Primary Dealer Credit Facility
Encyclopedia
On March 17, 2008, in response to the subprime mortgage crisis
and the collapse of Bear Stearns
, the Federal Reserve announced the creation of a new lending facility, the Primary Dealer Credit Facility (PDCF). Eligible borrowers include all financial institutions listed as primary dealers, and the term of the loan
is a repurchase agreement
, or "repo" loan, whereby the broker dealer sells a security
in exchange for funds through the Fed's discount window
. The security in question acts as collateral
, and the Federal Reserve charges an interest rate
equivalent to the Fed's primary credit rate. The facility was intended to improve the ability of broker dealers to access liquidity
in the overnight loan market
that banks use to meet their reserve requirements.
The creation of the Primary Dealer Credit Facility constitutes the first time in the history of the Federal Reserve that the Fed has lent directly to investment banks, and it reflects the severity of the financial crisis perceived by Federal Reserve Chairman Ben Bernanke
. Non-bank institutions such as investment banks exist outside the Fed's regulatory structure. A full detail of the nominal value of loans outstanding through the PDCF is available in the Federal Reserve's public balance sheet
.
During the first three days the facility was open, an average of $13.3 billion was borrowed daily with $28.8 billion in loans outstanding. Lending activity peaked in the first week of October 2008, averaging around $150 billion daily. The facility closed on February 1, 2010. According to the Federal Reserve, all loans extended under this facility were repaid in full, with interest, in accordance with the terms of the facility. In total, $8.95 trillion dollars in loans were made through the Facility.
, the Federal Reserve announced plans to expand the collateral
eligible at the PDCF to include all collateral eligible in tri-party repurchase agreements with the major clearing banks
. Originally, only investment-grade debt securities were accepted as collateral through the PDCF. On December 2, 2008, the Federal Reserve announced a further extension of the PDCF through April 30, 2009.
. The decision to expand the eligible collateral
was criticized for further weakening the Fed's balance sheet
. Also, the Fed's actions have been criticized as a power grab to become more powerful
relative to other financial regulators
such as the SEC and the FDIC
.
Many have criticized the PDCF for lending to investment banks on the same terms as more tightly-regulated financial institutions. They argue that since the Federal Reserve is now lending directly to investment banks that these institutions, along with other private-equity firms
and hedge fund
s, should face broader regulation
.
In a hearing of the United States House Committee on Financial Services
on January 13, 2009, Rep. Alan Grayson
(D-Fl) pressed Federal Reserve Vice Chairman Donald Kohn
about releasing the details of exactly which firms have received funds from the Federal Reserve and specifically how much. The volume of lending at the PDCF was only published in the aggregate
, shielding the identity of exactly which institutions used the facility and how much they borrowd. Now data disclosing details of the loans is available on the Fed Board of Governor's site
Subprime mortgage crisis
The U.S. subprime mortgage crisis was one of the first indicators of the late-2000s financial crisis, characterized by a rise in subprime mortgage delinquencies and foreclosures, and the resulting decline of securities backed by said mortgages....
and the collapse of Bear Stearns
Bear Stearns
The Bear Stearns Companies, Inc. based in New York City, was a global investment bank and securities trading and brokerage, until its sale to JPMorgan Chase in 2008 during the global financial crisis and recession...
, the Federal Reserve announced the creation of a new lending facility, the Primary Dealer Credit Facility (PDCF). Eligible borrowers include all financial institutions listed as primary dealers, and the term of the loan
Loan
A loan is a type of debt. Like all debt instruments, a loan entails the redistribution of financial assets over time, between the lender and the borrower....
is a repurchase agreement
Repurchase agreement
A repurchase agreement, also known as a repo, RP, or sale and repurchase agreement, is the sale of securities together with an agreement for the seller to buy back the securities at a later date. The repurchase price should be greater than the original sale price, the difference effectively...
