Federal Home Loan Bank Act (1932)

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Federal Home Loan Bank Act (1932)

Steven A. Ramirez

The Great Depression was an unprecedented economic calamity that ultimately gave rise to an unemployment rate of 25 percent and to a 33-percent contraction of the nation's economy. A quarter of a million families lost their homes in mortgage foreclosure proceedings. President Herbert Hoover initially responded to the downturn in accordance with mainstream economic doctrine of the day and conventional political conceptions of the role of the federal government. Unfortunately, the downturn proved to be very unconventional. President Hoover is to be credited with pursuing a far more interventionist concept of the federal government's role as the downturn intensified. By 1932 the conditions in the housing sector and the closely related savings and loan industry were so dire government intervention was necessary. President Hoover responded with the first federal regulation of the housing and savings and loan industry—the Federal Home Loan Bank Act (FHLB)(P.L. 72-304, 47 Stat. 785).

One major purpose of the Federal Home Loan Bank Act was to create a credit reserve intended to increase the supply of credit available to the housing market, thereby allowing people to buy and maintain homes. Much to President Hoover's great disappointment, however, the credit program was a complete failure. While 41,000 homeowners applied for FHLB loans in the first two years after its enactment, the government agency administering the program approved just three applications.

SUBSEQUENT LEGISLATION

The lack of initial success, however, did not prevent the act from laying the foundation for federal regulation of the housing market in general, and the savings and loan industry (also known as the thrift industry) in particular. On the contrary, the FHLB system was central to the success and regulation of the thrift industry—consisting of twelve regional FHLB banks and the Federal Home Loan Bank Board (FHLBB) in Washington, D.C.

The system, patterned after the Federal Reserve Bank, acted as a lender of last resort when thrifts faced financial strain. Having the FHLB system in place enabled Congress to adopt additional legislation to help fund home ownership. For example, in 1933 Congress adopted the Home Owners' Loan Act, which awarded $770 million to the thrift industry to help deal with borrowers who could not repay their loans. Again, in 1934, Congress acted by adopting the National Housing Act, which extended deposit insurance to the thrifts industry.

At the peak of its power, the FHLBB chartered federal thrifts and regulated the activities of federal savings and loans and savings and loan holding companies. None of these regulatory tasks had been part of the federal government's responsibilities prior to the Federal Home Loan Bank Act. Congress promulgated the act under its authority to regulate interstate commerce, pursuant to Article II, Section 8 of the U.S. Constitution.

As of 1981 some 44 percent of the savings and loan industry was federally chartered and 93 percent of the nation's savings and loans were members of the FHLB bank system. By the early 1980s the federal regulatory framework founded by the Federal Home Loan Bank Act had successfully strengthened the savings and loan industry and facilitated home ownership—which soared in the U.S. from 40 percent to 66 percent from the pre-Depression era to the 1970s. The FHLB Act was a key part of this success.

In the 1980s, however, problems arose as interest rates soared in the face of an increasingly restrictive monetary policy, and savings and loans were faced a high percentage of their assets committed to low interest, long-term mortgages. In an effort to alleviate this problem Congress deregulated the industry and permitted savings and loans to pursue more risky activities. Predictably, thrift failures soared; by 1989 thrift failures had become such an enormous problem Congress was forced to act. The Financial Institutions Reform Recovery and Enforcement Act of 1989 (FIRREA) radically changed the regulatory geography for thrifts. The FHLBB was abolished and replaced with the Office of Thrift Supervision, which has remained the primary regulator of federal thrifts.

Certainly the thrift crisis was notable; nevertheless, equally notable was that there were no runs on the thrift industry in light of its financial difficulties, and there were no macroeconomically significant thrift failures. The housing industry did not collapse, as it had in the Great Depression. The thrift industry has managed to prosper and continues to fulfill its original role to support the nation's housing industry and make housing available to more Americans.

SUPREME COURT RULINGS

The courts have given the act surprising breadth. In the Fidelity Federal Savings and Loan Association v. De la Cuesta (1982) case, the Supreme Court held that federally created savings and loan associations, chartered by the FHLBB, were immune from state laws prohibiting "due-on-sale clauses." These clauses were helpful to federal savings and loans because they limited the risk of raising interest rates by requiring all of a mortgage to be paid off, rather than assumed by the purchaser. The FHLBB had issued regulations permitting such clauses but state laws prohibited them. The Supreme Court upheld the FHLBB regulations because it found that Congress had vested the FHLBB with broad powers over federally chartered savings and loans and that federal law governed a broad array of activities of federally chartered thrifts, "from its cradle to corporate grave." Still, this broad power had its limits, as shown in 1997 when the Supreme Court held in Atherton v. FDIC that there was insufficient federal interest in federally chartered and federally insured thrifts to warrant a federal common law standard of care for thrift directors.

In United States v. Westar, the Supreme Court summarized the history and extent of the Federal Home Loan Bank Act as follows:

The modern savings and loan industry traces its origins to the Great Depression, which brought default on 40 percent of the Nation's $20 billion in home mortgages and the failure of some 1,700 of the Nation's approximately 12,000 savings institutions. In the course of the debacle, Congress passed three statutes meant to stabilize the thrift industry. The Federal Home Loan Bank Act created the Federal Home Loan Bank Board (Bank Board), which was authorized to channel funds to thrifts for loans on houses and for preventing foreclosures on them. Next, the Home Owners' Loan Act of 1933 authorized the Bank Board to charter and regulate federal savings and loan associations. Finally, the National Housing Act created the Federal Savings and Loan Insurance Corporation (FSLIC), under the Bank Board's authority, with responsibility to insure thrift deposits and regulate all federally insured thrifts. The resulting regulatory regime worked reasonably well until the combination of high interest rates and inflation in the late 1970s and early 1980s brought about a second crisis in the thrift industry. Many thrifts found themselves holding long-term, fixed-rate mortgages created when interest rates were low; when market rates rose, those institutions had to raise the rates they paid to depositors in order to attract funds. When the costs of short-term deposits overtook the revenues from long-term mortgages, some 435 thrifts failed between 1981 and 1983.

See also: Federal National Mortgage Association Charter Act; National Housing Act.