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October 28, 2008

The Commercial Paper Market and the Fed’s Commercial Paper Funding Facility: Part 1 of a 2-part Series

The current financial crisis is a good reminder of how interconnected our financial system really is. The financial tsunami has engulfed seemingly unconnected and obscure corners of the credit market, making them front of mind for a general public that had probably never heard of them before (think SIVs, auction rate securities, monoline insurers, credit default swaps, variable rate demand notes, commercial paper, etc).

Recently, we have heard a lot [here, here, and here] about the issues in the very important but relatively unglamorous commercial paper market. Commercial paper (CP) is a short-term debt instrument issued by large banks and corporations with a maturity of one to 270 days.

Traditionally, companies use CP to finance day-to-day operations, borrowing cash they need to meet payroll or buy materials. Borrowing short-term money gives a company more flexibility to meet short-term needs, and is usually cheaper than issuing long-term debt. Companies can, and often do, roll over their CP as it matures, which effectively turns short-term debt into long-term debt, but at short-term interest rates.

In the past few years the commercial-paper market has grown dramatically, increasing by about 56 percent from 2005 until its peak in August 2007. Much of this growth has been in asset-backed commercial paper (ABCP), which jumped 76 percent over the same period. [Here is the Board’s most recent CP report.] In contrast to unsecured CP, which is backed by the name and assets of an entire company, ABCP is backed by a pool of specific assets, such as credit card debt, car loans, and/or mortgages.

Commercial Paper Outstanding

CP generally carries low risk because of its short duration. With unsecured CP, the primary risk is some negative event that threatens the viability of an issuing company's business. But for ABCP, the primary risk is a shock to the value of the underlying asset—such as higher-than-expected mortgage defaults, and an uncertain trajectory for defaults in the future. Recently, both unsecured (especially financial firms) and asset-backed (especially mortgage-backed) CP markets have come under considerable stress.

Money market funds are significant buyers of CP because it typically offers a slightly higher yield than, say, short-term Treasury securities. Money market mutual funds and other institutional investors purchase about 60 percent of commercial paper in the market, according to mutual-fund tracking firm Crane Data.

Following the failure of a number of financial institutions and increased uncertainty about the quality of assets underlying some of the asset-backed paper, the problems in the CP market intensified in September. On the one hand, the demand from money market funds declined as they were faced with a rise in redemptions. This development contributed to a sharp decline in CP outstanding (see chart above). At the same time, investors began demanding higher interest rates in order to buy CP, which contributed to a widening of their spreads relative to the risk-free Treasury rate in September (see chart below).

Commercial Paper Outstanding

Furthermore, there was a significant shortening in the maturity of new CP issued with only the most trusted programs able to issue out as far as six months at favorable rates, resulting in many firms needing to roll over their paper every day (see chart below).

Commercial Paper Outstanding

In response to the deteriorating conditions, the Fed created the Commercial Paper Funding Facility (CPFF) in early October, which went operational yesterday (10/27). According to the Board of Governors, the new facility “is intended to improve liquidity in short-term funding markets and thereby increase the availability of credit for businesses and households.” The Board also said that “By eliminating much of the risk that eligible issuers will not be able to repay investors by rolling over their maturing commercial paper obligations, this facility should encourage investors to once again engage in term lending in the commercial paper market.”

In the CPFF, the New York Fed will lend to a Special Purpose Vehicle (SPV) which will purchase eligible highly-rated (A-1, P-1, F-1) 3-month CP and ABCP from U.S. issuers. According to the New York Fed, the rate charged on unsecured commercial paper will be the three-month overnight index swap (OIS) rate plus 100 basis points per annum, and the rate for ABCP will be three-month OIS plus 300 basis points per annum. Additionally, for unsecured commercial paper, the New York Fed said “a 100 basis points per annum unsecured credit surcharge must be paid on each trade execution date.” Looking back before September, three-month CP rates typically traded very close to three-month OIS rates. The jump in CP rates in September led them to trade much wider than the SPV spread.

Commercial Paper Outstanding

Short-term debt markets have been under considerable strain in recent weeks as money market mutual funds and other investors have had difficulty selling assets to satisfy redemption requests and meet portfolio rebalancing needs. The CPFF is intended to support the issuers of CP by providing liquidity and supporting term lending in the CP markets. On Oct. 21, the Fed announced the creation of the Money Market Investor Funding Facility, which supplements the previously announced Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, to free balance sheets at money market funds and to encourage them to resume their traditional role in securities lending and participation in other financing markets. This will be the topic of Thursday’s blog.

