Board of Governors of the Federal Reserve System

Federal Reserve Banks

The Federal Reserve Banks provide payment services to depository and certain other institutions, distribute the nation's currency and coin to depository institutions, and serve as fiscal agents and depositories for the U.S. government and other entities. The Reserve Banks also contribute to setting national monetary policy and supervision of banks and other financial entities operating in the United States (discussed in sections 2 through 4 of this annual report).

Federal Reserve Priced Services

Reserve Banks provide a range of payment and related services to depository and certain other institutions; these "priced services" include collecting checks, operating an automated clearinghouse (ACH) service, transferring funds and securities, and providing a multilateral settlement service.¹

The Reserve Banks have been engaged in a number of multiyear technology initiatives that will modernize their priced-services processing platforms. These investments are expected to enhance efficiency, the overall quality of operations, and the Reserve Banks' ability to offer additional services, consistent with the longstanding principles of fostering efficiency and safety, to depository institutions. The Reserve Banks continued to enhance the resiliency and information security posture of the Fedwire Funds, National Settlement Service, and Fedwire Securities Service through the Fedwire Resiliency Program, a multiyear initiative to respond to environmental threats and cyberthreats. The Reserve Banks are also developing and planning to implement a new FedACH-processing platform to improve the efficiency and reliability of their current FedACH operations.

Cost Recovery

The Monetary Control Act of 1980 requires that the Federal Reserve establish fees for priced services 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.² The imputed costs and imputed profit are collectively referred to as the private-sector adjustment factor (PSAF). From 2009 through 2018, the Reserve Banks recovered 102.6 percent of the total priced services costs, including the PSAF (see table 1).³

In 2018, Reserve Banks recovered 102.1 percent of the total priced services costs, including the PSAF.⁴ The Reserve Banks' operating expenses and imputed costs totaled $428.1 million. Revenue from operations totaled $442.5 million, resulting in net income from priced services of $14.4 million. The commercial check-collection service and the Fedwire Funds and National Settlement Services achieved full cost recovery; however, the FedACH Service and Fedwire Securities Service did not achieve full cost recovery. FedACH Service did not achieve full cost recovery because of investment costs associated with the multiyear technology initiative to modernize its processing platform. Fedwire Securities Services did not achieve full cost recovery because of volume declines driven by market changes.

Table 1. Priced services cost recovery, 2009–18

Commercial Check-Collection Service

The commercial check-collection service provides a suite of electronic and paper processing options for forward and return collections. In 2018, the Reserve Banks recovered 102.7 percent of the total costs of their commercial check-collection service, including the related PSAF. Revenue from operations totaled $132.9 million, resulting in net income of $5.1 million. The Reserve Banks' operating expenses and imputed costs totaled $127.8 million. Reserve Banks handled 4.7 billion checks in 2018, a decrease of 8.0 percent from 2017 (see table 2). The average daily value of checks collected by the Reserve Banks in 2018 was approximately $33.8 billion, a decrease of 0.6 percent from the previous year.

Table 2. Activity in Federal Reserve priced services, 2016–18

Commercial Automated Clearinghouse Service

The commercial ACH service provides domestic and cross-border batched payment options for same-day and next-day settlement. In 2018, the Reserve Banks recovered 99.2 percent of the total costs of their commercial ACH services, including the related PSAF. Revenue from operations totaled $149.7 million, resulting in a net income of $0.6 million. The Reserve Banks' operating expenses and imputed costs totaled $149.1 million. The Reserve Banks processed 14.7 billion commercial ACH transactions in 2018, an increase of 6.9 percent from 2017 (see table 2). The average daily value of FedACH transfers in 2018 was approximately $103.0 billion, an increase of 10.5 percent from the previous year.

Fedwire Funds and National Settlement Services

In 2018, the Reserve Banks recovered 105.8 percent of the costs of their Fedwire Funds and National Settlement Services, including the related PSAF. Revenue from operations totaled $132.4 million, resulting in a net income of $8.8 million. The Reserve Banks' operating expenses and imputed costs totaled $123.7 million in 2018.

