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Senator SPARKMAN. In recent years it has gone up and is selling for about 90 cents now, is it not?

Mr. Mason. I believe it is. It is pretty close to it.

Senator SPARKMAN. It was a difficult struggle to become accepted but is doing very well now.

However, it never has become available to the public in general; it goes only to those who participate, does it not? They are the only ones able to buy it?

Mr. Mason. Well, these people in turn sell the stock.

Senator SPARKMAN. Oh, they can in turn sell it. But I mean insofar as original purchasers are concerned.

Mr. Mason. That is correct.

Senator SPARKMAN. It is only available initially to those who participate in FNMA's operations.

Well, thank you very much, Mr. Mason. But before you go, I might say a few moments ago I referred to FDIC's operations. I have had that checked.

Of course, the FDIC gets its financial support for its operations and its reserve from the banks. On June 30, 1963, this reserve fund had reached the level of $2,582,900,000. But the power that I referred to was the backup support by the Treasury Department; and which I thought was $2 billion. It used to be $2 billion. I am informed that we increased it to $3 billion and not $4 billion.

So the $2.6 billion of money that the FDIC secured from the banks could be considered as private

funds. But what I referred to was the backup power of the Federal Government of $3 billion. That is pretty substantial so far as FDIC is concerned.

Mr. Mason. This is true, of course, of all of these programs, Senator.

Senator SPARKMAN. That is the reference that I made. Of course, it is true of FNMA.

Mr. Mason. That is correct. Senator SPARKMAN. FNMA has several billion dollars of backup, I believe. And it is true with all of these quasi-government programs.

And that was the reference that I made, the fact that even when they get to be privately owned, there is still that backup of support.

Mr. Mason. Senator, could I add that I think that people in industry who have proposed a setup such as in S. 810, which will operate without this kind of backing, are to be commended, because they have to make it work or it will not work.

Senator SPARKMAN. Yes. I wonder if you know this. This was testified to yesterday—that, under the plan proposed in S. 810, not only would there not be any Government backup, but eventually even the expenses of the Board of Governors, the supervisory body, would be paid for out of the Corporation?

Mr. Mason. Yes. This after a very short period of time.

Senator SPARKMAN. Well, as I understand it, they would pay onetenth year by year.

Mr. Mason. That is correct.

Senator SPARKMAN. Add one-tenth year by year, so that at the end of 10 years, the initial amount would be paid for, and thereafter it would pay for its own.

Mr. Mason. Yes, sir.

Senator SPARKMAN. And I think those are points to be kept in mind so far as private participation is concerned.

Thank you very much, Mr. Mason. We are always glad to have you with us.

Dr. Hobart C. Carr, chairman of the banking and finance department, School of Commerce of New York University.

Dr. Carr, we are pleased to have you with us. We have your prepared statement. You proceed in your own way, sir.

STATEMENT OF HOBART C. CARR, CHAIRMAN OF BANKING AND

FINANCE DEPARTMENT, SCHOOL OF COMMERCE, NEW YORK UNIVERSITY

Dr. CARR. Thank you, sir. I am happy to have the opportunity to testify in support of the Mortgage Market Facilities Act of 1963. I believe that passage of this act will contribute to a further extension of the improvement of the mortgage market begun and carried forward by the FHA, FNMA, the Federal Home Loan Bank System, and other agencies of the Government. It should be specifically acknowledged that without the prior work performed by such agencies this next step being contemplated would be unthinkable.

I regard passage of the act as an opportunity to allow private risk capital to play an important role in removing impediments to the flow of funds within the mortgage market-for example, between capital surplus areas, such as the East, and capital shortage areas, such as the west coast—and between the mortgage market and other parts of the capital market. If this lessens the role of the FHA and VA and of FNMA, or, perhaps more accurately, reduces the growth in these institutions, it will be in keeping with the stand taken by the report on Federal credit agencies.

Objections on various points have been raised to the proposals embodied in the bill. I should like to note several.

Some deny the feasibility of the proposal--and you heard some questions about that this morning--that is, they deny the existence of profitmaking opportunities for the corporations. Others object on the grounds that the proposal places first what should be second; they believe that basic changes in the mortgage instrument-redemption rights, for example, should be made first. Still others object to the Federal charter and supervision aspect of it; they question the necessity and even the desirability of Federal charters.

