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'Report
Board of Governors of the Federal Reserve System
This publication is available from the Board of Governors of the Federal Reserve System,
Publications Fulfillment, Mail Stop 127, Washington, DC 20551. It is also available on the
Board's web site, at www.federalreserve.gov.
Letter of Transmitted
Board of Governors of the Federal Reserve System
Washington, D.C.
June 2007
The Speaker of the House of Representatives:
Pursuant to the requirements of section 10 of the Federal Reserve Act,
I am pleased to submit the ninety-third annual report of the
Board of Governors of the Federal Reserve System.
This report covers operations of the Board during calendar year 2006.
Sincerely,
Ben Bernanke
Chairman
Overview of the Federal Reserve
As the nation's central bank, the Federal
Reserve System has numerous, varied
responsibilities:
• conducting the nation's monetary policy by influencing monetary and credit
conditions in the economy
• supervising and regulating banking institutions, to ensure the safety and
soundness of the nation's banking and
financial system and to protect the
credit rights of consumers
• maintaining the stability of the financial system and containing systemic
risk that may arise in financial markets
• providing financial services to depository institutions, the U.S. government,
and foreign official institutions
The Federal Reserve is a federal system composed of a central, governmental agency—the Board of Governors—
and twelve regional Federal Reserve
Banks. The Board of Governors, located
in Washington, D.C., is made up of
seven members appointed by the President of the United States and supported
by a staff of about 1,850. In addition
to conducting research, analysis, and
policymaking related to domestic and
international financial and economic
matters, the Board plays a major role
in the supervision and regulation of the
U.S. banking system and administers
most of the nation's laws regarding consumer credit protection. It also has broad
oversight responsibility for the nation's
payments system and the operations and
activities of the Federal Reserve Banks.
The Federal Reserve Banks, which
combine public and private elements,
are the operating arms of the central
banking system. They carry out a vari
ety of System functions, including operating a nationwide payments system;
distributing the nation's currency and
coin; under authority delegated by the
Board of Governors, supervising and
regulating bank holding companies and
state-chartered banks that are members
of the System; serving as fiscal agents
of the U.S. Treasury; and providing a
variety of financial services for the Treasury, other government agencies, and
other fiscal principals.
A major component of the Federal
Reserve System is the Federal Open
Market Committee (FOMC), which is
made up of the members of the Board of
Governors, the president of the Federal
Reserve Bank of New York, and presidents of four other Federal Reserve
Banks, who serve on a rotating basis.
The FOMC establishes monetary policy
and oversees open market operations,
the Federal Reserve's main tool for influencing overall monetary and credit
conditions. The FOMC sets the federal
funds rate, but the Board has sole authority over changes in reserve requirements and must approve any change in
the discount rate initiated by a Reserve
Bank.
Two other groups play roles in the
functioning of the Federal Reserve: depository institutions, through which
monetary policy operates, and advisory
councils, which make recommendations
to the Board and the Reserve Banks
regarding System responsibilities.
All federally chartered banks are, by
law, members of the Federal Reserve
System. State-chartered banks may become members if they meet Board
requirements.
•
Contents
Monetary Policy and Economic Developments
3 MONETARY POLICY AND THE ECONOMIC OUTLOOK
5 Monetary Policy, Financial Markets, and the Economy in 2006 and Early 2007
6 Economic Projections for 2007 and 2008
9
10
13
17
20
22
24
26
30
ECONOMIC AND FINANCIAL DEVELOPMENTS IN 2006 AND EARLY 2007
The Household Sector
The Business Sector
The Government Sector
The External Sector
The Labor Market
Prices
U.S. Financial Markets
International Developments
35 MONETARY POLICY REPORT OF JULY 2006
35 Monetary Policy and the Economic Outlook
39 Economic and Financial Developments in 2006
Federal Reserve Operations
63
63
64
73
83
84
84
88
89
BANKING SUPERVISION AND REGULATION
Scope of Responsibilities for Supervision and Regulation
Supervision for Safety and Soundness
Supervisory Policy
Supervisory Information Technology
Staff Development
Regulation of the U.S. Banking Structure
Enforcement of Other Laws and Regulations
Federal Reserve Membership
91 CONSUMER AND COMMUNITY AFFAIRS
91 Implementation of Statutes Designed to Inform and Protect Consumers
96 Supervision for Compliance with Consumer Protection and
Community Reinvestment Laws
107 Consumer Complaints
109 Advice from the Consumer Advisory Council
111 Consumer Education and Research
113 Promotion of Community Economic Development and Access to Financial Services
in Historically Underserved Markets
119 FEDERAL RESERVE BANKS
119
123
124
126
127
127
128
129
129
129
131
Developments in Federal Reserve Priced Services
Developments in Currency and Coin
Developments in Fiscal Agency and Government Depository Services
Electronic Access to Reserve Bank Services
Information Technology
Examinations of the Federal Reserve Banks
Income and Expenses
Holdings of Securities and Loans
Volume of Operations
Federal Reserve Bank Premises
Pro Forma Financial Statements for Federal Reserve Priced Services
135 THE BOARD OF GOVERNORS AND THE GOVERNMENT PERFORMANCE
AND RESULTS ACT
135 Strategic Plan, Performance Plan, and Performance Report
135 Mission
135 Goals and Objectives
139 FEDERAL LEGISLATIVE DEVELOPMENTS
139 Financial Services Regulatory Relief Act of 2006
146 Unlawful Internet Gambling Enforcement Act of 2006
147 Military Personnel Financial Services Protection Act
148 Financial Netting Improvements Act of 2006
Records
151
151
151
152
152
152
152
153
153
153
155
RECORD OF POLICY ACTIONS OF THE BOARD OF GOVERNORS
Regulation D (Reserve Requirements of Depository Institutions)
Regulation E (Electronic Fund Transfers)
Regulation H (Membership of State Banking Institutions in the
Federal Reserve System) and Regulation Y (Bank Holding Companies and
Change in Bank Control)
Regulation K (International Banking Operations)
Regulation O (Loans to Executive Officers, Directors, and Principal Shareholders of
Member Banks)
Regulation Y (Bank Holding Companies and Change in Bank Control)
Regulation BB (Community Reinvestment)
Rules Regarding Equal Opportunity
Policy Statements and Other Actions
Discount Rates in 2006
157
157
159
159
160
161
161
173
181
189
197
204
211
220
MINUTES OF FEDERAL OPEN MARKET COMMITTEE MEETINGS
Authorization for Domestic Open Market Operations
Domestic Policy Directive
Authorization for Foreign Currency Operations
Foreign Currency Directive
Procedural Instructions with Respect to Foreign Currency Operations
Meeting Held on January 31, 2006
Meeting Held on March 27-28, 2006
Meeting Held on May 10, 2006
Meeting Held on June 28-29, 2006
Meeting Held on August 8, 2006
Meeting Held on September 20, 2006
Meeting Held on October 24-25, 2006
Meeting Held on December 12, 2006
229
LITIGATION
Federal Reserve System Organization
233 BOARD OF GOVERNORS
236 FEDERAL OPEN MARKET COMMITTEE
237 ADVISORY COUNCILS TO THE BOARD OF GOVERNORS
237 Federal Advisory Council
238 Consumer Advisory Council
239 Thrift Institutions Advisory Council
240
240
241
241
242
242
FEDERAL RESERVE BANKS AND BRANCHES
Officers of the Banks and Branches
Conference of Chairmen
Conference of Presidents
Conference of First Vice Presidents
Directors of the Banks and Branches
259
MEMBERS OF THE BOARD OF GOVERNORS, 1913-2006
Statistical Tables
264
268
269
270
271
272
280
281
282
286
290
296
297
298
1. Federal Reserve Open Market Transactions, 2006
2. Federal Reserve Bank Holdings of U.S. Treasury and Federal Agency Securities,
December 31, 2004-2006
3. Federal Reserve Bank Interest Rates on Loans to Depository Institutions,
December 31, 2006
4. Reserve Requirements of Depository Institutions, December 31, 2006
5. Banking Offices and Banks Affiliated with Bank Holding Companies
in the United States, December 31, 2005 and 2006
6. Reserves of Depository Institutions, Federal Reserve Bank Credit,
and Related Items
A. Year-End 1984-2006 and Month-End 2006
B. Year-End 1918-1983
7. Principal Assets and Liabilities of Insured Commercial Banks,
by Class of Bank, June 30, 2006 and 2005
8. Initial Margin Requirements under Regulations T, U, and X
9. Statement of Condition of the Federal Reserve Banks, by Bank,
December 31, 2006 and 2005
10. Income and Expenses of the Federal Reserve Banks, by Bank, 2006
11. Income and Expenses of the Federal Reserve Banks, 1914-2006
12. Operations in Principal Departments of the Federal Reserve Banks, 2003-2006
13. Number and Annual Salaries of Officers and Employees of the Federal Reserve
Banks, December 31, 2006
14. Acquisition Costs and Net Book Value of the Premises of the Federal Reserve
Banks and Branches, December 31, 2006
Federal Reserve System Audits
301
303
321
337
338
AUDITS OF THE FEDERAL RESERVE SYSTEM
BOARD OF GOVERNORS FINANCIAL STATEMENTS
FEDERAL RESERVE BANKS COMBINED FINANCIAL STATEMENTS
OFFICE OF INSPECTOR GENERAL ACTIVITIES
GOVERNMENT ACCOUNTABILITY OFFICE REVIEWS
340 MAPS OF THE FEDERAL RESERVE SYSTEM
345
INDEX
Monetary Policy and
Economic Developments
Monetary Policy and the Economic Outlook
The U.S. economy turned in another
solid performance in 2006, although the
pattern of growth was uneven. After
rebounding in the early part of the year
from hurricane-related disruptions in the
autumn of 2005, the pace of expansion
during the remaining three quarters
averaged somewhat below that of the
preceding two years, responding in part
to the removal of monetary policy accommodation since 2004. The housing
market cooled substantially, and, in the
latter part of 2006, the production of
light motor vehicles also stepped down.
Elsewhere in the economy, activity
remained strong. Consumer spending
increased vigorously in 2006 as households' real income made strong gains.
Business investment rose at a solid rate
for the year as a whole, although it
decelerated late in the year in part because of some softening in purchases of
equipment related to construction and
motor vehicle manufacturing. Demand
for U.S. exports rose at a robust pace in
2006, supported by strong economic activity abroad. Against this backdrop,
businesses continued to add jobs at a
steady rate, and the unemployment rate
decreased further.
NOTE: The discussion here and in the next
chapter consists of the text, tables, and selected
charts from the Monetary Policy Report submitted
to the Congress on February 14, 2007, pursuant to
section 2B of the Federal Reserve Act; the complete set of charts is available on the Board's web
site, at www.federalreserve.gov/boarddocs/hh.
Other materials in this annual report related to
the conduct of monetary policy include the minutes of the 2006 meetings of the Federal Open
Market Committee (see the "Records" section)
and statistical tables 1-4 (at the back of this
report).
