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Federal Reserve Banks
In addition to contributing to setting national monetary policy and supervising and regulating banks and other financial entities (discussed in preceding chapters), the Federal Reserve Banks provide payment services to depository and certain other institutions, distribute the nation's currency and coin, and serve as fiscal agents and depositories for the United States.
Developments in Federal Reserve Priced Services
The Federal Reserve Banks provide a range of payment and related services to depository institutions, including collecting checks, operating an automated clearinghouse service, transferring funds and securities, and providing a multilateral settlement service. The Reserve Banks charge fees for providing these "priced services."
The Monetary Control Act of 1980 requires that the Federal Reserve establish fees for priced services provided to depository institutions so as to recover, over the long run, all direct and indirect costs actually incurred as well as the imputed costs that would have been incurred, including financing costs, taxes, and certain other expenses, and the return on equity (profit) that would have been earned if a private business firm had provided the services.1 The imputed costs and imputed profit are collectively referred to as the private-sector adjustment factor (PSAF).2 Over the past ten years, the Reserve Banks have recovered 99.1 percent of their priced services costs, including the PSAF (table).3
In 2007, the Reserve Banks recovered 101.9 percent of total costs of $993.7 million, including the PSAF.4 Revenue from priced services amounted to $878.4 million, other income was $133.8 million, and costs were $913.3 million, resulting in net income from priced services of $98.9 million.
| Millions of dollars except as noted | |||||
| Year | Revenue from services1 |
Operating expenses and imputed costs2 |
Targeted return on equity |
Total costs | Cost recovery (percent)3, 4 |
|---|---|---|---|---|---|
| 1998 | 839.8 | 743.2 | 66.8 | 809.9 | 103.7 |
| 1999 | 867.6 | 775.7 | 57.2 | 832.9 | 104.2 |
| 2000 | 922.8 | 818.2 | 98.4 | 916.6 | 100.7 |
| 2001 | 960.4 | 901.9 | 109.2 | 1,011.1 | 95.0 |
| 2002 | 918.3 | 891.7 | 92.5 | 984.3 | 93.3 |
| 2003 | 881.7 | 931.3 | 104.7 | 1,036.1 | 85.1 |
| 2004 | 914.6 | 842.6 | 112.4 | 955.0 | 95.8 |
| 2005 | 994.7 | 834.7 | 103.0 | 937.7 | 106.1 |
| 2006 | 1,031.2 | 875.5 | 72.0 | 947.5 | 108.8 |
| 2007 | 1,012.3 | 913.3 | 80.4 | 993.7 | 101.9 |
| 1998-2007 | 9,343.4 | 8,528.0 | 896.6 | 9,424.8 | 99.1 |
Note: Here and elsewhere in this chapter, totals and percentages may not sum to totals because of rounding.
1. For the ten-year period, includes revenue from services of $8,816.8 million and other income and expense (net) of $526.6 million. Return to table
2. For the ten-year period, includes operating expenses of $7,938.1 million, imputed costs of $227.2 million, and imputed income taxes of $362.8 million. Return to table
3. Revenue from services divided by total costs. Return to table
4. For the ten-year period, cost recovery is 96.7 percent, including the net reduction in equity related to FAS 158 reported by the priced services in 2007. Return to table
Commercial Check-Collection Service
In 2007, the Reserve Banks recovered 100.7 percent of the total costs of their commercial check-collection service, including the PSAF. The Reserve Banks' operating expenses and imputed costs totaled $743.3 million, of which $26.1 million was attributable to the transportation of commercial checks between Reserve Bank check-processing centers. Revenue amounted to $705.0 million, of which $23.1 million was attributable to estimated revenues derived from the transportation of commercial checks between Reserve Bank check-processing centers, and other income was $106.9 million. The resulting net income was $68.6 million. Check-service revenue in 2007 decreased $40.0 million from 2006, largely because of a drop in paper-check fee revenue; this drop was partially offset by an increase in Check 21 fee revenue.
The Reserve Banks handled 10.0 billion checks in 2007, a decrease of 9.8 percent from 2006 (table). The decline in Reserve Bank check volume is consistent with nationwide trends away from the use of checks and toward greater use of electronic payment methods.5 Of all the checks presented by the Reserve Banks to paying banks in 2007, 42.2 percent were deposited and 24.6 percent were presented using Check 21 products, compared with 14.0 percent and 4.3 percent, respectively, in 2006.6 By the end of 2007, this growth resulted in 57.5 percent of the Reserve Bank check deposits and 39.0 percent of Reserve Bank check presentments being made through Check 21 products.
| Thousands of items | |||||
| Service | 2007 | 2006 | 2005 | Percent change | |
|---|---|---|---|---|---|
| 2006 to 2007 | 2005 to 2006 | ||||
| Commercial check | 10,001,289 | 11,083,122 | 12,227,718 | -9.8 | -9.4 |
| Commercial ACH | 9,363,429 | 8,230,782 | 7,338,950 | 13.8 | 12.2 |
| Funds transfer | 137,555 | 136,399 | 135,227 | .9 | .9 |
| Multilateral settlement | 505 | 470 | 440 | 7.4 | 6.8 |
| Securities transfer | 10,110 | 9,053 | 9,235 | 11.7 | -2.0 |
Note: Activity in commercial check is the total number of commercial checks collected, including processed and fine-sort items; in commercial ACH, the total number of commercial items processed; in funds transfer and securities transfer, the number of transactions originated online and offline; and in multilateral settlement, the number of settlement entries processed.
In 2007, the Reserve Banks continued efforts to reduce check-service operating costs in response to the ongoing decline in check volume. These efforts included the consolidation of some check-processing sites. Check processing at Nashville has now been consolidated to Atlanta; San Francisco operations to Los Angeles; and Helena (Montana) operations to Denver. As part of a longer-range strategy, the Reserve Banks have selected Philadelphia, Cleveland, Atlanta, and Dallas as regional check-processing sites, which will provide a full range of check-processing services. The transition to this new structure is expected to begin in 2008. The Reserve Banks will continue to review their check infrastructure regularly to respond to further changes within the nation's payments system and to meet statutory requirements for long-term cost recovery.