Fedwire Funds Service

The Fedwire Funds Service allows its participants to send or receive domestic time-critical payments using their balances at Reserve Banks to transfer funds in real time. From 2017 to 2018, the number of Fedwire funds transfers originated by depository institutions increased 3.9 percent, to approximately 163.0 million (see table 2). The average daily value of Fedwire funds transfers in 2018 was $2.8 trillion, a decrease of 3.2 percent from the previous year.

National Settlement Service

The National Settlement Service is a multilateral settlement system that allows participants in private-sector clearing arrangements to settle transactions using their balances at Reserve Banks. In 2018, the service processed settlement files for 12 local and national private-sector arrangements. The Reserve Banks processed 9,674 files that contained about 521,000 settlement entries for these arrangements in 2018 (see table 2). Settlement file activity in 2018 increased 4.5 percent, and settlement entries increased 0.8 percent.

Fedwire Securities Service

The Fedwire Securities Service allows its participants to transfer electronically to other service participants certain securities issued by the U.S. Treasury Department, federal government agencies, government-sponsored enterprises, and certain international organizations.⁵ In 2018, the Reserve Banks recovered 98.7 percent of the costs of their Fedwire Securities Service, including the related PSAF. Revenue from operations totaled $27.5 million, resulting in a net income of $0.0 million. The Reserve Banks' operating expenses and imputed costs totaled $27.5 million in 2018. In 2018, the number of non-Treasury securities transfers processed via the service increased 1.3 percent from 2017, to approximately 3.5 million (see table 2). The average daily value of Fedwire Securities transfers in 2018 was approximately $1.2 trillion, a decrease of approximately 1.0 percent from the previous year.

Float

In 2018, the Reserve Banks had daily average credit float of $254.6 million, compared with daily average credit float of $379.3 million in 2017.⁶

Currency and Coin

The Federal Reserve Board issues the nation's currency (in the form of Federal Reserve notes) to 28 Federal Reserve Bank offices. The Reserve Banks, in turn, distribute Federal Reserve notes to depository institutions in response to public demand. Together, the Board and Reserve Banks work to maintain the integrity of and confidence in Federal Reserve notes. In 2018, the Board paid Treasury's Bureau of Engraving and Printing (BEP) $804.8 million for costs associated with the production of 8.0 billion Federal Reserve notes. The Reserve Banks also distribute coin to depository institutions on behalf of the United States Mint.⁷

The volume of Federal Reserve notes in circulation at year-end 2018 totaled 43.4 billion pieces, a 4.2 percent increase from 2017. More than half of this growth was attributable to growth in demand for $100 notes, and an additional 32.0 percent was attributable to growth in demand for $1 and $20 notes. In 2018, the Reserve Banks distributed 36.8 billion Federal Reserve notes into circulation and received 35.0 billion Federal Reserve notes from circulation, which is relatively unchanged from 2017.

The value of Federal Reserve notes in circulation at year-end 2018 totaled $1,671.9 billion, a 6.4 percent increase from 2017. The year-over-year increase is attributable largely to increased demand for $100 notes. The Board estimates that at least one-half of the value of Federal Reserve notes in circulation is held abroad, mainly as a store of value.

In addition, the Reserve Banks distributed 69.9 billion coins into circulation, a 2.8 percent decrease from 2017, and received 56.0 billion coins from circulation, a 3.8 percent decrease from 2017.

Other Improvements and Efforts

During 2018, the Federal Reserve continued developmental work to replace the aging high-speed currency processing equipment and sensors at all Reserve Banks by 2026. Through a competitive process, the Federal Reserve selected two vendors to build prototype machines for delivery in 2020. Following the prototype assessments, the Reserve Banks will select one vendor to develop new production machines. In addition to new machine development, the Federal Reserve issued a request for proposals to replace sensors within the replacement high-speed currency processing equipment, and expects to award this contract in 2019.

In 2018, the Board approved a policy change permitting the Reserve Banks to accept and distribute misfaced $50 and $100 notes, improved the quality of $1 notes that the Reserve Banks distribute to circulation, and accelerated the destruction of old-design $5, $10, $20, and $50 notes.⁸

Fiscal Agency and Government Depository Services

In accordance with section 15 of the Federal Reserve Act, the Reserve Banks, upon the direction of the Secretary of the United States Department of the Treasury, act as fiscal agents of the United States government. As fiscal agents, the Reserve Banks auction Treasury securities, process electronic and check payments for the Treasury, collect funds owed to the federal government, maintain the Treasury's operating cash account, and develop, operate, and maintain a number of automated systems to support the Treasury's mission. In addition, the Reserve Banks also provide certain fiscal agency services to other entities. The Treasury and other entities fully reimburse the Reserve Banks for the expense of providing fiscal agency and depository services.