Total consumer price inflation declined in 2006 from its elevated pace in
2005, as energy prices fell, on net, after
rising rapidly over the preceding couple
of years. Crude oil prices rose during
the first half of 2006 but turned down
sharply later in the year. As a result,
consumer price inflation climbed in the
first half of the year before slowing in
the second half. The sharp movements
in prices of crude oil appear to have
affected not only prices of gasoline and
other petroleum-based types of energy
but also prices of a broader range of
goods and services that use petroleumbased inputs. Partly as a result, consumer price inflation excluding food and
energy—so-called core consumer price
inflation—moved up during the first half
of the year but eased subsequently. On
balance, core inflation was a bit higher
over the four quarters of 2006 than in
2005. Measures of long-term inflation
expectations, however, remained well
anchored.
The monetary policy decisions of the
Federal Open Market Committee
(FOMC) in 2006 were intended to foster
sustainable economic expansion and to
promote a return to low and stable inflation. In that regard, the economic outlook for this year and next appears
favorable. Although the contraction in
homebuilding has been a drag on
growth, that restraint seems likely to
diminish over 2007. Further gains in
real wages as well as ongoing increases
in employment should support a solid
rise in consumer spending. In addition,
at the beginning of 2007, households'
balance sheets appeared to be in good
shape. Whereas gains in home prices
slowed last year, household net worth
4
93rd Annual Report, 2006
increased moderately as stock market
wealth grew and households lessened
their accumulation of debt. Delinquency
rates on consumer loans and on most
types of mortgages remained low,
although they increased markedly for
subprime mortgages with variable interest rates. As for businesses, balance
sheets are quite liquid, credit quality is
good, and most firms enjoy ready access
to funds. These favorable financial conditions, along with further expansion in
business output, user costs of capital
equipment that remain attractive, and
the potential for further gains in efficiency, should continue to spur business
investment. In addition, sustained
expansion in foreign economies ought
to maintain demand for U.S. exports. On
balance, growth of real gross domestic
product in the United States appears
likely to run slightly below that of the
economy's potential over the next few
quarters and then to rise to a pace
around that of the economy's long-run
trend.
Regarding inflation, increases in core
consumer prices are expected to moderate, on balance, over the next two years.
Along with inflation expectations that
are well anchored, some of the factors
that boosted inflation in recent years
seem likely to lessen. In particular, the
paths for prices of energy and other
commodities embedded in futures markets suggest that the impetus to core
inflation from these influences will diminish further. In addition, the outsized
increases in shelter costs that boosted
core inflation last year are not expected
to persist. Although unit labor costs in
the nonfarm business sector have been
rising, the average markup of prices
over such costs is high by historical
standards. The relatively high markup
suggests that further increases in costs
could be absorbed, at least to some
extent, by a narrowing of firms' profit
margins rather than by passing on the
costs in the form of higher consumer
prices, especially if pressures on resources ease modestly as anticipated.
The outlook for real economic activity is uncertain. An upside risk is that
consumer spending, which has been
especially buoyant in recent months,
may continue to expand at a pace that
would ultimately lead to an escalation
of pressures on resources and prices.
Alternatively, prospects for residential
construction, which are difficult to
assess, may pose some downside risks.
Although residential real estate markets
have shown some recent signs of
stabilizing, homebuilders' inventories of
unsold homes remain elevated. Further
cutbacks in construction to reduce
inventories toward more-comfortable
levels could become steeper and more
persistent than currently anticipated.
Moreover, if home values were to
depreciate sharply, the resulting erosion
of household wealth could impose
appreciable restraint on consumer
spending.
Whether inflation will moderate
gradually as expected is also uncertain.
On the one hand, the nation's potential
to produce could increase more rapidly
than anticipated, or product and input
markets could work efficiently at higher
rates of utilization, either of which could
lead to a lower trajectory for inflation
than currently forecast. On the other
hand, expanding global demand and
threats to supply from actual and potential disruptions pose upside risks for
energy prices. In addition, brisk world
demand for non-energy materials and
commodities could lead to further
upward pressures on business costs.
Also, if inflation were to persist around
the elevated average level of the past
three years, longer-run inflation expectations could deteriorate, particularly if
pressures on resources were to intensify.
Monetary Policy and the Economic Outlook
business investment, appeared to be
growing at a solid rate. By the time of
the May and June meetings, data
pointed to a moderation in the growth of
consumer spending and a further cooling in the housing market. However,
core consumer prices had risen more
rapidly. Although the Committee judged
inflation expectations still to be contained, it was mindful that the rising
prices of energy and other commodities
could impart greater inflationary
momentum. Against this backdrop, the
FOMC voted to increase the policy rate
a further 25 basis points at both the May
and June meetings, bringing the federal
funds rate to 5lA percent. In the statement accompanying its June decision,
the FOMC indicated that it believed that
the moderation in economic activity
would help to limit inflationary pressures over time but also noted that some
upside inflation risks remained. As it
had in its May statement, the FOMC
made clear in June that the extent and
At recent meetings, the FOMC indicated
that the risk that inflation will fail to
moderate as expected is its predominant
policy concern.
Monetary Policy, Financial
Markets, and the Economy
in 2006 and Early 2007
The FOMC firmed the stance of monetary policy 25 basis points at each of its
four meetings over the first half of
2006. The Committee raised its target
for the federal funds rate at its January
and March meetings as available information pointed to accumulating pressures on inflation and solid economic
growth. Although readings on core
inflation had remained favorable,
increases in energy prices and the relatively high level of resource utilization
threatened to add to existing inflation
pressures. Meanwhile, underlying aggregate demand, supported by robust
consumer spending and accelerating
Selected Interest Rates, 2004-07
i
i
1/28
3/16
)
i
i
5/4
8/10
6/30
j
11/10
2/2
5/3
9/21
12/14
3/22
2004
i
8/9
6/30
2005
11/1
9/20
1/31
12/13
5/10
3/28
8/8
6/29
2006
10/25
1/31
9/20
12/12
2007
NOTE: The data are daily and extend through February 7, 2007. The ten-year Treasury rate is the constantmaturity yield based on the most actively traded securities. The dates on the horizontal axis are those of FOMC
meetings.
SOURCE: Department of the Treasury and the Federal Reserve.
93rd Annual Report, 2006
timing of additional finning would
depend on the evolution of the outlook
for both inflation and economic growth
as implied by incoming information.
In the second half of the year, a further slowdown in residential construction activity and a contraction in motor
vehicle production created a significant
drag on economic activity. However,
consumer spending held up, and employment rose at a solid pace. Meanwhile, energy prices reversed much of
their increases of the first half of the
year, sending headline inflation lower.
Core inflation also eased somewhat, albeit to a rate above its year-earlier level.
Against this backdrop, the FOMC left
the stance of policy unchanged at its
final four meetings of 2006. Committee
discussions in those meetings focused in
part on developments in the housing
market and their implications for the
broader economy. Although the housing
market was weakening throughout this
period, the Committee judged that the
downturn had not spilled over significantly to consumer spending. The economy was expected to expand over coming quarters at a rate close to or a little
below its long-run sustainable pace. At
the same time, FOMC members noted
that, even though core inflation had
slowed from the very rapid rates of the
spring and summer, current rates remained undesirably high. Most members expected core inflation to moderate
gradually, but they were uncertain about
the likely pace and extent of that moderation. Thus, in statements accompanying each rate announcement over this
period, the FOMC reiterated that inflation risks remained and that the extent
and timing of any additional policy firming would depend on the outlook for
both inflation and economic growth implied by incoming information.
Over the period between the December 2006 and January 2007 FOMC
meetings, incoming data on inflation and
economic activity were generally more
favorable. Core inflation receded further
from the elevated levels reached in early
2006, and some indicators suggested
that the demand for housing might be
stabilizing. Business investment had
softened in the fourth quarter, and industrial production decelerated sharply in
the fall, but consumer spending posted
robust gains in the final months of 2006.
At its January 2007 meeting, the Committee again decided to leave its target
for the federal funds rate unchanged,
reiterated concern about inflation risks,
and again cited the role of incoming
data in determining the extent and timing of any additional firming.
In recent years, the FOMC has
worked to improve the transparency of
its decisionmaking process, and the
Committee continues to examine
whether further changes would improve
its communications with the public. In
spring 2006, the Chairman appointed a
subcommittee to help the FOMC
organize the discussion of a broad range
of communication issues. The FOMC
began its consideration of these issues
at its August meeting and has discussed
them at several meetings since then.
Economic Projections
for 2007 and 2008
In conjunction with the FOMC meeting
in January, the members of the Board of
Governors and the Federal Reserve
Bank presidents, all of whom participate
in the deliberations of the FOMC, provided economic projections for 2007
and 2008. The projections indicate that
the participants expect sustainable
expansion of real economic activity during the next two years, assuming an
appropriate course for monetary policy.
The central tendency of the FOMC participants' forecasts for the increase in
Monetary Policy and the Economic Outlook
real GDP is 2V2 percent to 3 percent
over the four quarters of 2007 and
23/4 percent to 3 percent over the four
quarters of 2008. The central tendency
of their forecasts for the civilian unemployment rate is AVi percent to 43/4 percent in the fourth quarter both of this
year and of 2008. For inflation, the central tendency of the forecasts anticipates
an increase in the price index for personal consumption expenditures excluding food and energy—the so-called core
PCE price index—of 2 percent to
2V4 percent over the four quarters of
2007 and l3/4 percent to 2 percent over
the four quarters of 2008.
The economy is projected to expand
at a moderate rate. Although the cooling
of the housing market continues to damp
economic activity, the drag on economic
growth from declining construction activity is expected to diminish later this
year. Household spending for goods and
services should rise at a solid pace, in
part as a result of ongoing gains in real
wages and employment and of generally
strong household balance sheets. Business outlays for new equipment and
software are expected to increase at a
rate consistent with a moderate expansion in business output and to be supported by continuing declines in the user
cost of high-technology capital equipment and by favorable financial conditions. In addition, the solid expansion of
economic activity abroad should maintain the rising demand for U.S. exports
of goods and services.
Decreased pressures from the costs of
energy and other commodities, in an
environment of moderate economic
expansion and well-anchored longer-run
inflation expectations, are expected to
contribute to further easing in inflation.
In addition, increases in productivity
should help to limit cost pressures.
•
Economic Projections of Federal Reserve Governors and Reserve Bank Presidents
for 2007 and 2008
Percent
2008
2007
Indicator
Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP
PCE price index excluding
food and energy
Average level, fourth quarter
Civilian unemployment rate
MEMO:
2006 actual
Range
Central
tendency
Range
Central
tendency
5.9
3.4
43/4-51/2
21/4-31/4
5-5V2
2V2-3
43/4-51/2
21/2-3 lA
VA-5V*
23/4-3
2.3
2-2V4
2-2V4
VA-IVA
l 3 / 4 -2
4.5
41/2-43/4
4V6-43/4
4V2-5
41/2-43/4
1. Change from average for fourth quarter of previous
year to average for fourth quarter of year indicated.
Economic and Financial Developments
in 2006 and Early 2007
The especially brisk pace of economic
activity in early 2006 primarily reflected
a rebound after hurricane-related disruptions in the autumn of 2005. During the
rest of the year, however, economic activity slowed to a pace somewhat below
the average rate of recent years. Real
GDP is reported to have increased at an
average annual rate of 23A percent over
the final three quarters of 2006, down
from the average 3V4 percent pace in
2004 and 2005. The slowdown principally was the result of the contraction in
residential construction, which intensified later in the year, and the marked
decline in production of light motor
vehicles in the second half of the year as
manufacturers took steps to trim dealers' inventories. In other sectors of the
economy, consumer spending remained
strong as employment and income made
further solid gains, and business outlays
for new structures and equipment rose
considerably over much of the year.
