Board of Governors of the Federal Reserve System

Payment System and Reserve Bank Oversight

The Federal Reserve performs key functions to maintain the integrity of the U.S. payment and settlement system. These functions help keep cash, check, and electronic transactions moving reliably through the U.S. economy on behalf of households and businesses and the U.S. Treasury.

This section discusses the key payment system and Reserve Bank oversight activities undertaken by the Federal Reserve during 2021:

• providing payment services to depository and certain other institutions
• distributing the nation's currency and coin to depository institutions (also see figure 5.1)
• serving as fiscal agents and depositories for the U.S. government and other entities
• serving as a catalyst for payment system improvements
• conducting Reserve Bank oversight to ensure effective internal controls, operations, and management

Payment Services to Depository and Other Institutions

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 (see box 5.1).¹

Historically, the Reserve Banks operated payment services as separate business lines, led by a specific Reserve Bank, and tracked cost recovery accordingly. In 2021, in response to the changing financial services landscape and the anticipated launch of the FedNow ^SM Service in 2023, the Reserve Banks commenced a restructuring of payment services under one enterprise, led by a chief payments executive. This new governance and operating model will enhance the agility and resiliency of Reserve Bank payment services and provide streamlined support for depository institution customers across all financial service offerings.

Commercial Check-Collection Service

The commercial check-collection service provides a suite of electronic and paper processing options for forward and return collections.

In 2021, the Reserve Banks recovered 103.2 percent of the total costs of their commercial check-collection service, including the related private-sector adjustment factor (PSAF) (see box 5.1). The Reserve Banks' operating expenses and imputed costs totaled $105.4 million. Revenue from operations totaled $109.9 million, resulting in a net income of $4.5 million. Reserve Banks handled 3.7 billion checks in 2021, a decrease of 2.9 percent from 2020 (see table 5.1). The average daily value of checks collected by the Reserve Banks in 2021 was approximately $34.8 billion, an increase of 13 percent from the previous year. However, the Reserve Banks' check volumes are expected to decline because of substitution away from checks to other payment instruments.

Table 5.1. Activity in Federal Reserve priced services, 2019–21

Commercial Automated Clearinghouse Service

The commercial ACH service provides domestic and cross-border batched payment options for same-day and next-day settlement, enabling depository institutions and their customers to process large volumes of payments through electronic batch processes.

In 2021, the Reserve Banks recovered 98.0 percent of the total costs of their commercial ACH services, including the related PSAF. The Reserve Banks' operating expenses and imputed costs totaled $167.4 million. Revenue from operations totaled $165.7 million, resulting in a net loss of $1.7 million. The FedACH® Service did not achieve full cost recovery because of continued technology modernization and resiliency initiatives. The Reserve Banks continue to invest in platform capabilities and resiliency initiatives as part of a broader enhancement strategy. The Reserve Banks processed 17.9 billion commercial ACH transactions in 2021, an increase of 8.1 percent from 2020 (see table 5.1). The average daily value of FedACH transfers in 2021 was approximately $146.8 billion, an increase of 20.0 percent from the previous year.

FedNow Service

The FedNow Service is a new interbank 24x7x365 real-time gross settlement service being developed by the Federal Reserve to enable depository institutions across the United States to provide services that support the growing need for instant payments in this country. It is intended to be a flexible, neutral platform that will support a broad variety of instant payments and allow depository institutions and their service providers to offer value-added services to their customers, ultimately enhancing competition in the market for payment services. Development of the FedNow Service is a high priority of the Federal Reserve and will be available to eligible financial institutions in 2023.

Development of the service is progressing, with several key milestones reached within the past year: publication of message specifications; implementation of a pilot program with more than 100 participants to support the development, testing, and adoption of the service; and publication of a proposed set of comprehensive rules that will govern the service. In January 2022, the Federal Reserve announced the pricing approach and transaction value limit for the service. All of these milestones are important steps that allow depository institutions and service providers to make preparations to support the FedNow Service's instant payments.

Fedwire Funds and National Settlement Services

In 2021, the Reserve Banks recovered 98.6 percent of their costs of the Fedwire Funds and National Settlement Service, including the related PSAF. The Fedwire Securities Service did not achieve full cost recovery because of the timing of a strategic transition to more accurately allocate the costs of providing the service. Revenue from operations totaled $152.7 million, resulting in a net loss of $0.7 million. The Reserve Banks' operating expenses and imputed costs totaled $153.4 million in 2021.

