Banks Worldwide Engage in Global Coordinated Panic

Today, the Bank of Canada, the Bank of England, the European Central Bank, the Federal Reserve, and the Swiss National Bank all announced measures designed to address elevated pressures in short-term funding markets.

Federal Reserve Actions

Actions taken by the Federal Reserve include the establishment of a temporary Term Auction Facility (approved by the Board of Governors of the Federal Reserve System) and the establishment of foreign exchange swap lines with the European Central Bank and the Swiss National Bank (approved by the Federal Open Market Committee).

Under the Term Auction Facility [TAF] program, the Federal Reserve will auction term funds to depository institutions against the wide variety of collateral that can be used to secure loans at the discount window. All depository institutions that are judged to be in generally sound financial condition by their local Reserve Bank and that are eligible to borrow under the primary credit discount window program will be eligible to participate in TAF auctions. All advances must be fully collateralized. By allowing the Federal Reserve to inject term funds through a broader range of counterparties and against a broader range of collateral than open market operations, this facility could help promote the efficient dissemination of liquidity when the unsecured interbank markets are under stress.

Each TAF auction will be for a fixed amount, with the rate determined by the auction process (subject to a minimum bid rate). The first TAF auction of $20 billion is scheduled for Monday, December 17, with settlement on Thursday, December 20; this auction will provide 28-day term funds, maturing Thursday, January 17, 2008. The second auction of up to $20 billion is scheduled for Thursday, December 20, with settlement on Thursday, December 27; this auction will provide 35-day funds, maturing Thursday, January 31, 2008. The third and fourth auctions will be held on January 14 and 28, with settlement on the following Thursdays. The amounts of those auctions will be determined in January. The Federal Reserve may conduct additional auctions in subsequent months, depending in part on evolving market conditions.

Detailed terms of the auction and summary auction results will be available at http://www.federalreserve.gov/monetarypolicy/taf.htm

Experience gained under this temporary program will be helpful in assessing the potential usefulness of augmenting the Federal Reserve’s current monetary policy tools--open market operations and the primary credit facility--with a permanent facility for auctioning term discount window credit. The Board anticipates that it would seek public comment on any proposal for a permanent term auction facility.

The Federal Open Market Committee has authorized temporary reciprocal currency arrangements (swap lines) with the European Central Bank [ECB] and the Swiss National Bank [SNB]. These arrangements will provide dollars in amounts of up to $20 billion and $4 billion to the ECB and the SNB, respectively, for use in their jurisdictions. The FOMC approved these swap lines for a period of up to six months.

Bank of England Actions

The Bank of England has already scheduled long-term repo open market operations [OMOs] on 18 December and 15 January. In those operations reserves will, as usual, be offered at 3, 6, 9 and 12-month maturities against the Bank’s published list of eligible collateral. But the total amount of reserves offered at the 3-month maturity will be expanded and the range of collateral accepted for funds advanced at this maturity will be widened.

The total size of reserves offered in the operations on 18 December and on 15 January will be raised from £2.85 billion to £11.35 billion, of which £10bn will be offered at the 3-month maturity.

The Bank will accept a wider range of high quality securities as collateral against funds advanced at the 3-month maturity. The additional categories of eligible collateral are:

• Bonds issued by sovereigns rated Aa3/AA- or above (in addition to those currently eligible), subject to settlement constraints.
• Bonds issued by G10 government agencies guaranteed by national governments, rated AAA.
• Conventional debt security issues of the Federal Home Loan Mortgage Corporation, the Federal National Mortgage Corporation and the Federal Home Loan Banking system, rated AAA.
• AAA-rated tranches of UK, US and EEA asset-backed securities [ABS] backed by credit cards; and AAA-rated tranches of UK and EEA prime residential mortgage-backed securities [RMBS].
• Covered bonds rated AAA.

ECB Decisions

The Governing Council of the ECB has decided to take joint action with the Federal Reserve by offering US dollar funding to Eurosystem counterparties.

The Eurosystem shall conduct two US dollar liquidity-providing operations, in connection with the US dollar Term Auction Facility, against ECB-eligible collateral for a maturity of 28 and 35 days. The submission of bids will take place on 17 and 20 December 2007 for settlement on 20 and 27 December 2007, respectively. The operational details can be obtained from the ECB’s website (www.ecb.europa.eu). The US dollars will be provided by the Federal Reserve to the ECB, up to $20 billion, by means of a temporary reciprocal currency arrangement (swap line).

