Federal Reserve as Lender of Last Resort In Pictures September 26, 2008

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Norma Stafford
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1 Northern Trust Global Economic Research 5 South LaSalle Chicago, Illinois 663 northerntrust.com Asha G. Bangalore agb3@ntrs.com Federal Reserve as Lender of Last Resort In Pictures September 26, 28 The central bank is the lender of last resort Well, we have watched the Fed in this role for the past thirteen months. A more dramatic illustration of this role is visible in charts 1-4. Chart 1 shows a 33% jump in the balance sheet of the bank in a matter of four weeks. The Fed is using all resources at its disposable to ease the credit crunch and calm financial markets. Chart 1 All Fed Res Banks: Total Assets EOP, Mil.$ Discount window borrowing (also known as primary credit to banks) increased $2.4 billion between September 3, 28 and September 24, 28 (see chart 2). Chart 2 Reserve Bank Credit: Primary Credit to Depository Institutions EOP, Mil.$

2 Funding through the Primary Dealer Credit Facility was up sharply during the past two weeks amounting to $15 billion (see chart 3). Chart 3 Reserve Bank Credit: Primary Dealer Credit Facility EOP, Mil.$ JAN FEB MAR APR MAY JUL JUN 8 AUG SEP OCT NOV DEC [Note about Primary Dealer Credit Facility (PDCF) The Federal Reserve Primary Dealer Credit Facility is an overnight lending facility that provides funding to primary dealers in exchange for a specified range of eligible collateral. It was approved by the Board of Governors on March 16, 28, and began operations on March 17, 28. Primary dealers may secure loans under the PDCF with all collateral eligible for pledge in open market operations, plus investment grade corporate securities, municipal securities, mortgage-backed securities, and asset-backed securities. No non-priced collateral will be eligible for pledge under the PDCF. The interest rate charged on such credit will be the same as the primary credit rate, or discount rate, at the Federal Reserve Bank of New York. Only primary dealers of the Federal Reserve Bank of New York are eligible to participate in the PDCF via their clearing banks. Credit extended by the Federal Reserve Bank of New York to U.S. and London-based broker-dealer subsidiaries of Goldman Sachs, Morgan Stanley, and Merrill Lynch authorized by the Board of Governors on September 21, 28 are included in "Primary dealer and other broker-dealer credit." Source: Haver Analytics ] An alternative method to see the impact of Fed action is excess reserves in the banking system as shown in chart 4. 2

3 Chart 4 Adjusted Excess Reserves of Depository Institutions NSA, Mil.$ JAN FEB MAR APR MAY JUN 8 JUL AUG SEP OCT NOV DEC Revisions of Q2 Real GDP The downward revision of real GDP in the second quarter to 2.8% from 3.3% was a surprisingly large one for a final estimate. The 1.2% increase in consumer spending in the second quarter reflects a sharp downward revision from the preliminary estimate of 1.7%. The largest correction was in services (+.7% vs. +1.3% in the preliminary estimate). As shown in chart 5, outlays on consumer services are a relatively stable component of consumer spending, hovering around a 2.% clip, with weakness visible in recessions. The.7% increase in the second quarter is troubling. Chart 5 Real Personal Consumption Expenditures: Services SAAR, %Chg Source: Bureau of Economic Analysis /Haver Analytics 3

4 Capital spending is now estimated to have dropped 5.% in the second quarter vs. the earlier estimate of 3.2%. The latest durable goods report suggests a sharper drop in the third quarter. Exports were also revised down, but they show strong growth. As mentioned in our other commentaries, economic data from abroad points to the possibility of a deceleration in growth of exports in the quarters ahead. Corporate profits fell 8.32% on a year-to-year basis in the second quarter. This reading is weaker than the prior estimate which showed a 6.98% decline. Chart 6 Corporate Profits with IVA and CCAdj % Change - Year to Year SAAR, Bil.$ Source: Bureau of Economic Analysis /Haver Analytics 4

5 Real Gross Domestic Product 28:Q2 Final Estimate (2 chained dollars) 8:1 8:2 8:2 8:2 Percent Change (SAAR) from prior quarter Final Advance Preliinary Final 8:1 Fin 8:2 Adv. 8:2 Pre. 8:2 Final GDP CONSUMPTION DURABLE GOODS NONDURABLE GOODS SERVICES INVESTMENT FIXED INVESTMENT NONRESIDENTIAL STRUCTURES EQUIPM. & SOFTWARE RESIDENTIAL CHG. BUS. INVENT NET EXPORTS EXPORTS IMPORTS GOVERNMENT (C & I) FEDERAL DEFENSE OTHER STATE AND LOCAL DISP. PERS. INC FINAL SALES GROSS DOMESTIC PURCHASES PRICE DEFLATORS: GDP CHAIN TYPE GDP EX. FOOD & ENERGY PCE CHAIN TYPE PCE EX. FOOD & ENERGY James Pressler South Africa: Our Expectations of the New Government During a hectic week in global financial markets it was easy to overlook the news of South African President Thabo Mbeki s abrupt resignation on Sunday. Since then, parliament has elected Kgaleme Motlanthe as interim president until general elections in April 29, when ANC party leader Jacob Zuma is expected to run for office. Given this situation, it may seem that President Motlanthe is little more than a caretaker for the next seven months. However, for the country to retain the stability and rising growth rates it has achieved since the fall of apartheid, something more than a lame duck is required. In our humble opinion, here is what is necessary. 5

6 President Motlanthe has already taken a wise first step in renominating mostly the same cabinet Mbeki left behind only one portfolio changed hands. In the near-term, continuity of policy is critical in reassuring investors and keeping foreign funds in Johannesburg. However, the ANC is becoming polarized into two camps the conservative, business-friendly Mbeki loyalists and the backers of heir-apparent Zuma, whose sympathies lean toward the trade unions. It would be in both the party s and the country s best interests if Motlanthe made some concessions to the Zuma camp with a few deputy minister posts just enough to keep the infighting from become too divisive. On that note, maintaining some sense of party unity should be the new president s primary nonexecutive responsibility. The ANC is facing internal conflict the likes of which has not been witnessed since it was established as a resistance movement. If one of these factions was to break away, the political dramas that ensued would come at the expense of making policy and furthering the country s progress. The battle between Zuma and Mbeki over the past year took a toll on the party s ability to push forward its reform agenda. With all that is happening in the global markets these days, an administration distracted by infighting would not be viewed kindly by investors. Lastly, Motlanthe needs to remind foreign investors on a continuing basis of the economy s resiliency. His reappointment of well-respected Finance Minister Trevor Manuel assured the markets, but with growth slowing and inflation at a record-high 13.6%, more needs to be done. A major fiscal stimulus package would be too much to ask for right now. However, he has a few months to press for party unity during this time of uncertainty, and hopefully cobble together some form of fiscal insurance against a prolonged economic slump. It would raise his status above caretaker president, and it might just hold the party together until the April 29 elections. 6

Decline in Economic Activity Larger Than Advance GDP Estimate February 27, 2009

Northern Trust Global Economic Research 5 South LaSalle Chicago, Illinois 663 northerntrust.com Asha G. Bangalore agb3@ntrs.com Decline in Economic Activity Larger Than Advance GDP Estimate February 27,