February 23, 2010
Treasury Supplementary Financing Program (SFP)
The SFP, the U.S. Treasury's program for assisting with the balance sheet of the Federal Reserve, is making a sudden and dramatic comeback.
First a little background. Whenever the Federal Reserve buys an asset or makes a loan, it simply credits new reserve deposits to the account that the receiving bank maintains with the Fed. The bank would then be entitled to convert those deposits into physical dollar bills that it could ask the Fed to deliver in armored trucks. Banks currently hold $1.2 trillion in such reserves, or more than a hundred times the average level of these balances in 2006, and more than the total cash the Fed has delivered since its inception a century ago. The traditional way the Fed would bring those reserves back in (and thus prevent them from ending up as circulating cash) would be to sell off some of its assets.
The Treasury's Supplementary Financing Program was introduced in the fall of 2008 to assist the Fed in its massive operations to prop up the financial system at the time. The SFP represents an alternative device by which the Fed could reabsorb the reserves it created. Essentially the Treasury borrows on behalf of the Federal Reserve, and simply holds the funds in the Treasury's account with the Fed. When a bank delivers funds to the Treasury for purchase of a T-bill sold through the SFP, those reserve deposits move from the bank's account with the Fed to the Treasury's account with the Fed, where they now simply sit idle, and aren't going to be withdrawn as cash. In a traditional open market sale, the Fed would sell a T-bill out of its own portfolio, whereas with the SFP, the Fed is asking the Treasury to create a new T-bill expressly for the purpose. But in either case, the sale of the T-bill by the Fed or by the Treasury through the SFP results in reabsorbing previously created reserve deposits.
The Treasury's press release says only this:
Treasury anticipates that the balance in the Treasury's Supplementary Financing Account will increase from its current level of $5 billion to $200 billion. This will restore the SFP back to the level maintained between February and September 2009.
This action will be completed over the next two months in the form of eight $25 billion, 56-day SFP bills. Starting tomorrow, SFP auctions will be held each Wednesday at 11:30 a.m. EST, unless otherwise noted.
So this is going to be implemented immediately and on a large scale. But why? If the goal were indeed to drain reserves, the Fed could do this by selling some T-bills out of its own holdings, currently some 3/4 trillion, or could do this with reverse repos or the Term Deposit Facility, not to mention selling some of its trillion dollars worth of MBS. And just two weeks ago Fed Chair Ben Bernanke seemed to be saying that such steps were still far in the future, and did not even mention the possibility of a surge in the SFP.
You want more information? We've got this:
"We're committed to working with the Federal Reserve to ensure they have the flexibility to manage their balance sheet," a Treasury official said on background.
Anonymous and on background in order to say nothing at all? What's the big secret?
An alternative hypothesis is that the Fed intends not to retire reserves but instead to expand its balance sheet without increasing reserves, that is, use the funds to make new asset purchases or loans with the SFP sterilizing the operations. But what loan is the Fed about to make or asset is it about to purchase? WSJ Real Time speculates:
The practical effect of this move is that the Fed will be able to finish $1.25 trillion of purchases of mortgage backed securities by the end of March without printing more money. Instead, it will have the cash on hand from the Treasury deposits to fund the purchases. As of February 17, the Fed's portfolio of mortgage backed securities had reached $1.025 trillion, roughly $200 billion short of the objective.
The Fed purchased a net total of $12 billion of agency-backed MBS through the week of February 3, bringing its total purchases up to $1.177 trillion, and by the end of the first quarter 2010 the Fed will have purchased $1.25 trillion (thus, it is 94% complete).... the Fed needs to purchase only about $9.2 billion per week through March 2010 to reach its goal.
The discrepancy seems to arise from the fact that the Fed's February 18 H41 release listed its MBS holdings on Feb 17 as $1,025 billion, or $152 billion less than the $1,177 billion that the Federal Reserve Bank of Atlanta claimed the Fed had purchased as of Feb 3. The Atlanta numbers seem to be the accumulation of weekly net MBS purchases (that is, gross purchases minus gross sales) reported by the Federal Reserve Bank of New York. Perhaps it takes a while between the time the NY Fed executes the purchases and the time they are settled and show up on the Fed's H41 balance sheet, or perhaps there is some separate device for accounting for maturation and prepayment on the MBS. If the latter, then at a minimum the WSJ and FRB Atlanta had a different understanding of how far the Fed intended to go with its MBS program. And under either interpretation, if the $200 billion in new funding is just for something that was already etched in stone weeks ago, the sudden announcement that it is going to be implemented with an immediate resurrection of the SFP seems all the more mysterious.