By Mike Hammill and Andrew Flowers in the Federal Reserve Bank of Atlanta’s Research Department.

October 28, 2008 in Capital Markets | Permalink


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Thank you for a very clear explanation of the situation. Speaking as just a plain old citizen trying to understand all that is going on this was very helpful.

Posted by: martyseattle | October 28, 2008 at 11:18 PM

You make a key point often omitted elsewhere:

"...which effectively turns short-term debt into long-term debt, but at short-term interest rates."

We are once again reminded that there is no free lunch. Since lenders would not choose to lend long term for short term rates, the borrowing was effectively from the Fed at artificially low interest rates. That is now ratified.

If such an arrangement is beneficial, we have had a highly inefficient financial system, based on pretense. If, as I suspect, it is not beneficial, we're simply getting ourselves deeper and deeper while hoping for some magical thinking (groundless confidence) to return.

I would welcome a thoughtful and realistic discussion of how the Fed extracts itself (and us) from its current position of primary lender at artificially low rates. Alternatively, the consequences of its never doing so voluntarily (meaning until that arrangement is no longer sustainable) ought to be explored.

Posted by: LAMark | October 29, 2008 at 01:03 PM

You omit the role played by the big banks in this market. Are there any issuers who don't have a liquidity backstop from a bank, if they fail to role their commercial paper issue?

Explaining this relationship is essential to understanding that the commercial paper "market" is in fact composed of undercapitalized bank liabilities.

Posted by: ccm | October 29, 2008 at 02:39 PM


The article saiid CP has traded just above OIS before September. 100/300 basis points above that to triple A companies is nothing to sneeze at then. Especially since it looks like yields have shot up due to the jitters of money market fund holders, not due to issues in the underlying companies. I'm doubting, for example, that GE will be defaulting any time soon.

Posted by: MW | October 29, 2008 at 03:35 PM

". . . companies use CP to finance day-to-day operations . . . [which] . . . gives a company more flexibility to meet short-term needs, and is usually cheaper than issuing long-term debt."

Businesses could chose to "finance" current expenses out of income rather than borrowing, yes? But then, they couldn't keep buying their shares back and their stock options above water.

Another way of looking at martyseattle's point, above, is to say we need a lot less CFO-quants taught by a bunch of business school mathematicians and econometricians.

First, we'll kill all the Professors of Finance.

Posted by: Ellen1910 | October 30, 2008 at 09:10 AM

I heard from a Republican Congressman from Michigan that GM was paying over 25% interest on their short term commercial paper for a while there!

I think Ellen misses the point. Many internal operations that the company does needs short term debt rather than utilizing cash flows. the interest you pay on the short term debt is less than the opportunity cost of using the cash flows.

It's not all about propping up stock options.

Posted by: Jeff | November 04, 2008 at 11:31 PM

Many institutions limit access to their online information. Making this information available will be an asset to all.

Posted by: Paper on Research | October 27, 2009 at 09:07 AM

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October 09, 2008

How high is financial risk today?

On a day as brutal as today, it is hard to find any port to hide from the storm. Maybe that is exactly the time for some perspective. At Businomics Blog, Bill Conerly does his best (hat tip, Mark Thoma), making a point that I have heard repeated more than a few times: Taken from the long view, many measures of risk that we take as symptomatic of extreme market stress are not entirely without historical precedent. Dr. Conerly uses this graph of the “TED spread”—the 3-month Libor rate minus the yield on 3-month Treasury bills—to drive the point home:

TED Spread

Here are a couple more graphs on the same theme: The spread between 3-month LIBOR rates and the effective funds rate (which I emphasized in an earlier post)…

3-Month Libor less Effective Funds Rate

… and the spread between yields on commercial paper and secondary-market 3-month Treasury bills.

Commercial Paper less 3-Month Treasury Yields

Comforting? Maybe not. As Conerly notes, your perceptions of the ugliness of the past month or so depends very much on what you believe to be the appropriate reference point. In the context of the period spanning the 60s and 70s the measures of risk and market stress depicted in these charts are not so impressive. However, if you believe that the world fundamentally changed in the 1980s—at the outset of the so-called “Great Moderation”—things are very dysfunctional at the moment.