Financial market conditions were generally supportive of economic expansion
in 2006. Equity markets recorded sizable gains, and long-term interest rates
rose only modestly from historically low
levels. Risk spreads on corporate bonds
remained narrow or declined further.
Overall economic conditions were such
that businesses maintained a steady pace
of hiring, and the unemployment rate
moved down further.
Consumer price inflation, as measured by the rise in the PCE price index,
moved down in the second half of 2006
after having stepped up in the first half.
Energy prices, which rose during the
first half and turned sharply downward
later in the year, played an important
role in shaping the contour of total
consumer price inflation. In addition,
core PCE price inflation eased modestly
over the second half of 2006. Appar-
Change in Real GDP, 2000-06
Change in PCE Chain-Type Price Index,
2000-06
Percent, annual rate
2000
2002
2004
—
5
—
4
• Total
I I Excluding food and energy
2006
NOTE: Here and in subsequent figures, except as
noted, change for a given period is measured to its final
quarter from the final quarter of the preceding period.
SOURCE: Department of Commerce, Bureau of Economic Analysis.
—
2000
2002
2004
2006
NOTE: The data are for personal consumption
expenditures (PCE).
SOURCE: Department of Commerce, Bureau of Economic Analysis.
10
93rd Annual Report, 2006
ently influenced by incoming data on
inflation and economic activity, measures of long-term inflation expectations rose early in the year but ended
the year slightly lower than at the beginning. Nonetheless, core PCE price inflation for the year as a whole—at
2VA percent—was a bit higher than in
the preceding year, which perhaps reflected in part the high level of resource
utilization.
The Household Sector
Consumer Spending
The rapid increase in consumer spending in 2006 was supported by rising
employment, gains in real income,
increases in household wealth, and
favorable financial conditions. Over the
four quarters of 2006, real PCE rose
33/4 percent—faster than in 2005 and at
roughly the same rate as in 2004. The
rise in consumer outlays was particularly robust in the first quarter of 2006
but then moderated in the middle of the
year, when households' gains in real
income slowed and consumer sentiment
softened. Consumer spending rose
briskly again in the fourth quarter of the
year as gains in real income picked up
and consumer confidence improved.
Change in Real Income and Consumption,
2000-06
Percent, annual rate
• Disposable personal income
| | Personal consumption
expenditures
*•
— 4
— 2
M
LJL
2000
2002
2004
2006
SOURCE: Department of Commerce, Bureau of Economic Analysis.
Household spending for new motor
vehicles slowed in 2006; sales of
16.5 million new light vehicles (cars,
sport-utility vehicles, and pickup trucks)
were below the average of nearly
17 million sold in the preceding two
years. Moreover, households' apparent
concerns about elevated gasoline prices,
particularly early in the year, shifted the
composition of light vehicle sales
toward more fuel-efficient autos and
away from light trucks and SUVs. The
shift helped boost the share of total
sales captured by foreign producers
because they tend to offer more fuelefficient vehicles.
Real PCE for goods other than motor
vehicles rose 43A percent over the four
quarters of 2006, about in line with the
brisk average pace in the preceding two
years. Households increased their
spending for a broad range of consumer
goods, though the rise was particularly
strong for electronic equipment and
other durables. Real spending on gasoline remained about constant in the first
half of the year but increased in the second half as prices fell. Consumer spending for services maintained a moderate
pace of growth; expenditures in this
category rose 23A percent in 2006, about
the same average pace as in 2004 and
2005.
In 2006, real household income was
boosted by gains in wage and salary
income and the increased purchasing
power resulting from the deceleration in
overall consumer prices. Labor income
received by households rose both because of gains in real hourly wages and
because of sustained increases in employment. However, the pickup in real
after-tax income was damped because
tax payments made by households
increased at a rate greater than that for
income. The acceleration in tax payments likely reflected, at least in part,
several factors: tax payments on larger
Economic and Financial Developments in 2006 and Early 2007
capital gains realizations, which are
excluded from income in the national
income and product accounts (NIPA);
gains in real income that moved some
households into higher tax brackets; and
possibly a further shift in the distribution of income toward high-income
households that typically face higher tax
rates. All told, real after-tax income rose
3 percent over the four quarters of 2006,
up from the negligible gain posted in
2005 but a little below the average rate
of increase in 2003 and 2004.
The rise in after-tax income in 2006
was outpaced by increases in household
spending. As a result, the personal saving rate declined further in 2006 and
averaged negative 1 percent for the year
as a whole. Households apparently were
inclined to increase their spending further above their disposable income, at
least in part, because their wealth continued to rise. The ratio of household net
worth to income, which has been trending higher since 2003, inched up further
in 2006. Although increases in the value
of homes slowed significantly, the value
of corporate equities held by households
both indirectly—such as in mutual funds
and retirement accounts—and directly
appreciated considerably.
Consumer sentiment deteriorated in
the first half of 2006, according to the
Reuters/University of Michigan Surveys
of Consumers (Reuters/Michigan). In
the spring, consumer confidence had
moved to its lowest level for the year,
probably in part because energy prices
had surged. The subsequent decline in
energy prices, along with the rise in the
stock market and reductions in the unemployment rate, boosted consumer
confidence in the second half of the
year. On net, the Reuters/Michigan index of consumer sentiment was a shade
higher at the end of 2006 than at the
beginning of the year; sentiment moved
11
up further in early 2007 to near the
upper end of its range since 2003.
Residential Investment
The deterioration of conditions in the
housing market played a significant role
in restraining the pace of economic
expansion in 2006. The demand for new
and existing homes began to weaken in
the middle of 2005, and the subsequent
decline steepened through the first half
of 2006. As a result, the inventory of
unsold new homes relative to sales rose
sharply. Apparently prompted by lower
demand and excessive inventories,
homebuilders began to cut back on the
pace of new construction near the beginning of 2006, and the decline in activity
continued throughout the year. Later in
the year, however, some indicators were
hinting that the demand for housing was
starting to stabilize.
By the middle of 2006, sales of both
new and existing homes had fallen dramatically to a pace that was about
15 percent below that of a year earlier.
Concurrently, inventories of unsold
homes relative to sales rose considerably above the level that had prevailed
during the period of robust housing demand from the late 1990s into 2005. By
the third quarter of 2006, the backlog of
unsold new homes had reached
63/4 months' supply, and the stock of
existing homes for sale had risen to
about 7 months' supply—both well
above the average of about 4Vi months'
supply of new and existing homes in
2005. By the end of 2006, however,
there were tentative signs that the demand for homes was stabilizing. The
decline in sales of new and existing
homes appeared to bottom out in the
summer, and sales were roughly constant over the later part of the year. In
the fourth quarter, builders' inventories
of unsold new homes were reported to
12
93rd Annual Report, 2006
have edged down a bit from their thirdquarter level, while the stock of existing
homes for sale remained about the same
as in the third quarter. Despite these
developments, the extent of any improvement in the inventories of unsold
homes is obscured by the failure of these
figures to account for recorded sales of
new homes that are subsequently
canceled.
The drag on new residential construction in 2006 imposed by the contraction
in home sales and the buildup of inventories was significant. Both the number
of permits issued for new single-family
homes and the number of home starts
dropped sharply. As of the fourth quarter of 2006, new single-family homes
were started at an annual rate of
1.23 million units, almost 30 percent
below the average pace in 2005; permits
were down by a similar amount. In contrast to the marked slackening in construction of new single-family homes,
the rate of starts of new multifamily
homes in 2006, at 337,000 units, was
about the same as in the preceding several years.
Housing activity, as measured by real
expenditures on residential structures in
the NIPA, trimmed lA percentage point
from the rate of real GDP growth in the
Private Housing Starts, 1993-2006
Millions of units, annual rate
1.6
S. gie-family
—
1.2
.8
Multifamily
A
1
M l
! 1 1 I 1 till
1994
1998
2002
Mil
2006
NOTE: The data are quarterly and extend through
2006:Q4.
SOURCE: Department of Commerce, Bureau of the
Census.
first half of 2006, but the drag intensified to subtract about \lA percentage
points from the annual rate of increase
in real GDP in the second half. For 2006
as a whole, the contraction in real residential investment lowered the annual
rate of growth in real GDP 3A percentage point after having added l/i percentage point, on average, to the rate from
2003 through 2005.
The rate of house-price appreciation
slowed substantially in 2006 after several years of very rapid gains. The
repeat-transactions index of home prices
published by the Office of Federal Housing Enterprise Oversight (OFHEO)
increased at an annual rate of only
1 Vi percent in the third quarter of 2006,
down substantially from average gains
of about 10 percent in 2004 and 2005.
The OFHEO index attempts to control
for the quality of existing single-family
homes sold by using prices of homes
involved in repeat transactions. The
increase in the OFHEO house-price index over the four quarters ending in the
third quarter of 2006 (a calculation that
smoothes through some of the quarterly
volatility in the data) was 6 percent, the
smallest four-quarter increase since the
late 1990s. The average price of existing
single-family homes sold, which is published by the National Association of
Realtors (NAR) and does not control for
the types of homes sold, declined about
2 percent over the four quarters of 2006,
compared with average gains of roughly
9 percent in 2004 and 2005. The outright decline in the NAR index of home
prices relative to the deceleration in the
constant-quality OFHEO home-price index suggests that the composition of
existing homes sold shifted toward
lower-priced homes.
The cost of mortgage financing
increased in the first half of 2006, but
rates decreased in the second half. The
average rate for a thirty-year fixed-rate
Economic and Financial Developments in 2006 and Early 2007
mortgage was 6V4 percent at the end of
2006, about the same as at the beginning
of the year. The average for a one-year
adjustable-rate mortgage declined also
in the second half and stood at 5J/2 percent at the end of 2006, about lA percentage point above the level at the start
of the year. According to respondents to
the Reuters/Michigan survey, relatively
low mortgage rates and the perception
that purchase prices were more favorable improved their assessment of
homebuying conditions in the second
half of 2006.
13
remained low. Household bankruptcy
filings during 2006 ran at a pace well
below the average of the preceding several years. Bankruptcies likely were
damped in 2006 by the decisions of
some households to file before the
implementation of more-stringent bankruptcy requirements in October 2005.
However, even allowing for such an
effect, the recent pace is low relative to
pre-reform norms.
The Business Sector
Fixed Investment
Household Finance
Household sector debt is estimated to
have slowed from the robust \\3A percent increase posted in 2005 to a stillvigorous 8V4 percent in 2006. The deceleration reflected a drop in the pace of
mortgage debt growth from about
14 percent in 2005 to less than 9 percent
in 2006. Despite the reduction in mortgage borrowing, home equity lending
remained active, and the gross volume
of cash-out refinancing exceeded 2005
levels. Meanwhile, consumer debt
expanded only moderately in 2006.