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 2020 to 2021, the number of Fedwire funds transfers originated by depository institutions increased 11.1 percent, to approximately 204 million (see table 5.1). The average daily value of Fedwire funds transfers in 2021 was $4.0 trillion, an increase of 18.9 percent from the previous year.

National Settlement Service

The National Settlement Service (NSS) is a multilateral settlement system that allows participants in private-sector clearing arrangements to settle transactions using their balances at Reserve Banks.

In 2021, the service processed settlement files for 11 local and national private-sector arrangements. The Reserve Banks processed 8,675 files that contained about 586,000 settlement entries (see table 5.1). Settlement file activity in 2021 increased 3.8 percent from 2020, and settlement entries increased 6.3 percent. The total value of settlement processed by NSS increased 6.7 percent, to $25.0 trillion.

Fedwire Securities Service

The Fedwire Securities Service is a central securities depository and real-time securities settlement system that allows its participants to transfer electronically to other service participants certain securities issued by the U.S. Department of the Treasury, federal government agencies, government-sponsored enterprises, and certain international organizations.² It also provides for the issuance, safekeeping, and maintenance of those securities.

In 2021, the Reserve Banks recovered 103.8 percent of the costs of their Fedwire Securities Service, including the related PSAF. Revenue from operations totaled approximately $27.7 million, resulting in a net income of $1.3 million. The Reserve Banks' operating expenses and imputed costs totaled $26.4 million in 2021. In 2021, the number of non-Treasury securities transfers processed via the service decreased approximately 8.7 percent from 2020, to approximately 4.2 million (see table 5.1). The average daily value of Fedwire Securities priced-service transfers in 2021 was approximately $72.4 billion, a decrease of 16.5 percent from the previous year.³ The average daily value of all Fedwire Securities transfers in 2021 was more than $1.2 trillion, a decrease of approximately 13.7 percent from the previous year.

The Reserve Banks, as fiscal agent for the U.S. Treasury, perform the transfer and settlement of Treasury securities. In 2021, the number of all Treasury security transfers was approximately 16.0 million, a decrease of 6.1 percent from 2020.

The Reserve Banks, as fiscal agents for Fedwire Securities issuers, facilitate the principal and interest payments to the Fedwire Securities Service participants holding securities. In 2021, the total cash value of principal and interest payments in 2021 was $29.3 trillion (a decrease of 3.7 percent from 2020).

The Fedwire Securities Service is the central securities depository for securities issued over the Fedwire Securities Service. At the end of 2021, there was approximately $102 trillion (par value) of Fedwire securities held in securities accounts maintained by the Reserve Banks as part of the service, a 5.5 percent increase from 2020. At the end of 2021, there were 1.4 million unique securities outstanding on the service, an increase of 2.8 percent from 2020.

FedLine Solutions: Access to Reserve Bank Services

The Reserve Banks' FedLine Solutions provide depository institutions with a variety of connections for accessing the Reserve Banks' payment and information services.

For priced services, the Reserve Banks charge fees for these connections and allocate the associated costs and revenue to the various services. There are currently six FedLine Solutions through which customers can access the Reserve Banks' priced services: FedMail, FedLine Exchange, FedLine Web, FedLine Advantage, FedLine Command, and FedLine Direct. These FedLine Solutions are designed to meet the individual connectivity, security, and contingency requirements of depository institution customers.

The Reserve Banks continue to focus on increased resiliency and availability of the FedLine Solutions. In 2021, the Reserve Banks advanced the safety and security of FedLine Solutions by making progress on key infrastructure upgrades and network modernization, as well as through proactive monitoring of an evolving threat environment and by strengthening endpoint security policies.

Federal Reserve Intraday Credit

The Federal Reserve Board governs the use of Federal Reserve Bank intraday credit, also known as daylight overdrafts.⁴ 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.

Institutions currently hold historically high levels of overnight balances at the Federal Reserve Banks, while daylight overdrafts remained historically low, as shown in figure 5.2.⁵

Fees collected for daylight overdrafts are also at historically low levels.⁶ Fees as well as the use of intraday credit are expected to remain relatively low given the historically high levels of overnight balances under the ample reserves regime. Additionally, a 2011 policy revision that eliminated fees for collateralized daylight overdrafts has further contributed to the decrease in fees.

