Commentary: Fed’s tools to help the world (and the US)
In late 2008, when the global financial crisis was raging, the US Federal Reserve launched or augmented currency swap lines with fourteen central banks. The objective was to help improve liquidity conditions in global financial markets and to mitigate the difficulties in obtaining USD funding, which was being faced even by economies with sound fundamentals.
Covering both developed and emerging markets, the initiative was seen as helpful to restore some degree of stability in global markets. Today, the legacy of the initiative remains in place; the Fed maintains permanent swap lines worth hundreds of billions of dollars with five monetary authorities (Bank of Canada, Bank of England, European Central Bank, Bank of Japan, Swiss National Bank) and temporary swap lines (USD30-60bn each) with nine additional ones, including the Monetary Authority of Singapore.
There are other credit and swap lines available to sovereign countries, both multilateral (IMF’s Flexible Credit Line) and bilateral (PBoC), but the comfort zone with engaging with the Fed, which after all is the issuer of the world’s premier reserve currency, remains high.
During the course of last year’s crisis, the Fed expanded its liquidity facilities substantially, including one designated to facilitate dollar liquidity beyond the US borders. In early-April 2020, the Fed operationalised its Temporary Foreign and International Monetary Authorities (FIMA) Repo Facility. It allowed central banks and international monetary authorities with accounts at the New York Fed to enter into repurchase agreements with the Federal Reserve. In these transactions, FIMA account holders temporarily exchanged their US Treasury securities held with the Federal Reserve for USD. The idea was to help central banks, which were, at that time, facing sharp capital outflows. This was in turn compelling them to run down reserves to keep exchange rates stable (Indonesia is a case in point). Often, they were selling their holding of US treasuries to obtain dollar liquidity, which was adding pressure to the US bond market. Through the course of March 2020, US bonds amounting to USD128bn were sold in the open market by central banks, in an attempt by them to shore up USD liquidity. The FIMA facility was a much-needed alternative temporary source of USDs for such institutions; it eased selling pressure of securities in the open market and it also provided a strong signal that hard currency liquidity was going to remain ample.
The FIMA facility has been extended twice, first to March 2021 and to September of this year. While the number of institutions with access to the facility has not been made public, press reports suggests that they include the central banks of Chile, Colombia, Indonesia, and Mexico. Its benefits have been recognised by market participants, and perhaps most critically, by the members of the FOMC.
Minutes of the April FOMC meetings show that the idea of making FIMA permanent was discussed in detail, with most members finding the facility useful. Fed staff noted that a FIMA type facility could limit the propensity for foreign official institutions to execute large sales of US Treasuries securities in a stress environment. This was seen as directly beneficial to US domestic financial markets.
Perhaps the facility can be made more transparent; perhaps more rules and stipulations could be added. But the bottom line is that a more expanded role of Fed in the global market for USD liquidity ultimately serves the US; expect the facility to stay.
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