The news that the Federal Reserve’s discount lending window (that offers reliable source of funding to banks in case of liquidity crunch) can no more be a part of their ‘Living Will’ assumptions, came as a blow to the major global banks. Sourced from persons familiar with the process, the news was reported by The Financial Times earlier this week.
On Aug 5, the U.S. regulators – the Fed and the Federal Deposit Insurance Corporation – had sent individual, confidential letters to all the 11 banks that had submitted their living wills in 2013. The letters included details regarding why their respective living wills were deemed inadequate. Along with several common flaws, the living wills contained quite a few shortcomings. (Read More: Inadequate 'Living Wills', Banks to Correct Flaws by 2015).
The shortcomings, according to the regulators, stemmed from certain unrealistic and inadequate assumptions on which the living wills were based. We believe that availability of discount lending window during a period of credit crunch was one of the assumptions.
It is important for the regulators to ensure that in case a bank faces liquidity crunch, government funds should not be involved to bail them out. Now this practically means that the banks can no more avail the advantage of the discount lending window. Consequently, their living wills cannot include the same.
However, during the submission of the living wills in 2013, the banks had not received any guidance regarding the non-availability of the discount lending window in the event of any future financial crisis.
The U.S. banks that had submitted their living wills are Bank of America Corporation (BAC), The Bank of New York Mellon Corporation (BK), Citigroup Inc. (C), The Goldman Sachs Group, Inc. (GS), JPMorgan Chase & Co. (JPM), Morgan Stanley (MS) and State Street Corporation (STT). Apart from these, the U.S. units of Barclays PLC (BCS), Credit Suisse Group AG (CS), Deutsche Bank AG (DB) and UBS AG (UBS) had also submitted their resolution plans.
During the 2008 financial crisis, several banks had taken advantage of the discount lending window. Now if the banks are not able to avail this any more in case of a future credit crunch, the program will lose its relevance.
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