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.

Federal Reserve transaction volumes in 2021 continued to reflect pandemic trends but moderated from the unprecedented surge in demand experienced at the onset of the pandemic in early 2020. All denominations, except for $1s and $2s, experienced a decline in transaction levels from 2020. In 2021, the Reserve Banks distributed 30.7 billion Federal Reserve notes into circulation, an 8.5 percent decrease from 2020, and received 27.9 billion Federal Reserve notes from circulation, a 0.7 percent decrease from 2020. The larger decrease in payments than receipts resulted in a net payments decrease of 2.7 billion notes, or a 48.9 percent decrease from 2020, primarily attributable to lower net payments of $20 notes. While less than 2020 numbers, net payments in 2021 increased about 1.2 billion notes from typical pre-pandemic net payment levels. The value of Federal Reserve notes issued and outstanding at year-end 2021 totaled $2,187.5 billion, a 7.2 percent increase from 2020. The year-over-year increase is primarily attributable to demand for $100 notes.

The Reserve Banks also distribute coin to depository institutions on behalf of the U.S. Mint.⁷ In 2021, Reserve Banks distributed 46.3 billion coins into circulation, a 7.3 percent decrease from 2020, and received 30.4 billion coins from circulation, a 10.7 percent decrease from 2020. The year-over-year decrease in coin activity is a result of the COVID-19 pandemic, which significantly disrupted the supply chain and normal circulation patterns for U.S. coins.

Banknote Development

During 2021, Federal Reserve Board staff continued to support efforts related to the development of the next family of U.S. currency. For example, the Advanced Counterfeit Deterrence (ACD) Steering Committee, composed of the Treasury, the U.S. Secret Service, and Federal Reserve System staff, advised on currency design changes to the Secretary of the Treasury, who has sole statutory authority to approve the final currency design.

Over the past year, Federal Reserve Board staff, in collaboration with other U.S. currency program partners (the Bureau of Engraving and Printing, Federal Reserve Financial Services, and the U.S. Secret Service) worked together in the execution of technology and banknote development. Banknote development focuses on meeting requirements based on user needs, security needs, and manufacturing capabilities. Technology development focuses on security features that can further bolster the counterfeit resistance of U.S. currency. To support these development efforts, the Federal Reserve Board, like many other central banks, led an adversarial analysis program to increase the counterfeit resilience of U.S. currency. The Board also conducted research activities in counterfeit deterrence technologies. These activities work in concert to meet the goal of developing the next family of banknotes with new, robust security features effectively integrated into the design, which is easy to authenticate and difficult for counterfeiters to simulate.

In addition to participating on the ACD Steering Committee in 2021, Federal Reserve Board staff continued to serve on the Central Bank Counterfeit Deterrence Group and the Four Nations, and chaired the United States Cash Machine Group. The Central Bank Counterfeit Deterrence Group is a group of central banks that collaborates to prevent digital counterfeiting. The Four Nations is a group of central banks, including the Board, that works on common projects and uses experience in banknote design to discuss issues related to security, functionality, and manufacturability of banknotes. The United States Cash Machine Group works closely with manufacturers of cash authentication machines to ensure that new and existing banknotes function in commerce. The Board collaborates with these domestic and international partners to maintain worldwide confidence in U.S. currency.

New Currency Production Facility

In 2021, Board staff continued to work with the Bureau of Engraving & Printing and the U.S. Army Corps of Engineers to build a new currency production facility in the Washington, D.C., area. The new production facility will replace the aging buildings in Washington and better position the currency program to produce new currency designs that are more technically complex. The new facility will be built in Beltsville, Maryland, on a site owned by the Department of Agriculture. The new facility will produce half of the notes that the Board orders each year as part of the yearly currency order. Over the past year, the Board and the Bureau of Engraving and Printing established governance procedures and developed a shared vision for the management of this project.

Currency Education

The Federal Reserve Board's U.S. Currency Education Program (CEP) is responsible for building confidence in U.S. currency by providing education, training, and information about Federal Reserve notes to the global public. The CEP works closely with the U.S. Secret Service, the U.S. Department of State, and the U.S. Department of the Treasury's Bureau of Engraving and Printing to raise awareness about the designs and security features of Federal Reserve notes.