WSJ Real Time offers this perspective from Lou Crandall:
The intention always was to resume SFP issuance when the debt ceiling was increased on a permanent basis, which finally happened earlier this month.
So maybe this has been in the cards for a while, with the apparent suddenness and clunkiness from the perspective of an outsider like me having an explanation in the fact that the political negotations behind such a move may in fact force a certain suddenness and clunkiness on steps that the Federal Reserve on its own might wish to see implemented with more transparency and predictability.
Still, one is led to wonder whether there might be a connection between today's announcement about the SFP and last week's announcement of an increase in the Fed's discount rate. Numerous Fed officials encouraged us to interpret the latter as a routine and technical management tool. Are the discount hike and SFP renewal separate and purely technical developments, or is something more involved?
Perhaps Bernanke's remarks tomorrow will give us more to go on.
Posted by James Hamilton at February 23, 2010 08:53 PMdigg this | reddit
So if I understand correctly the Treasury is over-borrowing so it can park the money at the Fed, allowing the Fed to purchase agency MBS. How is that different from the Treasury purchasing agency MBS? Maybe the caution and mystery has to do with the backlash this interpretation of the policy action would cause among the public... The Fed acts like a veil for what is really an outright purchase of mortgage backed securities by the US government.
Posted by: Romain Wacziarg at February 23, 2010 09:37 PM
Some confusion may lie between the Federal Reserves commitment to purchase MBSs, and its MBSs held outright.
In the Fed's H.4.1 Table 3, one can see the detail.
Posted by: Jon at February 23, 2010 10:03 PM
Sounds like they're just trying to be just sort of pregnant.
The cool part about paying interest on reserves, reverse repos and term deposits, is it allows the Fed to buy MBS and still hope to control liquidity/rates. By having the Treasury fund Fed purchases, it will give the Fed more interest income(remember losses on principal too) to be able to pay on reserves, and they could conceivably rates rates a little higher than otherwise before being forced to sell MBS. Hard to believe that would be a problem anytime soon, but MBS are long term. But the disadvantage is it uses up some of the Treasury's debt ceiling.
They are also saying that F&F may start buying back MBS on the open market. Then we have the FDIC that just ran out of money. Treasury needs to fund these too.
I think it would take a very long congressional hearing with all four agencies present, presenting how the grand plan works.
We will see what we get.
Posted by: Cedric Regula at February 23, 2010 10:23 PM
The Fed H.4.1 reports MBS that have settled on the balance sheet ($1025 billion as of feb 17th) and the ones not settled as a memo item: ($108 billion as of feb 17th). The difference with total purchases as reported by the NYFED is due to prepayment which are not reinvested (practice disclosed in the minutes), so the fed will never have $1.25 trillion of MBS even when all are settled.
Posted by: jck at February 24, 2010 03:31 AM
The Fed, in an effort to help Treasury avoid running into the debt ceiling, monetized more debt that it cared to for a while - an unintended increase in monetary accommodation. Now, the Fed is preparing to undue just that part of accommodation that was unintended.
There are two elements to timing. One is that the balance in the program would have gone to zero on Thursday if some new issuance had not taken place, and there was some attention being paid in the market to whether that was allowed to happen - looking for signs of de facto monetary policy change. By announcing yesterday, Treasury is able to auction today and issue Thursday, so the balance won't go to zero. The other element, I suspect, is that Bernanke is testifying today, and so will be able to explain this event in whatever way he sees fit. Similar to the timing of the discount rate hike, in that regard.
Posted by: kharris at February 24, 2010 05:11 AM
Bernanke did say the Fed would allow the MBS portfolio to fall with maturations and prepayments, but it wasn't clear if he meant while they are purchasing the $1.2T, or from the time it was completed. I guess if it were the former, they would never actually hold $1.2T at one time.
Posted by: Bob_in_MA at February 24, 2010 06:08 AM
Just finished listening to the testimony on CNBC. I think I counted 3 instances of Ben stating "it is likely that interest rates will stay very low for an extended period of time". At least one instance of Ben stating that the Fed will not monetize the debt.
Other than that, it seemed very similar to all the other hearings. Ben didn't have to refer to his notes hardly at all, and kept good eye contact with the audience.
There were Q&A questions about if something needs to be done about the deficit, and Ben answered in the affirmative again.
Much concern about job creation among all.
Posted by: Cedric Regula at February 24, 2010 09:27 AM
I don't understand the statement:
"Treasury anticipates that the balance in the Treasury's Supplementary Financing Account will increase from its current level of $5 billion to $200 billion. This will restore the SFP back to the level maintained between February and September 2009."
