A breakdown of the Fed's $300 billion emergency loan

After the collapse of Silicon Valley Bank, the Federal Reserve lent banks $300 billion in emergency funds. Is this enough?

For the first time since 2020, the Federal Reserve has stepped up to provide emergency support to the U.S. banking system. Several major regional banks are struggling after the collapse of Silicon Valley Bank and Signature Bank last week, while the FDIC still manages the bad assets of these failed institutions. The Fed has pledged to protect banks and the financial system throughout the crisis and has backed up those promises with strong practical actions - supporting the FDIC, opening a new bank lending facility last weekend, easing the terms of banks' emergency credit lines, and promising to provide liquidity to any struggling savings institutions.

They also provided more than $300 billion in new loans to U.S. banks as of Wednesday, more than double the direct credit created at the height of the pandemic in early 2020. That has been effective in stemming the crisis so far — no more bank failures in a week since the FDIC, the Fed and the Treasury joined forces to respond — but many banking institutions remain at risk . So will the Fed's $300 billion emergency response — and the slew of new policies they've put in place — be enough to stop the crisis?

Breaking down the Fed's emergency lending

As of Wednesday, the Fed had provided more than $300 billion in secured direct loans to the banking system — more than at any time since the global financial crisis — to stem the fallout from the collapse of Silicon Valley Bank (SVB) and Signature Bank. More than $11.9 billion of the loans came from the Bank Term Funding Program (BTFP) , a newly created facility that allows banks to pledge government-backed securities at par in exchange for loans of up to one year. However, the bulk of the Fed’s loans ($295 billion) came from the discount window, a secured direct lending facility that the Fed has historically reserved for providing emergency liquidity to banks. The Fed provided $142 billion in loans to FDIC-owned bridge banks for SVB and Signature Bank, and $152 billion in loans to private banks through the discount window. One private bank likely accounted for the bulk of the $150 billion in private borrowings — First Republic Bank, which released a statement saying that its discount window borrowings since the collapse of SVB ranged from $20 billion to $109 billion.

The vast majority of these emergency loans are very short-term loans, of which $290 billion of loans mature within 15 days, a record high, and only $540 million of loans mature between 16 and 90 days, almost all of which are discount window loans. In addition, $11.9 billion of loans mature between 3 months and 1 year, almost completely corresponding to the loan term of BTFP.

The Fed intentionally does not immediately release which institutions they loaned to and how much they borrowed, but by looking at the regional Fed Banks’ total assets data we can get a rough idea of ​​who received liquidity from the Fed. Looking at items including discount window loans and BTFP funding, we can see that lending was not evenly distributed across the country, but was heavily concentrated at two Fed Banks. The San Francisco Fed, which has jurisdiction over SVB and First Republic Bank, saw its assets increase by $233 billion, and the New York Fed, which has jurisdiction over Signature, saw its assets increase by about $55 billion. This does not necessarily mean that all lending was concentrated at SVB, Signature Bank, and First Republic Bank—several West Coast regional banks also experienced distress, and the New York Fed has jurisdiction over many financial institutions that are not necessarily only in New York (e.g., most foreign banking organizations)—but it does mean that the crisis did not necessarily cause banks across the country to borrow from the Fed.

Nor has much been borrowed through the Fed’s dollar swap lines, tools that foreign central banks can use to make dollar-denominated loans to foreign banks. While recent weakness at foreign financial institutions such as Credit Suisse may soon require the use of swap lines, their current suspension means that the crisis has so far been largely contained within the United States, with the main recipients of the Fed’s emergency funds being U.S. banks that borrowed from the discount window.

Understanding the New Era of the Discount Window

In many ways, the Fed was caught off guard by the risks that the collapse of SVB and its aftermath posed to the banking system. Regulators had been accommodative toward smaller “regional” banks, mistakenly assuming that their failure would not pose a systemic threat to the financial system, and the Fed had not yet decided to raise interest rates fast enough to destabilize the banking system. In some ways, however, they were remarkably prescient—the Fed had been trying to institutionalize reforms to the discount window designed to improve financial stability in the aftermath of the earlier COVID financial crisis. Today’s unprecedented use of the discount window reflects, in part, the intended outcome of those reforms.