For my part, I can’t help but recall the following exchange from the movie “No Country for Old Men” after two characters come across a gruesome murder scene.

Deputy Wendell: “It’s a mess, ain’t it sherriff.”

Sherriff Ed Tom Bell: “If it ain’t, it’ll do until the mess gets here.”

In other words, no matter what you compare it with the current environment is plenty challenging.

By David Altig, senior vice president and research director, Federal Reserve Bank of Atlanta

October 9, 2008 in Capital Markets, Financial System | Permalink


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Thank you for the historical perspective. However, the graphs do not appear (?) to be updated with the latest (and more disconcerting) data -

TED Spread is currently at 4.23,

LIBOR of 5.09 less effective funds rate of ~1 to 1.5 (actually less recently) is around 4 - this would be quite literally off the chart in your graph.

(The figures are from Bloomberg)...

Posted by: Murph | October 09, 2008 at 10:27 PM

Is it possible that the TED spread chart that you published is out of date? Bloomberg is currently showing the TED spread as being in excess of 4

Posted by: SalvatoreM | October 10, 2008 at 06:00 AM

The graphs do not, in fact, reflect the circumstances of the last, very dramatic, few weeks. The TED spread is just the graph from Businomics Blog, but the other ones reflect monthly averages. Hence the last observations are from September, and somewhat smoothed at that.

In case it wasn't clear, I am not much convinced by the claim that things are not that unusual just because we can find comparable spreads in many series if we go back to the 60s or 70s (which I believe was Dr. Conerly's point as well). That the latest daily spreads would look worse than what is in the charts only serves to strengthen that conviction, and makes it all the more difficult to maintain the contrary position -- if there is really anyone left who is inclined to do so.

Posted by: Dave Altig | October 10, 2008 at 08:32 AM

Been trading this crap. Unbelievable. Another measure of risk is volatility. The VIX hit a record high today. A guy that trades Eurodollar Options told me that vol was running 102% in the at the money straddle for the most liquid contract!

In 1987, I recall the TED spread springing out to unprecedented levels. It snapped back quickly. The disconnect in the TED has persisted for around a year. It floated in a little, but since last August, the spread has ben bid-and has been volatile.

This market reminds me more of a cancer-1987 was a heart attack.

The way out is to eliminate the counter party risk between banks by using a clearing house to get in between their trades. Then they don't have to worry about balance sheets-they just have to put up risk capital with the clearing house to hold the position.

Posted by: Jeff | October 10, 2008 at 04:19 PM

Fairly dramatic. However, it's worth recalling that the rate of inflation was considerably higher in the mid-to-late 1970s than it is today. So it might be interesting to adjust for that and look at the "real" TED spread.

Posted by: Donald A. Coffin | October 12, 2008 at 07:54 PM

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September 18, 2008

What’s a swap line?

This morning the Federal Open Market Committee (FOMC) authorized a $180 billion expansion of its temporary reciprocal currency arrangements (swap lines). According to the Fed’s press release, the changes allow for “increases in the existing swap lines with the ECB and the Swiss National Bank” and for “new swap facilities…with the Bank of Japan, the Bank of England, and the Bank of Canada.”

“These measures…are designed to improve the liquidity conditions in global financial markets,” the release continued.

What did the Fed do and how will this action address some of the strain in liquidity conditions that recently have emerged?

A good place to start is by looking at what, exactly, a currency swap line is. A currency swap is a transaction where two parties exchange an agreed amount of two currencies while at the same time agreeing to unwind the currency exchange at a future date.

Consider this example. Today the Fed initiated a $40 billion swap line with the Bank of England (BOE), meaning that the BOE will receive $40 billion U.S. dollars and the Fed will receive an implied £22 billion (using yesterday’s USD/GBP exchange rate of 1.8173).

Currency Swap:

Figure 1

An underlying aspect of a currency swap is that banks (and businesses) around the world have assets and liabilities not only in their home currency, but also in dollars. Thus, banks in England need funding in U.S. dollars as well as in pounds.

