Tuesday, October 21, 2008

Ottawa may make millions on CMHC plan for banks

The federal government stands to make hundreds of millions of dollars off of its new program to buy mortgages from banks.

The government today is launching the first purchase of $5-billion of mortgages from Canada's banks as part of a program to buy $25-billion of home loans from banks to give them cash to make new loans.

It is taking advantage of its ability to borrow cheaply to buy the mortgages, which will pay a higher rate of interest. The difference will be the government's profit.

Ottawa doesn't have a forecast of its likely take, but given current market prices and the guidance that the Finance Department has provided to bankers on the prices to be paid, the federal government may expect to earn about $250-million a year. That could rise to $1-billion if the government increases the size of the mortgage purchases to $100-billion, as some in the banking sector suggest could be done.

Those potential profits are significant at a time when Ottawa projects its surplus will fall to $1.3-billion for the year ended March, 2010.

While government officials say any profit isn't the point, earning money on the program does drive home the message that Ottawa has been sending: The program isn't a bailout at taxpayers' expense.

“The goal is not to make money for the government,” said a Finance Department official who spoke on condition of anonymity. While the program is an efficient way to support lending in Canada by providing reliable funding to banks, it is important that the banks pay a competitive rate to tap into the funds, the official said.

“This is not a subsidy for banks.”

The credit crunch, which first erupted more than a year ago, has made it more expensive for banks to raise long-term funding to finance mortgages.

Finance Minister Jim Flaherty announced the initiative last Friday to have government-owned Canada Mortgage and Housing Corp. buy up loans from banks. The loans are solid, but by taking them off bank balance sheets in return for cash, the banks will theoretically be able to make new loans.

Ottawa has committed to buy up to $25-billion in total, but has not yet set the dates for the remaining purchases. Participants expect the government to carry out four more purchases of $5-billion each.

The purchases will be conducted by so-called reverse auction, where banks will essentially have to tell the government how much they will pay in the form of interest to move the loans off their balance sheets. The government will accept the most profitable bids.

Mortgage lenders can submit up to three bids for various amounts, but no one lender can sell more than $1.25-billion of loans to the government.

The government will establish a minimum acceptable yield, or interest rate. That minimum is expected to be above the yield on comparable five-year Canada Mortgage Bonds that CMHC sells to investors.

Banks are expected to place bids somewhere above the minimum, with more-stressed banks giving the government a better deal as they try to ensure they can raise cash.

John Manley, a former deputy prime minister and finance minister, said he was surprised Ottawa didn't pick up the program earlier.

“They make money on it, it increases liquidity in the system – why don't you answer the phone when people suggest things?” he said, pointing out that banks had been suggesting the program for some time.

One bank chief executive officer said that, even as the financial crisis worsens, Canada is in a unique position where it can establish programs to ease the flow of funds that don't put taxpayers on the hook. A shortage of government bonds and an excess of mortgages sitting on the banks' books make this an easy program to increase if necessary, he said.


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