The federal government does two things every year that make it like parents. It lends money to its citizens, and it co-signs on loans for them. Just like parents, the government fibs a little to itself about the likelihood of these loans being paid back. It assumes that they carry no “market risk,” that is, the possibility that everything in the economy will go bad at once.
According to the Congressional Budget Office, if the government included market risk in its budget, programs like student loans and mortgage guarantees from the Federal Housing Administration, which are projected to bring in $45 billion in the 2013 budget, would suddenly appear to be headed for losses of $11 billion.
Before the recession, only budget wonks and academics talked about factoring in such risk, a technique also known as fair-value accounting. The once-obscure idea is now gaining traction, as Republicans campaign on showing Americans the true cost of government.
That’s partly due to Paul Ryan. He helped shepherd the Budget and Accounting Transparency Act of 2012, which would require fair-value accounting for all federal loan programs, through the House and then praised the practice in his budget plan. Democrats in the Senate haven’t acted on the bill. Yet Ryan raises an important question: What’s the budget for?
The federal government used to account for loans and guarantees on a purely cash basis. If money went out for a loan, it looked like an expenditure, the same as if the government had bought a fighter jet. Yet the transaction didn’t reflect the likelihood the funds would be paid back. Starting in 1990, the Federal Credit Reform Act directed agencies to estimate projected losses from possible defaults in each year’s budget. At the same time, agencies could chalk up the interest and fees that came in from loans and loan guarantees as projected income. That meant the programs often appeared to be making money for the government.
That seemed to work fine until the economy imploded. In 2007 the Federal Housing Authority’s mortgage insurance and loan guarantee programs made $618 million. In 2009 they lost $15.3 billion. What happened? Market risk. Deborah Lucas, an assistant director at the CBO from 2009-11, says the loans looked cheaper than they actually were and that the agency should have been factoring in the likelihood of a catastrophe all along, the way the private sector does.
The CBO has pointed out in statements that fair-value accounting “accounts more fully” for the cost of risk to the government. “We should have been able to change it before things went wrong,” says Lucas. The agency can’t make accounting changes on its own. Congress has to tell it to.
The administration isn’t sold on fair-value accounting. The White House has tepidly said it “merits further analysis.” The Office of Management and Budget believes market risk would be hard to calculate and tough to roll out across multiple agencies. “It’s a phantom cost,” says David Kamin, adviser to the OMB director from 2009-10. “When you have a federal student loan portfolio, the fact that the federal government is facing an uncertainty makes students better off. It may make taxpayers worse off. What you have is a transfer. It doesn’t add on net to the federal deficit.” Kamin says that citizens, when they vote to support federal loan programs, are making a risk calculation: If the economy collapses, more loans fail and more loan guarantees are called in and will have to be paid for through higher taxes or cuts elsewhere. Voters are already expected to make cost-benefit calculations on all kinds of programs, Kamin argues, so there’s no reason to single out loans for special treatment.
That asks a lot of voters. In 2008 even sophisticated investors weren’t prepared for a market collapse. And although Republicans are politically motivated now to make government look as expensive as they can, it doesn’t mean they’re wrong. The budget exists to help us make decisions as a democracy. It’s hard to argue against one that gives us more information.