However, banks recently have been reluctant to lend to one another. Some observers believe this reluctance relates to uncertainty about the assets that other banks have on their balance sheets or because a bank might be uncertain about its own short-term cash needs. Whatever the cause, this reluctance in the interbank market has pushed up the premium for short-term U.S. dollar funding and has been evident in a sharp escalation in LIBOR rates.

The currency swap lines were designed to inject liquidity, which can help bring rates down. To take the British pound swap line example a step further, the BOE this morning planned to auction off $40 billion in overnight funds (cash banks can use on a very short-term basis) to private banks in England.

Figure 2

In effect, this morning’s BOE dollar auction will increase the supply of U.S. dollars in England, which would work to put downward pressure on rates banks charge each other.

Consistent with this move, the overnight LIBOR rate fell from about 5.03 percent yesterday to 3.84 percent today.

Figure 3

The bottom line is that the Fed, by exchanging dollars for foreign currency, has helped to provide liquidity to banks around the world. This effort can help to bring interbank rates back down at a time when restrictively high rates can choke off access to financing that banks and other businesses need to operate.

By Mike Hammill in the Atlanta Fed’s research department

September 18, 2008 in Capital Markets | Permalink


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What does the Fed do with 22 billion pounds?

Also, is this a good gauge of the magnitude of bad (illiquid) debt held by European banks?

Posted by: tinbox | September 18, 2008 at 08:59 PM

My question - is this swap between CBs and the notional amounts are certian or have the foreign banks pledged assets to secure the swap?

In short is the USG on the hook for items that any other central bank has exchanged cash (or Ts)?


Posted by: Barley | September 18, 2008 at 11:45 PM

Won't opening swap lines with worldwide central banks create an artificial supply of dollars and as a result cause a short term devaluation of the dollar w.r.t the pound. Also would the reduction of the LIBOR cause a subsequent reduction in the risk premium charged to financial institutions?

Posted by: Akhil | September 24, 2008 at 05:06 AM

Interesting. While not harming your story, it might be of interest that the LIBOR systematically understates the borrowing costs, since banks have chosen to report too low interest rates (the LIBOR is survey-driven). Apparently, banks want to hide the true amount of stress in the system, even though it costs them, since they collect LIBOR + premium from their debtors.

Posted by: Dirk | September 27, 2008 at 06:49 AM

When I saw this morning that the Fed was more than doubling it's foreign swap lines to a total of $620, I figured I really need to understand these. A few questions:

1) Have they agreed to unswap at some future date at a set price, such that other central banks are taking on the currency risk of holding dollars?

2) Does this directly increase the money supply, and is it inflationary and/or a debasing of the dollar?

3) How is this functionally different from the Fed running the printing press, using that "new money" to buy pounds in the open currency market, and letting the British banks borrow in pounds from the BOE?


Posted by: lilnev | September 29, 2008 at 04:11 PM

Is the currency swap a "derivative"...I think the answer is yes.

Does this "Derivative" show up on the Fed's Balance Sheet ?

Wouldn't the risk to the USA be a precipitous drop in the value of the USD. If under the SWAP agreements, we need to return EUROs and the dollar continues to drop versus the other currencies, then wouldn't the number of Euros that we need to return increase as well ? I would assume that this would be inflationary...but would be interested in your comments....

Posted by: Dave Spurr | September 29, 2008 at 07:01 PM

Hello Mike,

Like Lilnev, I would be grateful to hear more detail about how these swaps work. In particular:

How is the unwind of the swap priced?

What is the Fed doing with the foreign currency it is receiving?

I presume that any lending by the foreign central banks is offset against the FRBNY lending, right?

I would be happy to be referred to a public document if one is available with such information. Thanks.

Posted by: RebelEconomist | September 30, 2008 at 01:11 PM

yesterday I spoke by telephone with one of the central banks undertaking swaps with the Fed. I was referred to the media dept where no one understood the mechanism of the swaps but I did have my call later returned by someone in the dealingroom who explained a little.

The USD side appears as a credit on the foreign CBs account with the Fed in NY while a corresponding foreign currency credit appears on the Fed's ledger. As the end of the agreed term the two credits are simultaneously extinguished. There is no foreign exchange rate movement risk nor interest paid by either party.

Therefore this doesn't sound like a derivative as none of the values derive from the price of anything else.