In 2018, the Reserve Banks successfully concluded a Treasury-initiated, multiyear fiscal agent consolidation effort, migrated an information repository to the cloud, and completed efforts to modernize systems that the Reserve Banks operate and maintain on behalf of the Treasury, while strengthening the Treasury's systems against ever-evolving cybersecurity threats.⁹ In addition, Reserve Banks provided book-entry securities services and custodial and correspondent banking services to other government agencies, government-sponsored enterprises, official international organizations, and foreign central banks.

The Reserve Banks expenses for providing fiscal agency services in 2018 were $706.0 million, an increase of $7.7 million, or 1.1 percent (see table 3). Support for Treasury programs accounted for 94.4 percent of expenses, and support for other entities accounted for 5.6 percent.

Table 3. Expenses of the Federal Reserve Banks for fiscal agency and depository services, 2016–18

Payment Services

The Reserve Banks work closely with the Treasury and other government agencies to process payments to individuals, businesses, institutions, and government agencies. The Reserve Banks process federal payroll payments, Social Security and veterans' benefits, income tax refunds, vendor payments, and other types of payments.

Reserve Bank operating expenses for payment-related activities were $206.8 million in 2018, an increase of 5.9 percent. The most notable programs that contributed to cost changes included the stored-value card program, the post-payment system, the invoice-processing platform, and the U.S. Electronic Payment Solution Center.

The stored-value card program comprises three military cash-management services: EagleCash, EZPay, and Navy Cash. These programs provide electronic payment methods for goods and services on military bases and Navy ships, both domestic and overseas. Stored-value cards can be found on over 80 U.S. military bases and installations in over 19 countries and on over 135 naval ships. In 2018, Reserve Bank operating expenses for the stored-value card program were $48.2 million, an increase of 19.6 percent, primarily driven by the Reserve Banks incurring a full year of operations and maintenance costs based on work that transitioned from a financial agent to the Reserve Banks in mid-2017.

The Reserve Banks continued work on the post-payment system initiative, a multiyear effort to modernize several of the Treasury's legacy post-payment processing systems into a single system to enhance operations, reduce expenses, improve data analytics capabilities, and provide a centralized and standardized set of payment data. In 2018, the program conducted an assessment that resulted in a change in approach and technical architecture. In 2018, program expenses for the post-payment system initiative were $31.1 million, an increase of 32.3 percent, largely because of software development costs and software amortization.

The invoice-processing platform is an electronic invoicing and payment information system that allows vendors to enter invoice data electronically, through either a web-based portal or electronic submission. The system accepts, processes, and presents data from supplier systems related to various stages of a payment transaction, such as the purchase order and invoice. In 2018, expenses for the invoice-processing platform were $21.0 million, a decrease of 31.9 percent, largely because of decreased costs following Treasury's fiscal agent consolidation.

The U.S. Treasury Electronic Payment Solution Support Center provides broad support for Treasury initiatives aimed at eliminating paper check payments and increasing electronic payments to individuals. In fiscal year 2018, Treasury disbursed 98.4 percent of all benefit payments electronically.¹⁰ In 2018, expenses for the U.S. Treasury Electronic Payment Solution Support Center were $20.7 million, an increase of 7.6 percent, largely attributable to increased software amortization and personnel costs.

Treasury Cash-Management Services

The Reserve Banks maintain the Treasury's operating cash account and provide collateral-management and collateral-monitoring services for those Treasury programs that have collateral requirements.

In 2018, Reserve Bank operating expenses related to Treasury cash-management services were $85.4 million, an increase of 3.8 percent. The increase reflects higher application development and operations and maintenance costs associated with the Bank Management System application and the Financial Information Repository.¹¹ The Bank Management System determines commercial bank compensation for depository services provided to the Treasury. The Financial Information Repository provides information on financial transactions processed by the Treasury.

