William C Dudley: The Federal Reserve's liquidity facilities Remarks by Mr William C Dudley, President and Chief Executive Officer of the Federal Reserve Bank of New York, at the Vanderbilt University Conference on Financial Markets and Financial Policy Honoring Dewey Daane, Nashville, Tennessee, 18 April 2009. *  *  *  Thank you for having me here today. It is a great honor to be on a panel with Peter Fisher and Bill Poole. I am the neophyte here in terms of central banking experience! Before I begin, let me emphasize that my comments represent my own views and opinions and do not necessarily reflect the views of the Federal Open Market Committee or of the Federal Reserve System. I am going to talk today about the Fed’s provision of liquidity to banks and dealers and to market participants more generally. I would break down our actions into three broad classes. First, we addressed the acute seizing up of inter-bank financing markets. For banks, we introduced the Term Auction Facility in December 2007 and for the primary dealers, the Term Securities Lending Facility and Primary Dealer Credit Facility in March 2008. In addition, the Federal Reserve entered into FX swap agreements with major global central banks in order to channel dollar liquidity to banks overseas. Second, we expanded our provision of short term financing beyond banks and dealers in order to alleviate constraints on highly rated corporate borrowers.
As a result, they will not be forced to dump assets, further depressing market prices, increasing volatility and the upward pressure on haircuts. The deleveraging will still take place – and we have seen it – just not so quickly and violently that it would destabilize the entire financial system. The second major intent of the liquidity facilities has been for the Fed to expand its balance sheet and, by doing so, offset some of shrinkage that has been occurring among non-bank financial intermediaries. The fact is the banking system is capital-constrained, with insufficient capital to expand its balance sheet fast enough to offset the shrinkage evident in the non-bank sector. Although the Federal Reserve cannot create capital for banks, it can provide funding directly to the private sector, attenuating the consequences caused by a balance-sheet-constrained banking system. The CPFF and the TALF are both important in restoring the flow of credit to borrowers. The CPFF essentially jump-started the commercial paper market, which had largely shut down following the failure of Lehman Brothers in September. The TALF’s purpose is to restart the securitization markets, and thereby lower the cost of borrowing to households and business. The TALF does this by providing term, non-recourse loans to investors against AAA-rated collateral. Investor demand for these loans leads to downward pressure on AAA-rated financing rates, lowering the cost of credit.