By Bert Ely
For years, the FCS’s Annual Information Statement presented data on the number of FCS loans outstanding at year-end by size of loan, with this loan data aggregated by size range. I have long criticized this practice, because many FCS borrowers, especially larger ones, have multiple FCS loans. Consequently, Information Statement readers could not gain a sense of the extent to which the FCS provides taxpayer-subsidized loans to very large borrowers, even though the FCS has long had the capability of aggregating loan data by borrower.
In fact, prior Information Statements provided data on the total amount lent to the FCS’s ten largest borrowers. Finally, the 2015 Information Statement provides data for all loans aggregated by borrower. What an eye-opener! At December 31, 2015, just 4,458 persons or entities – less than one percent of the FCS’s 527,462 borrowers – had each borrowed at least $5 million from the FCS. Their loans totaled $107.3 billion, or 45.5% of total FCS loans outstanding at year-end 2015, for an average loan size of $24.1 million. Within that group were 49 borrowers with an average loan balance of $417 million, including one loan exposure in the $1 to $1.5 billion range and another five loan exposures in the $750 million to $1 billion range. Can taxpayer-subsidized financing be justified for any of these borrowers?
FCA bookletter raises doubts about FCS similar-entity lending
Perhaps in response to criticisms raised at the House Agriculture Committee’s December 2 hearing on the FCS, on March 10 the Farm Credit Administration (FCA) issued a bookletter on “similar-entity” lending by FCS institutions. Bookletters are regulatory guidance the FCA issues to FCS institutions. According to the bookletter, a qualified similar-entity borrower is “a person or entity that is not eligible for [an FCS] loan but has operations ‘functionally similar’ to the operations of an eligible borrower.” For example, Verizon and AT&T are similar entities because CoBank can lend to cooperatives which provide telephone and wireless communication services. However, similar entity loans cannot be made to companies engaged in activities outside the FCS’s lending authorities. For example, the FCS cannot lend to an investor-owned casino since FCS institutions cannot lend to a cooperatively owned casino. Presumably, similar-entity lending levels the playing field between entities eligible to borrow from the FCS and direct competitors ineligible to borrow from the FCS. By virtue of being able to borrow from the FCS at taxpayer-subsidized interest rates, those similar-entity borrowers, of course, gain a financing edge over competitors who do not borrow from the FCS.
Similar-entity lending occurs when one or more FCS institutions “purchase participations in loans originated by [non-FCS] lenders to qualified similar entity borrowers,” subject to three limitations. First, the aggregate amount lent to the borrower by all FCS institutions “must not, at any time, equal or exceed 50 percent of the principal amount of the loan.” For example, FCS institutions, in the aggregate, cannot buy more that $50 million of participations in a $100 million loan a commercial bank had made to a large sugar producer. Second, the total amount lent by an FCS institution to a single similar entity “must not exceed 10 percent of an institution’s total capital,” unless its shareholders have approved a higher limit, up to 25 percent. Third, “the aggregate dollar volume of similar entity participations held by [any one FCS] institution must not exceed 15 percent of its total assets.”
If each FCS institution’s similar-entity lending had reached that 15 percent limit at the end of 2015, total FCS similar-entity lending could have equaled $67.1 billion, given that the combined assets of all FCS banks and associations on December 31, 2015, totaled $447.4 billion. That amount of similar-entity lending would have equaled 28.5 percent of all FCS loans outstanding at the end of 2015. It is unlikely that total FCS similar-entity lending would have reached that limit, but interestingly, the FCS Annual Information Statements provide no data on the FCS’s similar-entity lending. Future FCS financial statements should do so.
According to the bookletter, “Congress established the similar entity authority to provide [FCS] institutions and [non-FCS] lenders [including banks] with a tool to manage risk. By lending to similar entities, [FCS] institutions can reduce geographic, industry, and individual borrower concentrations.” That is a highly dubious proposition, for this reason: The similar entities to which FCS institutions can lend are limited to the same industries as entities and persons eligible to borrow from the FCS. Similar-entity lending authority does not empower the FCS to lend to persons and entities FCS institutions cannot lend to, such as casinos and automobile manufacturers. Since CoBank can lend to telephone cooperatives, that supposedly justifies CoBank lending to Verizon and AT&T. Presumably, individual FCS institutions can diversify their geographic and industry risks by purchasing participations in loans to borrowers located elsewhere in the country or by purchasing a portion of a loan participation CoBank had previously purchased in a loan to an investor-owned utility such as AT&T or Verizon. However, through such transactions, the FCS, as a whole, has increased its aggregate risk exposure to those industries, including agriculture, where it already has substantial credit risk. That increased risk concentration hardly represents sound risk diversification for the FCS.
Although the four FCS banks are separately chartered and managed institutions, they have joint-and-several liability for debt securities sold to investors by the FCS’s Federal Farm Credit Banks Funding Corporation. However, the first line of defense in preventing an FCS default on its debt securities is the Farm Credit System Insurance Corporation (FCSIC), which is funded by assessments, comparable to FDIC assessments, on the FCS banks. The FCS banks in turn pass a portion of those assessments through to the associations they fund; in 2015, the FCS banks assessed FCS associations for $169 million of the $261 million in premiums paid to the FCSIC. The combination of joint-and-several liability and FCSIC assessments binds the four FCS banks and 76 direct-lending FCS associations into what essentially is one highly interconnected financial institution implicitly backed by U.S. taxpayers.
The FCS’s similar-entity lending authority has enabled the FCS to make loans to borrowers not otherwise eligible to borrow from the FCS, thereby increasing FCS’s taxpayer risk by untold billions of dollars. That additional credit risk resides in those sectors and regions of the economy where the FCS already has a substantial risk concentration, further exacerbating the FCS’s already extremely concentrated risk in large borrowers, as reported in the article above. For that reason alone, Congress needs to reexamine the rationale for the FCS’s similar-entity lending authorization.
CoBank: $1.7 billion of loans to investor-owned utilities
Although CoBank normally does not disclose information on its similar-entity lending to investor-owned utilities, such as Verizon and AT&T, during CoBank’s annual investor conference call on March 10, I posed this question: At year-end 2015, what was the total amount of CoBank’s lending to investor-owned utilities. To my present surprise, CoBank later provided an answer – approximately $1.7 billion. That amount equaled 8.7% of CoBank total lending on December 31, 2015, to electric, telecommunication, and water/wastewater utilities. These participations are especially profitable for CoBank because of its tax breaks and cheap funding; that additional profitability subsidizes its other lending activities.
CoBank did not provide data on participations in loans to investor-owned utilities it had sold to other FCS institutions, but it probably is substantial since those other institutions had a total of $6.1 billion of utility loans outstanding at the end of 2015, almost all of which consisted of loan participations purchased from CoBank. CoBank’s spokesman said it is routinely approached by large commercial banks to buy loan participations. That may be true, but that does not mean that CoBank should buy them. CoBank’s rationale reminds me of the Flip Wilson saying: The devil made me do it.