Chapter 15 Borrowing from the Fed Reserve Bank in the district: Discount window loan Normally fro two

wo weeks Backed by collateral Adjustment credit, Seasonal credit, Extended credit. Different interest rates on each time higher for longer Frowns upon rate arbitrage, but there is evidence Regulation A Its a privilege not a right Development and Sale of large negotiable CDs: Early 1960s CD is a hybrid of a deposit and IOU Surplus funds held by wealthy individuals, large corporations and governments. A CD is an interest bearing receipt evidencing the deposit of funds in the specified bank for a specified time period at a specified interest rate or specified formula for calculating the contract interest rate. Domestic CDs, EuroCDs, Yankee CDs, Thrift CDs. Citicorp was the first to launch CD, slow or nonexistent growth in checkbook deposits. $100,000 USD + negotiable CD designed to compete for funds with government securities and other money market instruments Maturity: 7 days to one or two years mainly one to six months Negotiable Bearer form so that sale in secondary market is easier Instant success, grew upto $100 billion by the end of of 1960s, interest rate also surged, By 2000 time accounts totaled more than $670 billion. Bank management could control the quantity of CDs by varying yield offered Example of an 8% CD Page 454, CDs with a maturity of one year normally pay semi-annual interest

 Variable rate CDs have their interest rate set after designated time period, based on LIBOR Net result of buying a CD, benefit to the bank: no reserve requirement, stable funds, however interest rate sensitivity is present. Correlation between changes in business loan demand and negotiable CDs. Eurocurrency Deposit Market: A time deposit made in a bank located in a country whose currency is different from that of the currency in which the deposit is denominated 1950s western Europe, developed originally to provide liquid funds that could be swapped among multinational banks or loaned to the banks largest customers. Time deposits, they are not spendable like currency Banks accepting these deposits may be foreign banks, branches of US Banks overseas or IBFs Heart of the market is in London, largest unregulated finacial marketplace A domestic bank can tap the Euromarket for funds .. In case lends to its home office its recorded as liabilities to foreign branches When a US Bank borrows through an overseas bank , correspondent banking system is involved. Table 15.5, 15.7 Most Eurodollar deposits are fixed rate time deposists, however FRCDs and FRNs also available Majority of Eurodollar deposits mature within six months, however some are overnight Most are interbank liabilities whose interest yield is tied closely to LIBOR Tranche CDs , versus tap CDs Evidence supporting arbitrage Commercial Paper Market Short term notes, ranging from three to four days to nine months, issued by well known companies to raise working capital Notes sold at a discount

 Commercial banks cannot issue commercial paper, their affiliates or bank holding companies can REPOS: A collateralized contract between a lender and a borrower of securities in which the securities are sold temporarily to the lender and then returned to the borrower when the agreement ends. Overnight or several months long Trend of continuing contracts Advantages: in case agreement is made with customer who keeps a checking account, no reserve requirement Interest rate is low, close to T -bill rate, because RPs are backed by high quality collateral. Inetrest cost= amount borrowed * current RP rate * number of days/ 360 Cost is low so bank can earn favorable margin Caution: not always free of default New regulations page 460 Choosing Among Alternative Nondeposit Sources: 1. How much in total should be borrowed from these sourcs to meet the banks needs? 2. Which nondeposit sources are the best, given the banks goals, at any given moment in time? Measuring a banks Total Need for Nondeposit Funds: The Funds Gap: The funds gap= Current ad projected loans and investments the bank desires to make Current and expected deposit inflows Example page 462 Factors to consider: 1. The relative costs of raising funds from each nondeposit source 2. The risk( volatility and dependability) of each funding source. 3. The length of time (maturity or term) for which funds are needed. 4. The size of the bank that requires nondeposit funds. 5. Regulations limiting the use of alternative funds sources. 1. Relative costs:

 Sample of interest rates Table 15.10, obviously would like to go for cheapest Discount rate lowest and most stable, but disadvantage is regulations. Fed funds hovers above discount rate. Spread between the two is the opportunity cost of going to the open market rather than to the Fed Reserve. Narrower the spread Fed funds rate is highly volatile, must stay frequently in touch, key advantage is ready availability through simple phone call, and flexible maturity NCDs and commercial paper incurs marketing costs , and takes more time Eurodollar deposits time lag is the disadvantage Interest costs plus noninterest cost both ust be watched out for Formula: Page 465 2. 3. 4. 5. The Risk factor The length of time funds are needed The size of the borrowing bank Regulations