Although household indebtedness
increased less rapidly in 2006 than in
2005, it still outpaced the growth of
disposable personal income. In addition,
the rise in interest rates contributed to
higher debt service payments, and the
household financial obligations ratio
continued its upward trend of the past
decade to reach a record high. Evidence
to date suggests that most households
have been able to meet their debt service
obligations, although there are indications of growing strains among some
borrowers. Delinquency rates on subprime residential mortgages with variable interest rates have increased markedly; still, delinquency rates on other
mortgages and consumer loans have
Total real business fixed investment rose
63/4 percent over the four quarters of
2006, up from a 5Vi percent increase in
2005 and about the same pace as in
2004. In general, the fundamentals supporting business capital spending
Change in Real Business Fixed Investment,
2000-06
Percent, annual rate
• Structures
Hi Equipment and software
—
1
w
i
i
\
\
—
— 10
•J J
o
—
t
i
20
I
10
i I
•
High-tech equipment
and software
H Other equipment excluding
transportation
40
— 20
fl
1 I
I
2000
_ f i n- HtHin
I
I
2002
1
I
2004
I
I 1
2006
NOTE: High-tech equipment consists of computers
and peripheral equipment and communications equipment.
SOURCE: Department of Commerce, Bureau of Economic Analysis.
14
93rd Annual Report, 2006
remained favorable in 2006: The strong
rise in profits continued to help firms
maintain substantial liquid assets, user
costs for equipment declined further, and
interest rates and credit spreads remained relatively low. Although the
pace of real business outlays for equipment and software slowed somewhat in
2006, investment in nonresidential structures rose H3/4 percent. Capital spending was quite robust during most of the
year, adding about 1 percentage point to
the annual rate of increase in real GDP
over the first three quarters, but it decelerated sharply in the fourth quarter. The
deceleration reflected, in part, a slowing
in spending for business structures from
its brisk pace earlier in the year, a drop
in outlays for transportation equipment,
and some weakness in purchases of
equipment related to construction and
motor vehicle manufacturing.
Real investment in high-technology
equipment rose 9 percent in 2006, about
the same average annual pace as in the
preceding two years. Further decreases
in the prices of high-technology equipment continued to reduce the user cost
of this type of equipment. Real business
spending for computing equipment
increased 14V2 percent, and software
spending posted an 8 percent gain, both
roughly comparable to their average
rates of increase in the previous two
years. Business outlays for communications equipment rose almost 7 percent in
2006. Spending for communications
equipment was particularly robust in the
early part of the year and was likely
boosted in part by spending to replace
equipment damaged by the hurricanes in
the autumn of 2005. Investment in communications equipment last year continued to be supported by demand from
telecommunications service providers
that were expanding their broadband
networks.
Real business investment in transportation equipment—typically a volatile
category of investment—was about unchanged on net in 2006. For motor vehicles, business spending increased less
than 1 percent over the year. Purchases
of light vehicles weakened, partly because of cutbacks in sales to rental companies. In contrast, business outlays for
medium and heavy trucks accelerated in
2006, reportedly in anticipation of new
emissions regulations by the Environmental Protection Agency that went into
effect at the beginning of 2007. New
orders for medium and heavy trucks
reached new highs early in 2006, and
production and sales remained strong
through the end of the year. Outlays for
new aircraft were brisk in early 2006,
but they were depressed over the remainder of the year; all told, aircraft
investment declined more than 15 percent for the year as a whole.
Real investment in equipment other
than high-tech and transportation
goods—a broad category that represents
about half of total nominal business
spending for equipment and software—
rose at an average annual rate of 5lA percent during the first three quarters of
2006. However, spending for these capital goods softened in the final quarter of
the year. Although the declines in the
fourth quarter were generally broad
based, they were led by decreases in
spending for equipment related to construction and motor vehicle manufacturing. However, the backlog of orders for
capital goods such as industrial machinery and other types of heavy equipment
remained substantial at the end of 2006,
and it should sustain production and
shipments of these items in early 2007.
Real outlays for nonresidential construction increased H3/4 percent in 2006
after having been little changed since
2003. However, the rise in business construction spending slowed near the end
Economic and Financial Developments in 2006 and Early 2007
15
of 2006 from its rapid pace earlier in the
year; outlays increased at an annual rate
of only about 3 percent in the fourth
quarter. For 2006 as a whole, sizable
gains were posted for office, retail, and
industrial buildings. In addition, outlays
for drilling and mining structures associated with energy exploration were
strong. At the end of 2006, forwardlooking indicators for nonresidential
construction activity appeared to be
favorable: Vacancy rates for buildings
in both the office and industrial sectors,
which peaked a few years ago, continued to drift down, and the vacancy rate
for retail buildings remained at the low
level that has prevailed since 2000.
sired level of stocks. The book value of
manufacturing and trade inventories
(excluding motor vehicles) rose relative
to sales from September through
November. The increases were particularly noticeable for firms that supply the
construction and motor vehicle sectors,
although increases were apparent in a
few other sectors as well. Survey data
also suggested that inventories for some
businesses were viewed as too high.
However, manufacturers outside of the
motor vehicles sector appear to be making relatively prompt adjustments to
their production, which to date seem to
be limiting the extent of undesired
stockbuilding.
Inventory Investment
Corporate Profits and
Business Finance
In the first half of 2006, dealer stocks of
motor vehicles rose noticeably as sales
slowed, particularly for light trucks. The
increase in the prices of gasoline earlier
in the year appeared to have reduced
consumers' demand for light trucks and
SUVs, which tend to be less fuel efficient. Dealers' inventories of these vehicles reached an elevated 90 days' supply
at the end of the second quarter. As a
result, motor vehicle manufacturers
scaled back the production of light
trucks over the second half of 2006,
which helped to reduce dealers' inventories during that period. Nonetheless, at
the end of 2006, inventories of light
vehicles still appeared to be above desired levels. Manufacturers cut production further in January of this year, helping them make additional progress in
reducing the stock overhang.
Excluding motor vehicles, inventories
held by businesses in the manufacturing
and trade sectors appeared generally to
be well aligned with sales in the first
half of 2006. However, later in the year,
a variety of indicators suggested that
some businesses accumulated an unde
Profits of nonfinancial corporations
extended their upward move, pushing
the ratio of before-tax profits to income
in this sector to nearly 14 percent, the
highest level reached since 1969. In the
third quarter, operating earnings per
share for S&P 500 firms came in 20 percent above levels of a year earlier. About
two-thirds of firms in the S&P 500 have
reported earnings for the fourth quarter.
Current market estimates of earnings per
share for S&P 500 firms call for roughly
10 percent growth in the fourth quarter
over year-earlier levels. Earnings growth
was widespread across sectors in 2006 but
was particularly strong for financial firms.
Firms' capital expenditures exceeded
internal funds raised in 2006, an indication that businesses funded investments
not only with current cash flow but also
with external funds and liquid assets.
Borrowing by nonfinancial firms picked
up in 2006 in association with increased
real investment as well as with extensive retirements of equity, which
resulted from record share repurchases
and heavy merger and acquisition activ-
16
93 rd Annual Report, 2006
Financing Gap and Net Equity Retirement
at Nonfinancial Corporations, 1991-2006
Billions of dollars
Net equity retirement
— 600
— 400
— 200
Financing gap
1 i i
1991
— 200
1 I1
1 111 1
1994
1997
2000
2003
2006
NOTE: The data are annual; the observations for 2006
are based on partially estimated data. The financing gap
is the difference between capital expenditures and
internally generated funds, adjusted for inventory
valuation. Net equity retirement is the difference
between equity retired through share repurchases,
domestic cash-financed mergers, or foreign takeovers of
U.S. firms and equity issued by domestic companies in
public or private markets. Equity issuance includes
funds invested by private equity partnerships and stock
option proceeds.
SOURCE: Federal Reserve Board, flow of funds data.
ity. Net bond issuance proceeded at a
faster clip than in the past several years.
Similarly, commercial paper issuance
was the strongest it had been since 2000,
Selected Components of Net Financing
for Nonfinancial Corporate Businesses,
2003-06
Billions of dollars, annual rate
• Commercial paper
H Bonds
H Bank loans
Sum of selected
components
—
800
—
600
—
400
—
200
+
0
2003
2004
2005
2006
NOTE: The data for the components excluding bonds
are seasonally adjusted. The data for the sum of selected
components are quarterly. The data for 2006:Q4 are
estimated.
SOURCE: Federal Reserve Board; Securities Data
Company; and Federal Financial Institutions Examination Council, Consolidated Reports of Condition and
Income (Call Report).
and commercial and industrial lending
by banks was rapid as well. The Federal
Reserve's Senior Loan Officer Opinion
Survey on Bank Lending Practices revealed that a significant net fraction of
respondents to that survey eased credit
standards and terms on commercial and
industrial loans during 2006. Bankers
indicated that they were responding to
more-aggressive
competition
and
greater liquidity in the secondary market
for such loans. Loan officers also reported that a contributing factor was an
increased tolerance for risk.
The expansion of commercial mortgage debt in 2006 remained rapid by
historical standards but fell off from the
swift pace of 2005. The deceleration
likely reflected the rise in mortgage
rates and a net tightening of credit standards for these loans—an explanation
consistent with responses to the loan
officer survey.
Gross public issuance of equity by
nonfinancial corporations in 2006
roughly maintained the moderate pace
of the past couple of years, and private
equity issuance appears to have risen a
bit to finance buyouts and other restructurings. Still, net equity issuance turned
more negative as equity retirements
from cash-financed mergers and acquisitions and share repurchases increased
considerably.
On balance, despite increased borrowing and net equity retirements, the
strength of corporate earnings growth
has left the credit quality of nonfinancial
firms solid. Balance sheet liquidity
remains high, and corporate leverage is
near historical lows. In addition, net
interest payments relative to cash flow
remained near the low end of the range
seen over the past two decades. The
six-month trailing bond default rate fell
during the first half of the year as de
faults by some large firms in th
troubled airline and automobile sectoi
Economic and Financial Developments in 2006 and Early 2007
in late 2005 dropped out of the series,
and it was near zero throughout the
second half of 2006. Delinquency rates
on business loans remained quite low.
The Government Sector
Federal Government
The deficit in the federal unified budget
narrowed further during the past year.
The unified budget recorded a deficit of
$248 billion in fiscal year 2006—
$70 billion smaller than in the previous
fiscal year. The federal deficit in fiscal
2006 was a bit less than 2 percent of
nominal GDP, significantly lower than
its recent fiscal year peak of more than
3Vi percent of GDP in 2004. In fiscal
2006, outlays rose about in line with
nominal GDP, but receipts increased at a
faster pace. From October through
December—the first quarter of fiscal
2007—the federal deficit was almost
$40 billion less than in the same period
a year earlier, as the rise in receipts
continued to outpace the growth in outlays. The latest projections from the
Congressional Budget Office and the
Administration anticipate that the uniFederal Receipts and Expenditures,
1986-2006
Percent of nominal GDP
24
Expenditures
—
Receipts
V
Expenditures*^
ex. net interest
xVA
s
22
20
18
_ 16
n 11 1 1 1 1 1 1 I 1 1i i i i i i i i M i l l
1986 1990 1994 1998 2002 2006
—
/
' V-
NOTE: The receipts and expenditures data are on a
unified-budget basis and are for fiscal years (October
through September); GDP is for the four quarters ending
inQ3.
SOURCE: Office of Management and Budget.
17
fied deficit in fiscal 2007 will be smaller
as a percentage of nominal GDP than it
was in fiscal 2006. Although the unified
deficit has improved recently, the federal budget will face the mounting pressures of providing Social Security and
health benefits to a rapidly growing
number of beneficiaries as the babyboom generation ages in coming years.