, or "repo" loan, whereby the broker dealer sells a security
Security (finance)
A security is generally a fungible, negotiable financial instrument representing financial value. Securities are broadly categorized into:* debt securities ,* equity securities, e.g., common stocks; and,...
in exchange for funds through the Fed's discount window
Discount window
The discount window is an instrument of monetary policy that allows eligible institutions to borrow money from the central bank, usually on a short-term basis, to meet temporary shortages of liquidity caused by internal or external disruptions...
. The security in question acts as collateral
Collateral (finance)
In lending agreements, collateral is a borrower's pledge of specific property to a lender, to secure repayment of a loan.The collateral serves as protection for a lender against a borrower's default - that is, any borrower failing to pay the principal and interest under the terms of a loan obligation...
, and the Federal Reserve charges an interest rate
Interest rate
An interest rate is the rate at which interest is paid by a borrower for the use of money that they borrow from a lender. For example, a small company borrows capital from a bank to buy new assets for their business, and in return the lender receives interest at a predetermined interest rate for...
equivalent to the Fed's primary credit rate. The facility was intended to improve the ability of broker dealers to access liquidity
Market liquidity
In business, economics or investment, market liquidity is an asset's ability to be sold without causing a significant movement in the price and with minimum loss of value...
in the overnight loan market
Interbank lending market
The interbank lending market is a market in which banks extend loans to one another for a specified term. Most interbank loans are for maturities of one week or less, the majority being overnight. Such loans are made at the interbank rate...
that banks use to meet their reserve requirements.
The creation of the Primary Dealer Credit Facility constitutes the first time in the history of the Federal Reserve that the Fed has lent directly to investment banks, and it reflects the severity of the financial crisis perceived by Federal Reserve Chairman Ben Bernanke
Ben Bernanke
Ben Shalom Bernanke is an American economist, and the current Chairman of the Federal Reserve, the central bank of the United States. During his tenure as Chairman, Bernanke has overseen the response of the Federal Reserve to late-2000s financial crisis....
. Non-bank institutions such as investment banks exist outside the Fed's regulatory structure. A full detail of the nominal value of loans outstanding through the PDCF is available in the Federal Reserve's public balance sheet
Balance sheet
In financial accounting, a balance sheet or statement of financial position is a summary of the financial balances of a sole proprietorship, a business partnership or a company. Assets, liabilities and ownership equity are listed as of a specific date, such as the end of its financial year. A...
.
During the first three days the facility was open, an average of $13.3 billion was borrowed daily with $28.8 billion in loans outstanding. Lending activity peaked in the first week of October 2008, averaging around $150 billion daily. The facility closed on February 1, 2010. According to the Federal Reserve, all loans extended under this facility were repaid in full, with interest, in accordance with the terms of the facility. In total, $8.95 trillion dollars in loans were made through the Facility.
Changes to the Facility
On July 30, 2008, the Federal Reserve announced several actions to further increase liquidity, including an extension of the Primary Dealer Credit Facility, through January 30, 2009. On September 14, 2008, in the wake of the collapse of Lehman BrothersLehman Brothers
Lehman Brothers Holdings Inc. was a global financial services firm. Before declaring bankruptcy in 2008, Lehman was the fourth largest investment bank in the USA , doing business in investment banking, equity and fixed-income sales and trading Lehman Brothers Holdings Inc. (former NYSE ticker...
, the Federal Reserve announced plans to expand the collateral
Collateral (finance)
In lending agreements, collateral is a borrower's pledge of specific property to a lender, to secure repayment of a loan.The collateral serves as protection for a lender against a borrower's default - that is, any borrower failing to pay the principal and interest under the terms of a loan obligation...
eligible at the PDCF to include all collateral eligible in tri-party repurchase agreements with the major clearing banks
Clearing house (finance)
A clearing house is a financial institution that provides clearing and settlement services for financial and commodities derivatives and securities transactions...
. Originally, only investment-grade debt securities were accepted as collateral through the PDCF. On December 2, 2008, the Federal Reserve announced a further extension of the PDCF through April 30, 2009.