It is reminded that the Governing Council previously decided on 8 November 2007 to renew at maturity the two supplementary longer-term refinancing operations [LTROs] that were allotted in August and September 2007. As an additional measure, the Governing Council decided on 13 November to lengthen the maturity of the main refinancing operation settling on 19 December 2007 to two weeks, thereby maturing on 4 January 2008 instead of 28 December 2007.

Swiss National Bank provides US dollar funding

Swiss National Bank action

In addition to its Swiss franc open market operations, the Swiss National Bank will offer a US dollar repo transaction on 17 December 2007. The maximum amount offered will be USD 4 billion. The USD repo transaction against SNB-eligible collateral will be conducted in the form of a variable rate tender auction and will provide funds for 28 days, with settlement on 20 December 2007. This measure is intended to facilitate the US dollar funding of SNB counterparties in the Swiss repo system.

Subject to evolving market conditions, the SNB may conduct additional US dollar auctions. Further information about the US dollar auction and the technical requirements of the auction will be posted on the SNB website (http://www.snb.ch, section Financial markets / Repos) on 14 December 2007.

The Swiss National Bank has concluded a reciprocal swap agreement (swap line) with the Federal Reserve. Through this arrangement the Federal Reserve will provide the SNB with US dollar funding of up to USD 4 billion. The swap line has been approved for a period of up to six months.

Bank of Canada Notice

Bank of Canada Temporarily Expands List of Securities Eligible for Term PRA Transactions

As part of its continuing provision of liquidity in support of the efficient functioning of financial markets, the Bank of Canada announced today that it will enter into term purchase and resale agreements (term PRA) extending over the calendar year-end as follows:

Amount	Transaction and Settlement	Maturity
$2 billion	13 December 2007	10 January 2008
Minimum of $1 billion	18 December 2007	4 January 2008

The list of eligible securities for these transactions is comprised of the following:

• Securities issued by the Government of Canada
• Securities guaranteed by the Government of Canada (this category includes Canada Mortgage Bonds and NHA mortgage-backed securities with a minimum pool size of $75 million)
• Securities issued or guaranteed by a provincial government
• Bankers' acceptances and bearer deposit notes, having a remaining term to maturity not exceeding one hundred and eighty days

Securities used in the term PRA transactions will be subject to the same margin requirements as those applicable in SLF transactions.

These transactions will temporarily add assets to the Bank of Canada's balance sheet, offsetting the anticipated seasonal increase in the demand for bank notes.

The total amount of assets acquired on any day through term PRA operations will be announced on the Bank's web site by 4:45 p.m. [ET]. The assets will also be reported on the Bank of Canada's balance sheet.

The case for further operations will be reviewed in light of conditions in the money market.

Panic Summary

• Fed Summary: The Fed established a temporary Term Auction Facility [TAF]. Under the TAF program, the Federal Reserve will auction term funds to depository institutions against the wide variety of collateral (damn near anything) that can be used to secure loans at the discount window. The Federal Open Market Committee has authorized temporary reciprocal currency arrangements (swap lines) with the European Central Bank [ECB] and the Swiss National Bank [SNB]. These arrangements will provide dollars in amounts of up to $20 billion and $4 billion to the ECB and the SNB, respectively, for use in their jurisdictions.
• BOE Summary: The BOE is providing more short and long term repos and accepting damn near anything as collateral.
• Swiss Bank Summary: SNB is conducting more Swiss Franc repos and will conduct US dollar denominated auctions to facilitate the US dollar funding of SNB counterparties in the Swiss repo system. The maximum amount offered will be USD 4 billion.
• ECB Summary: The ECB will conduct two US dollar liquidity-providing operations, in connection with the US dollar Term Auction Facility. The US dollars will be provided by the Federal Reserve to the ECB, up to $20 billion, by means of a temporary reciprocal currency arrangement (swap line).
• Bank of Canada summary: The Bank of Canada is conducting more repos and is willing to take mortgage backed securities as collateral.

Quote of the Day

The quote of the day has to go to Minyanville's Todd Harrison who in At The Crux of the Crossroads and an earlier Buzz said:

The Fed continues to change the rules of engagement in the middle of the match. That's grounds for a flag---or an uprising, depending on your mood--but it also warrants respect. We're just pawns in the game--the goal is to stay in it.