Commercial Automated Clearinghouse Services
In 2007, the Reserve Banks recovered 107.6 percent of the total costs of their commercial automated clearinghouse (ACH) services, including the PSAF. The Reserve Banks' operating expenses and imputed costs totaled $85.9 million. Revenue from ACH operations totaled $88.3 million and other income totaled $13.7 million, resulting in net income of $16.0 million. The Banks processed 9.4 billion commercial ACH transactions, an increase of 13.8 percent from 2006.
In 2007, nationwide ACH volumes continued to grow at double-digit rates. This growth is largely attributable to volume increases associated with electronic check conversion applications--including checks converted at lockbox locations or at the point of purchase. ACH rule changes that took effect in early 2007 permitted checks to be converted in processing centers or back offices, spurring further growth in the volume of ACH check conversions.
Fedwire Funds and National Settlement Services
In 2007, the Reserve Banks recovered 107.3 percent of the costs of their Fedwire Funds and National Settlement Services, including the PSAF. The Reserve Banks' operating expenses and imputed costs totaled $63.1 million in 2007. Revenue from these operations totaled $64.4 million and other income amounted to $10.1 million, resulting in net income of $11.4 million.
Fedwire Funds Service
The Fedwire Funds Service allows participants to use their reserve or clearing balances at the Reserve Banks to transfer funds to other participants. In 2007, the number of Fedwire funds transfers originated by depository institutions increased 0.9 percent from 2006, to approximately 137.6 million. The average daily value of Fedwire funds transfers in 2007 was $2.7 trillion.
National Settlement Service
The National Settlement Service is a multilateral settlement system that allows participants in private-sector clearing arrangements to exchange and settle transactions on a net basis using reserve or clearing balances. In 2007, the service processed settlement files for approximately fifty-four local and national private arrangements, primarily check clearinghouse associations. The Reserve Banks processed slightly more than 17,000 files that contained almost 505,000 settlement entries for these arrangements in 2007.
Fedwire Securities Service
In 2007, the Reserve Banks recovered 103.7 percent of the total costs of their Fedwire Securities Service, including the PSAF. The Reserve Banks' operating expenses and imputed costs for providing this service totaled $21.0 million in 2007. Revenue from the service totaled $20.6 million, and other income totaled $3.2 million, resulting in net income of $2.9 million.
The Fedwire Securities Service allows participants to electronically transfer securities issued by the U.S. Treasury, federal government agencies, government-sponsored enterprises, and certain international organizations to other participants in the service.7 In 2007, the number of non-Treasury securities transfers processed by the service increased 11.7 percent from 2006, to approximately 10.1 million.
In 2007, the Board published an assessment of the compliance of the Fedwire Securities Service with the Recommendations for Securities Settlement Systems that are included in the Federal Reserve Policy on Payments System Risk.8 The Fedwire Securities Service mostly complied with the recommendations' applicable standards.9 Both the Fedwire Funds Service and the Fedwire Securities Service assessments will be reviewed periodically to ensure that they remain accurate.
Float
The Federal Reserve had daily average credit float of $604.9 million in 2007, compared with credit float of $85.9 million in 2006.10
Developments in Currency and Coin
The Federal Reserve Banks issue the nation's currency (in the form of Federal Reserve notes) and distribute coin through depository institutions. The Reserve Banks also receive currency and coin from circulation through these institutions. The Reserve Banks received 38.0 billion Federal Reserve notes from circulation in 2007, a 0.8 percent decrease from 2006, and made payments of 38.5 billion notes into circulation in 2007, a 1.5 percent decrease from 2006. They received 63.3 billion coins from circulation in 2007, a 5.9 percent increase from 2006, and made payments of 75.7 billion coins into circulation, a 2.2 percent increase from 2006.
In July, the Reserve Banks implemented the fee component of the Federal Reserve currency recirculation policy. The intent of the policy is to reduce the overuse of Federal Reserve currency-processing services by depository institutions. Under the policy, the Reserve Banks assess fees to institutions that, within a one-week period, deposit fit $10 or $20 notes and reorder currency of the same denomination, above a de minimis amount, within the same Reserve Bank office's service area. At the end of the first two billing quarters, the Reserve Banks had collected $5.5 million in recirculation fees from institutions.
Board staff worked with the Treasury Department, the U.S. Secret Service, and the Reserve Banks' Currency Technology Office to develop more-secure designs for the $5 Federal Reserve note. The Reserve Banks issued the redesigned $5 note in March 2008.
Board staff worked with the Reserve Banks and the United States Mint to implement the distribution strategy for the Presidential $1 Coin Program. Consistent with the requirements of the Presidential $1 Coin Act, the Federal Reserve and the Mint conducted additional outreach to depository institutions and coin users to gauge demand for the coins and to anticipate and eliminate obstacles to the efficient circulation of $1 coins.
The Reserve Banks began implementing a program to extend to 2017 the useful life of the System's BPS 3000 high-speed currency-processing machines. The program will replace the operating systems of the current equipment but retain the machines' frames, note-transport mechanisms, and large mechanical parts. Software problems and development delays have extended the schedule for completion of the program to the fourth quarter of 2009.
The Reserve Banks selected a vendor to design software to replace the current standard cash application. The multiyear project will begin in 2008; the target implementation date for the new automation system is 2010.
Developments in Fiscal Agency and Government Depository Services
As fiscal agents and depositories for the federal government, the Federal Reserve Banks provide services related to the federal debt, help the Treasury collect funds owed to the federal government, process electronic and check payments for the Treasury, maintain the Treasury's bank account, and invest excess Treasury balances. The Reserve Banks also provide limited fiscal agency and depository services to other entities.