In 2021, the CEP launched the teller toolkit and cashier toolkit to support the program's domestic stakeholder outreach. These resources were created to help tellers and cashiers quickly spot counterfeit currency, protect businesses from loss of revenue, and emphasize the importance of following company counterfeit-reporting policies. The CEP also launched the Android and iOS versions of Cash Assist, an app designed to support authentication training efforts for professional cash handlers across industries. The app uses the camera on a user's phone to identify the denomination of the bill they are authenticating and display the key security features found on genuine Federal Reserve notes.

The CEP also hosted multiple virtual counterfeit trainings to instruct stakeholders on currency authentication and counterfeit detection best practices. Domestically, the CEP hosted counterfeit trainings for Federal Reserve Bank cash offices that reached program administrators and cash operators. Internationally, the CEP hosted trainings for cash operations staff and managers from the central banks globally.

Fiscal Agency and Government Depository Services

The Federal Reserve Banks, upon the direction of the Secretary of the Treasury, act as fiscal agents of the U.S. government.⁸ The Reserve Banks, in their role as fiscal agents, provide services such as payment services, financing and securities services, and financial accounting and reporting services, as well as maintain the Treasury's operating cash account.

To support further the Treasury's mission, the Reserve Banks develop, operate, and maintain a number of automated systems and provide associated technology infrastructure services. The Reserve Banks also provide certain fiscal agency and depository services to other entities.

Reserve Bank expenses for providing fiscal agency and depository services totaled $768.5 million, an increase of 36.1 million, or 4.9 percent (see table 5.2), which is primarily attributable to increased demand from the Treasury. The Treasury and other entities reimburse the Reserve Banks for the expense of providing fiscal agency and depository services. Costs for Treasury-related programs accounted for 96.8 percent of expenses, and costs for other entities accounted for the remaining 3.2 percent.

Table 5.2. Expenses of the Federal Reserve Banks for fiscal agency and depository services, 2019–21

Payment Services

The Reserve Banks support the Treasury's payment services by developing, operating, and maintaining electronic systems that allow the public to receive payments from and authorize payments to federal agencies, and allow the government to prevent and detect improper payments and collect past-due debts. The Reserve Banks also provide operational and customer support, agency outreach efforts, and data analytics. The Reserve Banks process payments, such as federal payroll, Social Security benefits, and veterans' benefits from the Treasury's account at the Federal Reserve and process payments made to the Treasury's account at the Federal Reserve, which include collections such as fees owed to the federal government.

Reserve Bank expenses for providing Treasury payment services were $353.0 million in 2021, an increase of $59.0 million, or 20.1 percent, which is primarily attributable to expanded efforts to modernize business processes and applications for federal payments and electronic tax collection. The programs that contributed most to Reserve Bank expenses in 2021 were the Stored Value Card program, the Pay.gov program, and the Do Not Pay program.

The Reserve Banks work with the Treasury to support the Stored Value Card program, which 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. Stored-value cards are in use on more than 80 military bases and installations in 19 countries (including the United States) and on board more than 135 ships. In 2021, the Reserve Banks continued to provide operations and customer support, replaced legacy equipment, and piloted new functionality and capabilities for stored-value cards.

The Reserve Banks also work with the Treasury to expand the use of electronic payment services for payments made to the Treasury's account at the Federal Reserve. The Reserve Banks operate and maintain Pay.gov, an application that allows the public to use the internet to initiate and authorize payments to the federal government using a U.S.-held bank account (through ACH Debit), a credit or debit card, or a digital wallet through services such as PayPal or Amazon Pay. In 2021, Pay.gov processed 84.7 million online payments valued at $217.1 billion. In addition, the Reserve Banks operated applications that facilitated the movement of $28.3 billion in commercial deposits to the Treasury's account at the Federal Reserve. The Reserve Banks also processed and settled 178.9 million electronic payment transactions valued at $782.4 billion.

Additionally, the Reserve Banks work with the Treasury to develop, operate, and maintain Do Not Pay, as well as provide agency outreach and data analytics services. Do Not Pay is designed to protect the integrity of the federal government's payment processes by assisting federal agencies in preventing and detecting improper payments.⁹ In fiscal year 2021, Do Not Pay assisted more than 20 agencies in identifying or stopping more than 20,000 improper payments totaling more than $42.2 million.

