Monthly Report on Credit and Liquidity Programs
and the Balance Sheet

System Open Market Account Holdings and Liquidity Arrangements with Foreign Central Banks

System Open Market Account (SOMA) Portfolio

Recent Developments

• The SOMA portfolio has continued to expand in recent weeks, reflecting Federal Reserve purchases of securities under the large-scale asset purchase programs (LSAPs) announced by the Federal Open Market Committee (FOMC).
• As of June 24, the Federal Reserve had settled purchases of about $177 billion in Treasury securities, $95 billion in agency debt, and $467 billion in agency-guaranteed mortgage-backed securities. The settled purchases to date have increased the size of the SOMA portfolio to well over twice the level prevailing in August 2008.
• So far, about 85 percent of the Treasury purchases have been nominal Treasury securities in the 2- to 10-year maturity range and 13 percent in maturities greater than 10 years. The remainder of the purchases has been in Treasury Inflation-Protected Securities (TIPS) and nominal securities maturing in less than two years.

Background

Open market operations (OMOs)--the purchase and sale of securities in the open market by a central bank--are a key tool used by the Federal Reserve in the implementation of monetary policy. Historically, the Federal Reserve has used OMOs to adjust the supply of reserve balances so as to keep the federal funds rate around the target federal funds rate established by the FOMC. OMOs are conducted by the Trading Desk at the Federal Reserve Bank of New York (FRBNY), which acts as agent for the FOMC. The range of securities that the Federal Reserve is authorized to purchase and sell is relatively limited. The authority to conduct OMOs is found in section 14 of the Federal Reserve Act.

OMOs can be divided into two types: permanent and temporary. Permanent OMOs are outright purchases or sales of securities for the System Open Market Account, the Federal Reserve's portfolio. Permanent OMOs are generally used to accommodate the longer-term factors driving the expansion of the Federal Reserve's balance sheet, principally the trend growth of currency in circulation. Temporary OMOs are typically used to address reserve needs that are deemed to be transitory in nature. These operations are either repurchase agreements (repos) or reverse repurchase agreements (reverse repos). Under a repo, the Trading Desk buys a security under an agreement to resell that security in the future. A repo is the economic equivalent of a collateralized loan, in which the difference between the purchase and sale prices reflects the interest on the loan.

Each OMO affects the Federal Reserve's balance sheet; the size and nature of the effect depends on the specifics of the operation. The Federal Reserve publishes its balance sheet each week in the H.4.1 statistical release, "Factors Affecting Reserve Balances of Depository Institutions and Consolidated Statement of Condition of Reserve Banks." The release separately reports securities held outright, repos, and reverse repos (www.federalreserve.gov/releases/h41).

The Federal Reserve's approach to the implementation of monetary policy has evolved considerably since 2007, and particularly so since late 2008. The FOMC has established a near-zero target range for the federal funds rate, implying that the very large volume of reserve balances provided through the various liquidity facilities is consistent with the FOMC's funds rate objectives. In addition, open market operations have provided increasing amounts of reserve balances. To help reduce the cost and increase the availability of credit for the purchase of houses, on November 25, 2008, the Federal Reserve announced that it would buy direct obligations of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks and mortgage-backed securities guaranteed by Fannie Mae, Freddie Mac, and Ginnie Mae. The Federal Reserve determined that supporting the MBS "dollar roll" market promotes the goals of the MBS purchase program. Dollar roll transactions, which consist of a purchase of securities combined with an agreement to sell securities in the future, provide short-term financing to the MBS market. Because of principal and interest payments and occasional delays in the settlement of transactions, the Federal Reserve also has some uninvested cash associated with the mortgage-backed securities purchase program. The FOMC has authorized purchases of up to $1.25 trillion of agency MBS and up to $200 billion of agency direct obligations by the end of this year. The Federal Reserve's outright holdings of mortgage-backed securities are reported in tables 1, 3, 9, and 10 of the H.4.1 statistical release.

Table 2. System Open Market Account (SOMA) Holdings
As of June 24, 2009

In March 2009, the FOMC announced that it would also purchase up to $300 billion of longer-term Treasury securities over the next six months to help improve conditions in private credit markets. The Federal Reserve has purchased a range of securities across the maturity spectrum, including TIPS. The bulk of purchases have been in intermediate maturities. The Federal Reserve conducts purchases through regular auctions, with the auction results posted to the FRBNY website at www.newyorkfed.org/markets/openmarket.html.

