WSJ on Fed swap lines

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These are functionally unsecured loans from the Fed to central banks of foreign governments.

The Fed loans USD and gets local currency deposits as collateral held at the foreign central bank.

If the central bank defaults to the Fed, its only recourse is to try to sell those foreign currency deposits in the open market. There are two problems with this. First, the foreign central bank may not allow the Fed to do this. Second, looking at the advances in total which are close to $600 billion, there probably is no amount of foreign currency that could be sold to get that many USD, without enough disruption for the foreign CB to stop the sale.

It get worse. Has Congress noticed that the Fed has the authority to make functionally unsecured loans to foreign governments? The line to Mexico is $30 billion. Would congress approve an unsecured loan to Mexico of $30 billion?
This is madness?

Lastly, the line to the ECB is now unlimited as reported. The ECB is not guaranteed by the eurozone National Governments, nor does it have any non-euro capital to speak of.

So the question for Congress is, should the Fed be underwriting unsecured credit to foreign Central Banks?

Dollar Swaps: Bernanke’s $520-Billion Novelty

by David Wessel

Jan 15 (Wall Street Journal) — What Federal Reserve Chairman Ben Bernanke terms “a novel aspect of the current situation” is the strong demand for U.S. dollars from overseas banks that had lent money in dollars or bought dollar-denominated securities.

To satisfy this demand and minimize strains on U.S. money markets, the Fed a year ago began offering dollars the European Central Bank, Swiss National Bank, Bank of England and other foreign central banks — which can print unlimited amounts of euros, Swiss francs, pounds etc., but not dollars. In exchange for dollars, the foreign central banks give the Fed their own currencies to hold.

The ECB and other central banks then lend the dollars to their banks, attempting to ease strains in their markets (and taking any risk that their banks won’t pay back the loans.) “The emergence of dollar funding shortages around the globe has required a more internationally coordinated approach among central banks to the lender-of-last-resort function,” Bernanke has said. (Read a primer)

The Fed’s policy-setting Federal Open Market Committee initially set ceilings on the currency swaps with each foreign central bank. But last year it lifted those ceilings, and now says it’ll give foreign central banks as many dollars as they want.

The Fed itself doesn’t disclose precisely how many dollars it has swapped with other central banks. Fed watchers do estimate the amount from balance sheet information that the Fed does disclose, and from disclosures by other central banks — including the ECB.

It turns out that the U.S. Treasury’s public statements of the U.S. International Reserve Position has a line that reveals exactly how many dollars the Fed has swapped with the ECB and other central banks. New Treasury data out today (See Table 2, Line 2(a)) reveals that as of January 9, 2009, the Fed had outstanding swaps of $520.26 billion in dollars with other central banks.