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The New FRB

The New FRB. Lehman Brothers Fails Sep 2008. FRB Policy Tools. Open Market Operations The Discount Rate Reserve Requirements Old Tools above, New Tools below Interest on Required Reserve Balances and Excess Balances Term Auction Facility Primary Dealer Credit Facility

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The New FRB

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  1. The New FRB Lehman Brothers Fails Sep 2008

  2. FRB Policy Tools • Open Market Operations • The Discount Rate • Reserve Requirements • Old Tools above, New Tools below • Interest on Required Reserve Balances and Excess Balances • Term Auction Facility • Primary Dealer Credit Facility • Term Securities Lending Facility • ABCP MMMF Liquidity Facility • Commercial Paper Funding Facility • Money Market Investor Funding Facility FRB http://www.federalreserve.gov/monetarypolicy/reqresbalances.htm, 24 Oct 08

  3. http://www.ny.frb.org/markets/Forms_of_Fed_Lending.pdf 16 Feb 2009

  4. WSJ Guide to Fed’s Alphabet • March 28, 2008, 11:01 am • Guide to Fed’s Alphabet Soup • Getting your OMOs confused with your TAFs, PDCFs and TSLFs? • The Federal Reserve’s alphabet soup of innovation is running over the side of its bowl with the central bank’s new programs designed to prevent economic disaster. (Or at least prevent more of a disaster than we have now.) • The FRBNY (i.e., Federal Reserve Bank of New York) has just published a handy chart outlining the eight ways a bank or investment firm can borrow from the nation’s lender of last resort. Five of them were created since last summer: • Term Securities Lending Facility (TSLF), announced March 11, allowing securities dealers to get Treasurys at auction for 28 days • Primary Dealer Credit Facility (PDCF), announced March 16, for securities firms to receive overnight loans • Term Auction Facility (TAF), announced December 12, for banks to get funds at auction without the discount window stigma • Single-Tranche OMO (Open Market Operation) program, announced March 7, allowing securities dealers to get 28-day funds • Term Discount Window Program (we haven’t seen the TDWP acronym yet), announced August 17, extending the length of discount-window loans to 90 days http://blogs.wsj.com/economics/2008/03/28/guide-to-feds-alphabet-soup/

  5. Interest on Required Reserve Balances and Excess Balances • 6. Why does the Federal Reserve want to pay interest on excess balances? • Paying interest on excess balances should help to establish a lower bound on the federal funds rate by lessening the incentive for institutions to trade balances in the market at rates much below the rate paid on excess balances. Paying interest on excess balances will permit the Federal Reserve to provide sufficient liquidity to support financial stability while implementing the monetary policy that is appropriate in light of the System’s macroeconomic objectives of maximum employment and price stability. For more information about the implementation of monetary policy with the payment of interest on required reserve balances and excess balances, please see the Federal Reserve Bank of New York’s website. FRB: http://reportingandreserves.org/IOR_FAQ.pdf as of 24 Oct 08

  6. Interest on Required Reserve Balances and Excess Balances • Paying interest on reserves places a floor below the interest rate on Fed Funds. The Fed can pump more reserves into the system (when responding to a failing bank) without lowering interest rates. • It has been suggested that FRB may also want to bolster Commercial Bank profits, FRB writes of interest-less reserves as a ‘tax’ on Commercial Banks.

  7. Term Auction Facility • “Under the Term Auction Facility (TAF), the Federal Reserve will auction term funds to depository institutions. All depository institutions that are eligible to borrow under the primary credit program will be eligible to participate in TAF auctions. All advances must be fully collateralized. Each TAF auction will be for a fixed amount, with the rate determined by the auction process (subject to a minimum bid rate). Bids will be submitted by phone through local Reserve Banks.”

  8. Term Auction Facility • Fed auctions reserves for say three months (the ‘term’) banks pay an interest rate (make bids) to borrow these reserves. • Banks put up collateral which may be mortgage backed securities. • FRB TAF temporarily transforms illiquid (no one will buy them) mortgage backed bonds into reserves.

