further, the 1987 Act required certain diversification standards to be met—that is, each pool was to be made up of loans secured by properties from different geographic locations that produce different agricultural commodities. The necessity to operate through third-party poolers and establish the mandatory cash reserve or SPI increased the complexity and expense of secondary market transactions to both Farmer Mac and lenders. Under its original operating structure, Farmer Mac was unable to achieve a profit, and its prospects for survival were dim. Eight years after its creation, Farmer Mac faced possible financial failure and was ineffective in creating a successful agricultural secondary market.Farmer Mac requested and Congress granted new statutory authorities in the 1996 Act to improve Farmer Mac’s ability to fulfill its statutory mission. Among other things, the revised charter allowed Farmer Mac to (1) purchase agricultural mortgage loans directly from lenders and serve as a pooler, (2) eliminate the mandatory 10-percent minimum cash reserve and SPI required with each loan pool and also eliminate the loan diversification standards, (3) have its securities accorded full “agency status” in the financial markets, and (4) relax and delay the implementation of regulatory capital standards for Farmer Mac. The first three revisions made Farmer Mac’s operating structure essentially the same as Freddie Mac’s and Fannie Mae’s the GSE facilitators of the secondary markets for residential mortgage loans. Primary market lenders, secondary market entities, and investors in securities backed by cash flows from loan pools face credit, interest-rate, prepayment, management, and business risks. Farmer Mac faces credit that is, the possibility of financial loss resulting from default by borrowers on farming assets that have lost value and/or other parties’ failing to meet their obligations. This risk occurs when Farmer Mac holds mortgages in portfolio and when it guarantees principal and interest payments to investors in AMBS it issues. Farmer Mac’s interest-rate riskcan result from the possibility of an increase in interest rates in the national economy that is not matched by an increase in interest rates paid by borrowers to Farmer Mac for loans that are held in portfolio by Farmer Mac. Farmer Mac’s prepayment risk can result from the possibility of a decline in interest rates, which can cause borrowers to prepay their mortgages. Farmer Mac faces management risk from the possibility of financial loss resulting from a management mistake that can threaten the company’s viability. Finally, Farmer Mac faces business risk from the possibility of financial loss due to conditions within the agricultural sector that affect loan performance. The risk characteristics of agricultural mortgage loans are different from those of conventional single-family residential mortgage loans.Agricultural mortgages are commercial loans that fund a wide variety of agricultural activities (e.g., poultry farms or orange groves), while single- family mortgages fund a fairly homogeneous asset. As a result, in the event of loan foreclosure, farm properties can be harder to appraise and more difficult to liquidate than a single-family residence. In addition, the financial and business skills of farm operators can affect the value of their collateral since their income comes largely from the mortgaged property, rather than from independent employment or investment income. As a result, assessing the risks of cash flows from agricultural loan pools can be more difficult than such an assessment for single-family residential mortgages. To some extent, agricultural mortgage loans are more like multifamily loans than single-family loans because multifamily loans are commercial loans in which income is derived largely from rental of the mortgaged property. Farmer Mac strives to fulfill its statutory mission mainly by purchasing agricultural mortgages from lenders. Lenders who participate in the primary market for such agricultural mortgages include federally insured depository institutions, insurance companies, and FCS institutions. Once purchased by Farmer Mac, the mortgages can be held directly in portfolio or pooled to back newly issued AMBS. Farmer Mac, in turn, can hold some AMBS in portfolio and sell some AMBS to investors in national financial markets. About $1.1 billion in total AMBS were outstanding as of year-end 1998; slightly more than half of the value was held by investors other than Farmer Mac. Farmer Mac guarantees timely payment of principal and interest to investors in its AMBS. Farmer Mac conducts its operations through two broadly defined programs. The Farmer Mac I Program consists of agricultural and rural housing mortgage loans that do not contain federally provided primary mortgage insurance. The Farmer Mac II Program consists of agricultural mortgage loans containing primary mortgage insurance provided by the U.S. Department of Agriculture (USDA). Farmer Mac was authorized in the Food, Agriculture, Conservation, and Trade Act of 1990 (the 1990 Act) to facilitate the creation of a secondary market for USDA-guaranteed agricultural loans. Under Farmer Mac II, Farmer Mac can purchase or have others purchase the guaranteed portions of USDA loans, assemble them into pools, and hold them in portfolio or sell them as securities to investors. At year-end 1998, Farmer Mac held $306.8 million of Farmer Mac II AMBS in portfolio and other investors held $30.1 million. We focused our attention on the secondary market in agricultural mortgages under the Farmer Mac I Program because it is the primary program through which Farmer Mac conducts its secondary market activity. However, we included Farmer Mac II Program activity in our analysis of Farmer Mac’s future viability. To address our objectives overall, we reviewed relevant literature, congressional testimony, Securities and Exchange Commission public filings, and relevant Internet World Wide Web sites. We also held numerous discussions with Farmer Mac executives and interviewed representatives of the American Bankers Association, Independent Bankers Association of America, and the Farm Credit Council. To gain a better understanding of the agricultural mortgage market and its prospects for future growth, we met with financial and agricultural economists from USDA’s Economic Research Service. Additionally, to obtain a regulatory perspective on Farmer Mac activities, we met with officials from the Farm Credit Administration (FCA), the Director of FCA’s Office of Secondary Market Oversight, and the Department of the Treasury’s Director of GSE Policy. In our analysis of the agricultural mortgage market, we did not undertake detailed analyses of competing FCS or FHLBank System products. We also did not analyze the USDA loan guarantee programs. To determine Farmer Mac’s risk management practices and exposure to each type of risk, we (1) obtained Farmer Mac’s written and oral responses to questions on interest-rate, prepayment, credit, business, and management risks; (2) reviewed corporate policies and standards, including Farmer Mac’s Seller/Servicer Guide (Farmer Mac guide), which specifies lender requirements for participation in Farmer Mac programs; (3) obtained data on Farmer Mac’s current financial condition and operating results, such as delinquency rates and profit margins; (4) reviewed methodologies for determining capital adequacy, pricing, sensitivity to interest-rate changes, sensitivity to economic stress, and management information systems; and (5) examined copies of external auditors’ reports and management letters.