Final answer:
The Federal Housing Administration (FHA) insures loans, which encourages banks to provide mortgages on better terms and increases access to affordable housing. The FHA's role has been influential in U.S. homeownership rates, though it has also been involved in practices leading to residential segregation.
Step-by-step explanation:
The Federal Housing Administration (FHA), established in 1934, plays a significant role in the United States' housing finance system. The correct answer to what the FHA does is that it insures loans. By insuring the home loans, the FHA encourages banks to offer better loan terms, aiding in making housing affordable and accessible.
This insurance is crucial because it mitigates the risk to lenders, thereby incentivizing them to finance mortgages for individuals who might not qualify under conventional loan criteria. As systemic practices such as redlining and discriminatory lending have shown, not all communities have been served equally by FHA policies, which historically led to an increase in residential segregation and limited opportunities for homeownership for minority and low-income families.