If the cash supoosed to sit idle in SFP, why did it drop from 200 billion to 5 at the 1st place?
And does interest on reserve suppose to do the same job? If they worry about daily funding vs term maturity, TDF would work fine too.
Why? Why? Why?
Posted by: Yuan Zhou at February 24, 2010 10:31 AM
Bernanke's statement did not shed any light on the mystery. This is surprising given how he emphasized on the role of central bank transparency.
Posted by: Spry at February 24, 2010 03:37 PM
I'm not surprised that Bernanke didn't comment on it. I think this is Treasury's plan, and nothing but a pain in the ass for the Fed.
From the Fed's perspective, if it wanted to withdraw $200b from the economy, and I don't think it does right now, it would be much better to sell $200b of its own Treasuries.
When instead Treasury deposits $200b in the supplementary financing account, it accomplishes the same withdrawal of funds from the economy, but also, Treasury gains control over that part of the Fed's balance sheet. Treasury can decide to withdraw the $200b at any time, resulting in a $200b monetary stimulus that the Fed has no control over, and which would be at least inconvenient for the Fed to counteract.
But that doesn't explain Treasury's motives. I don't think Treasury wants $200b of monetary de-stimulus right now, far from it. Nor do I think Treasury wants to use the supplementary financing account to influence monetary policy. I think it merely wants to have a $200b cushion sitting around somewhere handy.
The $200 billion that was in the supplementary financing account till last autumn certainly came in handy, when Treasury was running up against the federal debt limit while senators were holding out for return favors from the White House before voting to raise it.
The question to the Fed is, how will it counteract this $200b of monetary destimulus? Especially since it will come on top of the end of MBS/GSE debt purchases, which have been providing about $80b/month of monetary stimulus. Interest rates don't stay this low naturally, they have to be continually pressed down with monetary stimulus, or they will rise.
Posted by: Tom at February 24, 2010 06:32 PM
Why doesn't the Fed sell its MBS to the Treasury in return for new Treasury securities of matching maturities? If it did, it would then have plenty of high quality marketable paper on the asset side of its balance sheet, with which it could drain reserves via open market sales at a pace of its choosing without deflating the housing market and without raising short term rates too sharply.
Posted by: stunney at February 24, 2010 07:20 PM
Which market does the SFP really target? Is it a one-party transaction? The Treasury's balances can be transferred on demand, without notice or without equivocation.
Is it for Treasury debt-management and monetization of the publics debt? This years Federal Budget is estimated at $1.6 trillion.
Posted by: flow5 at February 25, 2010 11:10 AM
What is happening is that Mr. Bernanke was able to preach his academic thesis on economics and the Great Depression so long as if lived in the merely conceptual world of Academia. However, what Mr. Bernanke has recently discovered is that the great majority of his previous theories have been proven wrong when put to real use. If one listened carefully to his testimonies before Congress, he came about as close I suppose one in his position can come to in admitting that his previous strategies didn't work--the mechanisms for implementing monetary and fiscal policy doesn't work when the economy is over saturated and can no longer absorb any more debt, that is, the insolvancy phase needs to take place.
Yet, we don't need Mr. Bernanke's admittance to demonstrate how incorrect most of his previous work has been; however, we do need Mr. Bernanke to act in a more prudent and reality grounded way as he still calls a lot of the shots.
Games can be played for some time, but he aware that you're only running faster in order to stand in place as you attempt to "earn" your way out and conduct write offs in the face of rapidly depreciating assets. There comes a point when a person or institution realizes this, and then defaults outright.
It is because of this that the current administration and Federal Reserve has adopted an approach of "management of perception".
However, Mr. Bernanke's great flaw was his naivete (or so I hope it's due to that). When Mr. Bernanke came to the rescue of the financial world, and Wall Street, he should have gutted out its leadership and cronyism when they were down, but he didn't do that. Instead, he nurtured them back to health, only somewhat, and then his little banks became monsters, again. The problem I suspect, but I don't know as I don't know Mr. Bernanke personally, is that he assumed that the leadership in Wall Street would be cooperative, and of course they are not longer being so accommodating; and so he has to take steps to prevent them from going out there and "blowing" themselves up again, which he really can't.
The same games that were played in the housing market has been, and currently is, being played with sovereign debt, as it is with all debt (securitized debt is all Wall Street has been trading in for decades now).
If Mr. Bernanke has recently adopted some wisdom, then I would gather that he is about the reverse course on many of his policies.
