Lenders of last resort ; Financial crises

Jim Bullard

English

Research Papers in Economics

Jim Bullard, President and CEO
Federal Reserve Bank of St. Louis
B
ecause our central bank has relied on the 
federal funds rate target for so long to 
guide the economy, many people think that 
the target rate is the only tool at the Fed’s 
disposal.  As we are seeing in the current 
financial crisis, the Fed has other options.  
Most visible so far have been the lending 
programs that have been created in the past 
year, along with established programs that 
have been modified.
Among the tools the Fed can use is the dis-
count window, which has been around since 
the Fed was established in 1913.  The window 
was the primary instrument for central 
banking operations for decades, just as open 
market operations (the buying and selling of 
U.S. Treasury and federal agency securities 
to achieve a desired quantity of reserves or 
the fed funds rate target) have dominated in 
modern times.  Traditionally, the discount 
window has offered overnight lending for 
generally sound depository institutions to 
relieve short-term liquidity problems.  Dis-
count window loans must be fully secured.
Except in unusual circumstances, depos-
itory institutions rarely tapped into the 
discount window for fear they would be  
stigmatized as weak.  But that attitude 
changed beginning last year as financial 
market turmoil intensified.  The Fed not-
so-subtly reminded depository institutions 
about the availability of the window, cut the 
window’s interest rate (the discount or pri-
mary credit rate) and increased loan periods 
to a maximum of 90 days.  The line at the 
window was soon long.  Primary credit  
lending exceeded $90 billion in November.
In December 2007, the Fed launched 
the Term Auction Facility to help meet 
depository institutions’ need for liquidity.  
This facility auctions term funds against 
collateral.  Starting a bit more than a year 
ago, auctions have been held several times 
a month, with available amounts ranging 
from $20 billion to many multiples of that.  
Borrowing via the TAF has been substan-
tial, reaching a level of $384.6 billion  
in November.
Last March, the Fed began two lending 
programs for primary dealers, those banks 
and securities broker-dealers with whom  
the Fed trades U.S. government securities  
to carry out open market operations.  The  
Term Securities Lending Facility (TSLF) 
provides secured loans to primary dealers on 
a 28-day term.  The Primary Dealer Credit 
Facility (PDCF) provides overnight loans.  
Among the collateral that the Fed accepts for 
these loans are mortgage-backed securities.  
Both facilities lend at an interest rate equal  
to the New York Fed’s discount rate.
This past fall, the Fed introduced another 
set of lending programs.  The Asset-Backed 
Commercial Paper (ABCP) Money Market 
Mutual Fund Liquidity Facility (sometimes 
shortened to AMLF) extends collateralized 
loans (from the Boston Fed) to finance pur-
chases of ABCP in an attempt to encourage 
secondary markets to lend long-term.  A few 
weeks later, the Commercial Paper Fund-
ing Facility (CPFF) was introduced to help 
alleviate a shortage of term funding in the 
commercial paper market.  With financing 
from the New York Fed, a special purpose 
vehicle (SPV) was set up to buy three-month 
unsecured and asset-backed paper.
This list is not exhaustive, and the Fed may 
devise other lending facilities in an attempt 
to mitigate the effects of financial market 
turmoil.  But it is important to emphasize 
that all of the facilities mentioned above 
are separate from the well-publicized loans 
drawn up just for AIG, Bear Stearns and 
Citigroup.  These firms received special and 
immediate handling because of fears that 
their collapse could have a systemic effect.
In all, the Fed has made more than  
$2 trillion in loans so far during this crisis.  
No doubt, this is a staggering amount, but  
all of it is collateralized or secured.  The 
lender of last resort function of the central 
bank is an important one during a financial 
crisis, and the Fed has been extraordinarily 
active during the current episode in fulfilling 
this function. 
The Fed as Lender of Last Resort
“The lender of last resort 
function of the central bank 
is an important one during 
a financial crisis, and the 
Fed has been extraordinarily 
active during the current 
episode in fulfilling this 
function.”
PRESidEnT’S mESSagE
The Regional Economist  |  www.stlouisfed.org   3

The Fed as lender of last resort

http://stlouisfed.org/publications/re/2009/a/pdf/pres_mes.pdf

The Fed as lender of last resort

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Research Papers in Economics