During and after the financial crisis, the Federal Reserve acted as a lender of last resort, providing money to the financial system when no other institution could. It created a variety of facilities and programs to keep money flowing by purchasing bad assets and providing loans and guarantees.
Many details of the Fed’s actions were kept secret. According to the Fed, this was necessary to halt a panic. But because of the limited information, no one could fully dissect the precise nature and extent of the Fed’s commitments. Thanks to the Dodd-Frank Wall Street Reform and Consumer Protection Act and the Freedom of Information Act, that is changing.
Recently, three calculations of the Federal Reserve’s emergency spending have been published. Each calculation has relied on a unique methodology and offers further insights into the Fed’s actions.
One recent Bloomberg calculation put the sum of fed assistance at $7.77 trillion. Bloomberg tallied how much money was committed to specific banks even if the money was never ultimately loaned out. However, because the study focused on commitments to specific bank recipients, it excluded certain lending facilities that were not directed at banks.
Another recent study by the Government Accountability Office put the figure at $16.1 trillion. They excluded money that the Fed committed but did not ultimately loan out. This approach shows a more complete figure of the Fed’s various programs. And if you’re wondering why this figure is more than twice the size of Bloomberg’s, read on…
Now brace yourself.
A new study by James Felkerson and Nicola Matthews, PhDs student at the University of Missouri-Kansas City, under the direction of Levy Institute scholar L. Randall Wray, comes up with an even larger figure.
$29.6 trillion. That’s right.
Like the GAO’s study, Felkerson, Matthews, and Wray’s study does not count money that was not committed if it was never ultimately loaned out. And it also includes a much more comprehensive breakdown of the Fed’s facilities and programs.
The main difference between the recent studies is how recurring loans are counted. The Bloomberg study does not total the individual loans that were rolled over and over but the GAO and Felkerson, Matthews, and Wray’s studies do.
To make sense of this crazy accounting, here is an example.
If the Fed loaned a bank $1 billion each night for 100 nights, the Bloomberg study would count this as $1 billion because that was the extent to which the Fed was on the hook at any given time. The GAO and Felkerson, Matthews, and Wray’s studies, on the other hand, add up each separate loan, counting the cumulative amount at $100 billion. This explains why the GAO’s total is more than twice the size of Bloomberg’s.
The Fed has criticized using the cumulative total methodology (also known as non-term adjusted), claiming it exaggerates the amount of risk undertaken by the Fed at any given time. According to the Fed’s own methodology, the largest amount that it loaned out at any one time was $1.5 trillion, which occurred in December 2008. The Fed argues that because the loans were repeatedly paid back with interest, it was never really subject to such large losses. That may be true. But the cumulative total methodology shows something even more important: the unprecedented and extended nature of the Fed’s intervention to keep the banking system from utter collapse. Many of its “emergency” programs lasted for years and allowed for loans to be rolled over and over—and over again.
Wray likens the Fed’s actions to a bartender who is serving rounds of shots to 6 bar patrons. According to the Fed’s analysis, as long as each round is paid for, it doesn’t matter how many rounds of shots are poured because the bartender is only liable for six shots at any given time. That is true. But the drunk patrons who keep requesting more rounds tell a different story. After five rounds, they haven’t just consumed six shots, they’ve consumed thirty.
And in the Fed’s case, keeping the shot glasses full totaled $29.6 trillion.
The Fed’s actions created chronically dependent financial institutions. Many even took advantage of the cheap funding sources that the Fed provided. This was clearly not the purpose of the emergency facilities and programs.
With each study, we understand a little better the extraordinary measures that the Federal Reserve undertook to respond to the financial crisis. We have a ways to go before all of the relevant information is presented, but for now $29.6 trillion is really…just too many zeros to type.