With the USD received by the foreign CB, these are used to repo local currency securities to provide the foreign market with USD liquidity largely for trade, letters of credit etc. The dealer advised there was a shortage of USD in his local marketplace because of the credit freeze.

It was only after the call I realized I'd forgotten the obvious question - that which appears at the very top of the comments - what does the Fed do with the foreign currency credit?

anyone know????

Posted by: blindedbytheslosh | September 30, 2008 at 07:22 PM

I have a professor that works for the Fed. I will ask him what the Fed does with the foreign currency tomorrow. This assumes he will answer me because he tends to avoid some questions because it is not in the interest of the Fed.

Posted by: bryan dennie | September 30, 2008 at 11:53 PM

My question is very similar to lilnev - is the Fed now running a printing press and if so - how is this sustainable within a serious dollar depreciation?

Thanks, Carmen

Posted by: macro carmen | October 01, 2008 at 07:39 PM

We are paying interest.

From the Bank of Japan:

Interest rates shall be determined by one of the following methods.

(a) Interest rates on the loans shall be determined by multiple-rate competitive auctions. The rate shall not fall below the rate set by the Federal Reserve Bank of New York (FRBNY) as a prevailing USD Overnight Indexed Swap market rate that corresponds to the duration of the loan.

(b) Interest rates on the loans shall be set by the Federal Reserve Bank of New York taking account of a prevailing USD Overnight Indexed Swap market rate that corresponds to the duration of the loan.

(2) Collection of Interest

The interest on a loan shall be calculated based on the rate determined by the method described in (1) for the number of days from the first day after the disbursement of the loan up to the maturity date, and the interest shall be collected after the loan reaches maturity.

Posted by: check your facts | October 16, 2008 at 02:27 PM

One more question, mainly dealing with Balance of Payments methodology.
If the Fed engages in a foreign currency swap with the BoE and has now received pounds, these should be part of the foreign currency assets of the Federal Reserve System. If these are liquid enough, they should be reflected in the international reserves of the USA. I do not think they are reflected there. Why not?

Posted by: Justin | October 27, 2008 at 08:50 PM

Lot's of good questions but not many convincing answers. How come organisations like the Fed cannot provide clear statements and outlines of the tools they so confidently exercise control over?

Please take a look at this link that seems to contradict what has been said here. According to this source, swap lines are in fact meant to be repaid and are severely affected by changes in currency valuations.

I am very suspicious of the comment made in this forum that swap lines can somehow simultaneously extinguish - sounds like utter nonsense to me. How can any good come of something that can just evaporate? And who would base an investment decision on something that they already know will not last and does not really exist.

Wake up - they exist - they have significant risk - and perhaps that is the real intention in the long run. Perhaps some parties at the Fed would like a private pool of foreign currency in case the USD tanks and again the US tax payer would be left worrying about the fall-out of not repaying the reciprocal party on the other end of the swap line .....

Just conjecture :)

Posted by: Toshiba | October 28, 2008 at 08:58 PM

What about swap lines with the countries that have only partially convertible currencies? Some of these countries have choked dollar inflows fearing money supply expansion in their home territory. I would assume that swap lines in most of these countries would impact money supply, particularly reserve money? Could someone answer this one ?

Posted by: c.shivkumar | October 31, 2008 at 04:29 AM

Wow, too complicated for me :)

Posted by: Roy Ewing | April 28, 2009 at 04:31 AM

>How much is to the treasury this swap?

Posted by: marco | January 01, 2010 at 08:38 PM

What is the Fed doing with the foreign currency it is receiving?

Posted by: Currency Rates | April 24, 2010 at 06:14 AM

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September 16, 2008

The left and right of it all

What a wild day it was on Monday in U.S. and global financial markets. We heard it quipped that the problem with financial institution balance sheets is that “on the left hand side nothing is right and on the right hand side nothing is left.” This is clearly an exaggeration, but it does raise the question: What do people look at when gauging the rightness or leftness of balance sheets?

A lot of the discussion about asset quality has focused on mortgage backed securities (MBS). The size of the MBS market has experienced phenomenal growth over the last decade or so—MBS issuance grew from around $500 billion in 1997 to over $2 trillion in 2007. As the name suggests, an MBS is a bond that is backed by the collateral of mortgages—either by mortgages guaranteed by Freddie Mac or similar institutions or other pools of mortgages. The MBS, or pieces of it, are then sold to investors, with the principal and interest payments on the individual mortgages used to pay investors.