Financing and Securities Services

The Reserve Banks work closely with the Treasury in support of the financing needed to operate the federal government, which includes forecasting, scheduling, auctioning, issuing, settling, maintaining, and redeeming marketable Treasury securities (for example, bills, notes, and bonds). The Reserve Banks also support the Treasury's efforts to encourage savings by issuing, maintaining, and redeeming U.S. savings bonds, as well as providing operations and fulfillment services. The Reserve Banks provide customer service and operate the automated systems that support marketable Treasury securities and savings bonds.

In 2021, the Treasury, supported by the Reserve Banks, conducted 445 auctions that resulted in the Treasury's awarding $17.8 trillion in wholesale Treasury marketable securities to investors.¹⁰ The Reserve Banks also supported the issuance and servicing of $158.0 billion in savings bonds and marketable securities.

Reserve Bank expenses for financing and securities services were $184.5 million in 2021, an increase of $5.2 million, or 2.9 percent. This increase is primarily attributable to efforts to modernize the applications that facilitate the issuance, maintenance, and redemption of marketable Treasury securities and savings bonds.

Accounting and Reporting Services

The Reserve Banks support the Treasury's accounting and reporting functions by forecasting, monitoring, and managing the government's overall cash requirements, cash flow, and government-wide accounting services. The Reserve Banks also support the Treasury's publication of the daily and monthly Treasury statements; the Combined Statement of Receipts, Outlays, and Balances of the United States Government; and the Financial Report of the United States Government.¹¹

Reserve Bank expenses for financial accounting and reporting services were $77.0 million in 2021, an increase of $7.7 million, or 11.0 percent, primarily attributable to higher indirect costs. The programs that contributed most to Reserve Bank expenses in 2021 were the Cash Accounting Reporting System and G-Invoicing.

The Reserve Banks operate and maintain the Cash Accounting Reporting System, which handles accounting and reporting for all federal agencies and is the electronic system of record for the government's financial data. In 2021, the Reserve Banks continued to provide operations support and implemented application enhancements. In addition, the Reserve Banks operate and maintain the G-Invoicing application, which is the long-term solution for federal agencies to manage intragovernmental financial transactions. In 2021, the Reserve Banks continued to work with the Treasury to coordinate outreach and implement system enhancements, which will prepare agencies to meet the federal government mandate to adopt G-Invoicing.¹²

Infrastructure and Technology Services

The Reserve Banks design, build, and maintain the technology infrastructures and environments that host the majority of applications that the Reserve Banks develop, operate, or maintain on behalf of the Treasury.

In 2021, the Reserve Banks continued to build out and migrate applications to a cloud platform in alignment with the Treasury's cloud computing strategy.¹³ The Reserve Banks continued to effectively operate infrastructures, plan for end-of-life issues, increase automation, and strengthen their systems against a host of new and evolving cybersecurity threats.

Reserve Bank expenses for infrastructure and technology services were $129.3 million in 2021, a decrease of $21.1 million, or 14.0 percent, primarily attributable to lower-than-budgeted infrastructure investments and project delays.

Services Provided to Other Entities

The Reserve Banks, when permitted by federal statute or when required by the Secretary of the Treasury, also provide other domestic and international entities with U.S.-dollar-denominated banking services, which include funds, securities, and gold safekeeping; securities clearing, settlement, and investment; and correspondent banking.

The Reserve Banks also issue and maintain, in electronic form, many federal agency, government-sponsored enterprise, and certain international organizations securities. The majority of securities services are 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).

Reserve Bank expenses for services provided to other entities were $24.6 million in 2021, a decrease of $14.7 million, or 37.5 percent, which is driven by the Reserve Banks' implementation of a new cost accounting framework.

Evolutions and Improvements to the System

The Federal Reserve performs many functions in the payment system, including payment system operator, supervisor and regulator of financial institutions and systemically important financial market utilities, researcher, and catalyst for system improvements.

Digital Innovations

The Federal Reserve views developments in financial technology through the lens of its long-standing public policy goals of safety and soundness of financial institutions, consumer protection, safety and efficiency of the payment system, and financial stability. Within that framework, the Federal Reserve is actively engaged in supporting responsible innovation while ensuring associated risks are appropriately identified and managed.

The Federal Reserve is studying the implications of emerging financial technologies, including distributed ledger technologies and associated financial products such as cryptocurrencies and stablecoins. These technologies have raised fundamental questions about appropriate legal and regulatory safeguards. The Federal Reserve continues to monitor developments and works with domestic and international counterparts to better understand and manage the implications of these innovations.