In the early days of the Fed, institutions essentially borrowed from the discount window all the time, so the window was more of a routine monetary policy tool than a backstop for emergency support of the financial system. By the late 1920s, the Fed began to increasingly discourage the use of the discount window, arguing that over-reliance on it bred financial stability risks and that it was an outdated and ineffective tool in an era when the Fed set policy rates by injecting or removing bank reserves from the system. Whenever banks borrowed from the discount window again, the Fed would tighten requirements, add surcharges, or restrict lending more to push banks away from the discount window. This led to a serious problem - because the Fed strongly discouraged the use of the discount window, overall usage was very low, and any bank that tried to use the discount window to borrow in a true emergency faced a huge stigma.

By borrowing from the Fed, banks are signaling that they are in a truly desperate situation and have no other options. Shareholders, creditors, depositors, and even government regulators will not look kindly on you if they find out you used the discount window—it’s basically a fireable offense for bank executives. The consequence is that even troubled institutions that are innocently under pressure will choose to take unnecessary financial risks rather than seek help from the Fed, making the entire financial system more unstable.

In the aftermath of the financial crisis in early 2020, the Fed enacted several reforms designed to encourage more banks to use the discount window and reduce the stigma of borrowing from the Fed. First, the maximum maturity was extended from overnight to 90 days, allowing banks to borrow longer and more flexibly. Second, the “penalty rate” charged for borrowing from the discount window was significantly reduced so that the cost of borrowing from the Fed is no longer significantly higher than market rates—as of today, the main credit rate at the discount window is only 0.1% above the interest rate the Fed pays banks on their reserves, down from 0.7% before the pandemic.

Although using the discount window causes banks to suffer credit worthiness, the credit worthiness of using the discount window has diminished since the pandemic—more than 60% of banks said they would borrow from the Fed if market conditions made funding scarce, which was the case before March 2021, and before the SVB collapse, banks routinely borrowed billions of dollars from the discount window. Changes that further eased collateral requirements after the SVB collapse may have encouraged more banks to use the discount window and helped reduce credit worthiness. That so many banks feel the need to use the discount window is a bad sign for the financial health of the United States, but that they are using it rather than trying to do it on their own without help from the Fed is a good sign.

Ironically, however, the BTFP may end up inheriting the discount window’s reputational damage problem because of its connection to the SVB collapse. However, the $11.9 billion in outstanding loans suggests that banks are not overly concerned about their image in borrowing from the Fed, a positive sign for financial stability. If reputational damage becomes an issue again, the Fed may try to revive or tweak the “term auction facility” — a Great Recession-era program where the Fed auctioned off a set amount of mortgages to banks to prevent any one financial institution from being subject to reputational damage by requiring to borrow from the Fed. However, the Fed may view the continued use of the discount window as a sign that the system is working as intended for the time being.

in conclusion

So far, the Fed’s intervention has succeeded in preventing a catastrophic tightening of financial conditions — while corporate bond spreads have increased significantly since the SVB failure, suggesting borrowing conditions for major companies have become more difficult, they are still below recent July and October highs. But this should not be misinterpreted as a sign that the crisis is over — First Republic, for example, had to absorb $30 billion in deposits from several other large banks in addition to borrowing billions from the Federal Reserve. Several banks remain at risk, and the effects of the Fed’s emergency measures to stabilize the banking system may take time.

However, one thing is clear - the lingering effects of the SVB crisis have worsened financial conditions while also lowering expectations for near-term interest rates. On March 8, interest rate futures markets were pricing in a 0.5% rate hike at next week's FOMC meeting as the most likely outcome - today, they're pricing in a strong chance that the Fed won't raise rates at all. The two-year Treasury yield fell more than 1% and has been volatile over the past week. Banks were already tightening lending due to the deterioration in economic forecasts - the events of the past two weeks are unlikely to make them any more excited about the economic outlook going forward. Whether the Fed's emergency efforts will be enough to restore confidence in the financial system will depend on whether banks can regain stability without creating a credit crunch big enough to bring down the U.S. economy.