Total Borrowings of Depository Institutions from the Federal Reserve
Though I've put up this chart before, I'd like to do so once again in the hope to answer one of my reader's questions and possibly explain, for those of you who don't understand, its overall significance.
The first obvious thing many of you will notice is historical precedence. Looking all the way back to the 20's, recent borrowing activity from the Fed has far surpassed anything in history.
One of my readers asked: " please explain that chart. Is "depository institutions" another name for banks? "
Answer: Depository institutions are financial institutions who obtain funds mainly through deposits from the public. This typically includes commercial banks, savings and loan associations, savings banks and credit unions. However, as of of 2008-03-20, this data also includes the primary dealer credit facility, and other credit extensions that were (also unprecedented in history) instituted by the fed to shore up the credit markets.
Another Question: "Why are they borrowing all this Money":
Answer: Because many of them are actually insolvent and need to shore up capital requirements... A bank or financial institution's capital, also known as equity, is the margin by which creditors are covered if their assets were liquidated. A measure of their financial health is its capital/asset ratio, which is required to be above a prescribed minimum...
Well, due to the mortgage crisis, falling home values, foreclosures and the like - and all the bad securitized paper that was sold to investors and held by banks/institutions - many of these financial institutions have had to come to grips with huge writedowns - writedowns that have impaired capital requirements - driving them below prescribed minimums.
Now, the only way to restore capital requirements above the minimums is to raise cash, which many times leads to borrowing. The problem is: No one is lending anymore and the Federal Reserve window has become one of the only cash spigots available!!!
Next question: "Where did the money go":
Answer: The Fed was hoping these banks/financial institutions would use this new money to generate new loan activity, but these institutions were much worse off than believed and the money was actually used to shore up balance sheets, improve capital ratios and prevent (slow down) insolvencies which could set off a cascade of dominoes -- financial implosions like Bear Stearns which HAD to be rescued - else risking financial Armageddon.
Next Question: "Are they supposed to pay that money back"
Answer: Yes, it's supposed to be paid back, but many of these institutions put up the required collateral - risking their toxic waste Commercial Paper that couldn't be offloaded elsewhere - in the event they can't pay it back (oh the poor souls!)
The "Hail Mary" hope for the Fed and all the players in this game of charades was: By temporarily providing all the necessary liquidity, confidence will be restored and the Securitization market (which is completely frozen) will somehow ease up - allowing this paper to once again sell at near par value.
As we've seen of late, with the credit contagion spreading, it has become apparent that this "Hail Mary" didn't work and the Fed is now growing worried -- worried that they too will be stuck with all this toxic garbage.
If you look at the next (weekly) chart, which narrows the span of time, yet stretches out to Aug 20, 2008, you will notice that the Fed is attempting to QUICKLY slow down the monetary Fed Window spigot. Maybe they have come to the realization their con game won't work?
Total Borrowings of Depository Institutions (Weekly)
Bottom Line: With no alternative lenders available, when the Fed finally Cuts off new credit (which they are starting to do) the game of charades is over... Therefore, I expect a cascade of financial implosion grenades to be set off quite soon...