The total cost of providing fiscal agency and depository services to the Treasury and other entities in 2007 amounted to $458.2 million, compared with $426.1 million in 2006 (table). Treasury-related costs were $427.2 million in 2007, compared with $397.8 million in 2006, an increase of 7.4 percent. The cost of providing services to other entities was $31.0 million, compared with $28.2 million in 2006. In 2007, as in 2006, the Treasury and other entities reimbursed the Reserve Banks for the costs of providing these services.
| Thousands of dollars | |||
| Agency and service | 2007 | 2006 | 2005 |
|---|---|---|---|
| Department of the Treasury | |||
| Bureau of the Public Debt | |||
| Treasury retail securities | 74,149.2 | 73,931.4 | 86,503.2 |
| Treasury securities safekeeping and transfer | 8,687.7 | 7,535.2 | 6,055.8 |
| Treasury auction | 41,372.0 | 23,594.9 | 17,553.5 |
| Computer infrastructure development and support | 3,558.7 | 3,853.1 | 2,575.5 |
| Other services | 724.5 | 1,578.7 | 1,806.5 |
| Total | 128,492.1 | 110,493.2 | 114,494.5 |
| Financial Management Service | |||
| Payment services | |||
| Government check processing | 17,522.7 | 20,918.6 | 20,988.0 |
| Automated clearinghouse | 6,050.3 | 5,823.1 | 5,709.5 |
| Fedwire funds transfers | 116.8 | 123.1 | 109.4 |
| Other payment programs | 81,636.9 | 69,696.8 | 49,366.0 |
| Collection services | |||
| Tax and other revenue collections | 38,254.5 | 37,095.5 | 39,736.0 |
| Other collection programs | 12,483.6 | 14,122.6 | 14,354.2 |
| Cash-management services | 46,093.6 | 48,320.2 | 40,496.7 |
| Computer infrastructure development and support | 70,999.9 | 67,046.4 | 67,703.3 |
| Other services | 7,507.2 | 7,414.8 | 2,332.2 |
| Total | 280,665.7 | 270,561.2 | 240,795.4 |
| Other Treasury | |||
| Total | 17,997.1 | 16,786.3 | 15,726.7 |
| Total, Treasury | 427,154.9 | 397,840.7 | 371,016.6 |
| Other Federal Agencies | |||
| Department of Agriculture | |||
| Food coupons | 2,706.0 | 2,929.8 | 2,642.4 |
| United States Postal Service | |||
| Postal money orders | 8,913.2 | 9,334.4 | 7,647.8 |
| Other agencies | |||
| Other services | 19,412.0 | 15,977.1 | 14,870.2 |
| Total, other agencies | 31,031.1 | 28,241.4 | 25,160.4 |
| Total reimbursable expenses | 458,186.0 | 426,082.1 | 396,177.0 |
Debt Services
The Reserve Banks auction, provide safekeeping for, and transfer Treasury securities. Reserve Bank operating expenses for these activities totaled $50.1 million in 2007, compared with $31.1 million in 2006. The Banks processed 104,000 commercial tenders for Treasury securities in 2007 through the Fedwire Securities Service, compared with 148,000 in 2006. They originated 13.7 million transfers of Treasury securities in 2007, a 6.4 percent increase from 2006. The Reserve Banks are developing a new Treasury auction application and infrastructure that will provide increased functionality and security. The application will be operational in early 2008.
The Reserve Banks also operate computer applications and provide customer service and back-office support for the Treasury's retail securities programs. Reserve Bank operating expenses for these activities were $74.1 million in 2007, compared with $73.9 million in 2006. The Reserve Banks operate Legacy Treasury Direct, a program that allows investors to purchase and hold Treasury securities directly with the Treasury through the Reserve Banks instead of through a broker. The program held $70.3 billion (par value) of Treasury securities as of December 31. Because the program was designed for investors who plan to hold their securities to maturity, it does not provide transfer services. Investors may, however, sell their securities for a fee through Sell Direct, a program operated by one of the Reserve Banks. Approximately 13,000 securities worth $642.4 million were sold through Sell Direct in 2007, compared with 13,000 securities worth $678.9 million in 2006. The Banks printed and mailed more than 25.1 million savings bonds in 2007, a 13.2 percent decrease from 2006. They issued more than 4.2 million Series I (inflation-indexed) bonds and 20.6 million Series EE bonds.
Payments Services
The Reserve Banks process both electronic and check payments for the Treasury. Reserve Bank operating expenses for processing government payments and for payments-related programs totaled $105.3 million in 2007, compared with $96.6 million in 2006. The Banks processed 1,027 million ACH payments for the Treasury, an increase of 3.6 percent from 2007, and more than 618,000 Fedwire funds transfers. They also processed 214 million government checks, a decline of 3.6 percent from 2006. The proportion of government checks being processed as paper checks has been declining as an increasing number of checks are being presented by depository institutions in image form. Of all the government checks processed by the Banks in 2007, 54 percent of the checks were presented as paper and 46 percent were presented as images, compared with 87 percent and 13 percent, respectively, in 2006. In addition, the Banks issued more than 131,000 fiscal agency checks, a decrease of 22.6 percent from 2006.
Collection Services
The Reserve Banks support several Treasury programs to collect funds owed the federal government. Reserve Bank operating expenses related to these programs totaled $50.7 million in 2007, compared with $51.2 million in 2006. The Banks operate the Federal Reserve Electronic Tax Application (FR-ETA) as an adjunct to the Treasury's Electronic Federal Tax Payment System (EFTPS). EFTPS allows businesses and individual taxpayers to pay their taxes electronically. It uses the automated clearinghouse (ACH) to collect funds, so tax payments must be scheduled at least one day in advance. Some business taxpayers, however, do not know their tax liability until the tax due date. FR-ETA allows these taxpayers to use EFTPS by providing a same-day electronic federal tax payment alternative. FR-ETA collected $519.8 billion for the Treasury in 2007, compared with $456.3 billion in 2006.
