The U.S. banking landscape has shifted dramatically within the past four years, from an environment in which banks were starved for liquidity to one in which they’re flush with customers’ cash. The Business Record recently sat down with Richard Swanson, president and CEO of the Federal Home Loan Bank (FHLB) of Des Moines, to get his perspective on the role his organization has played as a source of funding for financial institutions.

Based in downtown Des Moines, FHLB Des Moines is one of 12 regional banks that make up the Federal Home Loan Bank system. The Des Moines bank, which is cooperatively owned by its 1,215 member institutions in Iowa, Minnesota, Missouri, North Dakota and South Dakota, exists to provide low-cost short- and long-term funding and community lending in the form of advances to its member institutions, which include banks, savings institutions, credit unions and insurance companies.

Swanson, who joined the Des Moines bank nearly six years ago following the resignations of nearly all of its top officers amid financial difficulties, led the bank back to firm footing and maintained a steady hand during the financial crisis.

As liquidity dried up during the housing and financial crises, the Federal Home Loan Bank of Des Moines tripled the dollar amount of advances it made to member institutions, increasing advances to nearly $60 billion by the fourth quarter of 2008. At the same time, the bank reserved a significant share of earnings to build up its capital reserves to demonstrate to regulators that the institution was secure.

More recently, as the economy moved slowly into recovery and businesses were still hesitant to borrow, demand for advances shrank as institutions had abundant cash with which to make loans. In 2011, the bank reported net income of $77.8 million, about half the $133 million in net income it generated in 2010, reflecting its members’ decreased appetite for funds. Market volatility was also a factor in declining earnings, as losses from derivatives and hedging activities resulted in $110 million in investment losses last year, compared with $52.6 million in 2010.

Beginning this year, member institutions will begin to see the effects of a new dividend policy enacted by the Des Moines bank, designed to reward financial institutions that actively use the FHLB’s services. The bank also recently began implementing an amended capital plan that will increase the amount of net income it holds in reserve as an additional buffer against potential losses.

Your thoughts on 2011’s financial results compared with previous years?

I would say our results were pretty much in line with what we expected. The real key to understanding a lot about who we are, what we do, how we operate and what our financial results look like is to understand that we’re a cooperative. So we’re not a profit-maximizing organization. We’re also kind of like a cooperative utility, because we’re really in the business of providing funding and liquidity – money to our members at low cost when they need it.

How is today different from four years ago in terms of your members’ needs?

We’re in a period in the economy and federal monetary policy when our members don’t need a lot of money; they’re really flush with customer deposits and the ability to borrow from the Fed and access liquidity in lots of different ways. So our job as a “cooperative utility” is to be able to expand and contract, and do that relatively seamlessly so that when our members need the kind of funding we provide, we can do it, and at low cost.

Was the big decrease in net income a concern?

We try to be profitable in all business cycles. We have some challenges with that, as we did in the third quarter of last year where we had mark-to-market issues that affected our reported net income. But we try to manage our adjusted income, really a reflection of our core business and how it performs, so that it stays fairly constant, and it has. So we’re pleased with the results. Our asset levels were down from 2010 to 2011, and our net income was down proportionally. But within our general management goals, that was pretty much what we expected.

How did the bank fare during the credit crisis? What sorts of adjustments were made given the lending environment?

There are three things I’d point to. During the credit crisis, which really began in the third quarter of 2007, our members suddenly found that they couldn’t get the liquidity in the market they had normally relied on. In the course of about a year, we tripled the amount of lending we were doing for our members. We went from a pre-crisis level of advances of $22 billion to close to $60 billion by the fourth quarter of 2008. In the middle of a crisis, that’s a huge accomplishment to be able to do that, and we did that without any policy changes.

Second, we remained profitable. We aren’t profit-maximizing, but we always want to be generating some income for several reasons. Our income levels remained in the $90 million to $150 million range, so they remained fairly stable.

And another thing that’s true for the Des Moines bank and for all the Federal Home Loan Banks – we increased our capital levels during this period, and this was a deliberate strategy we had as concern was mounting that maybe large-scale financial institutions wouldn’t be able to make it through this crisis. … As we’ve declined now in our balance sheet, we hold a larger proportion of capital (in reserve) than we did pre-crisis. It’s been an interesting demonstration of how this cooperative works.

I’ve read there’s a new capital reserve plan in place for the Federal Home Loan Banks. Tell me about that.

Since about 1990, the Federal Home Loan Banks had been paying 20 percent of their income to meet an obligation that was created by Congress when the old Federal Savings and Loan Insurance Corp. (FSLIC) insurance fund went bust during the savings and loan crisis of the 1980s. So we had this obligation that was originally expected to run until 2032. But because the Federal Home Loan Banks had a higher level of profitability than was expected in 1990, we actually were able to pay off that obligation early. We made the decision – and in fact the Des Moines bank actually led the effort for the whole system – to put that 20 percent of income into a restricted account so that it would not be available to pay dividends to members and it would start to grow a piece of permanent capital within the banks. We are projecting that over the next 15 years, that piece will grow to be equal to be about 1 percent of our overall balance sheet, which would add about another 20 percent or so to our current capital level.

