4. Funding Risks
Funding strains were notable for some banks, but overall funding risks across the banking system were low; meanwhile, structural vulnerabilities persisted in other sectors that engage in liquidity transformation
The failures of SVB and Signature Bank, along with strains at some other banks, highlighted vulnerabilities associated with high concentrations of uninsured deposits. Uninsured deposits are prone to runs, in part because they lack an explicit government guarantee. From the start of the pandemic in 2020 to the end of 2021—a period when interest rates remained low—banks received $3.7 trillion in domestic deposits, most of which were uninsured. As interest rates increased throughout 2022, bank deposits became less attractive for depositors and banks experienced outflows, led by uninsured deposits. As of the fourth quarter of 2022, aggregate uninsured deposits stood at $7.5 trillion. Although aggregate levels of uninsured deposits in the banking system were high, SVB and Signature Bank were outliers in terms of their heavy reliance on uninsured deposits, as most banks had a much more balanced mix of liabilities.
Overall, estimated runnable money-like financial liabilities decreased 1.6 percent to $19.6 trillion (75 percent of nominal GDP) over the past year. As a share of GDP, runnable liabilities continued their post-pandemic decline but remained above their historical median (table 4.1 and figure 4.1). Large banks that were subject to the liquidity coverage ratio (LCR) continued to maintain levels of high-quality liquid assets (HQLA) that suggested that their liquid resources would be sufficient to withstand expected short-term cash outflows.
Table 4.1. Size of selected instruments and institutions
| Item | Outstanding/total assets (billions of dollars) | Growth, 2021:Q4–2022:Q4 (percent) | Average annual growth, 1997–2022:Q4 (percent) |
|---|---|---|---|
| Total runnable money-like liabilities* | 19,627 | −1.6 | 4.7 |
| Uninsured deposits | 7,506 | −6.8 | 12.0 |
| Domestic money market funds ** | 4,685 | .9 | 5.4 |
| Government | 3,959 | −3.6 | 15.3 |
| Prime | 616 | 37.7 | −.7 |
| Tax exempt | 111 | 27.1 | −2.2 |
| Repurchase agreements | 3,601 | −1.6 | 4.9 |
| Commercial paper | 1,261 | 15.8 | 2.7 |
| Securities lending *** | 805 | 2.8 | 7.1 |
| Bond mutual funds | 4,250 | −20.4 | 8.5 |
Note: The data extend through 2022:Q4 unless otherwise noted. Outstanding amounts are in nominal terms. Growth rates are measured from Q4 of the year immediately preceding the period through Q4 of the final year of the period. Total runnable money-like liabilities exceed the sum of listed components. Unlisted components of runnable money-like liabilities include variable-rate demand obligations, federal funds, funding-agreement-backed securities, private liquidity funds, offshore money market funds, short-term investment funds, local government investment pools, and stablecoins.
* Average annual growth is from 2003:Q1 to 2022:Q4.
** Average annual growth is from 2001:Q1 to 2022:Q4.
*** Average annual growth is from 2000:Q1 to 2022:Q3. Securities lending includes only lending collateralized by cash.
Source: Securities and Exchange Commission, Private Funds Statistics; iMoneyNet, Inc., Offshore Money Fund Analyzer; Bloomberg Finance L.P.; Securities Industry and Financial Markets Association: U.S. Municipal Variable-Rate Demand Obligation Update; Risk Management Association, Securities Lending Report; DTCC Solutions LLC, an affiliate of the Depository Trust & Clearing Corporation: commercial paper data; Federal Reserve Board staff calculations based on Investment Company Institute data; Federal Reserve Board, Statistical Release Z.1, "Financial Accounts of the United States"; Federal Financial Institutions Examination Council, Consolidated Reports of Condition and Income (Call Report); Morningstar, Inc., Morningstar Direct; DeFiLlama.
