NY Fed finds relatively benign factors drive recent discount window borrowing rise

NY Fed finds relatively benign factors drive recent discount window borrowing rise

By Michael S. Derby

NEW YORK (Reuters) – A recent uptick in borrowing at a central bank facility that has historically provided emergency credit is likely tied to small bank liquidity management, a report from the Federal Reserve Bank of New York said Tuesday.

The Fed research was taking stock of a recent rise in borrowing at the central banks Discount Window, which had left many analysts scratching their heads.

The facility has long been the institutions safety valve for deposit-taking banks that need quick liquidity. For most of its history discount window usage has been seen as a sign of trouble and banks have shunned it, but the Fed has over recent years tried to erase the stigma factor, to uncertain impact.

Over recent months, borrowing at the discount window has ticked higher, rising from very small levels at the start of 2022 to a peak of around $10 billion in late November. Usage stood at just under $4 billion on Jan. 11, according to Fed data.

All of these recent levels have been a shadow of the borrowing seen during recent crisis points, but theyve been higher than what was seen during the last time of relative economic calm. The New York Fed noted that in 2019, ahead of the coronavirus pandemic, the peak of discount window borrowing that year was a mere $70 million.

The New York Fed report suggested the rise in borrowing is unlikely to be a sign of trouble. Instead, the bank said in its blog posting that the recent hop in discount window usage is likely tied to smaller banks who are seeing compressed liquidity due to the Feds work to shrink the size of its balance sheet. Also key: Fed actions aimed at bringing down the cost of discount window borrowing closer to market levels, while lending at longer durations.

“We suggest that the lower rates and longer terms available under the primary credit program, combined with declining reserve balances in the banking system, have all contributed to this trend,” the report said. “It will be interesting to see whether this recent pattern in [discount window] borrowing continues into the future or whether there is a return to the historical pattern” of tapping the discount window.

The report noted that smaller banks usually obtain some short-term credit from entities like the Federal Home Loan Banks and that remains a popular source of liquidity. But changes to make discount window borrowing happen at the same level of the federal funds rate, the central banks main monetary policy tool, have made it more attractive as a source of funding.

If some banks are seeing reduced liquidity tied to the central banks ongoing work to reduce the size of its balance sheet, it could have implications for monetary policy. Some analysts already believe the Fed will have to slow or stop the effort this year because changes in the financial system mean liquidity may run tight sooner than expected, threatening Fed control over short-term interest rates.

(Reporting by Michael S. Derby; Editing by Andrea Ricci)

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