Payment System Regulation

Congress has assigned to the Board responsibility for implementing the Federal Reserve Act and certain other laws pertaining to a wide range of banking and financial activities, including those related to the payment and settlement system. The Board implements those laws in part through its regulations (see the Board's website at https://www.federalreserve.gov/supervisionreg/reglisting.htm).

Other Improvements and Efforts

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 Wholesale Payment Systems through Reserve Bank led cyber initiatives to respond to environmental threats and cyberthreats. The Reserve Banks also recently implemented a new FedACH-processing platform to improve the efficiency and reliability of FedACH operations. In 2021, the Reserve Banks advanced the safety and security of FedLine Solutions by making progress on key infrastructure upgrades and network modernization, as well as through proactive monitoring of an evolving threat environment and by strengthening endpoint security policies.

During 2021, the Federal Reserve continued work to replace the aging high-speed currency-processing equipment and sensors at the Reserve Banks for deployment through 2028. In 2021, the Federal Reserve began the production development phase of the project to develop the high-speed currency-processing equipment for delivery beginning in 2025. In advance of the production rollout, prototype and preliminary equipment will be installed and tested at pilot offices through 2024. A system integration effort was initiated to prepare currency sensors and develop software for compatibility with the equipment.

The improvement of the efficiency, effectiveness, and security of information technology (IT) services and operations continued to be a central focus of the Reserve Banks. Under the leadership of the Federal Reserve's National IT organization and CIO, the System IT Strategic Plan was refreshed in 2021 for 2021–23 to set priorities, align IT direction and resources, and ensure that IT leaders and team members are working towards a common set of goals. The goals of the plan are security, simplicity, and productivity, with priorities in ensuring a secure and reliable infrastructure, modernized application delivery, cloud and modern infrastructure, digital work and collaboration, data management and analytics, cybersecurity, and IT workforce skills. National IT continues to guide the plan and track progress toward the goals. Additional efforts were initiated to strengthen incident communication requirements across Reserve Bank payment systems and operating units in response to a significant IT outage that affected the Federal Reserve's payment systems in February.

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 decisionmaking during a cybersecurity incident; and continued to improve continuous monitoring capabilities of critical assets. Additionally, as ransomware continues to pose a critical operational and reputational risk to the Federal Reserve, the Reserve Banks began a Systemwide effort in 2021 to strengthen the Federal Reserve's processes, infrastructure, and controls to prevent ransomware attacks and to respond to and mitigate successful attacks.

Several Reserve Banks took action in 2021 to maintain and renovate their facilities. Major multiyear facility programs at several Reserve Bank offices continued, focused on updating obsolescent building systems to ensure infrastructure resiliency and continuity of operations. The Philadelphia Reserve Bank continued construction activities for its multiyear program to replace its entire mechanical and electrical infrastructure. Other programs addressed the need to update office and operations areas in support of efficiency and working environment.

For more information on the acquisition costs and net book value of the Reserve Banks and Branches, see table G.13 in appendix G ("Statistical Tables") of this annual report.

Oversight of Federal Reserve Banks

The combined financial statements of the Reserve Banks and 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.¹⁴ In addition, the Reserve Banks are subject to oversight by the Board of Governors, which performs its own reviews (see box 5.3).

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 2021 combined and individual financial statements of the Reserve Banks and the financial statements of the five limited liability companies (LLCs) that are associated with the Board of Governors' actions to address the coronavirus pandemic, of which four LLCs are consolidated in the statements of the Federal Reserve Bank of New York and one LLC is consolidated in the statements of the Federal Reserve Bank of Boston.¹⁵

In 2021, KPMG also conducted audits of internal controls over financial reporting for each of the Reserve Banks. Fees for KPMG services totaled $9.8 million, of which approximately $2.3 million was for the audits of the LLCs.¹⁶ To ensure auditor independence, the Board of Governors requires that KPMG be independent in all matters relating to the audits. Specifically, KPMG may not perform services for the Reserve Banks or affiliated entities 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 2021, 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, Federal Reserve Information Technology, 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 the 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 the 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 the 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

Annually, the Board releases the Combined Reserve Banks financial statements with financial information as of December 31 and includes the accounts and results of operations of each of the 12 Reserve Banks.