Collection Services

The Reserve Banks work closely with the Treasury to collect funds, including various taxes, fees for goods and services, and delinquent debts owed to the federal government. In 2018, Reserve Bank expenses related to collection services were $70.3 million, a decrease of 7.4 percent, largely because of decreased staffing costs following Treasury's fiscal agent consolidation program.

The Reserve Banks operate and maintain Pay.gov, an application that allows the public to use the internet to initiate and authorize payments to federal agencies. Pay.gov expenses were $24.7 million in 2018, an increase of 2.5 percent, primarily because of increased software, personnel, and support costs. During the year, the Pay.gov program expanded to include more than 143 new agency programs and processed more than 205 million online payments totaling over $179 billion.¹²

Treasury Securities Services

The Reserve Banks work closely with the Treasury in support of the borrowing needs to operate the federal government. The Reserve Banks auction, issue, maintain, and redeem securities; provide customer service; and operate the automated systems supporting U.S. savings bonds and marketable Treasury securities (bills, notes, and bonds). Treasury securities services consist of wholesale securities programs, which primarily serve institutional investors, and retail securities programs, which primarily serve individual investors.

Wholesale Securities Programs

The Reserve Banks support wholesale securities services through the sale, issuance, safekeeping, and transfer of marketable Treasury securities for institutional investors. During 2018, the Reserve Banks conducted 284 Treasury securities auctions and issued approximately $10.2 trillion in securities.

In 2018, Reserve Bank operating expenses to support Treasury securities auctions were $46.7 million, a slight decrease of 1.1 percent. Operating expenses reflect upgrades to the application that receives and processes auction bids submitted primarily by wholesale securities auction participants.

Operating expenses associated with Treasury securities safekeeping and transfer activities were $26.6 million in 2018, an increase of 5.5 percent, primarily because of increased activity.

Retail Securities Programs

The Reserve Banks support Treasury's retail securities services, which provide retail securities to institutional and individual customers through electronic systems and provide customer service.¹³ Reserve Bank operating expenses to support retail securities services were $49.2 million in 2018, a decrease of 2.2 percent, largely because of the Treasury's July 2017 decision to phase out the myRA retirement savings program.¹⁴ Program expenses included technology enhancements to TreasuryDirect.gov, savings bond processing, and fulfillment center costs such as mail processing and virtual case file management.

Services Provided to Other Entities

The Reserve Banks, when permitted by federal statute or when required by the Secretary of the Treasury, also provide fiscal agency services to other domestic and international entities.

Reserve Bank operating expenses for services provided to other entities were $39.2 million in 2018, an increase of 3.9 percent. Debt servicing activities, which include issuing principal and interest payments on mortgage-backed securities, account for a significant amount of the work performed for other entities, with the majority performed for the Federal Home Loan Mortgage Association (Freddie Mac), the Federal National Mortgage Association (Fannie Mae), and the Government National Mortgage Association (Ginnie Mae).

Use of Federal Reserve Intraday Credit

The Board's Payment System Risk policy governs the use of Federal Reserve Bank intraday credit, also known as daylight overdrafts. A daylight overdraft occurs when an institution's account activity creates a negative balance in the institution's Federal Reserve account at any time in the operating day. Daylight overdrafts enable an institution to send payments more freely throughout the day than if it were limited strictly by its available intraday funds balance, increasing efficiency and reducing payment system risk. The Payment System Risk policy recognizes explicitly the role of the central bank in providing intraday balances and credit to healthy institutions; under the policy, the Reserve Banks provide collateralized intraday credit at no cost.

Before the 2007–09 financial crisis, overnight balances were much lower and daylight overdrafts significantly higher than levels observed since late 2008. The use of daylight overdrafts spiked amid the market turmoil near the end of 2008 but dropped sharply as various liquidity programs initiated by the Federal Reserve, all since terminated, took effect. During this period, the Federal Reserve also began paying interest on balances held at the Reserve Banks, increased its lending under the Term Auction Facility, and began purchasing government-sponsored enterprise mortgage-backed securities. These measures tended to increase balances institutions held at the Banks, which decreased the demand for intraday credit. In 2007, for example, institutions held, on average, less than $20 billion in overnight balances, and total average daylight overdrafts were around $60 billion. In contrast, institutions held historically high levels of overnight balances at the Reserve Banks in 2018, while daylight overdrafts remained historically low, as shown in figure 1.