Posted by: Brian at February 25, 2010 06:02 PM
I wonder if this might be about something entirely different: wouldn't the cash held in the supplementary financing account provide a cushion against the possibility of Congress (temporarily) refusing to increase the statutory debt limit? That is, if Congress were to throw a crowd-pleasing tantrum and refuse to raise the debt limit at some point, Treasury would have $200 billion lying around to meet obligations like interest payments (and, say, payroll).
Posted by: johnchx at February 26, 2010 09:39 AM
I've been thinking(hoping) the same thing.
Take the scenario that Congress decides to get spending averse at the same time the FDIC (which is now out of cash) needs some cash to make good on bank deposit insurance.
While we are listening to Congress argue about raising the debt ceiling, which in the end they have too anyway, all our checking and savings accounts disappear into electronic never-never land.
Keeping my fingers crossed we can sidestep that one.
Posted by: Cedric Regula at February 26, 2010 10:43 AM
My hunch is the Fed will buy $200b of Treasuries from the market, to counteract the destimulus effect of the Treasury depositing $200b in the supplementary financing account.
Posted by: Tom at February 27, 2010 06:30 AM
This is not a de-stimulus but another 200 bn USD stimulus. The Fed is not issuing the bills, the Treasury is. This money is to flow back into the economy in one way or the other. Sit idle: no such thing.
Posted by: alfred at February 28, 2010 09:47 AM
As announced, the Treasury selling $200b worth of notes and depositing the proceeds at the Fed, this is monetary de-stimulus. I don't think the Fed wants monetary de-stimulus right now, so it will probably counteract it somehow, I suspect by buying an equivalent amount of Treasuries.
When Treasury draws down the account and spends the proceeds, as inevitably someday it will, that will be both monetary and fiscal stimulus. Depending on conditions at that unknown future time, the Fed might not want the monetary stimulus component, so it might counteract that too.
Posted by: Tom at March 1, 2010 04:29 AM
from an email feb 8 on the related think most of you share my suspicions about how they handle what is MBS worth question. The last para has a solution for this also.
http://www.ft.com/cms/s/0/1f812892-143c-11df-8847-00144feab49a.html Saw this morning where Citi has been a seller of paper to the Feds TALF. though they have $3 billion left they are trying unsuccessfully to flog privately. You will both be "reassured" to know the TALF relies on rating agencies to do this, but only the big three and an unknown, not davids favorite Egan Jones http://www.newyorkfed.org/markets/talf_terms.html
While this was supposed to be for new loans, it looks like they buying legacy from CITI and others.
You will also be reassured to see the fed applies haircuts. And to show they know what they are doing, they supply a complete haircut schedule with percentages for each category, motorcycle, comml real estate etc.attached.
the most outrageous category for me are the arcane Insurance premium finance loans Insurance companies have been capitalizing premiums, like Credit default Swaps do, since an accounting agreement around 2001, while most regulators and others agree its a bad accounting rule and should be revoked, the companies have argued taking it away now would be too disruptive. This enshrines it. and discounts them.
this is practically begging the banks to send over their worst stuff, their legacy not new loans, rated only by the certifiably bad rating agencies. There may some major favoritism in who gets to do?
i supported the TALF as a way to get money to actual lending, not shovelling into bank black holes. I could tolerate Geithner excesses, mainly on the "it was an emergency" excuse. But this is obscene. Geithner should go, by the career version of taken out and shot, but only after a show trial, meaning show the public the record of all his backdoor excessive bailouts for his board member friends. It is still not to late for the Fed to avoid more $ 100 billion plus losses. They could put all their paper back, with interest, to each company that gave it to them. Got a contractural rights, legal BS problem with that? Seems to me there was fraudulant conveyance. If not, why not take it back and meet the essential needs of good public policy?
Posted by: AWH at March 1, 2010 12:08 PM
this is a hi powered crowd. So i pass around another email re the SFP.
Barclays institutional sent out 4 paras including
"The Treasury announced the return of the Supplemental Financing Bill (SFB) program today. This program, which is a joint effort between the Fed and Treasury, is designed to manage the central bank's balance sheet.
The program will increase bill supply - boosting outstandings by $200bn beginning tomorrow.
The resurrection of this program is a purely technical adjustment in liquidity. At the margin, it will reduce the Fed's need to rely on reverse repos and term deposits".
they immediately recalled the first 4 para version and sent out only the first para above. Also curiously the correction arrived to me before the original
Posted by: AWH at March 1, 2010 12:31 PM
It's more likely they revived the program in anticipation of a flood of issuance of longer-term Treasury debt that's expected. Yields have already dropped sharply since the SFP auction.
Posted by: Les at March 2, 2010 04:31 AM