Figure 4.1. Ratios of runnable money-like liabilities to GDP edged down but remained above their historical medians
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Note: The black striped area denotes the period from 2008:Q4 to 2012:Q4, when insured deposits increased because of the Transaction Account Guarantee program. The "other" category consists of variable-rate demand obligations (VRDOs), federal funds, funding-agreement-backed securities, private liquidity funds, offshore money market funds, short-term investment funds, local government investment pools, and stablecoins. Securities lending includes only lending collateralized by cash. GDP is gross domestic product. Values for VRDOs come from Bloomberg beginning in 2019:Q1. See Jack Bao, Josh David, and Song Han (2015), "The Runnables," FEDS Notes (Washington: Board of Governors of the Federal Reserve System, September 3), https://www.federalreserve.gov/econresdata/notes/feds-notes/2015/the-runnables-20150903.html.
Source: Securities and Exchange Commission, Private Funds Statistics; iMoneyNet, Inc., Offshore Money Fund Analyzer; Bloomberg Finance L.P.; Securities Industry and Financial Markets Association: U.S. Municipal Variable-Rate Demand Obligation Update; Risk Management Association, Securities Lending Report; DTCC Solutions LLC, an affiliate of the Depository Trust & Clearing Corporation: commercial paper data; Federal Reserve Board staff calculations based on Investment Company Institute data; Federal Reserve Board, Statistical Release Z.1, "Financial Accounts of the United States"; Federal Financial Institutions Examination Council, Consolidated Reports of Condition and Income (Call Report); Bureau of Economic Analysis, gross domestic product via Haver Analytics; DeFiLlama.
Prime MMFs and other cash-investment vehicles remain vulnerable to runs and, hence, contribute to the fragility of short-term funding markets. In addition, some cash management vehicles, including retail prime MMFs, government MMFs, and short-term investment funds, maintain stable net asset values (NAVs) that make them susceptible to sharp increases in interest rates. The market capitalization of the stablecoin sector continued to decline, and the sector remains vulnerable to liquidity risks like those of cash-like vehicles. Some open-end bond mutual funds continued to be susceptible to large redemptions because they must allow shareholders to redeem every day even though the funds hold assets that can face losses and become illiquid amid stress. Liquidity risks at central counterparties (CCPs) remained low, while liquidity risks at life insurers appeared elevated.
The amount of high-quality liquid assets decreased for banks but remained high compared with pre-pandemic levels
The amount of HQLA decreased across all types of banks over the past year, driven by decreases in reserves and reductions in market values of securities portfolios due to rising interest rates (figure 4.2). Nevertheless, aggregate bank reserves remained above $3 trillion, significantly higher than pre-pandemic levels. Throughout 2022, as interest rates increased, deposit outflows picked up, as higher-paying deposit alternatives became more attractive to businesses and households. Deposits declined in the fourth quarter of 2022 at a 7 percent annual rate, and the pace of outflows had increased somewhat in January and February before the banking sector stress in March 2023. Some banks increased their reliance on wholesale funding sources, though banks' overall reliance on short-term wholesale funding remained near historically low levels (figure 4.3). Even with the declines in HQLA, U.S. G-SIBs' LCRs—the requirement that banks must hold enough HQLA to fund estimated cash outflows during a hypothetical stress event for 30 days—remained well above requirements.
Figure 4.2. The amount of high-quality liquid assets held by banks decreased in 2022
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Note: Sample consists of domestic bank holding companies (BHCs) and intermediate holding companies (IHCs) with a substantial U.S. commercial banking presence. G-SIBs are global systemically important banks. Large non–G-SIBs are BHCs and IHCs with greater than $100 billion in total assets that are not G-SIBs. Liquid assets are cash plus estimates of securities that qualify as high-quality liquid assets as defined by the Liquidity Coverage Ratio requirement. Accordingly, Level 1 assets and discounts and restrictions on Level 2 assets are incorporated into the estimate.
Source: Federal Reserve Board, Form FR Y-9C, Consolidated Financial Statements for Holding Companies.
Figure 4.3. Banks' reliance on short-term wholesale funding remained low
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Note: Short-term wholesale funding is defined as the sum of large time deposits with maturity less than 1 year, federal funds purchased and securities sold under agreements to repurchase, deposits in foreign offices with maturity less than 1 year, trading liabilities (excluding revaluation losses on derivatives), and other borrowed money with maturity less than 1 year. The shaded bars with top caps indicate periods of business recession as defined by the National Bureau of Economic Research: March 2001–November 2001, December 2007–June 2009, and February 2020–April 2020.
