Congress is currently debating whether to reauthorize the charter for the Export-Import Bank of the United States. Most of the debate has focused on whether the economic and public policy rationale still exists for the federal government to involve itself in helping private firms finance their exports. Other statutory requirements also are under review, including provisions that direct the Ex-Im bank to provide export-related loans for small businesses and green technologies.
Some lawmakers have questioned whether the Ex-Im bank (first created in 1934) should still be wading so heavily into private markets – effectively picking winners and losers with its loans and loan guarantees. Defenders of the bank argue that the programs simultaneously help create domestic jobs and level the playing field with international competitors (who often receive financing and subsidies from their respective governments). Another key argument for supporters is that not only does the bank serve those ends at no cost to taxpayers, but it actually earns a profit.
The problem with that last claim – which lawmakers to date have not focused in on – is that the Ex-Im bank’s profits are almost surely an accounting illusion. The non-partisan Congressional Budget Office has cautioned policymakers that the government’s official accounting rules effectively force budget analysts to understate the cost of loan programs like those managed by the Ex-Im bank.
These rules – mandated in the Federal Credit Reform Act of 1990 (FCRA) – understate the cost government loan programs impose on taxpayers by excluding, or not factoring in, the cost for market risk. The current rules require that budget estimates discount expected loan performance using the interest rates on risk-free U.S. Treasury debt rather than a rate that matches the riskiness of the loan itself. That flaw makes it appear as if the government can offer far more favorable loan terms than what a purely private entity would charge without imposing a cost on taxpayers. The government’s advantage disappears, however, when budget estimates account for market risk – the risk that losses on the loans could be higher during a weak economy when defaults will be more frequent and costly.
The Congressional Budget Office says that factoring in market risk “provides a more comprehensive measure of federal costs, ” and the agency’s work on this topic generally reveals that mortgage loan guarantees under the Federal Housing Administration and Fannie Mae and Freddie Mac, federal student loans, Small Business Administration loans, and loan guarantees for nuclear power plant construction are not profitable (or free) even though they appear so as estimated under the FCRA rules. The CBO has reported that all of the aforementioned programs impose budgetary costs on taxpayers when viewed through fair-value estimates (i.e. those that factor in market risk).
What might a fair-value estimate show for the loan guarantees provided by the Ex-Im bank?
Only one of the Ex-Im bank’s loan programs (long-term loan guarantees) appears profitable in the budget using FCRA rules, showing a negative subsidy rate of 1.68%. (A negative subsidy, rather than a positive one, indicates that a loan program is profitable.) The Ex-Im bank’s other programs already operate and are scored under FCRA rules as costing taxpayers, but the long-term loan guarantee program is large enough ($21 billion in estimated new guarantee volume in 2012) that its apparent profits ($354 million) are sufficient to offset the costs of the other small programs combined. This is how the bank’s supporters are able to claim that its loans and guarantees, on net, are profitable and enable the bank to operate on a “self-sustaining” basis.
The CBO hasn’t provided a fair-value estimate for the Ex-Im bank specifically, but one can be calculated using the following back-of-the-envelope approach. Loan program data available from the Office of Management and Budget – loan volume, default rate net of recovery, interest rates, fees and maturity – for the Ex-Im bank’s long-term loan guarantee provides enough information to develop a crude cash flow model for the 2012 cohort of loan guarantees. Next, the assumed U.S. Treasury discount rate can be adjusted to factor in a market risk-premium. In this case, a premium of 0.69 percentage point is added, which corresponds to the historical risk premium investors charge over U.S. Treasury rates for relatively low-risk A-rated corporate bonds.
This simple approach – which is based on a method outlined in a National Bureau of Economic Research paper by Debbie Lucas of the Massachusetts Institute of Technology – suggests that the Ex-Im bank’s long-term loan guarantee program actually provides guarantees at a loss for taxpayers, not a profit. Moreover, this analysis reveals that the Ex-Im bank’s loan guarantees are made at sufficiently generous terms that borrowers receive subsidies of about 1% of the amount borrowed. That translates into a $200 million cost for taxpayers on the $21 billion in loans that the bank will make in 2012. Because the bank’s smaller loan programs already carry positive subsides under FCRA, the total subsidy level for the entire Ex-Im bank business is even higher than $200 million using fair-value estimates.
Given that just this week the House of Representatives passed a budget plan that gives a green light to fair-value accounting rules, and the CBO endorsed the methodology in a report earlier this month, one wonders why the critics of the Ex-Im bank haven’t requested a fair-value estimate of the bank’s lending activities. As the back-of-the-envelope analysis above suggests, a fair-value estimate would rob the bank’s supporters of one of their favorite talking points by showing that subsidizing businesses and foreign buyers, in this case, isn’t “self sustaining” or profitable for taxpayers.