Has membership in the Des Moines bank stayed stable in the past several years?

Pretty stable. I took my position here not quite six years ago. When I arrived, there were just under 1,250 members, and now there are 1,215. Something like 20 of those would be institutions that have failed. We have had the lowest rate of failures as a percentage of our membership of any of the Federal Home Loan Banks, and that has been a testament to the strength of the financial institutions in our five-state territory and to the relative stability of the economy in this part of the country. Another 10 would probably be the result of consolidations. If you compare it with almost any other area of the country, we’ve had very stable membership. We’ve had a few additions; we’ve had a number of credit unions that have joined.

What other big issues do you see ahead?

I think there are really two issues that are interconnected. One, what’s really going to happen to the banking system? While we exist to serve financial institutions of all sizes, probably the most important part of our public mission is to make sure the small to medium-sized banks have readily available, low-cost funding all the time. Also, will the Federal Home Loan Bank structure remain the same? There could come a time when some of the smaller Federal Home Loan Banks may consider merging or having joint operations.

What does the bank’s Affordable Housing Program provide for the region and Greater Des Moines in terms of housing grants?

One of the reasons we want to be profitable is that 10 percent of our income goes to our Affordable Housing Program. Last year, we announced grants totaling $15 million, and that was a reflection of roughly $150 million in earnings in 2010. With earnings of $78 million in 2011, we’ll have a smaller program this year, so it definitely is a direct reflection of our income. The applications for those grants continue to far exceed the funds available, particularly during periods like this. There is a little less demand for single-family housing; five years ago, there was a lot of demand for building of affordable single-family houses. Now that demand has shifted towards multifamily housing facilities. From a purely Des Moines perspective, the most exciting of these is the Central Iowa Shelter (& Services facility) that’s being constructed a couple of blocks away from here. As part of what we awarded in 2011, we awarded $500,000, which was really the last piece of funding they needed to get that project funded. We will be taking applications beginning April 2 for our awards this year.

Is the bank doing anything to try to generate more demand for advances by members?

Our board of directors has gone through a really interesting thought process over the past year or so – what does it really mean to be a cooperative? To the extent that a cooperative is earning and distributing income to its members, what should be the basis of that distribution? As our board reflected on our dividend policy, which was to pay the same percentage to everyone, whether they were doing business with us or not, they came to the conclusion that we should have a return on capital that really reflects a benchmark short-term interest rate, and then pay a higher dividend rate, assuming we are profitable and can pay it, to holders of activity stock based on the actual business they’re doing. Additionally, the Federal Home Loan Bank would typically be one of the major elements of a community bank’s liquidity plan. A lot of our members were essentially using their ability to borrow from us as a key component of their liquidity plan, whether or not they did any business with us at all.

The new dividend policy was announced in the fourth quarter, and we will begin differentiating between the two subclasses of stock for the dividend declared in the first quarter. … It will be interesting to see what the effect is. It should provide an incentive, or at least a reminder, to our members that they own us and that if they want to keep us around, if they want us to be profitable, they should do business with us.

The Federal Home Loan Banks are technically government-sponsored enterprises (GSEs), which Congress has said it will restructure. What do you anticipate?

In 2008 when the Housing and Economic Recovery Act was passed, the Federal Home Loan Banks and Fannie Mae and Freddie Mac were all thought of as GSEs. Since then, in fact just six weeks after it passed, Fannie and Freddie were taken into conservatorship. So GSE has become a negative term, and it’s really been associated primarily with Fannie Mae and Freddie Mac, although technically one can say we are a government-sponsored enterprise, because we were chartered by the federal government. You’ve got two GSEs that have now taken close to $200 billion of taxpayer subsidies, and there’s a lot more coming. And then you’ve got the Federal Home Loan Banks, who no one calls a GSE anymore. We’ve never taken a dime from taxpayers, and we continue to build our capital cushion. So you’ve got a real discrepancy between these organizations.

It’s my expectation that there won’t be any legislative action until after the November election. I think 2013 will be the earliest you see anything, and my personal forecast is it may be 2015 or later. The way the mortgage market is currently structured, Fannie and Freddie are providing 70 to 75 percent of the secondary market for all mortgages. When we’re worried about how the economy is going to recover, housing has got to be part of that recovery. If you don’t have the secondary market functioning at all, you’re really going to have problems. So even though they’re heavily subsidized, I think they’re going to have to continue to play that role for a while.

As far as how that action will affect us, I think that we will continue to do our best to show how different the Federal Home Loan Bank system is, how safe and secure it is, how it’s a good steward of our federal charter, if you will. My hope and my prediction is that we won’t be part of the debate at all.