Alea

My first post was a bit short, and some commenters have mentionned a post by a certain Willem Buiter who wrote:

On April 6, 2009, the Fed, the ECB, the Bank of England, the Bank of Japan and the Swiss National Bank simultaneously made announcements about currency swap arrangements. I consider these statements to be misleading and quite possibly redundant.

They are neither, the four foreign central banks already have unlimited dollar swap lines facilities:

Authorized Swap Line

European Central Bank: Unlimited per October 13, 2008, announcement by the Federal Open Market Committee
Swiss National Bank: Unlimited per October 13, 2008, announcement by the Federal Open Market Committee
Bank of England: Unlimited per October 13, 2008, announcement by the Federal Open Market Committee
Bank of Japan: Unlimited per October 14, 2008, announcement by the Federal Open Market Committee

All extended to October 30, 2009, per February 3, 2009 announcement by the Federal Open Market Committee

But there is no redundancy, a dollar swap line and a foreign currency swap line isn’t the same, in a dollar swap, the Fed lends dollars to a foreign central bank against collateral: a fx currency deposit as explained below, and can’t lend the foreign currency onwards to a U.S. bank, that would require a “mirror” of the dollar swap i.e. a foreign currency swap:

These swaps involve two transactions. When a foreign central bank draws on its swap line with the Federal Reserve, the foreign central bank sells a specified amount of its currency to the Federal Reserve in exchange for dollars at the prevailing market exchange rate. The Federal Reserve holds the foreign currency in an account at the foreign central bank. The dollars that the Federal Reserve provides are deposited in an account that the foreign central bank maintains at the Federal Reserve Bank of New York. At the same time, the Federal Reserve and the foreign central bank enter into a binding agreement for a second transaction that obligates the foreign central bank to buy back its currency on a specified future date at the same exchange rate. The second transaction unwinds the first. At the conclusion of the second transaction, the foreign central bank pays interest, at a market-based rate, to the Federal Reserve.

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

If a U.S. bank had difficulty funding in euros or sterling or whatever, the Fed would need to draw the foreign currency swap line and would be bearing the credit risk “associated with the loans it makes to institutions in its jurisdiction,” while previously with a dollar swap, the Fed takes on central bank credit risk.

The Federal Open Market Committee has authorized new temporary reciprocal currency arrangements (foreign currency liquidity swap lines) with the Bank of England, the ECB, the Bank of Japan, and the Swiss National Bank. If drawn upon, these arrangements would support operations by the Federal Reserve to provide liquidity in sterling in amounts of up to £30 billion, in euro in amounts of up to €80 billion, in yen in amounts of up to ¥10 trillion, and in Swiss francs in amounts of up to CHF 40 billion.

In normal times there would be no need for this, but these aren’t normal times, anyone wants to lend euros unsecured to zittibank, if there is even a hint of a threat of nationalization?

Posted by jck on April 14th, 2009 at 2:35 pm    2 Comments