Public-Private Risk Sharing in Federal Credit Programs

To help make credit more available and affordable for borrowers, the federal government provides assistance in the form of loans and loan guarantees. Such credit assistance—which is projected to consist of $228 billion in new direct loans and $1.6 trillion in new loan guarantees in 2025, at an estimated cost of $2 billion—exposes the federal government to financial risk. In some cases, the government shares that risk with private lenders or investors. Such public-private risk sharing can reduce the government’s risk (by transferring some of it to private parties) and thus lower costs to taxpayers. In addition, risk sharing can generate market-based information about the federal government’s total exposure to risk.

In this report, the Congressional Budget Office examines the following forms of risk sharing used by federal credit programs and explains how it accounts for the effects of each on the federal budget.

• Partial Guarantees. With partial guarantees, the federal government and private lenders share the cost of defaults on loans. This form of risk sharing generally lowers budgetary costs for federal credit programs with positive subsidy costs—that is, for programs whose cash outflows exceed their inflows.
• Project Financing. The federal government provides direct loans and loan guarantees for projects (often infrastructure projects) that receive funding from private parties or state and local governments. Direct loans and loan guarantees support projects by offering borrowers lower interest rates than they might otherwise have to pay. This form of risk sharing may result in lower costs to the federal government than grants and other forms of financial assistance would, depending on the project and its repayment terms.
• Credit-Risk-Transfer Transactions. Fannie Mae and Freddie Mac, two government-sponsored enterprises (GSEs), transfer a portion of the potential credit losses on pools of mortgages to private investors through credit-risk-transfer (CRT) transactions. The GSEs pay the investors and insurance companies for assuming the risk of losses, and the transactions provide some protection for taxpayers when losses occur. Because they occur at market prices, CRT transactions have no effect on the federal budget in CBO’s projections; they do not currently affect the Administration’s budget projections either.
• Other Forms of Mortgage Risk Sharing. Fannie Mae and Freddie Mac require mortgage borrowers with small down payments to purchase private mortgage insurance. Because the mortgage insurers share in credit losses, that requirement results in budgetary savings for the government. The GSEs also require lenders to repurchase defaulted loans that fail to meet lending standards, thereby reducing the costs of defaults to the federal government and generating budgetary savings.