Daylight overdraft fees are also at historically low levels. In 2018, institutions paid about $111,417 in daylight overdraft fees; in contrast, fees totaled more than $50 million in 2008. The decrease in fees is largely attributable to the elevated level of reserve balances that began to accumulate in late 2008 and to the 2011 policy revision that eliminated fees for daylight overdrafts that are collateralized.

FedLine Access to Reserve Bank Services

The Reserve Banks' FedLine access solutions provide financial institutions with a variety of alternatives for electronically accessing the Banks' payment and information services. For priced services, the Reserve Banks charge fees for these electronic connections and allocate the associated costs and revenue to the various services. There are currently six FedLine channels through which customers can access the Reserve Banks' priced services: FedMail, FedLine Exchange, FedLine Web, FedLine Advantage, FedLine Command, and FedLine Direct. These FedLine channels are designed to meet the individual connectivity, security, and contingency requirements of depository institution customers.

Between 2008 and 2017, Reserve Bank priced FedLine connections decreased nearly 23 percent, while the number of depository institutions in the United States declined 34 percent.

The Reserve Banks continue to advance the safety and security of the FedLine network through key infrastructure upgrades, proactive monitoring of an evolving threat environment, strengthened endpoint security policies, and dedicated customer communication and education programs.

Information Technology

The improvement of the efficiency, effectiveness, and security of information technology (IT) services and operations continued to be a central focus of the Federal Reserve Banks. Led by the Federal Reserve's National IT organization, the 2016–2020 IT System Strategy continued to mature to enhance the delivery of IT services and better support the Federal Reserve business strategies. Elements of the plan focus on IT productivity, simplicity, accountability, and stewardship across the Reserve Banks. Several specific initiatives under the strategy also strengthened the System's information security posture. National IT continues to guide the strategy's implementation and track progress toward the strategy's goals and will refresh the effort in 2020.

The Reserve Banks remained vigilant about their cybersecurity posture, investing in risk-mitigation initiatives and programs and continuously monitoring and assessing cybersecurity risks to operations and protecting systems and data. The Federal Reserve implemented several cybersecurity initiatives that enhanced identity and access management capabilities; enhanced the ability to respond to evolving cybersecurity threats with agility, decisiveness, and speed by streamlining decision making during a cybersecurity incident; and continue to improve continuous monitoring capabilities of critical assets.

Examinations of the Federal Reserve Banks

The combined financial statements of the Reserve Banks as well as the financial statements of each of the 12 Reserve Banks are audited annually by an independent public accounting firm retained by the Board of Governors.¹⁵ In addition, the Reserve Banks are subject to oversight by the Board of Governors, which performs its own reviews (see box 2).

The Reserve Banks use the 2013 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 management of each Reserve Bank annually provides an assertion letter to its board of directors that confirms adherence to COSO standards.

The Federal Reserve Board engaged KPMG LLP (KPMG) to audit the 2018 combined and individual financial statements of the Reserve Banks.¹⁶ In 2018, KPMG also conducted audits of the internal controls associated with financial reporting for each of the Reserve Banks. Fees for KPMG's services totaled $7.0 million. To ensure auditor independence, the Board requires that KPMG be independent in all matters relating to the audits. Specifically, KPMG 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 the Reserve Banks, or in any other way impairing its audit independence. In 2018, the Reserve Banks did not engage KPMG for significant non-audit services.

The Board's reviews of the Reserve Banks include a wide range of oversight activities, conducted primarily by its Division of Reserve Bank Operations and Payment Systems. Division personnel monitor, on an ongoing basis, the activities of each Reserve Bank, National IT, and the System's Office of Employee Benefits (OEB). The oversight program identifies the most strategically important Reserve Bank current and emerging risks and defines specific approaches to achieve a comprehensive evaluation of the Reserve Banks' controls, operations, and management effectiveness.

The comprehensive reviews include an assessment of the internal audit function's effectiveness and its conformance to the Institute of Internal Auditors' (IIA) International Standards for the Professional Practice of Internal Auditing, applicable policies and guidance, and the IIA's code of ethics.

