This story is months old, but received some attention in the last week. In March, the Fed released the details of its lending during the financial crisis, under court order. Whether it took Bloomberg 9 months to process the information, or the timing just seemed right, Bloomberg had a story this week (I think; there is no date on the post) on the details. Further, Eliot Spitzer (how could we forget him?) and Jon Stewart picked up on it.
It has of course been well-known for a long time that the Fed lent to financial institutions, particularly large ones, in a massive and unprecedented fashion during the financial crisis. This is the first instance I know of the release of information about the details of the Fed's lending operations - who received the loans, how much, and at what interest rates. Typically we know the total quantities of discount window lending through the Fed's primary and secondary facilities, which appears in the Fed's reported balance sheet numbers, but little else.
It would be useful at this point to review the Fed's key lending programs to financial institutions that were active during the crisis. In the chart, I show the Fed's lending through the Term Auction Facility (TAF), the Term Asset-Backed Loans Facility (TALF), primary credit (regular discount window lending), and the specific AIG lending program (which gets its own line on the Fed's balance sheet).
As you can see in the chart, total lending by the Fed gets up to at most $600 billion - nowhere close to the $7 trillion that got gasps from Jon Stewart's studio audience, but nevertheless some serious pocket change, considering that the size of the Fed's balance sheet pre-crisis was about $900 billion. The interesting thing here is that, early in the crisis, lending to AIG and through the primary credit facility totaled less than $200 billion at most, with the majority of the lending conducted through the TAF. Thus, most of the discount window lending during the crisis occurred by way of auctions rather than through conventional lending. Note that some of the media stories focused on the fact that some of the loans went out at 0.01%, when the discount rate (the rate on the primary facility) was 0.5% at its lowest. These 0.01% loans had to occur through TAF.
The Bloomberg story makes a calculation that the Fed gave away $13 billion to various financial institutions, but if most of the funds were auctioned off, this can't be right. But how could a financial institution win an auction at 0.01% when the funds could be held as overnight reserves and earn 0.25%? The usual answer for this is "stigma," which actually seemed to be a concern of the Fed during the crisis. The Fed wanted to inject more liquidity into the financial system, and sometimes seemed to think that financial institutions were unwilling to take this as loans from the Fed. Why? There is empirical evidence and theory (in this paper by Huberto Ennis and John Weinberg) that banks are reluctant to borrow from the Fed because this might signal that they are in trouble.
But why would banks face stigma if the Fed keeps the details of its lending programs secret? Apparently there are ways to figure these things out, at least for large institutions. For example, a large quantity of lending in the Richmond Fed district is likely going to Bank of America. So if financial market participants can figure these things out anyway, why should the Fed keep its lending a secret? Why indeed?
Central bank lending is typically rationalized by appealing to the lender-of-last-resort role of a central bank. The conventional view is that there is some temporary market failure that makes the assets of some financial intermediaries temporarily illiquid, or there is an inherent vulnerability of illiquid banks to panics. Thus, it might seem useful for the central bank to lend to financial intermediaries during a crisis. The central bank takes the "illiquid" assets as collateral on its loans, potentially giving the collateral a haircut commensurate with its "true" market value. Central banks are supposedly wary of lending to banks which are actually insolvent rather than just illiquid. It is certainly not economically efficient to prolong the life of a bank that will fail anyway.
But run your mouse over the chart in this Bloomberg post. The three largest borrowers from the Fed during the crisis were Citigroup, the Bank of America, and the Royal Bank of Scotland. It seems widely recognized that the first two were essentially insolvent during the financial crisis, if not now, and the last one essentially failed during the crisis. Lending to these banks certainly does not appear to have been simple liquidity-easing.
I think one could make a case that the details of all of the Fed's activities, including its lending, should be made public, at the time these activities take place. Surely, there is stigma in borrowing from the Fed only if the Fed lends to banks that are essentially insolvent. If the Fed sticks to its appropriate lender-of-last-resort role, then it is only correcting short-term liquidity problems. Indeed, if the Fed is doing its job, then a Fed loan should be a certificate of viability.
In any case, we need more serious research on central bank lending, when it is appropriate and when it is not, what is appropriate collateral for a central bank loan, what are appropriate collateral haircuts, what is the role of central bank lending relative to conventional and unconventional open market operations, etc.