In addition, the Reserve Banks operate Pay.gov, a Treasury program that allows members of the public to use the Internet to pay for goods and services offered by the federal government. They also operate the Treasury's Paper Check Conversion and Electronic Check Processing programs, whereby checks written to government agencies are converted into ACH transactions at the point of sale or at lockbox locations. In 2007, the Reserve Banks originated more than 10.1 million ACH transactions through these programs, a significant increase from 2006 due to growth in the electronic check processing program.
Treasury Cash-Management Services
The Treasury maintains its bank account at the Reserve Banks and invests the funds it does not need for current payments with qualified depository institutions through the Treasury Tax and Loan (TT&L) program, which the Reserve Banks operate. Reserve Bank operating expenses related to this program and other cash-management initiatives totaled $46.1 million in 2007, compared with $48.3 million in 2006. The investments either are callable on demand or are for a set term. In 2007, the Reserve Banks placed a total of $308.4 billion in immediately callable investments, which includes funds invested through retained tax deposits and direct, special direct, and dynamic investments, and $687 billion in term investments. The rate for term investments is set by auction; the Reserve Banks held 126 such auctions in 2007, roughly the same number of auctions as in 2006. In 2007, the Treasury's income from the TT&L program was $1.15 billion. The Treasury provides the Repurchase Agreement Program on a limited basis, which allows the Treasury to place a portion of its excess operating funds directly with TT&L depositaries through a repurchase transaction for a set period at an agreed-on interest rate. In 2007, the Reserve Banks placed a total of $499 billion of investments through repurchase agreements.
In 2007, the Treasury announced the Collections and Cash Management Modernization (CCMM) initiative, which is a multiyear effort to streamline, modernize, and improve the process and systems supporting the Treasury's collections and cash-management programs. Several Federal Reserve Banks have been selected to work on the CCMM initiative.
Services Provided to Other Entities
The Reserve Banks provide fiscal agency and depository services to other domestic and international entities when required to do so by the Secretary of the Treasury or when required or permitted to do so by federal statute. The majority of the work is securities-related.
Electronic Access to Reserve Bank Services
In 2007, the Federal Reserve Banks continued to migrate their computer interface customers to FedLine Direct and FedLine Command. This migration, typically for high-volume depository institutions, comes after the Reserve Banks completed the FedLine Advantage migration, typically for low- to moderate-volume depository institutions, in 2006. FedLine Direct is an internet-protocol-based computer-to-computer electronic access channel used to access critical payment services, such as Fedwire Funds, Fedwire Securities, National Settlement, and FedACH Services. FedLine Command is a lower-cost internet-protocol-based computer-to-computer electronic access channel for file delivery services, including the FedACH Service. The Reserve Banks began the migration to FedLine Direct and FedLine Command in 2006 and expect to complete the conversion in 2008.
Information Technology
In 2007, the Federal Reserve Banks enhanced their information technology (IT) governance framework to better align IT management authority and accountability with the business models used in the System. A System chief information officer (CIO) position and two advisory councils were established. The Business Technology Council represents the technology needs of the Federal Reserve's business lines, and the Technology Services Council represents the Federal Reserve's IT providers. The CIO leads System efforts to develop and implement the Federal Reserve's overall IT strategy at the Reserve Banks, manages national information-security risk, and analyzes and coordinates the System's IT investments.
The System continued to develop the National Information Security Assurance function as a central point of governance for enterprise-level information security. Associated roles and responsibilities within the function were clarified. Efforts to improve the function will continue as the Federal Reserve's information security environment continues to evolve.
To address the business implications of reduced demand for mainframe services, Federal Reserve Information Technology in mid-2007 implemented a multiyear strategic plan for mainframe technologies. These technologies are no longer considered strategic, and the System has decided not to make any further significant investments in the mainframe platform. System business owners are looking at alternative platforms for web-based access to applications and data, partly because of concerns about the continued availability of technical resources to support mainframe platforms.
In 2007, the Federal Reserve continued to implement the Information Security Architecture Framework (ISAF), a large program scheduled to be completed in 2008. ISAF is intended to respond to the continuing and increasingly sophisticated security threats facing information technology systems and to improve information security at all points in the Federal Reserve by raising the level of enterprise-wide assurance. Major accomplishments in 2007 include improving the separation of sensitive infrastructure, limiting access to sensitive desktop functions, and strengthening desktop-access protections.
Examinations of the Federal Reserve Banks
Section 21 of the Federal Reserve Act requires the Board of Governors to order an examination of each Federal Reserve Bank at least once a year. The Board performs its own reviews and engages a public accounting firm. The public accounting firm performs an annual audit of the combined financial statements of the Reserve Banks (see the section "Federal Reserve Banks Combined Financial Statements") and audits the annual financial statements of each of the twelve Banks. The Reserve Banks use the framework established by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) to assess their internal controls over financial reporting, including the safeguarding of assets. The Reserve Banks have further enhanced their assessments under the COSO framework to strengthen the key control assertion process and in 2007 met the requirements of the Sarbanes-Oxley Act of 2002. Within this framework, management of each Reserve Bank provides an assertion letter to its board of directors annually confirming adherence to COSO standards, and a public accounting firm confirms management's assertion and issues an attestation report to each Bank's board of directors and to the Board of Governors.
In 2007, the Board engaged Deloitte & Touche LLP (D&T) for the audits of the individual and combined financial statements of the Reserve Banks. Previously, PricewaterhouseCoopers LLP performed the audits. Fees for D&T's services totaled $4.7 million. To ensure auditor independence, the Board requires that D&T be independent in all matters relating to the audit. Specifically, D&T may not perform services for the Reserve Banks or others that would place it in a position of auditing its own work, making management decisions on behalf of Reserve Banks, or in any other way impairing its audit independence. In 2007, the Reserve Banks did not engage D&T for nonaudit services.