Between the coordinated agendas, discount window collateral changes, invisible hands, superfund conduits, sub-prime bailout plans and now, the biggest act of international economic cooperation since the 9/11 terrorist attacks, you can't help but wonder what the heck it sees that the markets, 5% off their highs, have yet to price in?

I'm quite sure that was a rhetorical question as it's plain to see Bernanke is spooked to the point of starting global coordinated panic over the upcoming recession and still more deflationary bank writeoffs.

However, all these repos, swaps, loosening of collateral requirements, and anonymous borrowing arrangements do is provide temporary liquidity. And as I have said many times recently the problem is not liquidity, the problem is insolvency. That problem is only going to get worse with rising consumer loan problems, rising charge card delinquencies, more foreclosures, rising unemployment, and collapsing commercial real estate.

The tightening box surrounding Bernanke has finally collapsed.

Comments

[flow5]

The Fed has had for many years the power to create any amount of IBDD’s (Interbank Demand Deposits). There are no reserve or reserve-ratio restrictions on the credit-creating capacity of the 12 Federal Reserve Banks.

The newly created IBDD’s can be put at the disposal of any bank in the System through the “discount window” or in the present situation the Term Auction Facility. These borrowed deposits are not only money to the recipient bank, they also become a part of the legal reserves of the System. And therein lies a limitation.

One dollar of borrowed reserves provides the same legal-economic base for the expansion of money as one dollar of non-borrowed reserves. The fact that advances have to be repaid in 28 days is immaterial. A new advance can be obtained, or the borrowing bank replaced by other borrowing banks. The importance of controlling borrowed reserves is indicated by the fact that at times (1/16/08) nearly all legal reserves are borrowed.

The Fed cannot increase the legal reserves of the System without creating the basis for a multiple expansion of the money supply (multiple in terms of the incremental reserves).

The Fed can, and does, offset domestic borrowings & foreign exchange swap lines with open market selling operations, thus eliminating any net increase in bank legal reserves. Therefore, with the rescue operation of the TAF’s dimension, it has offset TAF auction credit with open market selling operations of U.S. Treasury Bills (-) 61,659 (H4.1) 1/10/08.

Commercial banks pay for excess reserves in the inter-bank market (direct/correspondent or brokered, etc.), or acquire reserves via open market operations from the “trading desk”.

Commercial banks also pay the Reserve bank for borrowed reserves from either the discount window or the Term Auction Facility. Anyway, IBDD's are not always idle or even costless demand deposits.

Prior to Jan 2003 the discount rate or adjustment credit, etc. averaged c. 25-50 basis points below the fed funds rate. Then the problem was that the commercial banks flaunted the Board’s rule that advances should not be used for profit. & the profit proclivities of the commercial banks eliminated any stigma to the borrowing.

Afterwards, the discount rate became a penalty rate designed to minimize discount window borrowing in times of rising interest rates and rising inflation.

Hence the new cost differential discouraged excessive advances that are made regardless of (1) their purpose or (2) the reserve position of the borrowing banks. I.e., because all of these institutions are able to borrow in the fed funds market at lower costs.

However, the 1/14/08 TAF auction’s stop-out rate of 3.95% was effectively the same as the “trading desks” one-day target repo rate on Treasuries, i.e., the one-day cost-of-carry on Government Securities. This is the true monetary “policy instrument”.

Discount window administration is necessarily concerned with the emergency needs of specific banks. The TAF gives the Fed enhanced surveillance over the short-term liquidity needs of problem banks. Thus the FOMC has maximized the funding supplied to the inter-bank market by accepting a wider variety of collateral (assumption of risk) and driving down the market price to counter-parties.

In contrast the FOMC targets the federal funds rate (at a higher 4.25%), nominally the rate banks charge each other on overnight loans of deposits at the Fed. The FF market is where un-collateralized (unsecured) inter-bank loans (excess reserves) are lent & borrowed for short duration. The daily federal funds transactions in comparison to the Government Securities market are a trivial amount. It was a brilliant move by the FED.

The H4.1 shows both factors supply & absorbing reserves. Modern Money Mechanics demonstrates both commercial and the reserve banks balance sheet changes which affect the “free” legal reserves owned by the depository institutions on the H4.1.

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