Underlying the performance of MBS is the performance of mortgages themselves. Mortgage delinquency has been rising for some time, and especially for subprime mortgages.

Figure 2

At the same time, the value of the mortgages, as indicated by home prices have been falling.

Figure 2

One of the features of the U.S. financial system is that the debt of financial institutions tends to be weighted toward long-term obligations while the financing has been predominately from short-term borrowing. As the performance of the assets has deteriorated the need for liquidity has risen sharply.

The demand for cash was especially acute on Monday, as can be seen in the large intra-day variability in the federal funds market. Federal funds are the reserve balances of depository institutions held at the Federal Reserve. At times on Monday the federal funds rate traded well above the target of 2 percent before the New York desk intervened with an additional $50 billion injection of reserves. This Bloomberg news story describes Monday’s large movements in the federal funds market.

Figure 2

The demand for liquidity at 1 and 3 month horizons also surged, as indicated by the dollar LIBOR spread over OIS at 1 and 3 month horizons. LIBOR (the London Inter-Bank Offered Rate) is the interest rate at which banks in London are prepared to lend unsecured funds to first-class banks. As such it is a guide world-wide for the rate banks use to lend to each other. In the U.S., it is usually not far off from the fed funds rate. But after the emergence of the financial turmoil last fall the LIBOR has risen relative to the fed funds rate. The OIS (Overnight Index Swap) rate is a measure of the expected overnight fed funds rate for a specified term (1 or 3 months, for example). The LIBOR/OIS spread can be used as measure of the amount of liquidity or stress in short-term unsecured cash markets.

Figure 2

LIBOR spreads edged higher last week amid uncertainty about financial firms, and both spreads jumped higher on Monday and Tuesday, with both at or close to new highs.

Tuesday is another day, but some things will remain the same, including the focus of attention on the left and right of financial institution balance sheets, and the debate about the appropriate role of government in all this.

By John Robertson and Mike Hammill in the Atlanta Fed’s research department

September 16, 2008 in Capital Markets, Interest Rates | Permalink


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I think Geithner is doing a great job under impossible circumstances.

The only failure of the Federal Reserve here is in public relations.

The financial press (save the Financial Times) and the blogosphere are absolutely clueless as to why the Federal Reserve is proceeding as it is.

The level of ignorance in the American public about what the Fed does is terrifying. The "conspiracy theorists" are absolutely out of control and dominating the discussion.

This web site is a good beginning. I would like to see ALL Federal Reserve branches have such a blog and this would help. Kansas City should definitely be next in line; Sellon, Hakkio and Hoenig are true stars, as was the great Wayne Angell.

Matt Dubuque

Posted by: Matt Dubuque | September 16, 2008 at 08:42 PM

Matt - I wholeheartedly agree and third your motion. In fact so much so that I've been posting on my own blog numerous times trying to throw some starfish back in the sea. Apparently good conspiracy theories are too much fun no matter what the facts are; e.g. the willful distortion of CPI, the whole GDP deflator tempest, etc. If you've any interest there's a whole archive of my views on Fed policy and another on the credit contagions, for what the views of an amateur are worth.

Posted by: dblwyo | September 17, 2008 at 10:37 AM

Nice post guys. Glad to see some discussion on the underlying problems facing financials and the economy. There are bad assets hiding on banks' books. And now banks are hoarding cash.

Will be interesting to see how things shake out over the next couple weeks. Please keep putting up these kinds of posts. Very helpful and much appreciated.

Posted by: The Street | September 17, 2008 at 08:05 PM

I liked the content on this site. Would like to visit again.

Posted by: Shirin Jindal | September 18, 2008 at 02:59 AM

What Matt Dubuque Said, but...

"Mortgage delinquency has been rising for some time, and especially for subprime mortgages."

Uh, NO, on that "especially." The Fed knows better, and so do you. The "especially" at this point is the PRIME mortgages.

Posted by: Ken Houghton | September 23, 2008 at 07:15 PM

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July 17, 2007

US Assets: Still Looking Tasty

It appears that the appetite for dollar-denominated assets is not sated quite yet.  From Bloomberg:

International buying of U.S. financial assets unexpectedly climbed to a record in May as investors snapped up American stocks and corporate bonds.