The Board's annual examination of the Reserve Banks includes a wide range of off-site and on-site oversight activities conducted primarily by the Division of Reserve Bank Operations and Payment Systems. Division personnel monitor the activities of each Reserve Bank on an ongoing basis and conduct on-site reviews based on the division's risk-assessment methodology. The examinations also include assessing the efficiency and effectiveness of the internal audit function. To assess compliance with the policies established by the Federal Reserve's Federal Open Market Committee (FOMC), the division also reviews the accounts and holdings of the System Open Market Account at the Federal Reserve Bank of New York and the foreign currency operations conducted by that Bank. In addition, D&T audits the schedule of participated asset and liability accounts and the related schedule of participated income accounts at year-end. The FOMC receives the external audit reports and the report on the division's examination.
| Millions of dollars | ||
| Item | 2007 | 2006 |
|---|---|---|
| Current income | 42,576 | 38,410 |
| Current expenses | 3,510 | 3,264 |
| Operating expenses 1 | 3,270 | 2,987 |
| Earnings credits granted | 240 | 276 |
| Current net income | 39,066 | 35,147 |
| Net additions to (deductions from, -) current net income | 198 | -159 |
| Assessments by the Board of Governors | 872 | 793 |
| For expenditures of Board | 296 | 301 |
| For cost of currency | 576 | 492 |
| Change in funded status of benefit plans 2 | 324 | |
| Net income before payments to Treasury | 38,716 | 34,195 |
| Dividends paid | 992 | 871 |
| Transferred to (from) surplus and change in accumulated other comprehensive income | 3,126 | 4,272 |
| Payments to Treasury3 | 34,598 | 29,052 |
1. Includes a net periodic pension expense of $110 million in 2007 and $53 million in 2006. Return to table
2. Subsequent to the adoption of SFAS 158 in 2006, the Reserve Banks began to recognize the change in funded status of benefit plans as an element of other comprehensive income. Return to table
3. Interest on Federal Reserve notes. Return to table
Income and Expenses
The accompanying table summarizes the income, expenses, and distributions of net earnings of the Federal Reserve Banks for 2006 and 2007. Income in 2007 was $42,576 million, compared with $38,410 million in 2006.
Expenses totaled $4,382 million ($3,270 million in operating expenses, $240 million in earnings credits granted to depository institutions, $296 million in assessments for expenditures by the Board of Governors, and $576 million for the cost of new currency). Revenue from priced services was $878.4 million. Net additions to and deductions from current net income showed a net profit of $198 million. The profit was due primarily to unrealized gains on assets denominated in foreign currencies revalued to reflect current market exchange rates offset, in part, by interest expense on reverse repurchase agreements. Statutory dividends paid to member banks totaled $992 million, $121 million more than in 2006; the increase reflects an increase in the capital and surplus of member banks and a consequent increase in the paid-in capital stock of the Reserve Banks.
Payments to the U.S. Treasury in the form of interest on Federal Reserve notes totaled $34,598 million in 2007, up from $29,052 million in 2006; the payments equal net income after the deduction of dividends paid and of the amount necessary to equate the Reserve Banks' surplus to paid-in capital.
In the "Statistical Tables" section of this report, table 10 details the income and expenses of each Reserve Bank for 2007 and table 11 shows a condensed statement for each Bank for the years 1914 through 2007; table 9 is a statement of condition for each Bank, and table 13 gives the number and annual salaries of officers and employees for each Bank. A detailed account of the assessments and expenditures of the Board of Governors appears in the section "Board of Governors Financial Statements."
Holdings of Securities and Loans
| Millions of dollars except as noted | ||||
| Item and year | Total | U.S. government securities1 | Loans2 | Term Auction Credit 3 |
|---|---|---|---|---|
| Average daily holdings4 | ||||
| 2005 5 | 753,748 | 753,549 | 199 | . . . |
| 2006 5 | 787,872 | 787,648 | 224 | . . . |
| 2007 | 816,115 | 813,772 | 1,521 | 822 |
| Earnings6 | ||||
| 2005 | 28,966 | 28,959 | 7 | . . . |
| 2006 | 36,464 | 36,452 | 12 | . . . |
| 2007 | 40,369 | 40,298 | 33 | 38 |
| Average interest rate (percent) | ||||
| 2005 5 | 3.84 | 3.84 | 3.52 | . . . |
| 2006 5 | 4.63 | 4.63 | 5.36 | . . . |
| 2007 | 4.95 | 4.95 | 2.18 | 4.66 |
1. Includes federal agency obligations. Return to table
2. Does not include indebtedness assumed by the Federal Deposit Insurance Corporation. Return to table
3. Reflects temporary Term Auction Facility activity beginning in 2007. Return to table
4. Based on holdings at opening of business. Return to table
5. Amounts in bold are restatements due to changes in previously reported data. Return to table
6. Amounts in bold are restatements due to changes in previously reported data. Return to table
. . . Not applicable. Return to table
The Federal Reserve Banks' average daily holdings of securities and loans during 2007 amounted to $816,115 million, an increase of $28,243 million from 2006 (table). U.S. government securities holdings increased $26,124 million, and loans increased $1,297 million. In December 2007, the Federal Reserve established a Term Auction Facility (TAF) under which the Reserve Banks conduct auctions for a fixed amount of funds for a fixed term, with the interest rate determined by the auction process, subject to a minimum bid rate. All advances under the TAF must be fully collateralized. In 2007, average daily holdings of Term Auction Credit (TAC) under the TAF amounted to $822 million.
The average rate of interest earned on the Reserve Banks' holdings of government securities increased to 4.95 percent, from 4.63 percent in 2006, and the average rate of interest earned on loans decreased to 2.18 percent, from 5.36 percent. The average interest rate on TAC was 4.66 percent.
Volume of Operations
Table 12 in the "Statistical Tables" section shows the volume of operations in the principal departments of the Federal Reserve Banks for the years 2004 through 2007.