Source: Federal Reserve Board, Form FR Y-9C, Consolidated Financial Statements for Holding Companies.
Some banks that relied heavily on uninsured deposits experienced notable funding strains
Aggregate liquidity in the banking system appeared ample; nonetheless, some banks experienced significant funding strains following the failures of SVB and Signature Bank (see the box "The Bank Stresses since March 2023"). These banks, including First Republic Bank, which subsequently failed, often shared similar weaknesses—notably, a combination of a heavy reliance on uninsured deposits and excessive exposure to interest rate risk. Data on bank assets and liabilities show that small domestic banks—defined as banks outside the top 25 in terms of domestic assets—initially experienced rapid deposit outflows in the wake of the SVB and Signature Bank failures. However, these outflows had slowed considerably by the end of March.16 The Federal Reserve, together with the U.S. Department of the Treasury and the FDIC, took decisive actions to reduce funding strains in the banking system (see the box "The Federal Reserve's Actions to Protect Bank Depositors and Support the Flow of Credit to Households and Businesses"). Banks with funding needs increased borrowing from the Federal Reserve, including a notable increase in discount window borrowing and additional borrowing from the new Bank Term Funding Program (BTFP). In addition, Federal Home Loan Banks' total debt outstanding grew about $250 billion, to $1.5 trillion, during the week ending March 17, 2023, to meet a surge in demand for borrowing by their member banks.
Box 4.1. The Federal Reserve's Actions to Protect Bank Depositors and Support the Flow of Credit to Households and Businesses
In March 2023, the domestic and global banking sector experienced acute stress, following a loss of confidence in SVB and Signature Bank. After experiencing bank runs of unprecedented speed, SVB and Signature Bank failed, and there were broader spillovers to the banking sector. Credit Suisse came under renewed pressure, leading to its acquisition by UBS in a deal that involved liquidity support and loss sharing from the Swiss government as well as the write-off of a certain type of contingent capital instruments (see the box "The Bank Stresses since March 2023"). The fast propagation of these stresses was compounded by novel factors. Social media and messaging apps facilitated the communication of perceived bank concerns among the network of uninsured depositors, and the availability of information technology facilitated the movement of deposits. In response, the Federal Reserve, together with the FDIC and the U.S. Department of the Treasury, took decisive actions to protect bank depositors and support the continued flow of credit to households and businesses. These actions reduced stress across the financial system, supporting financial stability and minimizing the effect on businesses, households, taxpayers, and the broader economy.
On Sunday, March 12, the Federal Reserve, together with the FDIC and the U.S. Department of the Treasury, announced two actions designed to support all bank depositors and the continued flow of credit to households and businesses. After receiving a recommendation from the boards of the FDIC and the Federal Reserve, and consulting with the President, the Treasury Secretary approved a systemic risk exception, enabling the FDIC to complete its resolution of SVB and Signature Bank in a manner that fully protects all depositors. Depositors were given full access to their accounts on the Monday following the announcement. In contrast to depositors, shareholders and certain unsecured debt holders were not protected, and senior management at these banks was removed. The losses associated with these actions, later estimated by the FDIC to be $22.5 billion, will not be borne by taxpayers and instead will be borne by the Deposit Insurance Fund, which will be replenished by special assessments on banks, as required by law.1
At the same time, on Sunday, March 12, with approval by the Treasury Secretary, the Federal Reserve Board announced the establishment of the BTFP, making available additional funding to eligible depository institutions. The BTFP offers loans of up to one year in length to federally insured banks, savings associations, and credit unions, and to U.S. branches and agencies of foreign banks. New loans can be requested under the BTFP until at least March 11, 2024. To borrow from the BTFP, eligible institutions can pledge any collateral eligible for purchase by the Federal Reserve in open market operations, such as U.S. Treasury securities, U.S. agency securities, and U.S. agency mortgage-backed securities. The BTFP extends loans against the par value of eligible collateral—that is, the face amount of the securities without giving effect to any declines in fair value. With approval of the Treasury Secretary, the U.S. Department of the Treasury has committed to make available up to $25 billion from the Exchange Stabilization Fund as a backstop for the BTFP. The Federal Reserve does not anticipate that it will be necessary to draw on these backstop funds.