Total holdings of equities, notes and bonds climbed a net $126.1 billion, from $80.3 billion the previous month, the Treasury said today in Washington...

Brad Setser does his usual fine job with the details: 

Demand for US equities and corporate bonds was particularly strong, which does suggest the persistence of private demand for US assets abroad.  Private investors tend to buy corporate bonds and equities; central banks tend to buy Treasuries and Agencies -- though that is changing.

What causes me trouble is the split between private and official purchases, and specifically the absence of any official inflows in the May TIC data.

In case you need visual confirmation:





Brad isn't buying it:

I have a hard time believing that. May was a record month for official reserve growth. China, Russia and Brazil all added to their reserves like crazy.   Those three together combined to add close to $100b to their reserves – and a host of other countries were adding to their reserves too. That money has to go somewhere...

... the Fed’s custodial data doesn’t show a comparable fall off in official demand in May (June is another story).   

The Treasury helpfully explains why the custodial data may differ from its own data:

    1. Differences in coverage: The most important reason for differences between holdings reported in the TIC and the FRBNY custody accounts is a difference in coverage. First, not all foreign official holdings of Treasury securities as reported by the TIC system are held at FRBNY. In particular, Treasury securities held by private custodians on the behalf of foreign official institutions are included in the TIC but not in the FRBNY figures. In this sense, the coverage of the TIC system is broader than that of the FRBNY custody holdings. Second, the custody holdings at FRBNY include securities held for some international organizations as well as for foreign official institutions. In this sense, the coverage of the FRBNY custody holdings is broader than the foreign official designation in the TIC system.

That description suggests advantage Treasury to me, but Brad offers other reasons for distrusting the official (that is, government) flows reported in the TIC data, and sticks to his guns on the belief that central bank diversification continues on.  I won't -- can't really -- argue.  But at the very least the latest report does little to vanquish the sense that global asset demand retains a strong attraction to the USA.

July 17, 2007 in Capital Markets, Trade | Permalink


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Congratulations David. I heard about your wonderful job as research director at the Atlanta FRB. I hope you will be able to continue to share your insights with us. Welcome down here to Atlanta.

Posted by: me | July 17, 2007 at 09:37 PM

Congrats. Hope you continue to blog. If not; thanks for the balanced insights.

Posted by: dd | July 17, 2007 at 09:57 PM

congrats Professor Altig. Stay away from the biscuits and gravy!

Posted by: jeff | July 17, 2007 at 11:17 PM

Dr. Altig -- I am behind the times, so I didn't realize congrats were in order until reading the comments. let me join the chorus.

With respect to the differences between the TIC data (the treasury also does the survey, so there are really two treasury data sources)and the FRBNY data, i would note the fourth reason for the discrepancy noted on the treasury web page:

"A fourth source of discrepancy arises because the TIC system of monthly net purchases or sales of long-term securities is specifically designed to capture only U.S. cross-border transactions. If a foreign official institution acquires a Treasury security from a private foreign entity on a foreign securities exchange and then has the security held in custody at FRBNY, reported custody holdings will increase. However, there will not be a corresponding TIC-reported foreign official purchase because this is not a U.S. cross-border transaction: it is a foreign-to-foreign transaction."

given that the survey data has consistently revised the TIC data on foreign purchases up -- and given that official reserve growth easily exceeded $100b in may, i would have to give the advantage to FRBNY here. Note that in the tic data showing foreign holdings of treasuries, there is a very consistent pattern -- the series is revised, and chinese holdings of treasuries go up (russian and chinese holdings of agencies also go up, but it isn't as visible) and the UK's holdings go down.

the uk's holdings then build up (in the tIC data) over the course of the year and then get revised down after the survey ...

that seems to me to be a pattern very consistent with 4) in the treasury explanation.

incidentally, i suspect foreign demand for US corp bonds -- a category that includes "private" mbs -- fell dramatically in june, which is why the $'s may rally didn't last.

Posted by: bsetser | July 18, 2007 at 12:00 AM

I wanted to also say congratulations. I read about the promotion yesterday and I do also hope you continue to blog.

Posted by: Nathan | July 18, 2007 at 11:58 AM

are not the foriegners considered dumb money?

Posted by: dh | July 21, 2007 at 03:47 PM

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