The Board also reviews System Open Market Account (SOMA) and foreign currency holdings annually to

• determine whether the New York Reserve Bank, while conducting the related transactions and associated controls, complies with the policies established by the Federal Open Market Committee (FOMC); and
• assess SOMA-related IT project management and application development, vendor management, and system resiliency and contingency plans.

In addition, KPMG audits the year-end schedule of SOMA participated asset and liability accounts and the related schedule of participated income accounts. The FOMC is provided with the external audit reports and a report on the Board review.

Income and Expenses

Table 4 summarizes the income, expenses, and distributions of net earnings of the Reserve Banks for 2018 and 2017. Income in 2018 was $112.9 billion, compared with $114.2 billion in 2017.

Expenses totaled $49,383 million, including

• $38,486 million in interest paid to depository institutions on reserve balances and others;
• $4,527 million in Reserve Bank operating expenses;
• $4,559 million in interest expense on securities sold under agreements to repurchase;
• $484 million in net periodic pension expense;
• $838 million in assessments for Board of Governors expenditures;
• $849 million for the cost of producing, issuing, and retiring currency; and
• $337 million for Consumer Financial Protection Bureau costs.
• The expenses were reduced by $706 million in reimbursements for services provided to government agencies.

Table 4. Income, expenses, and distribution of net earnings of the Federal Reserve Banks, 2018 and 2017

Net deductions from current net income totaled $383 million, which includes $390 million in unrealized losses on foreign currency denominated investments revalued to reflect current market exchange rates, $5 million in realized gains on Treasury securities, $3 million in realized losses on federal agency and government-sponsored enterprise mortgage-backed securities (GSE MBS), and $5 million in other net additions.

Net income before remittances to Treasury totaled $63,143 million in 2018 (net income of $63,101 million increased by other comprehensive gain of $42 million). Dividends paid to member banks for 2018 totaled $999 million. Earnings remittances to the Treasury totaled $65,319 million in 2018, inclusive of a $2,500 million payment made in February 2018 as required by the Bipartisan Budget Act of 2018 and a $675 million payment made in June 2018 as required by the Economic Growth, Regulatory Relief, and Consumer Protection Act. The Reserve Banks reported comprehensive loss of $2,176 million in 2018 after providing for remittances to Treasury.

Section 11 of this report, "Statistical Tables," provides more detailed information on the Reserve Banks. Table 9A is a statement of condition for each Reserve Bank; table 10 details the income and expenses of each Reserve Bank for 2018; table 11 shows a condensed statement for each Reserve Bank for the years 1914 through 2018; and table 13 gives the number and annual salaries of officers and employees for each Reserve Bank.

A detailed account of the assessments and expenditures of the Board of Governors appears in the Board of Governors Financial Statements (see section 12, "Federal Reserve System Audits").

SOMA Holdings and Loans

The Reserve Banks' average net daily SOMA holdings during 2018 amounted to $3,987 billion, a decrease of $39 billion from 2017 (see table 5).

Table 5. System Open Market Account (SOMA) holdings of the Federal Reserve Banks, 2018 and 2017

SOMA Securities Holdings

The average daily holdings of Treasury securities decreased by $119 billion, to an average daily amount of $2,442 billion. The average daily holdings of GSE debt securities decreased by $6 billion, to an average daily amount of $4 billion. The average daily holdings of federal agency and GSE MBS decreased by $54 billion, to an average daily amount of $1,769 billion.

Through September 2017, FRBNY continued to reinvest all principal payments from SOMA holdings of GSE debt securities and federal agency and GSE MBS into federal agency and GSE MBS and to roll over maturing Treasury securities at auction. Beginning in October 2017, the FOMC initiated a balance sheet normalization program intended to reduce gradually the SOMA holdings by decreasing the reinvestment of principal payments received from securities held in the SOMA through the implementation of monthly caps. Such principal payments will be reinvested only to the extent that they exceed specified caps.

There were no significant holdings of securities purchased under agreements to resell in 2018 or 2017. Average daily holdings of foreign currency denominated investments in 2018 were $21,335 million, compared with $20,673 million in 2017. The average daily balance of central bank liquidity swap drawings was $677 million in 2018 and $858 million in 2017. The average daily balance of securities sold under agreements to repurchase was $249,370 million, a decrease of $138,170 million from 2017.