Federal Reserve Law Enforcement
In November, the Federal Reserve System became the eleventh federal law enforcement agency to be awarded accreditation from the Federal Law Enforcement Training Accreditation board of directors for its Basic Law Enforcement Course (BLEC). The primary benefit of accreditation is increased public confidence in the integrity, professionalism, and accountability of the law enforcement agencies. Accreditation is considered a "best practice" for federal law enforcement agencies and signifies compliance with 63 stringent standards. All law enforcement candidates complete the Federal Reserve's BLEC prior to their designation as Federal Reserve law enforcement officers (FRLEOs). The 240-hour program covers a variety of topics related to the mission of an FRLEO. The Federal Reserve was granted federal law enforcement authority by the USA Patriot Act to protect and safeguard Board and Federal Reserve Bank premises, grounds, property, personnel, and operations.
Federal Reserve Bank Premises
In 2007, construction was largely completed on the Kansas City Bank's new headquarters building and the San Francisco Bank's new Seattle Branch building. The multiyear renovation program at the New York Bank's headquarters building continued. The St. Louis Bank continued a long-term facility redevelopment program that includes the ongoing construction of an addition to the Bank's headquarters building.
Security enhancement programs continued at several facilities. Construction of security improvements to the Richmond Bank's headquarters building is ongoing. The Philadelphia Bank completed the purchase of property behind its headquarters building for the construction of a remote vehicle-screening facility and is developing the facility's design. Design development of a similar screening facility for the Dallas Bank also continued.
During 2007, the Board approved the final design of a new parking garage to be constructed adjacent to the Richmond Bank's headquarters building. Efforts to sell the St. Louis Bank's Little Rock Branch building continued.
Table 14 in the "Statistical Tables" section of this report details the acquisition costs and net book value of the Federal Reserve Banks and Branches.
Pro Forma Financial Statements for Federal Reserve Priced Service
| Millions of dollars | ||||
| Item | 2007 | 2006 | ||
|---|---|---|---|---|
| Short-term assets (Note 1) | ||||
| Imputed reserve requirements on clearing balances | 755.7 | 821.7 | ||
| Imputed investments | 6,465.7 | 7,207.5 | ||
| Receivables | 66.7 | 73.6 | ||
| Materials and supplies | 1.8 | .9 | ||
| Prepaid expenses | 28.5 | 24.2 | ||
| Items in process of collection | 1,769.6 |
3,391.0 |
||
| Total short-term assets | 9,088.0 | 11,518.9 | ||
| Long-term assets (Note 2) | ||||
| Premises | 453.5 | 424.9 | ||
| Furniture and equipment | 130.2 | 127.9 | ||
| Leases, leasehold improvements, and long-term prepayments | 64.2 | 83.3 | ||
| Prepaid pension costs | 484.6 | 453.0 | ||
| Deferred tax asset | 109.4 |
130.0 |
||
| Total long-term assets | 1,242.0 |
1,219.0 |
||
| Total assets | 10,330.0 | 12,737.9 | ||
| Short-term liabilities | ||||
| Clearing balances and balances arising from early credit of uncollected items | 7,641.1 | 8,015.6 | ||
| Deferred-availability items | 1,685.1 | 3,592.5 | ||
| Short-term debt | .0 | .0 | ||
| Short-term payables | 102.4 |
100.4 |
||
| Total short-term liabilities | 9,428.5 | 11,708.4 | ||
| Long-term liabilities | ||||
| Long-term debt | .0 | .0 | ||
| Postretirement/postemployment benefits obligation | 385.0 |
392.6 |
||
| Total long-term liabilities | 385.0 |
392.6 |
||
| Total liabilities | 9,813.5 | 12,101.0 | ||
| Equity (including accumulated other comprehensive loss of $237.9 million and $306.1 million at December 31, 2007 and 2006, respectively) | 516.5 |
636.9 |
||
| Total liabilities and equity (Note 3) | 10,330.0 | 12,737.9 | ||
Note: Components may not sum to totals because of rounding. Amounts in bold are restated due to changes in previously reported data.
The accompanying notes are an integral part of these pro forma priced services financial statements.
| Millions of dollars | ||||
| Item | 2007 | 2006 | ||
|---|---|---|---|---|
| Revenue from services provided to depository institutions (Note 4) | 878.4 | 908.4 | ||
| Operating expenses (Note 5) | 888.2 |
803.5 |
||
| Income from operations | -9.8 | 104.8 | ||
| Imputed costs (Note 6) | ||||
| Interest on float | -32.0 | -4.9 | ||
| Interest on debt | .0 | .0 | ||
| Sales taxes | 11.6 | 10.8 | ||
| FDIC Insurance | .0
|
-20.4 |
.0
|
5.9 |
| Income from operations after imputed costs | 10.6 | 98.9 | ||
| Other income and expenses (Note 7) | ||||
| Investment income | 362.3 | 383.6 | ||
| Earnings credits | -228.5 |
133.8 | -260.8 |
122.8 |
| Income before income taxes | 144.5 | 221.8 | ||
| Imputed income taxes (Note 6) | 45.5 |
66.1 |
||
| Net income | 98.9 | 155.7 | ||
| MEMO: Targeted return on equity (Note 6) | 80.4 | 72.0 | ||
Note: Components may not sum to totals because of rounding. Amounts in bold are restated due to changes in previously reported data.
