Abstract
This paper describes the evolution of the Federal Reserve’s swap lines from their inception in 1962 as a mechanism to forestall claims on U.S gold reserves under Bretton Woods to a means of extending emergency dollar liquidity during the Great Recession. It describes the Federal Reserve’s successes and failures and argues that swaps calm crisis situations by both supplementing foreign countries’ dollar reserves and by signaling central-bank cooperation. The paper shows how swaps exposed the Federal Reserve to conditionality and raised fears that they bypassed the Congressional appropriations process.
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Notes
See Hooyman (1993) for an early survey of central bank uses of swaps.
The U.S. Treasury has established swap lines with foreign monetary authorities on an ad hoc basis since 1936. Typically the Treasury sets up these lines with developing countries to provide short-term bridge loans in anticipation of financing from other sources.
Coombs (1976) provides an estimate of the U.S. gold export point.
The dollar was the key vehicle currency. When speculators shifted funds, say, out of British pounds and into Swiss francs, they would sell pounds for dollars and dollars for francs, leaving the SNB with dollars.
The Swiss franc line with the BIS existed to overcome Swiss laws that limited the SNB’s lending to foreign central banks. This included swap amounts.
Early central-bank swaps were usually done on a “flat” basis. The spot and forward exchange rates were equal to the rate then quoted in the spot market. The interest rates paid to the creditor country and on any balance held by the debtor country were equal and typically based on U.S. Treasury bill yields.
The Federal Reserve’s authority for foreign-exchange operations was unclear in the 1960s and 1970s. The Monetary Control Act of 1980 gave the Federal Reserve authority to invest its foreign-exchange holdings in foreign-government securities, which implied Congressional consent for the Federal Reserve’s various foreign-currency operations. On the Federal Reserve’s legal authority, see Todd (1992).
Roosa bonds were nonmarketable foreign-currency-denominated bonds issued by the U.S. Treasury.
This total excludes BIS drawings.
The U.S. Treasury had outstanding obligations of nearly $1.8 billion (Task Force Paper #10, 1990a, p. 21).
During Bretton Woods, the United States generally viewed currency intervention as the responsibility of foreign central banks. Although the U.S. monetary authorities occasionally intervened, their only obligation was to buy and sell gold.
Risk-sharing agreements ended in December 1980. Henceforth countries drawing on the swap assumed all of the risk.
Although the Board of Governors discussed intervention in terms of a portfolio-balance mechanism, traders at the Federal Reserve Bank of New York’s foreign-exchange desk only referred to intervention’s “psychological” effect on the market. The modern expectations channels were not prominent until the early 1980s. Edison (1993), Baillie, Humpage, and Osterberg (2000) and Sarno and Taylor (2001) discuss the transmission channels for sterilized intervention.
The Treasury issued foreign-currency-denominated Carter bonds to borrow funds for intervention. Carter bonds were marketable, whereas Roosa bonds were nonmarketable.
The Bank of Sweden was the last foreign central bank to draw on the line in February 1981. The Bank repaid the drawing in April 1981. The BIS drew once overnight on its line in 1982.
These Federal Reserve-Treasury swaps are typically described as the Federal Reserve’s warehousing facility, through which the Federal Reserve temporarily warehouses foreign exchange for dollars (Bordo, Humpage, and Schwartz, 2015, chapter 6).
Following the 11 September 2001 terrorists’ attacks, the Federal Reserve set up similar swap lines with the European Central Bank ($50 billion) and the Bank of England ($30 billion), and expanded its existing swap with the Bank of Canada ($10 billion). The lines expired after 30 days (Bulletin December, 2001, p. 761).
On foreign-central-bank access, see Prasad (2014, pp. 207–209).
References
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Additional information
*Michael D. Bordo is a professor of economics and director of the Center for Monetary and Financial History at Rutgers University, a National Fellow at the Hoover Institution at Stanford University, a Research Associate of the National Bureau of Economic Research, and a member of the Shadow Open Market Committee. Owen F. Humpage is a Senior Economic Advisor at the Federal Reserve Bank of Cleveland. Anna J. Schwartz who passed away in June 2012 was a Research Associate of the National Bureau of Economic Research.
An erratum to this article is available at http://dx.doi.org/10.1057/s41308-017-0034-4.