The average rates of interest earned on the Reserve Banks' holdings of Treasury securities increased to 2.57 percent, and the average rates on GSE debt securities increased to 4.81 percent in 2018. The average rate of interest earned on federal agency and GSE MBS increased to 2.79 percent in 2018. The average interest rates paid for securities sold under agreements to repurchase increased to 1.83 percent in 2018. The average rate of interest earned on foreign currency denominated investments decreased to -0.14 percent,¹⁷ while the average rate of interest earned on central bank liquidity swaps increased to 2.23 percent in 2018.

Lending

In 2018, the average daily primary, secondary, and seasonal credit extended by the Reserve Banks to depository institutions increased by $26 million, to $129 million. The average rate of interest earned on primary, secondary, and seasonal credit increased to 2.14 percent in 2018, from 1.16 percent in 2017.

Maiden Lane LLC (ML) is a lending facility established in 2008 under authority of FRA section 13(3) in response to the 2007–09 financial crisis. During 2018, the FRBNY sold all remaining securities from the ML portfolio, and in accordance with the ML agreements, net proceeds were distributed to the Bank. On November 1, 2018, ML LLC was dissolved. While its affairs are being wound up, ML LLC will retain minimal cash to meet any trailing expenses as required by law. The costs to wind up ML LLC are not expected to be material. Net portfolio assets and liabilities at the end of 2018 were immaterial amounts and decreased from $1,722 million and $9 million, respectively, at the end of 2017. ML net income of $7 million in 2018 was composed of interest income of $20 million, loss on investments of $11 million, and operating expenses of $2 million.

Federal Reserve Bank Premises

Several Reserve Banks took action in 2018 to maintain and renovate their facilities. Multiyear renovation programs at the New York, Cleveland, and San Francisco Reserve Banks' headquarters buildings continued. Many Reserve Banks implemented projects to update building automation systems and uninterruptable power supplies to ensure infrastructure resiliency and continuity of operations. The New York Reserve Bank continued repairs and renovations to the 33 Maiden Lane building, and the Philadelphia Reserve Bank continued development of a building project to replace its entire mechanical and electrical infrastructure, with construction to begin in 2019. The Minneapolis Reserve Bank completed the purchase of land for a new parking ramp and began schematic design for the structure.

For more information on the acquisition costs and net book value of the Reserve Banks and Branches, see table 14 in section 11 ("Statistical Tables") of this annual report.

Pro Forma Financial Statements for Federal Reserve Priced Services

Table 6. Pro forma balance sheet for Federal Reserve priced services, December 31, 2018 and 2017

Table 7. Pro forma income statement for Federal Reserve priced services, 2018 and 2017

Table 8. Pro forma income statement for Federal Reserve priced services, by service, 2018

Notes to Pro Forma Financial Statements for Priced Services

(1) Short-Term Assets

Receivables are composed of fees due the Reserve Banks for providing priced services and the share of suspense- and difference-account balances related to priced services.

Items in process of collection are gross Federal Reserve cash items in process of collection (CIPC), stated on a basis comparable to that of a commercial bank. They reflect adjustments for intra-Reserve Bank items that would otherwise be double-counted on the combined Federal Reserve balance sheet and adjustments for items associated with nonpriced items (such as those collected for government agencies). 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. Investments of excess financing derived from credit float are assumed to be invested in federal funds.

(2) Long-Term Assets

Long-term assets consist of long-term assets used solely in priced services and the priced-service portion of long-term assets shared with nonpriced services, including a deferred tax asset related to the priced services pension and postretirement benefits obligation. The tax rate associated with the deferred tax asset was 22.7 percent for 2018 and 2017.

Long-term assets also consist of an estimate of the assets of the Board of Governors used in the development of priced services.

(3) Liabilities and Equity

Under the matched-book capital structure for assets, short-term assets are financed with short-term payables and imputed short-term debt, if needed. Long-term assets are financed with long-term liabilities, imputed long-term debt, and imputed equity, if needed. To meet the Federal Deposit Insurance Corporation requirements for a well-capitalized institution, in 2018 equity is imputed at 5.0 percent of total assets and 11.3 percent of risk-weighted assets, and 2017 equity is imputed at 5.0 percent of total assets and 11.0 percent of risk-weighted assets.