In fiscal 2006, nominal federal receipts rose H3/4 percent and were
equivalent to almost I8V2 percent of
nominal GDP, substantially higher than
their recent fiscal year low of \6lA percent of GDP in 2004. Income tax receipts from individuals outpaced the rise
in taxable personal income (as measured
in the NIPA), while surging corporate
tax payments about matched the robust
growth in profits. As noted above, the
increase in individual income tax liabilities relative to taxable income in the
NIPA appears to have reflected, at least
in part, taxes on larger capital gains
realizations (which are excluded from
NIPA income), the effect of some taxpayers moving into higher tax brackets
as their real incomes increased, and possibly a further shift in the distribution of
income toward high-income households
that typically face higher tax rates. In
the first quarter of fiscal 2007, revenues
were more than 8 percent greater than in
the same period a year earlier, as both
individual and corporate tax payments
continued to rise briskly.
Nominal federal outlays increased
about IV2 percent in fiscal 2006 and
were about 20VA percent of nominal
GDP, well above their most recent fiscal
year low of less than I8V2 percent of
GDP in 2000. Net interest payments
increased 23 percent in fiscal 2006, as
interest rates rose and federal debt continued to grow. Outlays for Medicare
increased 10V2 percent, reflecting in part
new benefits payments associated with
the Part D prescription drug program,
18
93rd Annual Report, 2006
which started in January 2006. At the
same time, outlays for Medicaid
declined a bit, to some extent because of
a shift of some Medicaid payments to
Medicare Part D. Spending for disaster
relief and national flood insurance was
almost $28 billion greater in fiscal 2006
than in the previous fiscal year, primarily owing to the federal government's
response to the hurricanes in the autumn
of 2005. Outlays for defense in fiscal
2006 slowed to their lowest rate of
increase since fiscal 2001, although the
rise was still about 6 percent. In the first
quarter of fiscal 2007, total federal outlays were only 1 percent greater than
those in the same period a year earlier;
in this period, defense spending was
12 percent above its year-earlier level,
but outlays related to disaster relief and
flood insurance were markedly lower
than they were a year earlier.
As measured in the NIPA, real federal
expenditures on consumption and gross
investment—the part of federal spending that is a direct component of real
GDP—increased 2Vi percent over the
four quarters of calendar year 2006 and
contributed about lA percentage point to
the growth rate of real GDP in that year.
The increase was the result of a pickup
in real defense purchases, which rose
more than 4 percent during calendar
2006 after two years of smaller
increases. At the same time, real nondefense purchases declined more than
1 percent after having risen, on average,
about 2 percent per year over the preceding two years.
The reduction in the unified deficit in
the past two years implies that the federal government required less national
saving to finance its operations. However, nonfederal saving, which excludes
borrowing by the federal government
from total net national saving, remained
relatively low. Although the saving rate
for private business and state and local
governments has increased in recent
years, the improvement has been offset
by declines in the personal saving rate.
Total national saving, net of depreciation, was 2 percent of nominal GDP in
the third quarter of 2006. The recent
national saving rate is an improvement
from the lows of a few years ago, but it
has been insufficient to avoid an increasing reliance on borrowing from abroad
to finance the nation's capital spending.
Federal Borrowing
The Treasury responded to the reduction
in the federal deficit in 2006 by paying
down Treasury bills over the course of
the year and by trimming the gross issuance of marketable Treasury coupon securities. As of the third quarter of 2006,
the quantity of federal debt held by the
public as a percentage of nominal GDP
had declined about Vi percentage point,
to about 36 percent.
Early in the first quarter of 2006,
federal debt subject to the statutory limit
reached the then-current ceiling of
$8.2 trillion. The Treasury employed
various methods to avoid breaching the
Federal Government Debt Held
by the Public, 1960-2006
Percent of nominal GDP
55
— 45
— 35
— 25
I iiininiHiHinmininiuininimmmiinin I
1966
1976
1986
1996
2006
NOTE: The final observation is for 2006:Q3. For
previous years, the data for debt are as of year-end, and
the corresponding values for GDP are for Q4 at an
annual rate. Excludes securities held as investments of
federal government accounts.
SOURCE: Federal Reserve Board, flow of funds data.
Economic and Financial Developments in 2006 and Early 2007
limit until the Congress increased it to
nearly $9 trillion in March. As of the
end of December, the total amount of
federal debt subject to the limit was
$8.6 trillion.
In February, the Treasury auctioned
thirty-year bonds for the first time since
2001. The offering was apparently well
received, as was the reopening of the
issue in August. The Treasury announced in August that it would issue
thirty-year bonds on a quarterly basis
beginning in 2007.
The acquisition of Treasury debt by
foreigners slowed further in 2006 from
its peak in 2004. However, outstanding
Treasury debt also grew more slowly,
leaving the share of outstanding debt
held by foreign investors little changed,
on balance, from its average level over
the preceding two years. According to
Treasury data on international capital
flows, foreigners (official and other)
purchased considerably fewer U.S. Treasury coupon securities in 2006 than in
2005. The average proportion of nominal coupon securities purchased by foreign and international investors at auctions in 2006 about matched the average
from the previous year at 16 percent, but
it was down noticeably from an average
level of 25 percent in 2004.
State and Local Government
The fiscal positions of state and local
governments improved further in 2006.
Apart from federal grants-in-aid, revenues rose at an annual rate of 7 percent
over the first three quarters of 2006 after
posting relatively strong gains in the
preceding two years. Receipts from
taxes on retail sales and on individual
and corporate incomes continued to rise
at a brisk pace; however, decreasing
gains in house prices slowed the rise in
property tax revenues in the third quarter of 2006 from the rapid pace in the
19
previous two years. The sustained
strength in total revenues, along with the
efforts of states and localities to restrain
spending for health care, has enabled
these jurisdictions to step up spending
on other programs and still rebuild their
reserve funds. As measured in the NIPA,
net saving by state and local governments excluding social insurance
funds—a measure that is broadly similar
to the surplus in an operating budget—
was almost $4 billion during the first
three quarters of 2006. States and localities generally have seen improvement in
their fiscal positions recently, but in
coming years most governments will
have to face the budget pressures of
providing pension and health benefits to
an expanding number of retired employees, and the states' costs for Medicaid
are expected to rise substantially as the
baby-boom generation ages.
Real expenditures by state and local
governments on consumption and gross
investment, the component of these governments' spending that enters directly
into the calculation of real GDP, rose
3 percent over the four quarters of 2006.
That increase was the largest since 2001
and contributed about lA percentage
point to the change in real GDP during
the year. Real expenditures for investment rose 43/4 percent, largely because
of a strong increase in real construction
spending in the first half of the year.
Spending for current consumption in
real terms increased 2Vi percent over
the four quarters of 2006. Hiring by
state and local governments stepped up
last year. Of the cumulative increase in
employment of 254,000 in 2006, about
two-thirds of the jobs were in education.
State and Local Government
Borrowing
Borrowing by state and local governments dropped below its rapid 2005
20
93rd Annual Report, 2006
pace amid improved fiscal positions and
fewer advance refunding issues. Nonetheless, bond issuance for new capital
expenditures, particularly for education
and transportation, boosted long-term
borrowing. Credit quality in the state
and local sector rose substantially in
2006, as the number of credit-rating upgrades far exceeded the small number of
downgrades.
The External Sector
The U.S. current account deficit averaged $875 billion at an annual rate, or
about 6V2 percent of nominal GDP, in
the first three quarters of 2006 (the latest
available data). The deficit was wider
than in 2005, partly because of a larger
deficit on trade of goods and services. In
addition, net investment income, which
turned negative in the fourth quarter of
2005, remained negative in the first
three quarters of last year, further expanding the current account deficit.
International Trade
After widening through most of 2005,
the nominal trade deficit leveled out in
U.S. Trade and Current Account Balances,
1999-2006
Percent of nominal GDP
0
—
I
2
3
Trade
MM
Current
account
1
2000
1
II
2002
i
2004
i
i
i
A
5
6
7
i
2006
NOTE: The data are quarterly. For the trade account,
the observation for 2006:Q4 is estimated. The data for
the current account extend through 2006:Q3.
SOURCE: Department of Commerce.
the first half of 2006, rose to a record
high in August, and then narrowed noticeably through November (the latest
available data). On average, the nominal
trade deficit was wider in 2006 than in
the previous year. Nominal imports of
goods grew more slowly than exports
did early last year and, after reaching
late-summer peaks, dropped because of
declines in both the price and volume of
imported oil. Meanwhile, imports of services decelerated sharply in the second
half of last year. In contrast, nominal
exports of goods and services pushed
upward steadily throughout the year and
grew significantly faster than did nominal imports. Given that the level of exports was smaller than the level of imports, the faster export growth during
2006 was not enough to narrow the
nominal trade deficit. Although the
nominal trade deficit last year (through
November, annualized) was wider in
dollar terms, the trade deficit as a share
of GDP, at just under 6 percent, was
about the same as in 2005.
Real exports of goods and services
grew a robust 9lA percent last year. In
the first quarter, growth was boosted by
a catch-up of exports affected by hurricane damage in late 2005. Throughout
the year, exports were supported by
strong foreign economic activity. Real
exports of goods rose IOV4 percent last
year, a little faster than in the previous
year. Export growth was spread fairly
evenly across all major end-use categories, though exports of computers and
semiconductors expanded noticeably
more slowly than in 2005. By destination, exports to China and other emerging Asian economies grew very rapidly,
as did those to South America. Exports
to Mexico and western Europe rose at a
more modest pace. Real exports of services were up a solid 63/4 percent for the
year, double the pace of 2005.
Economic and Financial Developments in 2006 and Early 2007
Prices of exported goods rose at a
3V2 percent rate last year, a little faster
than their pace in 2005. Reflecting the
effects of very large jumps in prices of
industrial supplies, particularly fuels and
metals, export prices moved up sharply
in the second and third quarters; they
decelerated toward the end of the year
as prices of exported fuels retreated
from their high levels and as prices of
exported metals moved up more slowly.
Real imports of goods and services
rose 3 percent last year, more slowly
than in the previous year. As with the
growth in real exports, real import
growth got off to a quick start last year
amid robust domestic growth. But import growth slowed, on average, in the
middle quarters of the year, along with
U.S. real GDP growth, and real imports
fell in the fourth quarter as a result of a
sharp drop in oil and natural gas imports. Despite some fourth-quarter
declines, for the year imports increased
in every major end-use category except
petroleum and natural gas. Imports of
services rose more than 5 percent last
year, a step-up from the previous year's
sluggish pace.
Prices of imported non-oil goods
increased less than 1 percent, on balance, in 2006 despite some wide gyrations. After falling in the first quarter,
prices reversed course, surged upward,
and then cooled in the fourth quarter.
The quarterly pattern was driven by
movements in nonfuel commodity
prices, which soared in the second and
third quarters before leveling off in the
fourth quarter.
Metals figured prominently among
the nonfuel commodities that boosted
trade prices last year. Prices for a variety
of metals—including copper, aluminum,
nickel, and zinc—skyrocketed in the
second quarter. Factors contributing to
the surge in prices included growing
demand, particularly from developing
21
countries, low levels of inventories for
some metals, and perhaps increased
speculative demand. Prices for nickel
and zinc continued to move up throughout the year. In the second half of the
year, aluminum prices trended sideways,
and copper prices moved down from
their peaks as inventory and supply conditions improved somewhat. For most of
these metals, those price trends have
continued this year. An exception is
zinc, the price of which has plummeted.
