US Banks’ Readiness for Federal Reserve Borrowing Comes Under Scrutiny: Silicon Valley Bank’s Collapse Exposes Vulnerabilities

Federal Reserve Borrowing Silicon Valley Bank’s fast collapse this spring revealed an ugly truth: some U.S. banks are not ready to borrow from the Federal Reserve if needed, and a Reuters investigation showed that the situation is severe among the country’s smallest banks.

SVB, a $210 billion top-20 bank, failed. It was unsecured and hadn’t used the Fed’s “discount window” for emergency borrowing. The Fed’s April crash review noted, “SVB’s lack of preparedness may have contributed to how quickly it went under.”

SVB’s fall necessitated unprecedented Fed emergency loans, making it vulnerable. Washington and 12 Fed districts worry.

Last Wednesday, Fed Chair Jerome Powell said the discount window “can be clunky.”

“So why not just be much more ready in case you need to use this discount window?” he said during the central bank’s policy meeting news conference.

On Friday, the Fed and other bank regulators emphasized that “the agencies encourage depository institutions to include the discount window as part of their contingency funding arrangements” and that banks should be “operationally ready” to utilize it in a pinch. Reuters found Fed statistics needed further effort.

SVB in California was uncommon, but other banks with $100 billion or more assets frequently test discount window access. Smaller banks may not borrow, according to statistics.

“I was astonished. “I’ve been in charge of implementing monetary policy for more than 20 years, and I was surprised by the number of banks that aren’t entirely set up for the discount window,” said Dallas Fed president Lorie Logan in July. She instructed all Texas and national banks to “test the plumbing” and grant access.

Vital mission
Giving money when no one else will is the Fed’s primary duty.

Bank panics have devastated the economy since the republic’s establishment. Therefore, the Fed was formed in the early 20th century. During crises, it may lend to banks practically unlimitedly. A catch. Banks must be able to request help. The Fed requires paperwork, security, and frequent testing. The Fed won’t say how many banks applied for access—maybe weeks. Central bank data implies that many banks still need to borrow or test the discount window.

Smaller banks seldom use the discount window.

From July 2010 to June 2021, almost all banks with over $50 billion in assets and 70% of institutions with $1 billion borrowed via the discount window, either in small amounts to test or more significant cuts to establish a need.

Only 40% of the 1,800 US banks with $250 million to $1 billion in assets used the discount window.
Logan has 20% of these micro banks.

Only 20% of small banks (under $250 million in assets) used the time.

Goldman Sachs’ $5 billion COVID-19 shutdown loan and hundreds of $1,000 test loans are included.

Central bank data shows 3,800 banks exploited the discount window in 11 years. The Fed’s 9,000+ businesses may borrow 40%: international bank branches and credit unions.

Banks that filed and posted security but didn’t use the discount window are omitted.

It excludes banks that added access or tried after 2021. SVB’s March failure has revived financial demands. Fed announces discount window incidents two years later.

Based on the figures, Richmond Fed economist Huberto Ennis believes “it seems safe to assume that a significant number of banks did not have easy access to the discount window, at least until recently.”

Reuters contacted the ten biggest banks that had never used the discount window. Most public documents claim Fed collateral. Reuters reported that several validated their access. It was tested before 2010.

The National Credit Union Association mandates discount spots or emergency cash access for members above $250 million in assets. 1,100 of 4,700 members qualify. December had 1,366 NCUA price time users.

Banks aren’t required to give Fed access numbers. In May, Fed Chair Michelle Bowman said “a number” of banks had not registered.

Henderson, Texas’ $4.5 billion VeraBank has tested for years. It borrows $100,000 from the Fed in July and repays it the next day.

CEO Brad Tidwell adds, “I think you should always have access because you never know when you might need it.” “I don’t know how you can be sure it will be there when you need it if you don’t test it regularly.”

Thirty-three banks with $100 billion in assets seldom test consumers. Over half of the companies used the discount window every three months or once a year for $1 million or less throughout the 11 years of data, indicating they were experimental. Seven never borrowed and took fewer examinations.

SVB borrowed $200 million one day in August 2018.

US Banks' Readiness for Federal Reserve Borrowing Comes Under Scrutiny Silicon Valley Bank's Collapse Exposes Vulnerabilities
US Banks’ Readiness for Federal Reserve Borrowing Comes Under Scrutiny Silicon Valley Bank’s Collapse Exposes

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Planning forward
The Fed has long discouraged banks from accessing the discount window by requiring them to use all other funds first or, more lately, charging them above-market interest rates.

COVID-19 changed the Fed. It decreased this penalty rate and coordinated with other bank regulators to encourage banks to borrow money to stabilize markets and credit. Big banks borrowed to boost the discount window’s image.

After SVB’s March bankruptcy caused market panic, the Fed opened a one-year emergency lending window that doesn’t “discount” collateral.

Banks must register and test at the window. Reuters reported Chicago Fed President Austan Goolsbee calling this a “big push to try to get operational readiness of everyone we can.”

In a recent “Ask the Fed” session for bank executives, the Fed explained how to apply for emergency loans. It advised bank executives that inspectors would see setting up and testing access to these facilities as cautious planning, not financial hardship.

Richmond Fed’s Ennis says not all tiny banks need access. They may hold plenty of cash or correspond to a more extensive bank. The nation’s second-last lender, the Federal Home Loan Bank, owns most banks—fast cash from the FHLB.

His research implies that riskier and less liquid institutions may need a discount window during financial market crises.

Minneapolis Fed president Neel Kashkari suggested small banks utilize the discount window as a backup.

“We let them know that the Home Loan Bank might not be able to meet their needs in the future,” he told Reuters in May. Discussion continues. Until it’s not, banks think everything’s OK.

Our Reader’s Queries

How much does the Federal Reserve charge banks to borrow money?

The Federal Open Markets Committee (FOMC), which convenes eight times annually to establish the federal funds rate, has set the current Fed rate at 5.25% to 5.5%.

What is the main source of borrowing for the Federal Reserve System?

Congressional appropriations do not fund the Federal Reserve. Instead, the Federal Reserve’s operations are primarily financed through the interest earned on securities it owns. These securities are acquired through the Federal Reserve’s open market operations.

What is it called when banks borrow money from the Federal Reserve?

The “discount window” is a crucial tool used by the Federal Reserve to lend to depository institutions. This helps maintain the stability and liquidity of the banking system, while also ensuring the effective implementation of monetary policy. By providing this support, the Federal Reserve plays a vital role in keeping the financial system running smoothly.

What is the Fed term borrowing program?

The BTFP provides loans to banks, credit unions, and other eligible depository institutions for up to a year. These loans are secured by collateral that is eligible for purchase by the Federal Reserve Banks in open market operations. This collateral includes U.S. Treasuries, U.S. agency securities, and other assets specified in 12 CFR 201.108(b).

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