The Board's Payment System Risk policy reflects the international standards for financial market infrastructures developed by the Committee on Payment and Settlement Systems and the Technical Committee of the International Organization of Securities Commissions in the Principles for Financial Market Infrastructures. The policy outlines the expectation that the Fedwire Services will meet or exceed the applicable risk-management standards. Although the Fedwire Funds Service does not face the risk that a business shock would cause the service to wind down in a disorderly manner and disrupt the stability of the financial system, in order to foster competition with private-sector financial market infrastructures, the Reserve Banks' priced services will hold six months of the Fedwire Funds Service's current operating expenses as liquid net financial assets and equity on the pro forma balance sheet and, if necessary, impute additional assets and equity to meet the requirement. The imputed assets held as liquid net financial assets are cash items in process of collection, which are assumed to be invested in federal funds. In 2018 and 2017, there was sufficient assets and equity such that additional imputed balances were not required.

In accordance with Accounting Standards Codification (ASC) Topic 715 (ASC 715), Compensation–Retirement Benefits, the Reserve Banks record the funded status of pension and other benefit plans on their balance sheets. To reflect the funded status of their benefit plans, the Reserve Banks recognize the deferred items related to these plans, which include prior service costs and actuarial gains or losses, on the balance sheet. This results in an adjustment to the pension and other benefit plan liabilities 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), which is included in equity. The Reserve Bank priced services recognized a pension asset, which is a component of accrued benefit costs, of $19.1 million in 2018 and a pension asset of $32.0 million in 2017. The change in the funded status of the pension and other benefit plans resulted in a corresponding decrease in accumulated other comprehensive loss of $4.0 million in 2018.

(4) Revenue

Revenue represents fees charged to depository institutions for priced services and is realized from each institution through direct charges to an institution's account.

(5) Operating Expenses

Operating expenses consist of the direct, indirect, and other general administrative expenses of the Reserve Banks for priced services and the expenses of the Board related to the development of priced services. Board expenses were $5.1 million in 2018 and $5.4 million in 2017.

In accordance with ASC 715, the Reserve Bank priced services recognized qualified pension-plan operating expenses of $26.5 million in 2018 and $31.9 million in 2017. Operating expenses also include the nonqualified net pension expense of $5.0 million in 2018 and $3.3 million in 2017. The adoption of ASC 715 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. As a result, these expenses do not include amounts related to changes in the funded status of the Reserve Banks' benefit plans, which are reflected in AOCI.

The income statement by service reflects revenue, operating expenses, imputed costs, other income and expenses, and cost recovery. The tax rate associated with imputed taxes was 22.7 percent for 2018 and 2017, respectively.

(6) Imputed Costs

Imputed costs consist of income taxes, return on equity, interest on debt, sales taxes, and interest on float. Many imputed costs are derived from the PSAF model. The 2018 cost of short-term debt imputed in the PSAF model is based on nonfinancial commercial paper rates; the cost of imputed long-term debt is based on Merrill Lynch Corporate and High Yield Index returns; and the effective tax rate is derived from U.S. publicly traded firm data, which serve as the proxy for the financial data of a representative private-sector firm. The after-tax rate of return on equity is based on the returns of the equity market as a whole.¹⁸

Interest is imputed on the debt assumed necessary to finance priced-service assets. These 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.

Interest on float is derived from the value of float to be recovered for the check and ACH services, Fedwire Funds Service, and Fedwire Securities Services through per-item fees during the period. Float income or cost is based on the actual float incurred for each priced service.

The following shows the daily average recovery of actual float by the Reserve Banks for 2018, in millions of dollars:

Float that is created by account adjustments due to transaction errors and the observance of nonstandard holidays by some depository institutions was recovered from the depository institutions through charging institutions directly. Float subject to recovery is valued at the federal funds rate. Certain ACH funding requirements and check products generate credit float; this float has been subtracted from the cost base subject to recovery in 2018 and 2017.

(7) Other Income and Expenses

Other income consists of income on imputed investments. Excess financing resulting from additional equity imputed to meet the FDIC well-capitalized requirements is assumed to be invested and earning interest at the 3-month Treasury bill rate.

(8) Cost Recovery

Annual cost recovery is the ratio of revenue, including other income, to the sum of operating expenses, imputed costs, imputed income taxes, and after-tax targeted return on equity.

Footnotes