The spot price of West Texas intermediate crude oil averaged $66 per barrel
in 2006, nearly $10 per barrel higher
than in 2005; moreover, crude oil prices
were especially volatile last year. The
spot price climbed from around $61 per
barrel at the end of 2005 to a peak of
$77 per barrel in August as violence in
the Middle East, a shutdown of the
Prudhoe Bay oil field in Alaska, and
forecasts of an active hurricane season
led to increased demand. In the event,
oil supply was affected far less than
anticipated by these factors, and oil
prices declined over the next few
months as demand dropped and elevated
Prices of Oil and of Nonfuel Commodities,
2003-07
Dollars per barrel
January 2003 = 100
220
200
180
160
140
—
—
—
—
—
120
100
80
Oil
/v r *
- W
*—S
Nonfuel
commodities
80 —
1
1 1
2003
-50
— 40
— 30
— 20
1
2004
—• 10
1
2005
1
2006
1
2007
NOTE: The data are monthly and extend through
January 2007. The oil price is the spot price of West
Texas intermediate crude oil. The price of nonfuel
commodities is an index of forty-five primarycommodity prices.
SOURCE: For oil, the Commodity Research Bureau;
for nonfuel commodities, International Monetary Fund.
22
93rd Annual Report, 2006
petroleum inventories were drawn
down. Oil demand for heating was depressed by above-average temperatures
in the Northern Hemisphere in the
fourth quarter and in the early weeks of
2007, and the spot price fell further, to
around $50 per barrel in mid-January,
before moving back up to $58 per barrel
at the end of the month. Far-dated futures prices began last year at about
$60 per barrel, moved in a pattern similar to spot prices throughout most of the
year, and averaged just over $61 per
barrel in January 2007.
Notwithstanding the decrease of global oil prices since August, several factors continue to support these prices at
historically elevated levels. Ongoing
violence has diminished oil production
in Iraq and Nigeria. The continuing dispute with Iran over its nuclear program
threatens a possible curtailment of Iranian exports. Energy investment by international oil companies has been hampered in some countries, such as Russia
and Venezuela, by increased government control of domestic energy industries. Moreover, in response to the recent
decline in oil prices, OPEC has reduced
its crude oil production to the lowest
level since 2004. Oil demand over the
past year has also increased modestly in
developing countries despite high prices.
The Financial Account
Foreign official inflows in the first three
quarters of 2006 were above their 2005
pace but remained below the record levels of 2004. Most of these official inflows were attributable to Asian central
banks and took the form of purchases of
U.S. government securities, primarily
bonds and mortgage-backed securities
issued by government-sponsored enterprises (GSEs). Preliminary data indicate
a slight easing of official purchases in
the fourth quarter of 2006. Net private
inflows slowed in the first quarter but
have changed little since then.
Foreign private purchases of U.S. securities in the second and third quarters
of 2006 slowed slightly from the
extraordinary pace set in the second half
of 2005 and early 2006, but preliminary
fourth-quarter data show recent demand
to have been strong. More than half of
private flows last year took the form of
purchases of corporate bonds, and most
of the remainder went toward investment in GSE bonds and corporate equities. On net, private foreigners purchased few U.S. Treasuries. Foreign
direct investment flows into the United
States remained robust.
Net purchases of foreign securities by
U.S. residents, a financial outflow, set a
record pace in the first three quarters of
2006. Preliminary data show a further
surge in net purchases in the fourth quarter. Demand for foreign bonds by U.S.
residents slightly exceeded that for foreign equities. After the expiration of the
partial tax holiday implemented in the
Homeland Investment Act of 2004, U.S.
direct investment abroad dropped back
to more normal levels.
The Labor Market
Employment and Unemployment
Labor markets remained strong in 2006.
Nonfarm payroll employment increased
186,000 per month, on average, during
the second half of 2006, a rate essentially the same as in the first half of the
year. Employment rose 111,000 in January of 2007. The unemployment rate in
the fourth quarter of last year—
4x/2 percent—was at its lowest quarterly
level since 2001, and it was little
changed in January 2007.
In response to the contraction in
homebuilding, hiring in the construction
sector slowed considerably in the sec-
Economic and Financial Developments in 2006 and Early 2007
Net Change in Payroll Employment,
2001-07
Thousands of jobs, monthly average
January
I
I
I
2001
I
I
2003
I
1
2005
I
I
2007
NOTE: Nonfarm business sector.
SOURCE: Department of Labor, Bureau of Labor
Statistics.
ond and third quarters of 2006, and this
sector shed workers in the fourth quarter. Although hiring for nonresidential
building construction remained brisk for
most of the year, the steep decline in
housing starts curtailed the overall demand for construction workers. Employment in the manufacturing sector, which
rose in the first half of 2006, declined in
the second half as factory output slowed.
From July to December, many of the
factory layoffs were at makers of motor
vehicles and parts and at producers
closely tied to the construction industry.
Outside of the construction and manufacturing sectors, employment generally
increased at a solid pace in the second
half of 2006, and hiring was particularly
rapid in a number of service industries—
especially those providing education and
health services, professional and technical business services, and financial
services.
As a result of the continued expansion of labor demand in 2006, the unemployment rate fell further. After remaining around 43A percent in the first three
quarters of 2006, the unemployment rate
edged down to 4V2 percent in the fourth
quarter. The tighter labor market was
associated with a noticeable increase in
23
employment among individuals who had
not been participating in the labor force.
In line with this cyclical tightening of
the labor market, the labor force participation rate ticked up during 2006, from
66 percent in the first quarter to
66V4 percent in the fourth quarter, after a
VA percentage point rise during 2005.
The recent rise in the participation rate
follows a period of decline beginning in
the late 1990s that in part reflected some
longer-term secular trends in labor force
behavior. Those trends included a leveling off in the participation rate of
women and an increase in the proportion of the workforce in older age
groups, which have lower average participation rates.
Other indicators also suggest that
labor market conditions remained generally favorable during the second half of
2006. Layoffs remained low as new
claims for unemployment insurance
fluctuated around a relatively subdued
level of 315,000 per week. In addition,
data reported by the Bureau of Labor
Statistics showed a further increase during the later part of the year in the rate
of job openings as a percentage of
private-sector employment.
Productivity and
Labor Compensation
The growth rate of labor productivity in
the nonfarm business sector, which had
slowed in 2004 and 2005 from an exceptionally rapid pace earlier in the decade,
remained relatively subdued in 2006.
Over the four quarters of 2006, output
per hour of work in the nonfarm business sector increased 2 percent, compared with about a 3 percent average
annual rate of increase during the first
half of this decade and the second half
of the 1990s. During that earlier period,
productivity gains were spurred by the
rapid pace of technological change, the
24
93rd Annual Report, 2006
Change in Output per Hour, 1948-2006
Percent, annual rate
1948- 1974- 199673
95 2000
2002 2004 2006
NOTE: Nonfarm business sector. Change
multiyear period is measured from the fourth
the year immediately preceding the period to
quarter of the final year of the period.
SOURCE: Department of Labor, Bureau
Statistics.
for each
quarter of
the fourth
of Labor
growing ability of firms to use information and other technology to improve
the efficiency of their operations, and
increases in the amount of capital per
worker. Despite the recent slowing in
productivity growth, these underlying
factors do not appear to have waned.
Accordingly, the recent slowdown in
labor productivity may be at least in part
a temporary cyclical response to the
moderation in the pace of economic activity in 2006 rather than a meaningful
downshift in the longer-run trend.
As the labor market tightened in
2006, the rise in hourly labor compensation, which includes both wages and
employer payments for employee benefits, stepped up for workers in the nonfarm business sector. In nominal terms,
compensation per hour increased almost
5 percent over the four quarters of 2006,
compared with an average 4 percent rise
in the preceding two years. After adjusting compensation for increases in the
PCE price index, real compensation per
hour rose 3 percent in 2006, up from an
average gain of about 1 percent in 2004
and 2005.
An alternative measure of employee
compensation is the employment cost
index (ECI) for private nonfarm businesses, which is based on a survey of
firms conducted by the Bureau of Labor
Statistics. According to this measure,
nominal hourly compensation increased
3J/4 percent in 2006, lA percentage point
faster than in 2005. In real terms, the
ECI for hourly compensation rose
VA percent last year after averaging a
Vi percent increase over the preceding
two years. The nominal wages and salaries component of the ECI rose VA percent in 2006, while the benefits component advanced 3 percent.
From the perspective of employers,
the acceleration in hourly compensation
in the nonfarm business sector last year
boosted the average labor costs associated with producing a unit of output
23/4 percent, up from increases of about
P/4 percent in both 2004 and 2005.
Although the rise in unit labor costs
increased, firms' profit margins appeared to remain elevated in 2006 relative to longer-run standards.
Prices
Headline inflation slowed in 2006. The
PCE chain-type price index rose 2 percent over the four quarters of 2006, a
step-down from the 3 percent increase
recorded in 2005. The drop in energy
prices in the latter part of 2006 accounted for the deceleration in the headline number. Core inflation moved
higher in the first part of 2006 but then
eased toward the end of the year. On
balance, core PCE prices rose about
2lA percent over the four quarters of
2006, a little faster than the 2 percent
increase in 2005. The market-based
component of the core PCE price
index—which excludes imputed prices
that are not observed in market transactions and that often change irregularly—
Economic and Financial Developments in 2006 and Early 2007
Alternative Measures of Price Change,
2004-06
Percent
Price measure
Chain-type
Gross domestic product (GDP) .
Gross domestic purchases
Personal consumption
expenditures (PCE)
Excluding food and energy . . .
Market-based PCE excluding
food and energy
Fixed-weight
Consumer price index
Excluding food and energy . . .
2004
2005
2006
3.2
3.7
3.1
3.6
2.5
2.2
3.0
2.2
3.1
2.1
1.9
2.3
1.7
1.8
2.0
3.3
2.1
3.7
2.1
1.9
2.6
NOTE: Changes are based on quarterly averages of
seasonally adjusted data.
SOURCE: For chain-type measures, Department of
Commerce, Bureau of Economic Analysis; for fixedweight measures, Department of Labor, Bureau of Labor
Statistics.
increased 2 percent in 2006, about
l
A percentage point more than in the
previous year.
Energy prices recorded dramatic
swings during 2006. PCE energy prices
increased at an annual rate of about
15 percent in the first half of the year
and declined at an annual rate of almost
17 percent in the second half. The sharp
movements in consumer energy prices
in 2006 were associated primarily with
fluctuations in prices for crude oil. The
changes in energy prices also were amplified by a widening in the margin of
the retail price of gasoline over the associated cost of crude oil in the first half of
the year and by some narrowing of that
margin in the second half. On balance,
the PCE energy price index decreased
4 percent over the four quarters of 2006.