Liquidity Swaps

Recent Developments

• Usage of the Federal Reserve's foreign central bank dollar liquidity swaps has continued to decline in recent weeks, consistent with a general improvement of conditions in short-term funding markets.
• As shown in Table 3, as of June 24, total dollar liquidity extended to foreign central banks had dropped to $119 billion.
• On June 25, the Federal Reserve announced the extension of its dollar and foreign currency liquidity swap arrangements with other central banks through February 1, 2010. The Bank of Japan will consider the extension of the liquidity swap arrangements with the Federal Reserve (currently authorized through October 30, 2009), and will announce its decision following its next Monetary Policy Meeting.

Background

Because of the global character of bank funding markets, the Federal Reserve has worked with other central banks in providing liquidity to financial markets and institutions. As part of these efforts, the FRBNY has entered into agreements to establish temporary reciprocal currency arrangements (central bank liquidity swap lines) with a number of foreign central banks. Two types of temporary swap lines have been established--dollar liquidity lines and foreign-currency liquidity lines.

The FRBNY operates swap lines under the authority in section 14 of the Federal Reserve Act and in compliance with authorizations, policies, and procedures established by the FOMC.

Dollar Liquidity Swaps

On December 12, 2007, the FOMC announced that it had authorized dollar liquidity swap lines with the European Central Bank and the Swiss National Bank to provide liquidity in U.S. dollars to overseas markets. Subsequently, the FOMC authorized dollar liquidity swap lines with additional central banks. The FOMC has authorized through February 1, 2010, the arrangements between the Federal Reserve and each of the following central banks: the Reserve Bank of Australia, the Banco Central do Brasil, the Bank of Canada, Danmarks Nationalbank, the Bank of England, the European Central Bank, the Bank of Korea, the Banco de Mexico, the Reserve Bank of New Zealand, Norges Bank, the Monetary Authority of Singapore, Sveriges Riksbank, and the Swiss National Bank. The Bank of Japan will consider the extension of the dollar liquidity swap arrangement with the Federal Reserve (currently authorized through October 30, 2009), and will announce its decision following its next Monetary Policy Meeting.

Table 3. Amounts Outstanding under Dollar Liquidity Swaps

Swaps under these lines consist of two transactions. When a foreign central bank (FCB) draws on its swap line with the FRBNY, the FCB sells a specified amount of its currency to the FRBNY in exchange for dollars at the prevailing market exchange rate. The FRBNY holds the foreign currency in an account at the FCB. The dollars that the FRBNY provides are deposited in an account that the FCB maintains at the FRBNY. At the same time, the FRBNY and the FCB enter into a binding agreement for a second transaction that obligates the FCB to buy back its currency on a specified future date at the same exchange rate. The second transaction unwinds the first. Because the swap transaction will be unwound at the same exchange rate used in the initial transaction, the recorded value of the foreign currency amounts is not affected by changes in the market exchange rate. At the conclusion of the second transaction, the FCB pays interest at a market-based rate to the FRBNY.

When the FCB lends the dollars it obtained by drawing on its swap line to institutions in its jurisdiction, the dollars are transferred from the FCB account at the FRBNY to the account of the bank that the borrowing institution uses to clear its dollar transactions. The FCB remains obligated to return the dollars to the FRBNY under the terms of the agreement, and the FRBNY is not a counterparty to the loan extended by the FCB. The FCB bears the credit risk associated with the loans it makes to institutions in its jurisdiction.

The foreign currency that the Federal Reserve acquires is an asset on the Federal Reserve's balance sheet. In tables 1, 9, and 10 of the H.4.1 statistical release, the dollar value of amounts that the foreign central banks have drawn but not yet repaid is reported in the line entitled Central bank liquidity swaps. Dollar liquidity swaps have maturities ranging from overnight to three months. Table 2 of the H.4.1 statistical release reports the remaining maturity of outstanding dollar liquidity swaps.

Foreign-Currency Liquidity Swap Lines

On April 6, 2009, the FOMC announced foreign-currency liquidity swap lines with the Bank of England, the European Central Bank, the Bank of Japan, and the Swiss National Bank. These lines are designed to provide the Federal Reserve with the capacity to offer liquidity to U.S. institutions in foreign currency should a need arise. These lines mirror the existing dollar liquidity swap lines, which provide FCBs with the capacity to offer U.S. dollar liquidity to financial institutions in their jurisdictions. If drawn upon, the foreign-currency swap lines would support operations by the Federal Reserve to address financial strains by providing liquidity to U.S. institutions in amounts of up to £30 billion (sterling), €80 billion (euro), ¥10 trillion (yen), and CHF 40 billion (Swiss francs). The FOMC has authorized these liquidity swap lines with the Bank of England, the European Central Bank, and the Swiss National Bank through February 1, 2010. The Bank of Japan will consider the extension of the foreign-currency liquidity swap arrangement with the Federal Reserve (currently authorized through October 30, 2009) and will announce its decision following its next Monetary Policy Meeting. So far, the Federal Reserve has not drawn on these swap lines.

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