The accompanying notes are an integral part of these pro forma priced services financial statements.
| Millions of dollars | |||||
| Item | Total | Commercial check collection | Commercial ACH | Fedwire funds | Fedwire securities |
|---|---|---|---|---|---|
| Revenue from services (Note 4) | 878.4 | 705.0 | 88.3 | 64.4 | 20.6 |
| Operating expenses (Note 5) | 888.2 |
733.6 |
78.3 |
56.9 |
19.3 |
| Income from operations | -9.8 | -28.6 | 10.0 | 7.5 | 1.3 |
| Imputed costs (Note 6) | -20.4 |
-21.8 |
.2
|
.9
|
.3
|
| Income from operations after imputed costs | 10.6 | -6.7 | 9.7 | 6.6 | 1.0 |
| Other income and expenses, net (Note 7) | 133.8 |
106.9 |
13.7 |
10.1 |
3.2 |
| Income before income taxes | 144.4 | 100.2 | 23.4 | 16.6 | 4.2 |
| Imputed income taxes (Note 6) | 45.5 |
31.6 |
7.4 |
5.2 |
1.3 |
| Net income | 98.9 | 68.6 | 16.0 | 11.4 | 2.9 |
| MEMO: Targeted return on equity (Note 6) | 80.4 | 63.2 | 8.8 | 6.3 | 2.0 |
| MEMO: Cost recovery (percent) (Note 8) | 101.9 | 100.7 | 107.6 | 107.3 | 103.7 |
Note: Components may not sum to totals because of rounding. Amounts in bold are restated due to changes in previously reported data.
The accompanying notes are an integral part of these pro forma priced services financial statements.
FEDERAL RESERVE BANKS
Notes to Pro Forma Financial Statements for Priced Services
(1) Short-Term Assets
The imputed reserve requirement on clearing balances held at Reserve Banks by depository institutions reflects a treatment comparable to that of compensating balances held at correspondent banks by respondent institutions. The reserve requirement imposed on respondent balances must be held as vault cash or as non-earning balances maintained at a Reserve Bank; thus, a portion of priced services clearing balances held with the Federal Reserve is shown as required reserves on the asset side of the balance sheet. Another portion of the clearing balances is used to finance short-term and long-term assets. The remainder of clearing balances is assumed to be invested in a portfolio of investments, shown as imputed investments.
Receivables are (1) amounts due the Reserve Banks for priced services and (2) the share of suspense-account and difference-account balances related to priced services.
Materials and supplies are the inventory value of short-term assets.
Prepaid expenses include salary advances and travel advances for priced-service personnel.
Items in process of collection is gross Federal Reserve cash items in process of collection (CIPC) stated on a basis comparable to that of a commercial bank. It reflects adjustments for intra-System items that would otherwise be double-counted on a consolidated Federal Reserve balance sheet; adjustments for items associated with nonpriced items, such as those collected for government agencies; and adjustments for items associated with providing fixed availability or credit before items are received and processed. Among the costs to be recovered under the Monetary Control Act is the cost of float, or net CIPC during the period (the difference between gross CIPC and deferred-availability items, which is the portion of gross CIPC that involves a financing cost), valued at the federal funds rate.Return to table
(2) Long-Term Assets
Long-term assets consist of long-term assets used solely in priced services, the priced-service portion of long-term assets shared with nonpriced services, and an estimate of the assets of the Board of Governors used in the development of priced services.
Effective December 31, 2006, the Reserve Banks implemented the Financial Accounting Standard Board's Statement of Financial Accounting Standards (SFAS) No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans, which requires an employer to record the funded status of its benefit plans on its balance sheet. This resulted in a reduction to the prepaid pension asset related to priced services and the recognition of an associated deferred tax asset with an offsetting adjustment, net of tax, to accumulated other comprehensive income (AOCI) (see Note 3).Return to table
(3) Liabilities and Equity
Under the matched-book capital structure for assets, short-term assets are financed with short-term payables and core clearing balances. Long-term assets are financed with long-term liabilities and clearing balances. As a result, no short- or long-term debt is imputed. Other short-term liabilities include clearing balances maintained at Reserve Banks and deposit balances arising from float. Other long-term liabilities consist of accrued postemployment, postretirement, and nonqualified pension benefits costs and obligations on capital leases.
In order to reflect the funded status of its benefit plans as required by SFAS No. 158, the Reserve Banks recognized the deferred items related to these plans, which include prior service costs and actuarial gains or losses, on the balance sheet. In 2007, this resulted in a decrease to the benefits obligation related to the priced services with an offsetting adjustment, net of tax, to AOCI, which is included in equity.
Equity is imputed at 5 percent of total assets.Return to table
(4) Revenue
Revenue represents charges to depository institutions for priced services and is realized from each institution through one of two methods: direct charges to an institution's account or charges against its accumulated earnings credits (see Note 7).Return to table
(5) Operating Expenses
Operating expenses consist of the direct, indirect, and other general administrative expenses of the Reserve Banks for priced services plus the expenses for staff members of the Board of Governors working directly on the development of priced services. The expenses for Board staff members were $6.7 million in 2007 and $7.5 million in 2006.
Effective January 1, 1987, the Reserve Banks implemented SFAS No. 87, Employers' Accounting for Pensions. Accordingly, the Reserve Banks recognized operating expenses for the qualified pension plan of $21.3 million in 2007 and $11.5 million in 2006. Operating expenses also include the nonqualified pension expense of $3.1 million in 2007 and $3.2 million in 2006. The implementation of SFAS No. 158 does not change the systematic approach required by generally accepted accounting principles to recognize the expenses associated with the Reserve Banks' benefit plans in the income statement.
| 2007 | 2006 | |
|---|---|---|
| Check | 34.7 | 30.6 |
| ACH | 4.3 | 4.1 |
| Fedwire funds | 3.0 | 2.8 |
| Fedwire securities | 1.7 | 1.5 |
| Total | 43.7 |
39.0 |
The income statement by service reflects revenue, operating expenses, imputed costs, and cost recovery. Certain corporate overhead costs not closely related to any particular priced service are allocated to priced services based on an expense-ratio method. Corporate overhead was allocated among the priced services during 2007 and 2006 as follows (in millions):
(6) Imputed Costs
Imputed costs consist of income taxes, return on equity, interest on debt, sales taxes, the FDIC assessment, and interest on float. Many imputed costs are derived from the private-sector adjustment factor (PSAF) model. The cost of debt and the effective tax rate are derived from bank holding company data, which serves as the proxy for the financial data of a representative private-sector firm, and are used to impute debt and income taxes in the PSAF model. The after-tax rate of return on equity is based on the returns of the equity market as a whole and is used to impute the profit that would have been earned had the services been provided by a private-sector firm.