The BTFP will be an additional source of borrowing for depository institutions against high-quality securities, which eliminates an institution's need to quickly sell those securities should a significant fraction of depositors withdraw their funding suddenly or the financial system curtail bank funding, helping assure depositors that banks have the ability to meet the needs of all their customers.
In addition, depository institutions may continue to obtain liquidity against a wide range of collateral through the discount window, which remains open and available. Moreover, at the same time as the BTFP was established, it was announced that the discount window will apply the same margins used for the securities eligible for the BTFP.
Following the acute banking stresses in early March and the announcements on March 12, primary credit extended through the discount window increased from less than $5 billion to more than $150 billion during the first week and quickly fell back to about $70 billion, whereas credit extended through the BTFP increased steadily by smaller increments and stabilized in a range between $70 billion and $80 billion (figure A).
Figure A. Outstanding balances of primary credit and Bank Term Funding Program
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Source: Federal Reserve Board, Statistical Release H.4.1, "Factors Affecting Reserve Balances."
The Federal Reserve is prepared to address any liquidity pressures that may arise and is committed to ensuring that the U.S. banking system continues to perform its vital roles of ensuring that depositors' savings remain safe and providing access to credit to households and businesses in a manner that promotes strong and sustainable economic growth. These additional funding sources bolster the capacity of the banking system to safeguard deposits and ensure the ongoing provision of money and credit to the economy. The additional funding to eligible depository institutions will continue to serve as an important backstop against further bank stresses and support the flow of credit.
In international markets, Credit Suisse came under renewed pressure, and UBS agreed to merge with the firm on Sunday, March 19, in a deal that involved the write-off of a certain type of contingent convertible capital instruments as well as liquidity support and loss sharing from the Swiss government. On Sunday, March 19, the Federal Reserve, together with the Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, and the Swiss National Bank, announced measures to mitigate the effects of strains on global funding markets via the standing U.S. dollar liquidity swap line arrangements. The network of swap lines among these central banks is a set of available standing facilities and serves as an important liquidity backstop to ease strains in global funding markets, thereby helping mitigate the effects of such strains on the supply of credit to U.S. households and businesses (see the box "Transmission of Stress Abroad to the U.S. Financial System"). To improve the swap lines' effectiveness in providing U.S. dollar funding, these central banks agreed to increase the frequency of seven-day maturity operations from weekly to daily and to continue at this frequency. These daily operations commenced on Monday, March 20. Following the announcement on March 19, demand for these swap lines ticked up by slightly over $100 million and then fell back to levels below $500 million observed before the announcement. These central banks announced on April 25 that the frequency of swap line operations will revert from daily back to once a week beginning on May 1.
1. The exact cost of the resolution of SVB and Signature Bank will be determined when the FDIC terminates the receiverships. Current estimates from the FDIC about the cost to its Deposit Insurance Fund from the failure of SVB and Signature Bank are approximately $20 billion and $2.5 billion, respectively. See Federal Deposit Insurance Corporation (2023), "Subsidiary of New York Community Bancorp, Inc., to Assume Deposits of Signature Bridge Bank, N.A., from the FDIC," press release, March 19, https://www.fdic.gov/news/press-releases/2023/pr23021.html; and Federal Deposit Insurance Corporation (2023), "First–Citizens Bank & Trust Company, Raleigh, NC, to Assume All Deposits and Loans of Silicon Valley Bridge Bank, N.A., from the FDIC," press release, March 26, https://www.fdic.gov/news/press-releases/2023/pr23023.html. Return to text
Structural vulnerabilities remained at some money market funds and other cash-management vehicles
Prime MMFs remain a prominent vulnerability due to their susceptibility to large redemptions and the significant role they play in short-term funding markets. Since the November report, AUM in prime MMFs offered to the public increased $270 billion (53 percent), driven by $240 billion in inflows into retail prime funds (figure 4.4).
Figure 4.4. Growth in money market funds was concentrated in retail prime funds
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Note: The data are converted to constant 2023 dollars using the consumer price index.