Food price inflation remained fairly
moderate in 2006. The PCE index for
food and beverages increased 2lA percent, roughly the same pace as in the
preceding year. Retail prices of meat
and poultry rose modestly for 2006, as
robust demand was met by ample supplies of meat. Prices of wheat rose over
25
the course of the year, and prices of corn
and soybeans spiked at the end of the
year in the wake of downward revisions
to estimates of crop production. Prices
of corn also were boosted during the
year by increased demand for corn to
produce ethanol. But the small share of
wheat, corn, and soybeans in the total
value of food production limited their
effect on retail food prices. Prices for
food consumed away from home, which
are influenced importantly by the costs
of labor, energy, and other business
inputs, increased 3V4 percent in 2006, a
more rapid pace than that for prices of
food consumed at home.
The core PCE price index accelerated
to an annual rate of about 2Vi percent in
the first half of 2006 on the strength of
pickups in the price indexes for both
goods and services. In the spring,
increases in housing rents were particularly sharp. The rise may have reflected
in part a shift in demand toward rental
housing as rising mortgage rates and
lofty home prices made home purchases
less affordable. The pass-through of
higher energy costs to a broad range of
goods and services also probably contributed to the acceleration in core consumer price inflation in the first half of
2006.
In the second half of 2006, core PCE
price inflation edged down to an annual
rate of just below 2lA percent. The deceleration was the result of a decrease in
core goods prices, which likely reflected
in some measure the waning influence
of energy prices. In contrast, core services inflation in the second half of the
year remained at about the same pace as
in the first half. Although housing rents
rose more slowly in the second half of
the year, their effect on the PCE for core
services was mostly offset by faster
price increases for medical care and a
number of other services.
26
93rd Annual Report, 2006
The swings in energy costs in 2006
were apparent in the prices of inputs
used in the production and sale of final
goods and services, especially of items
for which energy costs represent a relatively large share of total production
costs, including industrial chemicals,
plastics, fertilizer, and stone and clay
products. In addition, the prices of some
commodities, such as a variety of metals, rose significantly in 2006 in
response to strong worldwide demand.
As a result, the core producer price index for intermediate goods, which
excludes food and energy, rose 5lA percent in 2006, up from the 43/4 percent
increase in 2005. The index increased at
an annual rate of 11A percent in the first
half of 2006, but it decelerated to an
annual rate of about 3x/4 percent in the
second half as energy costs declined.
For the year as a whole, measures of
long-term inflation expectations remained well anchored, although shortterm expectations were heavily influenced by fluctuations in energy prices.
The Reuters/Michigan survey measure
of the median expectation of households
for inflation over the next twelve months
was about 3 percent in December, down
from its peak of 33/4 percent in August.
Longer-term inflation expectations recorded in the Reuters/Michigan survey
showed less variability. The median survey respondent in December expected
the rate of inflation during the next five
to ten years to be 3 percent, down from
its peak of V-U percent in August. Other
indicators likewise suggest that longerrun inflation expectations have remained
contained. According to the Survey of
Professional Forecasters, conducted by
the Federal Reserve Bank of Philadelphia, expectations of inflation over the
next ten years remained at 2Vi percent
in 2006, a level that has been essentially
unchanged since 1998. In addition, inflation compensation implied by the
spread of yields on nominal Treasury
securities over their inflation-protected
counterparts stayed within the relatively
narrow range of 2 percent to 23/4 percent
during the year.
U.S. Financial Markets
Financial conditions in the United States
supported economic growth in 2006.
Yields on long-term Treasury securities
climbed a bit, on balance, but stayed
low by historical standards, while strong
corporate profits helped fuel substantial
gains in equity markets. Liquid corporate balance sheets and low corporate
leverage helped keep risk spreads on
corporate bonds narrow. Meanwhile,
business borrowing picked up to a rapid
pace, spurred in part by a rise in merger
and acquisition activity. In the residential real estate sector, mortgage borrowing slowed markedly, as house prices
decelerated, especially in the second half
of the year. Consumer credit expanded
at a moderate pace. Nonetheless, household debt growth outpaced the growth
of disposable personal income, and the
financial obligations of households
inched higher. Although households
generally appeared able to meet their
obligations, signs of financial strain
were apparent in subprime variable-rate
mortgages. The M2 monetary aggregate
expanded at a moderate pace in 2006.
Interest Rates
Market interest rates rose modestly, on
balance, in 2006—yields on two- and
ten-year nominal Treasury securities
increased about 40 and 30 basis points
respectively. Changes in interest rates
seemed largely tied to changes in the
outlook for economic growth and inflation. Rates across the maturity spectrum
increased notably over the first half of
the year, as incoming data on activity
Economic and Financial Developments in 2006 and Early 2007
Interest Rates on Selected Treasury
Securities, 2003-07
Percent
2003
2004
2005
2006
2007
NOTE: The data are daily and extend through February 7, 2007.
SOURCE: Department of the Treasury.
and inflation came in higher than markets had expected and as the FOMC
raised the target federal funds rate
25 basis points at each of its first four
meetings. At the time of the June FOMC
meeting, interest rate futures market
quotes indicated that market participants
perceived considerable odds of an additional rate tightening by year-end. However, market interest rates declined, on
net, over subsequent months in response
to incoming data suggesting that inflation pressures were moderating and that
economic growth was slowing. Market
expectations for the trajectory of the
federal funds rate over the next several
years shifted down considerably during
the second half of the year. More
recently, market participants have
backed away from expectations of a substantial easing of monetary policy as
incoming data on economic activity
have been stronger than expected. Investors now expect the FOMC to ease policy only slightly over the next two years.
Although investors modestly revised
their medium-term policy expectations
over the course of the year, the Committee's interest rate decisions were largely
anticipated in financial markets by the
time of each meeting. Throughout the
27
year, forward-looking measures of uncertainty about monetary policy inferred
from interest rate options remained near
the low end of historical ranges.
Yields on inflation-indexed Treasury
securities increased about as much as
those on their nominal counterparts in
2006. Medium- and long-term inflation
compensation—measured from spreads
between yields on nominal and
inflation-indexed securities—were about
unchanged to a little lower, on net, and
during the year these measures exhibited only modest swings in response to
incoming inflation data and oil price
movements.
In the corporate bond market, yields
on investment-grade securities moved
about in line with those on comparablematurity Treasury securities. In contrast,
yields on speculative-grade securities
fell slightly, pulling risk spreads lower
in that segment of the market. The narrowness of investment- and speculativegrade spreads seems to reflect investors'
sanguine perceptions of corporate credit
quality over the medium term, which
likely reflect in large part the strength of
Spreads of Corporate Bond Yields over
Comparable Off-the-Run Treasury Yields,
1998-2007
Percentage points
—
High-yield
•J**
1999
B B B
2001
2003
10
V ^ _ 4
2005
2007
NOTE: The data are daily and extend through
February 7, 2007. The ten-year high-yield, ten-year
BBB, and ten-year A A indexes are compared with the
ten-year Treasury yield.
SOURCE: Derived from smoothed corporate yield
curves using Merrill Lynch bond data.
28
93rd Annual Report, 2006
business balance sheets and a benign
economic outlook. The term structure of
forward risk spreads for corporate bonds
supports this view, as forward spreads
one and two years ahead are low, while
the spreads further out the curve are
more in line with historical norms.
Equity Markets
Broad equity indexes soared 10 percent
to 20 percent in 2006, boosted by strong
growth in corporate earnings. Share
prices rose across a wide range of sectors, but increases in telecommunications and security brokerage stocks were
especially noteworthy. The difference
between the twelve-month forward
earnings-price ratio for the S&P 500 and
the long-term real Treasury yield—a
crude measure of the premium that investors require for holding equity
shares—was little changed on balance.
The implied volatility of the S&P 500
calculated from options prices spiked
temporarily in the late spring in connection with a period of strain in several
markets but remained near historical
lows for the remainder of the year. Net
inflows into domestic equity mutual
funds were quite modest in 2006, while
Stock Price Indexes, 2005-07
January 3, 2005 =
100
130
Russell 2000
i
^ 1
*/*<
v
Wilshire 5000
1 1
1
2005
-
120
~
100
—
90
/
1
2006
110
1
2007
NOTE: The data are daily and extend through February 7, 2007.
SOURCE: Frank Russell Company; Dow Jones
Indexes.
inflows into international equity funds
were exceptionally strong.
Market Functioning and
Financial Stability
Overall, financial markets functioned
smoothly over the year and proved resilient to several shocks. Equity markets
in the United States and currency and
fixed-income markets in several
emerging-market economies experienced heightened volatility late in the
second quarter, but the turbulence was
short lived. The liquidation of a few
sizable hedge funds attracted considerable attention for a time but had little
discernible effect on the broad functioning of markets. Even the liquidation of
Amaranth—a hedge fund that was
wound down in the fall after reporting a
loss in excess of $6 billion, mostly in
energy trades—left little imprint on
financial markets, although it raised
some concerns about risk-management
practices. Implied volatilities, risk
spreads, and various other potential
measures of financial stress generally
stayed at very low levels throughout the
year, suggesting that investors were
comfortable taking on risk, likely in part
because they were confident about the
economic and financial outlook.
Throughout the year, bid-ask spreads
on the most actively traded Treasury
securities remained within narrow
ranges. Some instances of questionable
trading activities occurred in the secondary market for Treasury securities over
the course of the year. The Interagency
Working Group for Treasury Market
Surveillance monitored these situations
closely.1 In November, the Federal
Reserve Bank of New York arranged a
1. The group was established in 1992 and
includes representatives from the Board of Governors of the Federal Reserve System, the Treasury,
the Securities and Exchange Commission, the
Economic and Financial Developments in 2006 and Early 2007
meeting with all primary dealers to discuss developments in Treasury markets
and to encourage the firms to review
their internal oversight of trading operations. Subsequently, a private-sector
group sponsored by the Federal Reserve
Bank of New York released a draft report laying out a set of best practices for
firms active in the Treasury market on
topics such as appropriate trading strategies and internal controls.
In July, the Federal Reserve Board
implemented a revision to the treatment
of GSEs and certain international organizations under its Policy on Payments
System Risk. Under the change, interest
and redemption payments on securities
issued by these institutions are now released only when the issuer's Federal
Reserve account contains sufficient
funds to cover the payments; that is,
these institutions no longer may employ
daylight credit to fund such payments.
The Board of Governors determined that
the change represents an appropriate
risk-management policy for the central
bank and is consistent with the general
practices of private issuing and paying
agents. In addition, GSEs and international organizations are now subject to a
penalty fee for daylight overdrafts resulting from general corporate payment
activity (activity other than interest and
redemption payments). This change
aligns the policy for GSEs and international organizations with that for other
Federal Reserve account holders that do
not have regular access to the Federal
Reserve's discount window and thus are
not eligible for intraday credit. The transition to the new policy occurred
smoothly with minimal effects on the
functioning of the payments system and
no notable adverse effects on short-term
funding markets.
Commodity Futures Trading Commission, and the
Federal Reserve Bank of New York.
29
Following up on a meeting with the
Federal Reserve Bank of New York in
the fall of 2005, the largest participants
in the fast-growing market for credit
derivatives agreed to a series of steps to
strengthen that market's infrastructure.
Over the course of 2006, credit derivatives dealers phased out the practice of
transferring positions to a different
counterparty without first obtaining the
consent of the original counterparty.
They also reduced by 85 percent the
number of trade confirmations outstanding more than thirty days; they doubled
the share of trades that are confirmed
via an electronic platform, to 80 percent
of total trade volume; and they agreed
upon a new protocol for the settlement
of such derivatives after a credit event.