Interest is imputed on the debt assumed necessary to finance priced-service assets; however, no debt was imputed in 2007 or 2006.
Effective in 2007, the Reserve Bank priced services imputed a one-time FDIC assessment credit of $16.6 million. In 2007, the credit fully offset the imputed $4.0 million assessment, resulting in a remaining credit of $12.6 million. The remaining credit can be used to offset up to 90 percent of the assessment in the future.
Interest on float is derived from the value of float to be recovered, either explicitly or through per-item fees, during the period. Float costs include costs for the Check, Fedwire Funds, National Settlement Service, ACH, and Fedwire Securities services.
Float cost or income is based on the actual float incurred for each priced service. Other imputed costs are allocated among priced services according to the ratio of operating expenses, less shipping expenses, for each service to the total expenses, less the total shipping expenses, for all services.
The following shows the daily average recovery of actual float by the Reserve Banks for 2007 in millions of dollars:
| Total float | -603.3 |
| Unrecoverd float | 24.1 |
| Float subject to recovery | -627.4 |
| Sources of recovery of float | |
| Income on clearing balances | -62.7 |
| As-of adjustments | -1.6 |
| Direct charges | 267.3 |
| Per-item fees | -833.6 |
Unrecovered float includes float generated by services to government agencies and by other central bank services. Float recovered through income on clearing balances is the result of the increase in investable clearing balances; the increase is produced by a deduction for float for CIPC, which reduces imputed reserve requirements. The income on clearing balances reduces the float to be recovered through other means. As-of adjustments and direct charges refer to float that is created by interterritory check transportation and the observance of non-standard holidays by some depository institutions. Such float may be recovered from the depository institutions through adjustments to institution reserve or clearing balances or by billing institutions directly. Float recovered through direct charges and per-item fees is valued at the federal funds rate; credit float recovered through per-item fees has been subtracted from the cost base subject to recovery in 2007.
(7) Other Income and Expenses
Other income and expenses consist of investment income on clearing balances and the cost of earnings credits. Investment income on clearing balances for 2007 and 2006 represents the average coupon-equivalent yield on three-month Treasury bills plus a constant spread, based on the return on a portfolio of investments. The return is applied to the total clearing balance maintained, adjusted for the effect of reserve requirements on clearing balances. Expenses for earnings credits granted to depository institutions on their clearing balances are derived by applying a discounted average coupon-equivalent yield on three-month Treasury bills to the required portion of the clearing balances, adjusted for the net effect of reserve requirements on clearing balances. Return to table
(8) Cost Recovery
Annual cost recovery is the ratio of revenue to the sum of operating expenses, imputed costs, imputed income taxes, and targeted return on equity.Return to table
1. Financial data reported throughout this chapter--revenue, other income, cost, income before taxes, and net income--can be linked to the pro forma financial statements at the end of this chapter.Return to text
2. In addition to income taxes and the return on equity, the PSAF is made up of three imputed costs: interest on debt, sales taxes, and assessments for deposit insurance by the Federal Deposit Insurance Corporation (FDIC). Board of Governors assets and costs that are related to priced services are allocated to priced services; in the pro forma financial statements at the end of this chapter, Board assets are part of long-term assets, and Board expenses are included in operating expenses.Return to text
3. Effective December 31, 2006, the Reserve Banks implemented the Financial Accounting Standards Board's Statement of Financial Accounting Standards (SFAS) No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans, which has resulted in the recognition of a $237.9 million reduction in equity related to the priced services' benefit plans through 2007. Including this reduction in equity, which represents a decline in economic value, results in cost recovery of 96.7 percent for the ten-year period. For details on how implementing SFAS No. 158 affected the pro forma financial statements, refer to notes 2, 3, and 5 at the end of this chapter.Return to text
4. Other income is revenue from investment of clearing balances net of earnings credits, an amount termed net income on clearing balances. Total cost is the sum of operating expenses, imputed costs (interest on debt, interest on float, sales taxes, and the FDIC assessment), imputed income taxes, and the targeted return on equity.Return to text
5. The Federal Reserve System's retail payments research suggests that the number of checks written in the United States has been declining since the mid-1990s. For details, see Federal Reserve System, " The 2007 Federal Reserve Payments Study: Noncash Payment Trends in the United States, 2003-2006 " (78 KB PDF) (December 2007). Return to text
6. The Reserve Banks also offer non -Check 21 electronic-presentment products. In 2007, 19.2 percent of the Reserve Banks' deposit volume was presented to paying banks using these
products.Return to text
7. The expenses, revenues, volumes, and fees reported here are for transfers of securities issued by federal government agencies, government-sponsored enterprises, and certain international organizations. The Reserve Banks provide Treasury securities services
in their role as the U.S. Treasury's fiscal agent. These services are not considered priced services. For details, see the section "Debt Services" later in this chapter.Return to text
8. The Recommendations (238 KB PDF) are a set of nineteen minimum standards, developed by the Committee on Payment and Settlement Systems (CPSS) and the Technical Committee of the International Organization of Securities Commissions (IOSCO), to address legal, presettlement, settlement, operational, and custody risks, among other issues, in securities settlement systems. Return to text
9. In 2006, the Board published an assessment of the compliance of the Fedwire Funds Service with the Core Principles (218 KB PDF) for Systemically Important Payment Systems. Return to text
10. Credit float occurs when the Reserve Banks present items for collection to the paying bank prior to providing credit to the depositing bank, and debit float occurs when the Reserve Banks credit the depositing bank prior to presenting items for collection to the paying bank.Return to text