Source: Federal Reserve Board staff calculations based on Investment Company Institute data; consumer price index, Bureau of Labor Statistics via Haver Analytics.
In the immediate aftermath of the failures of SVB and Signature Bank, government MMFs had a surge in inflows, but prime MMFs experienced a jump in redemptions. Although outflows from prime MMFs eased after a few days, the episode illustrated again that these funds continue to be at risk of large redemptions during episodes of financial stress.
Other cash-management vehicles, including dollar-denominated offshore MMFs and short-term investment funds, also invest in money market instruments, engage in liquidity transformation, and are vulnerable to runs. Since November, estimated aggregate AUM of these cash-management vehicles has edged up to about $1.7 trillion. Currently, between $600 billion and $1.5 trillion of these vehicles' AUM are in portfolios like those of U.S. prime MMFs, and large redemptions from these vehicles also have the potential to destabilize short-term funding markets.17
Many cash-management vehicles—including retail and government MMFs, offshore MMFs, and short-term investment funds—seek to maintain stable NAVs that are typically rounded to $1.00. When short-term interest rates rise sharply or portfolio assets lose value for other reasons, the market values of these funds may fall below their rounded share prices, which can put the funds under strain, particularly if they also have large redemptions.
The market value of many stablecoins declined, and they remain vulnerable to runs
The total market capitalization of stablecoins, which are digital assets designed to maintain a stable value relative to a national currency or another reference asset, has fallen 21 percent since the beginning of 2022 to $130 billion. While not widely used as a cash-management vehicle by institutional and retail investors or for transactions for real economic activity, stablecoins are important for digital asset investors and remain structurally vulnerable to runs. On March 10, 2023, amid reports of large outflows of uninsured deposits at SVB, Circle Internet Financial, which operates the $31 billion stablecoin USD Coin (USDC), disclosed that it had $3.3 billion in dollar reserves held at SVB. This disclosure triggered large redemptions of USDC and caused it to drop temporarily below its target $1 value to as low as 87 cents. Following news of the government interventions assuring depositors of the safety of uninsured deposits at SVB and Signature Bank, USDC's price stabilized near $1.
Bond mutual funds experienced outflows and remained exposed to liquidity risks
Mutual funds that invest substantially in corporate bonds, municipal bonds, and bank loans may be particularly exposed to liquidity transformation risks, given the relative illiquidity of their assets and the requirement that these funds offer redemptions daily. The total outstanding amount of U.S. corporate bonds held by mutual funds fell to its lowest level since 2013 on an inflation-adjusted basis, primarily driven by a drop in valuations (figure 4.5). Mutual fund holdings at the end of 2022 were approximately 13 percent of all U.S. corporate bonds outstanding. Total AUM at high-yield bond and bank-loan mutual funds, which primarily hold riskier and less liquid assets, decreased sharply in real terms in 2022 (figure 4.6). Bond and loan mutual funds experienced negative returns and notable outflows during most of 2022 (figure 4.7).
Figure 4.5. Corporate bonds held by bond mutual funds fell sharply
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Note: The data show holdings of all U.S. corporate bonds by all U.S.-domiciled mutual funds (holdings of foreign bonds are excluded). The data are converted to constant 2022 dollars using the consumer price index.
Source: Federal Reserve Board staff estimates based on Federal Reserve Board, Statistical Release Z.1, "Financial Accounts of the United States"; consumer price index, Bureau of Labor Statistics via Haver Analytics.
Figure 4.6. Assets held by high-yield and bank loan mutual funds decreased
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Note: The data are converted to constant 2023 dollars using the consumer price index. The key identifies series in order from top to bottom.
Source: Investment Company Institute; consumer price index, Bureau of Labor Statistics via Haver Analytics.
Figure 4.7. Bond and bank loan mutual funds experienced notable outflows during most of the past year
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Note: Mutual fund assets under management as of February 2023 included $2,173 billion in investment-grade bond mutual funds, $227 billion in high-yield bond mutual funds, and $87 billion in bank loan mutual funds. Bank loan mutual funds, also known as floating-rate bond funds, are excluded from high-yield bond mutual funds.