In 2021, income was $123.1 billion, compared with $102.0 billion in 2020; expenses totaled $15.2 billion, compared with $13.6 billion in 2020; and net income before remittances to the Treasury totaled $107.9 billion in 2020, compared with $88.6 billion in 2020.

Table 5.3 summarizes the income, expenses, and distributions of net earnings of the Reserve Banks for 2021 and 2020. Appendix G of this report, "Statistical Tables," provides more detailed information on the Reserve Banks, including the consolidated LLCs.¹⁷ Additionally, appendix G summarizes the Reserve Banks' 2021 budget performance and 2022 budgets, budgeting processes, and trends in expenses and employment.

Table 5.3. Income, expenses, and distribution of net earnings of the Federal Reserve Banks, 2021 and 2020

SOMA Holdings

The FOMC has authorized and directed the Federal Reserve Bank of New York to execute open market transactions to the extent necessary to carry out the domestic policy directive adopted by the FOMC. The Federal Reserve Bank of New York, on behalf of the Reserve Banks, holds in the SOMA the resulting securities, which include U.S. Treasuries, federal agency and government-sponsored enterprise debt securities, federal agency and government-sponsored enterprise mortgage-backed securities, investments denominated in foreign currencies, and commitments to buy or sell related securities.¹⁸

Table 5.4 summarizes the average daily assets (liabilities), current income (expenses), and average interest rate of the SOMA holdings for 2021 and 2020.

Table 5.4. System Open Market Account holdings and loans of the Federal Reserve Banks, 2021 and 2020

Lending

In 2021, the average daily balance and the average rate of interest earned for Reserve Bank lending programs were as follows:

• Primary, secondary, and seasonal credit extended was $754 million and 0.25 percent.
• Primary Dealer Credit Facility (PDCF) was $289 million and 0.25 percent.
• Money Market Mutual Fund Liquidity Facility (MMLF) was $1,394 million and 1.25 percent.
• Paycheck Protection Program Liquidity Facility (PPPLF) was $63,379 million and 0.35 percent.

In addition, the Reserve Banks provided loans to special purpose vehicles (SPVs) that were established to administer liquidity programs created in response to the coronavirus pandemic. These SPVs provided liquidity to market participants through the purchase of assets in accordance with the terms of each liquidity program.

Pro Forma Financial Statements for Federal Reserve Priced Services

Table 5.5. Pro forma balance sheet for Federal Reserve priced services, December 31, 2021 and 2020

Table 5.6. Pro forma income statement for Federal Reserve priced services, 2021 and 2020

Table 5.7. Pro forma income statement for Federal Reserve priced services, by service, 2021

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 20.8 percent for 2021 and 22.1 percent for 2020.

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 (FDIC) requirements for a well-capitalized institution, in 2021 equity is imputed at 5.0 percent of total assets and 10.5 percent of risk-weighted assets, and 2020 equity is imputed at 5.0 percent of total assets and 10.3 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 2021, an additional balance of $43 million was imputed to meet sufficient assets and equity requirements. In 2020, there were sufficient assets and equity such that additional imputed balances were not required.

In accordance with 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 liability, which is a component of accrued benefit costs, of $27.3 million in 2021 and $44.5 million in 2020. The change in the funded status of the pension and other benefit plans resulted in a corresponding decrease in accumulated other comprehensive loss of $55.9 million in 2021.

(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 (that is, Check, ACH, FedWire Funds, and FedWire Securities) and the expenses of the Board related to the development of priced services. Board expenses were $6.6 million in 2021 and $6.7 million in 2020. Operating expenses exclude amounts related to the development of the FedNow Service.

In accordance with ASC 715, the Reserve Bank priced services recognized qualified pension-plan service costs of $65.3 million in 2021 and $37.1 million in 2020. Operating expenses also include the nonqualified service costs of $4.3 million in 2021 and $2.1 million in 2020. In 2019 Reserve Banks adopted an update to ASC 715 requiring disaggregation of other components of net benefit expense from service costs. 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 20.8 percent for 2021 and 22.1 percent for 2020.

(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 2021 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.¹⁹

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 credit float by the Reserve Banks for 2021 and 2020, in millions of dollars:²⁰

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 2021 and 2020.

(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. In 2021, the Federal Reserve implemented a new cost accounting framework in parallel with a new Enterprise Resource Planning application as part of a broader modernization effort.²¹

Footnotes