  9. Primary Dealer Credit Facility • Primary Dealers are the companies that the FRB in New York deals bonds with when it undertakes Open Market Operations. • BNP Paribas Securities Corp.Banc of America Securities LLCBarclays Capital Inc.Cantor Fitzgerald & Co.Citigroup Global Markets Inc.Credit Suisse Securities (USA) LLCDaiwa Securities America Inc.Deutsche Bank Securities Inc.Dresdner Kleinwort Securities LLCGoldman, Sachs & Co.Greenwich Capital Markets, Inc.HSBC Securities (USA) Inc.J. P. Morgan Securities Inc.Mizuho Securities USA Inc.Morgan Stanley & Co. IncorporatedUBS Securities LLC. http://www.ny.frb.org/markets/pridealers_current.html (16 Feb 2009)

  10. Term Securities Lending Facility • The Term Securities Lending Facility (TSLF) is a weekly loan facility that promotes liquidity in Treasury and other collateral markets and thus fosters the functioning of financial markets more generally. The program offers Treasury securities held by the System Open Market Account (SOMA) for loan over a one-month term against other program-eligible general collateral. Securities loans are awarded to primary dealers based on a competitive single-price auction. • [FRB Lends Treasury Bonds against troubled assets such as ABCP. Lending usually for 28 days] http://www.newyorkfed.org/markets/tslf_faq.html 16 Feb 2009

  11. ABCP MMMF Liquidity Facility • The Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility is a lending facility that provides funding to U.S. depository institutions and bank holding companies to finance their purchases of high-quality asset-backed commercial paper (ABCP) from money market mutual funds under certain conditions. The program is intended to assist money funds that hold such paper in meeting demands for redemptions by investors and to foster liquidity in the ABCP market and money markets more generally. http://www.federalreserve.gov/monetarypolicy/abcpmmmf.htm

  12. Commercial Paper Funding Facility • The Federal Reserve created the Commercial Paper Funding Facility (CPFF) to provide a liquidity backstop to U.S. issuers of commercial paper. The CPFF is intended to improve liquidity in short-term funding markets and thereby contribute to greater availability of credit for businesses and households. Under the CPFF, the Federal Reserve Bank of New York will finance the purchase of highly-rated unsecured and asset-backed commercial paper from eligible issuers via eligible primary dealers. http://www.newyorkfed.org/markets/cpff.html 16 Feb 2009

  13. Money Market Investor Funding Facility • The Money Market Investor Funding Facility (MMIFF), authorized by the Board under Section 13(3) of the Federal Reserve Act, will support a private-sector initiative designed to provide liquidity to U.S. money market investors. Under the MMIFF, the New York Fed will provide senior secured funding to a series of special purpose vehicles to facilitate an industry-supported private-sector initiative to finance the purchase of eligible assets from eligible investors.

  14. Cont. • Eligible assets will include U.S. dollar-denominated certificates of deposit, bank notes and commercial paper issued by highly rated financial institutions. Assets must be DTC cleared and have remaining maturities of at least 7 days and no more than 90 days. Eligible investors will include U.S. 2a-7 money market mutual funds and certain other money market investors.

  15. Washington Post: Fed Prepared to Prop Up Money-Market Funds( Neil Irwin ) October 22, 2008; Page D01 • Money-market mutual funds invest by lending money on a short-term basis to companies, banks and other financial institutions, as well as the government. They are normally considered safe places to park cash because they buy only debt that is highly likely to be paid back. • But from early September to mid-October, nervous investors pulled about $480 billon out of a particular class of money-market funds. If that run on the funds had continued, it could have forced them to sell assets into an already troubled market, potentially causing a cascading series of losses to investors, more fund redemptions, more forced selling and further losses. http://www.washingtonpost.com/wp-dyn/content/article/2008/10/21/AR2008102100615.html

  16. Cont.. • But the new program is a vivid example of how the government's rescue of the financial system has raised new questions about long-term policymaking. …Moreover, now that the Fed has taken extraordinary action once, investors in money-market funds will assume that it could do so again in a crisis. That might lead them to take inappropriate risks, counting on a government bailout if things go awry, analysts said.

  17. FRB Reserves Rise Dramatically http://research.stlouisfed.org/publications/usfd/20081023/usfd.pdf

  18. Broad Money Does Not Increase with reserves because banks do not increase lending.

  19. Less Inflation Pressure

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