Criticisms
The actions of the Federal Reserve, including the creation of the Primary Dealer Credit Facility, have expanded its balance sheet from $800 billion, consisting mainly of safe treasury bills, to over $2 trillion, consisting largely of riskier debt and mortgage-backed securitiesMortgage-backed security
A mortgage-backed security is an asset-backed security that represents a claim on the cash flows from mortgage loans through a process known as securitization.-Securitization:...
. The decision to expand the eligible collateral
Collateral (finance)
In lending agreements, collateral is a borrower's pledge of specific property to a lender, to secure repayment of a loan.The collateral serves as protection for a lender against a borrower's default - that is, any borrower failing to pay the principal and interest under the terms of a loan obligation...
was criticized for further weakening the Fed's balance sheet
Balance sheet
In financial accounting, a balance sheet or statement of financial position is a summary of the financial balances of a sole proprietorship, a business partnership or a company. Assets, liabilities and ownership equity are listed as of a specific date, such as the end of its financial year. A...
. Also, the Fed's actions have been criticized as a power grab to become more powerful
Power (communication)
Power can be described as the capacity of an individual or a group to exert their will over another or others or influence the goals of a relationship. Power is not a characteristic of any one individual, rather, it is defined in terms of relationships and transactions between people...
relative to other financial regulators
Regulator (economics)
Economic regulators are usually the agencies established by central government for the control of or intervention in the operation of markets, according to public interest principles and criteria....
such as the SEC and the FDIC
Federal Deposit Insurance Corporation
The Federal Deposit Insurance Corporation is a United States government corporation created by the Glass–Steagall Act of 1933. It provides deposit insurance, which guarantees the safety of deposits in member banks, currently up to $250,000 per depositor per bank. , the FDIC insures deposits at...
.
Many have criticized the PDCF for lending to investment banks on the same terms as more tightly-regulated financial institutions. They argue that since the Federal Reserve is now lending directly to investment banks that these institutions, along with other private-equity firms
Private equity
Private equity, in finance, is an asset class consisting of equity securities in operating companies that are not publicly traded on a stock exchange....
and hedge fund
Hedge fund
A hedge fund is a private pool of capital actively managed by an investment adviser. Hedge funds are only open for investment to a limited number of accredited or qualified investors who meet criteria set by regulators. These investors can be institutions, such as pension funds, university...
s, should face broader regulation
Regulatory economics
Regulatory economics is the economics of regulation, in the sense of the application of law by government that is used for various purposes, such as centrally-planning an economy, remedying market failure, enriching well-connected firms, or benefiting politicians...
.
In a hearing of the United States House Committee on Financial Services
United States House Committee on Financial Services
The United States House Committee on Financial Services is the committee of the United States House of Representatives that oversees the entire financial services industry, including the securities, insurance, banking, and housing industries...
on January 13, 2009, Rep. Alan Grayson
Alan Grayson
Alan Mark Grayson is a former U.S. Representative for , serving from 2009 until 2011. He is a member of the Democratic Party and loves cookies. After losing the election he moved to Austin to start stand-up comedy and a cookie business. The district Grayson represented lies in central Florida...
(D-Fl) pressed Federal Reserve Vice Chairman Donald Kohn
Donald Kohn
Donald Lewis Kohn is an American economist who served as the former Vice Chairman of the Board of Governors of the Federal Reserve System. He is considered a moderate dove on fiscal policy. He retired after 40 years at the central bank in September, 2010.-Early life and family:Kohn was born in...
about releasing the details of exactly which firms have received funds from the Federal Reserve and specifically how much. The volume of lending at the PDCF was only published in the aggregate
Aggregate data
In statistics, aggregate data describes data combined from several measurements.In economics, aggregate data or data aggregates describes high-level data that is composed of a multitude or combination of other more individual data....
, shielding the identity of exactly which institutions used the facility and how much they borrowd. Now data disclosing details of the loans is available on the Fed Board of Governor's site