Source: Investment Company Institute.
On November 2, 2022, the SEC proposed reforms to the mutual fund sector. The proposed reforms include making swing pricing mandatory for open-end mutual funds. Swing pricing imposes costs arising from redemptions on the shareholders who redeem by reducing the NAV they receive on days when the mutual fund has net outflows. If properly calibrated, swing pricing could deter redemptions during a stressed market and lessen redeeming shareholders' first-mover advantage. The SEC also proposed to enhance its 2016 liquidity risk-management rule for mutual funds and certain exchange-traded funds. These enhancements include a requirement that funds hold at least 10 percent of their portfolios in "highly liquid assets" as well as tightened liquidity classifications.
Liquidity risks at central counterparties remained low
Liquidity risks posed by CCPs to clearing members and market participants remained low. CCPs maintained elevated initial margin levels in the third quarter of 2022, the latest quarter for which data are available, even as volatility decreased in most cleared markets, with the notable exception of interest rate markets. In addition, their levels of prefunded resources were stable.18 Those CCPs that focused on clearing interest rate products faced some difficulties adapting their margin models to the higher rate and volatility environment that began last year. During the second half of 2022, these CCPs experienced more frequent initial margin exceedances, in which some clearing members' mark-to-market losses exceeded their posted initial margin amounts. Large price moves and volatility in rates also resulted in large variation margin calls that were met by clearing members and clients. Finally, client clearing remained concentrated at the largest clearing members, which could make transferring client positions to other clearing members challenging if it were ever necessary.
Liquidity risks at life insurers remained elevated
Over the past decade, the liquidity of life insurers' assets steadily declined, and the liquidity of their liabilities slowly increased, potentially making it more difficult for life insurers to meet a sudden rise in withdrawals and other claims. Life insurers increased the share of illiquid assets—including CRE loans, less liquid corporate debt, and alternative investments—on their balance sheets (figure 4.8). In addition, they have continued to rely on nontraditional liabilities—including funding-agreement-backed securities, Federal Home Loan Bank advances, and cash received through repos and securities lending transactions—which offer some investors the opportunity to withdraw funds on short notice (figure 4.9).
Figure 4.8. Life insurers held more risky, illiquid assets on their balance sheets
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Note: Securitized products include collateralized loan obligations for corporate debt, private-label commercial mortgage-backed securities for commercial real estate (CRE), and private-label residential mortgage-backed securities and asset-backed securities (ABS) backed by autos, credit cards, consumer loans, and student loans for other ABS. Illiquid corporate debt includes private placements, bank and syndicated loans, and high-yield bonds. Alternative investments include assets filed under Schedule BA. P&C is property and casualty. The key identifies bars in order from top to bottom.
Source: Staff estimates based on data from Bloomberg Finance L.P. and National Association of Insurance Commissioners Annual Statutory Filings.
Figure 4.9. Life insurers continued to rely on nontraditional liabilities
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Note: The data are converted to constant 2022 dollars using the consumer price index. FHLB is Federal Home Loan Bank. The data are annual from 2006 to 2010 and quarterly thereafter. The key identifies bars in order from top to bottom.
Source: Consumer price index, Bureau of Labor Statistics via Haver Analytics; Moody's Analytics, Inc., CreditView, Asset-Backed Commercial Paper Program Index; Securities and Exchange Commission, Forms 10-Q and 10-K; National Association of Insurance Commissioners, quarterly and annual statutory filings accessed via S&P Global, Capital IQ Pro; Bloomberg Finance L.P.
References
16. See Board of Governors of the Federal Reserve System (2023), Statistical Release H.8, "Assets and Liabilities of Commercial Banks in the United States," https://www.federalreserve.gov/releases/h8. Return to text
17. Cash-management vehicles included in this total are dollar-denominated offshore MMFs, short-term investment funds, private liquidity funds, ultrashort bond mutual funds, and local government investment pools. Return to text
18. Prefunded resources represent financial assets, including cash and securities, transferred by the clearing members to the CCP to cover that CCP's potential credit exposure in case of default by one or more clearing members. These prefunded resources are held as initial margin and prefunded mutualized resources. Return to text