In my connection with the proposal, first as consultant to the ABA acting jointly with Dr. Kurt Flexner in developing the idea and then as an unattached, uncommitted member of the National Mortgage Market Committee, I have had considerable opportunity to reflect on such objections. I welcome the chance to voice my views on them. It should be noted that these views are my own and not those of any organization.

I should like to concentrate my remarks on the feasibility question. Before coming to grips with this question, however, I should like to note its connection with the other objections. Those who believe basic changes in the instrument should come first assert that, without such changes, the profitmaking opportunities of the proposed firms would be limited, perhaps nonexistent. Those who honestly question the necessity and especially the desirability of Federal charters are fearful of subsequent Federal intervention to make the organizations failureproof. Thus, they want to be assured of the viability of the organizations prior to the availability of Federal charters.

My views as to the basic changes in the mortgage instrument are these: of course such changes are needed; without these changes, profit opportunities for the proposed firms will be indeed more limited than they would otherwise be; nonetheless, the existence of some Statechartered organizations point to the likelihood of the viability of the proposed firms; if federally chartered firms were viable, various States would be led to change their laws so that mortgages in such States could share in the benefits of enhanced marketability and liquidity. Thus, I conclude that success of the proposal would speed up needed basic changes in mortgage instruments.

On the matter of the necessity of Federal charters, I submit these houghts: the benefits to be realized from the proposal, such as a freer interregional flow of funds, are considerable; even if the firms are assumed to be successful as State-chartered businesses, the process of seeking permission to do business in each State is time consuming; Federal chartering and supervision will speed up the realization of the benefits.

While I do not share the fears of those who regard the failure of private business firms as something to be avoided at all costs, I do admit that the prospects of the proposed firms should be examined before the passage of this legislation. I believe it is possible to place too much emphasis on the question since I believe those who put up the risk capital will consider it most carefully before applying for a charter. Nevertheless, I should like to consider the question at some length.

Concerning the insurance companies, the critical questions that have been raised are these : Are the proposed reserves adequate? Will there be a problem of liquidity?

Before going on with this, I should like to interpolate a few remarks about when the break-even point on the insurance companies might be reached. I have studied the MMIF, that part of FHA that deals with the mortgage insurance of private homes, and I find that it took MMIF approximately 4 years to reach a break-even point; that is, a point at which their expenditures and their income balanced. In this time they spent in the way of advances from the Treaspry some large sum, oh, I have forgotten the exact figure, but upward of $30 million.

At the time MMIF reached the break-even point, the amount of insurance outstanding was about $1 billion.

Now, this point illustrates the difficulty of any of these observations on feasibility. And I shall point out those difficulties in regard to some other matters as we go along. Here we have a Federal institution, growing rapidly, backed by the Government, reaching the breakeven point at $1 billion.

On the other hand, we have an institution, a private institution, one that is chartered in Milwaukee, Wis., that reached the break-even point in 32 months, rather than nearly 4 years. The break-even point was reached when their portfolio was $100 million. I should not say

portfolio"; I mean insurance outstanding upon which premiums were being paid.

So you have this range from $1 billion down to $100 million, one of them a Government agency, one of them a private organization.

Now, this is obviously a question of scale. Ånd again I refer to the question of how the private entrepreneur with this bill before him is going to consider the scale at which he is going to operate before he can decide whether this is going to be a profitable organization or not. Provisions in the bill will

determine some of his considerations, of course. The amount of capital to be subscribed, the 5 percent ratio that is required, the rate of return that the insurance company can obtain on the assets represented by this reserve are among a whole series of things that he is going to have to consider.

In these considerations he will probably examine the MMIF's experience, and he will find, roughly speaking, that average costs per dollar of insurance issued was about 22 mills, and that marginal costs; that is, the additional costs resulting from increases in the volume of insurance, will run less than this--say, when I last looked, something like 15 mills.

Now, they get 50 mills in premiums, 22 mills is in costs; it does make them annually a profit. And as for marginal increases, 50 mills from the insurance premium, 14 to 15 mills for added, marginal costs; this is one of the things that any private entrepreneur will look at.

