Government Loan and Guarantee Programs

Government Loan and Guarantee Programs

JOEL FRIED

HE U.S. government is involved heavily in providing credit assistance to the private sector. From 1971 to 1981, the total amount of federally assisted credit outstanding jumped from $217 billion to $678 billion, an increase of over 200 percent.' Moreover,

government direct and guaranteed loans constituted almost 12.5 percent ofthe total hinds advanced, direct-

ly or indirectly, to the non-federal sector over the period 1972--81. In 1980 and 1981, the proportion of new funds loaned to the non-federal sector in the form of a government direct loan or guarantee rose to 17 percent.2

This article examines the consequences ofdirect and guaranteed loan programs on interest rates and aggregate demand. The analysis focuses on shifts in the supply and demand schedules for alternative sources of credit affected by each type of pi-ogram. The results indicate, under fairly standard assumptions, that an

increase in government direct loan programs accompanied by an equal decrease in government-guaranteed loan programs will decrease loan rates to borrowers who are ineligible for credit assistance. This shift in loan assistance also will increase the rate of interest on

government debt, and will increase the demand price of capital and level of aggregate demand.

GOVERNME.NT LOAN PROGRAMS ANI) PORTFOLIO CHOICE

There are two major mechanisms by which the government provides credit to private individuals through capital markets: guaranteed loans and direct loans.3 In the former, the government, having designated the potential recipients, guarantees loans made to this group by private financial intermediaries (hereafter referred to as banks) against any default. In a competitive banking environment, banks will pass on the economic value of the guarantee to the borrower. As a result, the borrower obtains the loan at a lower rate than the hank would have charged without the government guarantee.4

In the case ofdirect loans, a government agency acts as an intermediary in place of banks; it issues loans directly to the targeted group, obtaining the necessary

Joel Fried is an associate professor of economics at the Unirersity of Western Ontario. This article was written while Professor Fried

was a visiting scholar at the Federal Reserve Bank of St. Louis, Thomas H. Gregorsj provided research assistance.

`See The Budget of the United States Government, 1983,Special Analysis F, Federal Credit Programs (Washington, DC., 1982). This credit assistance consists of direct government loans, loan gnarantccs and loans by government--sponsored enterprises. 2These data are calculated from Ibid.. table F--i, p. 6. It exclndes neW equity financing.

i'his does not exhaust the forms of government capital market

intervention, Other programs affecting capital nsarkets that have come under the scrutiny of the Treasury its receost years include

lending by government--sponsored enterprises and tax exemptions for interest income on some types of loans. These are not cots-- sidcrcd in this paper. 5This subsidy need not he restricted to tlse actuarially isir value of the insurance. The government also could charge the banks afee

for the provision ofthe insurance Or could prox'ide a cash subsidy in addition to tlse guarantee if. fbr some reason. it wished the efl'ective subsidy rate to he clilkrent froas the expected defitult rate,

22

FEDERAL RESERVE BANK OF ST. LOUIS

DECEMBER 1983

Table 1

Direct Loan Transactions of the Federal Government: 1982 Fiscal Year (millions of dollars)

On-Budget Agencies

Funds approoriated to the P'esraent Agriculture Commerce Eaucation Energy Health programs Housing and tJrbar Development tnter,or Transportation Veterans Adminstratiun L.oans to me District o! ~okjrnbia Export-Impon Bank Federal Deposit Insurance ~o'poralion Foaorat Home L.oari Balk Board Natonal Creoit Union Mm nstration STerrnian!!esBsueseneVsas1eAydAmuinlnisotrr:atytion Other agences and programs

Subtota. on-budget agencies

Net Outlays

Outstandings

S 777 6.164 104 641 4 9 351 1 86 228 17 763 274 86 .34 22 69 , 224

9 10?

$ 17.932 31.186 891 9.859 13 921 13.216 441 1.003 3.368 1.684 16.565 705 758 149 9.169 267

--. 1.091

100.220

Oft-Budget Federal Entities

Rural Etectrticatron ano leiephone Revoivino Fund Rural ~eleprione Bank Federal F.nani iri9 Bark iFFB~ U S Ratway Associanor

Subtota'. off-bjccet 4ederal en!it:es

TOTAL, net d:rect ioans

.5 130 102

14 `55 42

14.345

523.452

$ 9.7/4 1 73

96519

123

107 588

5207 808

SOURCE

Ottice inert

of Management aid B~oget-Spetn/ Fiscal Yea, 7984 ti S Govnr.mert

APnriarl.ytnsqesO. tBScued.ge19t 8o3f,theTaUhnetedF.-S6'tates

Govern.

funds from the capital markets by issuing Treasury securities. Because government securities are used to raise the funds, the interest cost will be lower than on funds raised by private institutions. If the government intermediary passes on this reduction, the borrower will obtain a subsidized rate of interest on his loan.5

`The ssihsidy here refei's to tlse difference between tlse rate of intei'cst a horrower would pa\' if tise luass were nhtained frons a hank and the sate he would pay under either tIme loan guarantee Or direct hsan prngra~sss of the governsn emit, Tim is ma\ not correspond to the subsidy as viewed by tIme taxpayer; tlsat is, the eQst of tIme loan less the i'atc of iis terest pm ci on time bass, Rot gls estimates of the

ihsidies invol s'ed in thc' various government loan assd guarantec' programs are pi'esented iss Special Analysis F, Federal Credit Programs, 1982. See, especially, tables F'-- 11 A and F--ilB.

Tables 1 and 2 present the various direct loan and guarantee programs that existed in the 1982 fiscal year. As the tables show, virtually every sector of the economy is covered by some type of program, and assistance to some sectors takes the form of both direct loans and guaranteed loans. For instance, of the $9,943 million loans and guarantees outstanding in 1982 for the Farmers Home Administration's program for rural development, $153 million was on-budget direct loans, $3,387 million was ofihudget direct loans through the Federal Finance Bank (FFB) and $6,403 million was provided through govermnent guarantees. Indeed, the FFB holdings of loans guaranteed by a variety of on- and off-budget agencies provides an especially convenient mechanism to convert loan

guarantees into direct loans. `[lie FFB simply pur-

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FEDERAL RESERVE BANK OF ST. LOUIS

DECEMBER 1983

Table 2

Gbaran eed Loan Transactions *t the ffed~tat ................
................

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