Banks continued to borrow from the Federal Reserve at historic levels approaching the 2008-2009 financial crisis in the past week.
They borrowed another $110.3 billion from the Federal Reserve’s primary lending window, down from the record $153 billion in the previous week, but still way above normal. The primary window is the traditional lending facility offered by the central bank, the lender of last resort. Banks also borrowed $53.7 billion under the Bank Term Funding Program, the freshly created lending program by the Fed to offer more cash at generous terms.
The heavy borrowing underscores how banks have been bracing themselves for potential runs on deposits in the aftermath of the Silicon Valley Bank and Signature Bank collapses.
As a result, the Fed’s total assets have expanded to $8.78 trillion, a gain of about $94 billion versus the prior week, signifying a reversal of a monthslong effort to reduce the size of the balance sheet. It’s more than double the $4.1 trillion reported in February 2020 before the onset of the pandemic. The central bank bought vast amounts of securities to lower interest rates and support economic growth during the pandemic, also called quantitative easing.
The rise in bank borrowing and the swelling balance sheet comes at a time when the Fed is attempting to tighten broader economic conditions by raising interest rates, which highlights the challenge it faces as it tries to support lenders while bringing down inflation.
“The Fed is facing a tradeoff in its instruments between financial stability and price stability,” Viral Acharya, an economics professor at New York University and a former deputy governor of the Reserve Bank of India told Barron’s.
The situation is complex. On Wednesday, the bank raised its target for the fed-funds by the ninth time in about a year, a move intended to tighten economic conditions and bring down demand for goods. But the Fed also launched the Bank Term Funding Program, on March 13, to help banks shore up cash and it also offered billions of dollars in loans to the Federal Deposit Insurance Corp. to allow it to wind down Silicon Valley Bank and Signature Bank.
Federal Reserve Chairman Jerome Powell told reporters on Wednesday that the expansion of the balance sheet is temporary, helping banks to meet “special liquidity demands created by the recent tensions and it’s not intended to directly alter the monetary policy stance.”
The loans from the primary lending facility, offered at an interest rate of 5% as of Thursday, are typically repaid fairly quickly. Loans under the new Bank Term Funding Program, now at a fixed rate of 4.7%, must be paid back within a year.
In short, these reserves are “unlikely to translate into new credit creation for the economy,”
equity strategist Michael Wilson said.
Indeed, the central bank has been attempting to trim its assets for roughly a year to counteract the effects of the quantitative easing it rolled out during the pandemic.
Acharya, ultimately, sees the Fed’s present predicament—temporarily adding liquidity even as it raises interest rates—as a result of the scale of its past quantitative easing.
When the Fed made its bond purchases, it credited the accounts of commercial banks, Acharya and other economists said in research presented at the Federal Reserve’s Jackson Hole conference in August. The banks lent that money out and bulked up their deposit bases as money flowed into the financial system, but they didn’t cut back after the Fed began scaling back its balance sheet, the economists argue.
That left them vulnerable to shocks such as the rise in rates that have cut into the value of their fixed-income assets. Bond prices drop when interest rates go up.
Write to Karishma Vanjani at firstname.lastname@example.org