He will also look to the maximum extent possible-he will also look at the experience of the firm to which I referred.

Now, at one time I made a study of this, and at the break-even point-after 32 months—their average cost was 37 mills. They were charging a kind of split rate, really—50 mills annually, but you could cut this if you paid 10 years' premiums in advance.

As far as I could figure out, their average income per dollar of insurance outstanding under those circumstances instead of being 50 mills, was 48 mills. So they had a spread at the break-even point between 48 mills income, 37 mills expenses and the next year they made a profit.

Well, I allude to these matters to give you some of my thoughts at this point on the questions raised by Mr. Neel. You have to, it seems to me, regard this, as if you were a private entrepreneur wanting to apply for one of these charters. And no one can, before that work is done and before the amount of promotional expenditures that would be required to make such studies—can really give an answer that would be satisfactory to one entrepreneur or to another or to another who may apply for a charter.

Now, let me return to the paper I have prepared, and the questions:

Are the proposed reserves adequate? Will there be a problem of liquidity?

The question of the adequacy of reserves can best be considered by a comparison with the Mutual Mortgage Insurance Fund. As of June 1961, the MMIF ratio of reserves to insurance in force was 2.58 percent. (Since there was a shortage in required reserves, the desired ratio was 2.59 percent.) The shortage was approximately $27 million, as I recall, on a base of $650 million approximately, desired reserve.

The proposed firm will have reserves of 5 percent, nearly twice that of MMIF. The MMIF formula for determining required reserves

makes use of the worst possible catastrophe in the mortgage market the early 1930's—and indeed the implicit loss rates are probably worse than the historical record indicates. (See Fisher & Rapkin; the book to which I allude is entitled "The Mutual Mortgage Insurance Funds,

p. 86.)

The formula also makes use of a 242-percent rate on investments in determining income. If the worst catastrophe in the future is less than the one used, if a firm realizes more than 212 percent on its investment of its reserves, a lower premium on insurance or a smaller reserve is possible, even for the MMIF. With the same premium rate as MMIF, it seems reasonable to conclude that the proposed reserves are more than adequate, even though the proposed firms would incur some costs not borne by MMIF.

Liquidity problems will not arise from inability to dispose of liquid assets of the insurance firms. These assets will be largely Government securities; Federal Reserve policy at a time of such stress as to raise a problem of liquidity will be easy and security prices will rise. Nonetheless, a period of prolonged strain in the mortgage market would result in acquisition of foreclosed real estate and loss of liquid assets unless the properties could quickly be sold. Whether these properties can quickly be disposed of without damaging loss depends on (1) whether the Government intervenes to lessen the strain in the mortgage market, (2) the fall of property values compared with the average loan-to-value ratio on the insured properties, and (3) the quality of these properties, which in turn depends on the judgment of the management of the insurance firms. If good management is assumed (how can the contrary be assumed ?) and if antirecissionary measures by the Government can also be assumed (a reasonable assumption?), the liquidity question is reduced to the fall of property values versus loan-to-value ratios, and this again to the adequacy of the reserves. That is to say, when the company sells the properties that have been foreclosed, is there enough difference in the reserves to make up any difference in the judgments that were made when the insurance was issued ?

So the liquidity problem, it seems to me, is reducible once more to the question of reserves.

Those who consider establishing a marketing firm under the auspices of the proposed legislation will find the task of estimating its prospects a tricky one. For example, comprehensive statistics on mortgage rates and terms have only recently been compiled. Historical rates can only be approximated. Care must be exercised in the selection of alternative approximations and the unwary may be misled.

For example, portfolio yields of various types of financial institutions was used by one critic of the proposal to represent current mortgage rates. The critic to which I refer was the author of the article offered by Mr. Neel. He failed to recognize that such yields are the average of various contract rates at which mortgages were made during the entire time when the portfolio was accumulated. When mortgage rates show a strong tendency to rise during the period of portfolin accumulation as they have in the past 5 to 10 years, this method seriously understates current mortgage rates.

Another and better method, relating portfolio changes to changes in mortgage income, must also be used carefully as a measure of current

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