Central bank liquidity swaps

Because of the global nature of bank funding markets, the Federal Reserve has at times coordinated with other central banks to provide liquidity. During the financial crisis, the Federal Reserve entered into agreements to establish temporary reciprocal currency arrangements (central bank liquidity swap lines) with a number of foreign central banks. Two types of temporary swap lines were established: dollar liquidity lines and foreign-currency liquidity lines. These temporary arrangements expired on February 1, 2010. In May 2010, temporary dollar liquidity swap lines were re-established with some central banks, in response to the re-emergence of strains in short-term U.S. dollar funding markets. In November 2011, the Federal Reserve announced with these same central banks that they would establish temporary foreign-currency liquidity swap lines.

The Federal Reserve operates these swap lines under the authority of section 14 of the Federal Reserve Act and in compliance with authorizations, policies, and procedures established by the Federal Open Market Committee (FOMC).

Dollar Liquidity Swap Lines

In December 2007, the FOMC announced that it had authorized dollar liquidity swap lines with the European Central Bank and the Swiss National Bank to provide liquidity in U.S. dollars to overseas markets, and subsequently authorized dollar liquidity swap lines with additional central banks. The FOMC authorized the arrangements between the Federal Reserve and each of the following central banks: the Reserve Bank of Australia, the Banco Central do Brasil, the Bank of Canada, Danmarks Nationalbank, the Bank of England, the European Central Bank, the Bank of Japan, the Bank of Korea, the Banco de Mexico, the Reserve Bank of New Zealand, Norges Bank, the Monetary Authority of Singapore, Sveriges Riksbank, and the Swiss National Bank. Those arrangements terminated on February 1, 2010.

In May 2010, the FOMC announced that it had authorized dollar liquidity swap lines with the Bank of Canada, the Bank of England, the European Central Bank, the Bank of Japan, and the Swiss National Bank.

In general, 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. Dollar liquidity swaps have maturities ranging from overnight to three months.

When the foreign central bank loans the dollars it obtains 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.

The foreign currency that the Federal Reserve acquires is an asset on the Federal Reserve's balance sheet. Because the swap is unwound at the same exchange rate that is used in the initial draw, the dollar value of the asset is not affected by changes in the market exchange rate. The dollar funds deposited in the accounts that foreign central banks maintains at the Federal Reserve Bank of New York are a Federal Reserve liability.

Foreign-Currency Liquidity Swap Lines

In April 2009, the Federal Reserve announced foreign-currency liquidity swap lines with the Bank of England, the European Central Bank, the Bank of Japan, and the Swiss National Bank. These lines, which mirrored the dollar liquidity swap lines, were designed to provide the Federal Reserve with the capacity to offer liquidity to U.S. institutions in foreign currency. The foreign-currency swap lines could have supported operations by the Federal Reserve to address financial strains by providing liquidity to U.S. institutions 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. The FOMC authorized these liquidity swap lines with the Bank of England, the European Central Bank, the Bank of Japan, and the Swiss National Bank through February 1, 2010. The Federal Reserve did not draw on these swap lines.

In November 2011, the Federal Reserve announced that it had authorized temporary foreign-currency liquidity swap lines with the Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, and the Swiss National Bank. These arrangements were established to provide the Federal Reserve with the capacity to offer liquidity to U.S. institutions in currencies of the counterparty central banks (that is, in Canadian dollars, sterling, yen, euros, and Swiss francs). The Federal Reserve lines constitute a part of a network of bilateral swap lines among the six central banks, which allow for the provision of liquidity in each jurisdiction in any of the six currencies should central banks judge that market conditions warrant.

 

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