The House Financial Services Committee debated Tuesday how to set up a covered-bond market in the U.S., including whether to establish an explicit backstop, but it was unclear how fast the panel was planning to move on the issue.

Rep. Scott Garrett, R-N.J., introduced a bill earlier this year that is designed to enhance the market for covered bonds, which provide additional liquidity for loans without the risks of securitizations. Policymakers generally favor such products because they are secured by a specific pool of loans, but unlike mortgage-backed securities, they are kept on the issuer's balance sheet. Covered bonds are widely used in Europe but have failed to catch on in the U.S.

Though the hearing was sparsely attended, House Financial Services Committee Chairman Barney Frank offered vague assurances the panel would tackle the issue next year.

"This is a subject that the committee will be dealing with next year," the Massachusetts Democrat said. "I welcome this, the acknowledgment … that we can sometimes look at European ideas. Some have said during the most recent debate, 'Forget about Europe; this is America.' The European experience has … some useful lessons for us."

But Frank also appeared distracted throughout the hearing, and much of the more vocal support came from Republicans.

In an interview after the hearing, Garrett said Congress needs to act promptly, while the securitization market is still dried up, or investors could lose interest before covered bonds become a viable option.

"Since day one [Frank] has indicated that this idea has merit both in the long-term and also in short-term solutions to the problems," Garrett said. "From that point alone I would think he would like to see some movement. … If the securitization market has some way or another rekindled itself, there will be less of an interest in the investor community to go back to this — certainly less of an interest by the banks."

Garrett said he hoped Frank would turn his focus to moving a bill next year. The market needs it now," Garrett said.

But the hearing made it clear some issues still needed to be addressed, including whether Congress should establish a backstop mechanism to cover bond trustees.

During the hearing, Bert Ely, an independent analyst with Ely & Co. in Virginia, suggested the Federal Reserve Bank of New York should be given the power to provide liquidity assistance. He said there could be rare circumstances where the bank that issues the covered bond fails, and the Federal Deposit Insuarnce Corp. had not found another issuer to take over the portfolio. In that case, Ely said the Fed assistance would cover principal and interest on the bond.

He said that the New York Fed should be "empowered to lend, on a collateralized basis, to the covered-bond trust or estate such funds as may be needed to enable the trustee to make timely payments of principal and interest on the covered bonds."

Frank zeroed in on the suggestion. "You say the Fed Bank of New York should be entrusted to lend?" Frank asked. "The Fed would be able to step in and lend them money to cover the shortfall?"

Frank said that idea would inevitably prove controversial.

"Some would call that a bailout; if the Fed can lend … if there is a shortfall in the private sector's ability to cover these payments," Frank said.

Ely said he didn't consider it a bailout so much as a backstop.

"It's a bridging," he said. "Strictly a liquidity support."

In the interview after the hearing, Garrett — who like most House GOP members has criticized the government's emergency measures to halt the crisis and has endorsed legislation to curb the Fed's emergency powers — said he was uneasy with the backstop concept.

"We will probably get some additional information on it and see what alternatives are out there," he said. "Europe was silent on the issue. I would like to see how that whole issue evolved itself when you could you be dealing with nondepository institutions and how does that whole issue play out."

Garrett said he wanted to search for alternatives. "I want to see how we can limit that."

 

 

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