Debt and Financial Intermediation
by Banks
Total debt of the domestic nonfinancial
sectors expanded an estimated VA percent in 2006, well below the pace in
2005 but still faster than that of nominal
income. Debt growth slowed markedly
in the household and government sectors, but business debt accelerated.
About 30 percent of the growth in
nonfinancial sector debt in 2006 was
intermediated by the banking sector.
This share is about even with the average over the past ten years and is about
5 percentage points above the average
observed in the 1980s and early 1990s.
Commercial bank credit expanded
9Vi percent in 2006, supported by brisk
growth in loans to businesses. Bank
credit also was boosted in the autumn by
a consolidation of a substantial volume
of thrift assets onto a commercial bank's
balance sheet that had resulted from an
internal reorganization at a large bank
holding company.
Bank lending to businesses through
commercial and industrial loans in-
30
93rd Annual Report, 2006
creased at a rapid pace last year. The
growth was fueled by vigorous merger
and acquisition activity, rising outlays
for investment goods, ongoing inventory accumulation, and an accommodative lending environment. Bank loans
secured by commercial real estate,
though strong, decelerated over the
course of the year. The moderation in
commercial real estate lending was consistent with responses by large and
medium-sized banks to the Senior Loan
Officer Opinion Survey on Bank Lending Practices, which pointed to slowing
demand and a net tightening of credit
standards for such loans in the second
half of the year. Consumer loans and
residential mortgages held by banks
grew at a moderate rate for the year as a
whole. However, excluding the effects
of the thrift consolidation, residential
real estate lending slowed considerably
in the fourth quarter, no doubt reflecting
in part the downturn in the housing
market.
Commercial bank profits as a percentage of average assets were strong in
2006 and rose slightly above 2005 levels. Net interest margins declined a bit
further, likely in response to continued
competitive pressures and a modest inversion of the yield curve, but bank
profitability was supported by growth in
non-interest income and by wellcontained costs. Continued strong asset
quality also helped to support profitability in 2006 by allowing banks to reduce
their loan-loss provisioning. Robust asset quality was reflected in loan delinquency and charge-off rates that remained at low levels through the end of
2006.
The M2 Monetary Aggregate
and Reserves
M2 expanded at a 5 percent rate last
year, somewhat faster than in 2005.
Typically, as short-term interest rates
rise, deposit rates lag somewhat, increasing the opportunity cost of holding
money. In 2006, this effect apparently
slowed money growth less than would
have been expected on the basis of historical norms, and the velocity of M2
rose only about 3A percent. Retail money
market mutual funds and small time deposits, components of M2 whose yields
move most closely with market rates,
grew rapidly. However, liquid deposits,
which constitute the largest component
of M2, and whose yields adjust more
gradually, were about flat on net. Currency expanded a modest 3V2 percent,
an increase similar to that in 2005, reflecting weak, possibly negative, net demand from overseas.
Part of the Financial Services Regulatory Relief Act of 2006 gave the Federal
Reserve authority, beginning in October
2011, to pay interest on reserve balances
and to further reduce or eliminate reserve requirements. At the October
FOMC meeting, the Chairman asked the
staff to prepare for the implementation
of this legislation.
International Developments
Foreign economic growth was generally
strong in 2006, as expansion continued
in all major regions of the world. The
Japanese economy decelerated somewhat but maintained positive growth,
and the pace of activity in the euro area
picked up. Labor market conditions in
both areas improved. Emerging-market
economies also recorded solid growth
last year and experienced no apparent
lasting ill effects from the brief period of
financial market volatility that hit some
of them particularly hard in the late
spring. Although there are signs that
steps taken to slow growth of investment in China have been effective, the
Chinese economy continued to grow
Economic and Financial Developments in 2006 and Early 2007
rapidly. Rising energy prices boosted
consumer price inflation in many areas
of the world early last year, but monetary tightening appears to have prevented inflation from moving significantly higher, and the effects of higher
energy prices on core prices were
modest.
Industrial countries tightened monetary policy in 2006. Some countries
paused around the same time as the
Federal Reserve, and others continued
to tighten throughout the year. After
ending its policy of quantitative easing
in the spring, the Bank of Japan (BOJ)
raised its policy rate 25 basis points in
July. Weak consumer spending and low
inflation have apparently deterred the
BOJ from tightening since then. With
growth in the European economies firming, concerns over inflationary pressures
prompted the European Central Bank to
raise its policy rate five times last year,
to 3.5 percent. The Bank of Canada
tightened 75 basis points in several steps
over the first half of the year but has left
the overnight rate unchanged since then.
After keeping its policy rate constant in
the first half of the year, the Bank of
England tightened policy 25 basis points
in August and November 2006 and in
January 2007. The statements accompanying each tightening cited the upside
risks to inflation posed by low levels of
spare capacity.
During the first half of 2006, ten-year
sovereign yields in the euro area, Canada, and Japan rose sharply on balance:
Increases ranged from 45 basis points in
Japan to 75 basis points in Germany.
Yields on inflation-protected long-term
securities in these economies also rose
during the first half of 2006 but not as
much as nominal yields and thus implied a noteworthy rise in inflation compensation. These developments occurred
largely in reaction to continuing upward
pressures on inflation, which stemmed
31
from a further run-up in energy prices
and indications that global economic
growth remained robust.
From their midyear highs, nominal
government benchmark bond yields fell
noticeably until about the beginning of
December in most major advanced
economies, as investors reacted to
moves in U.S. rates and evaluated the
implications for the global economy of
the economic slowdown that seemed to
be under way in the United States. Over
this period, yields on ten-year nominal
bonds declined by amounts that ranged
from about 25 basis points in the United
Kingdom to about 70 basis points in
Canada. Yields on inflation-indexed securities declined less; modest declines
in inflation breakeven rates were attributed in part to lower energy prices in the
second half of the year.
Since the beginning of December,
however, nominal and indexed government bond yields have risen once again
in most advanced economies, partly
because new data releases appeared to
alleviate investors' concerns that global
economic growth might slow appreciably. Yields on both ten-year nominal
and indexed securities have risen
15 basis points in Japan and 25 to
50 basis points in the euro area, the
United Kingdom, and Canada since
their December lows. As a result, inflation breakeven rates have been little
changed.
The Federal Reserve's broadest measure of the nominal trade-weighted
exchange value of the dollar declined
33/4 percent from the beginning of last
year through early February of this year.
Over that period, the dollar appreciated
2lA percent against the yen and Wi percent against the Canadian dollar, but it
depreciated about 9 percent, on net,
against the euro, almost 13 percent
against sterling, and 4 percent against
the Chinese renminbi. The renminbi's
32
93rd Annual Report, 2006
U.S. Dollar Exchange Rate against
Selected Major Currencies, 2004-07
Weekending January 2, 2004 = 100
U.K. pound
—
Japanese yen
— 110
Euro
— 100
—
taking. Broad-based gains in stock
prices since midsummer appear to be
associated with a scaling back of expectations for future tightening of monetary
policy in several countries and with
declines in energy prices. Since midJune, broad stock market indexes have
gained 10 percent to 20 percent in
Europe, Japan, and Canada.
90
Industrial Economies
2004
2005
2006
2007
NOTE: The data are weekly and are in foreign
currency units per dollar. The last observation for each
series is the average for February 5 through February 7,
2007.
SOURCE: Bloomberg L.P.
rate of appreciation stepped up in late
2006 and early 2007, but daily fluctuations in the dollar-renminbi exchange
rate were very small.
Most of the dollar's overall decline in
2006 occurred between mid-April and
early May. During this period, market
participants reportedly sensed that the
FOMC was approaching the end of its
series of policy tightenings, and interest
rate differentials moved against the dollar. Traders also refocused on the large
and persistent U.S. current account deficit, which was further boosted by crude
oil prices that had moved above $70 per
barrel. To date in 2007, the dollar's
broad nominal exchange value has risen
1 percent on balance.
In the wake of strong advances in
2005, major global equity indexes
posted solid gains, on balance, in 2006
and in early 2007. After rising 5 percent
to 10 percent in the first quarter of 2006,
most global indexes fell sharply beginning in early May to reach intra-year
lows in mid-June. Market participants
attributed the drops in share prices to
increased uncertainty about prospective
inflation, caused in part by the run-up in
energy prices, and to a retreat from risk-
After increasing at an annual rate of
roughly 2 percent in the first half of
2006, Japanese real GDP grew only
3
/4 percent in the third quarter, largely
because of slower growth of consumption. Capital spending was an important
contributor to growth of output
throughout the year, supported by strong
corporate profitability. Labor market
conditions continued to improve; the unemployment rate was about 4 percent in
December, its lowest level since 1998,
and the ratio of job offers to applicants
remained close to a thirteen-year high.
However, wage growth was very
subdued, as firms controlled cost
increases, and unit labor costs continued
to fall. In 2006, consumer prices started
to rise again, posting small twelvemonth increases after June, and land
prices in Japan's six largest cities rose
for the first time since 1991. However,
the GDP deflator continued to decline
slowly.
Real GDP in the euro area accelerated
somewhat in 2006, posting average
growth of 3lA percent at an annual rate
over the first three quarters. Output
growth was supported in part by strong
consumer spending, which grew substantially faster than in 2005. The
stronger performance of the economy
was reflected in improving labor market
conditions: The unemployment rate in
the euro area fell 0.8 percentage point
during the year to reach 7.5 percent in
Economic and Financial Developments in 2006 and Early 2007
December, continuing a downward
movement that began in 2004. Wages
and salaries in the manufacturing and
services sector grew at an average
annual rate of 2lA percent in the first
three quarters of the year—a bit lower
than their rate of growth in 2005. Higher
energy prices boosted euro-area consumer price inflation, which rose to
about 2V2 percent in the first half of
2006; late in the year, it dropped below
the European Central Bank's target ceiling of 2 percent. Core inflation remained
near 1V2 percent.
Real GDP in the United Kingdom
grew 3 percent last year, and real GDP
in Canada grew 3 percent, on average,
through the first three quarters. Despite
declining consumer confidence in the
United Kingdom, the pace of consumption growth over the year was slightly
higher than in 2005, and consumer
spending in Canada, supported by moderate employment growth, also remained
robust. Declines in energy prices
brought Canadian consumer price inflation down after the middle of the year to
a twelve-month change of about 1V2 percent in December, below the Bank of
Canada's 2 percent inflation target. Inflation in the United Kingdom edged up
throughout the year, partly because of
increases in electricity and natural gas
prices that were implemented in the fall.
Emerging-Market Economies
Real GDP growth in China remained
strong but moderated a bit in the second
half. The mild slowdown suggests that
the administrative measures put in place
by the Chinese authorities to cool investment have had an effect. The trade surplus recorded a substantial increase in
2006. Four-quarter inflation picked up
near the end of last year to over 2 percent, reflecting higher food prices.
33
Elsewhere in emerging Asia, economic performance was generally solid
in 2006. In Korea, GDP growth slowed
from the strong pace registered in 2005,
partly because of monetary tightening,
and consumer price inflation remained
modest. The pace of growth in other
countries stayed strong throughout 2006
as a result of robust exports and, in
some cases, strengthening domestic demand. Four-quarter inflation moderated
across the region. That moderation
resulted from the waning effects of earlier reductions or removals of domestic
fuel subsidies, but the previous tightening of monetary policy in the region and
an appreciation of exchange rates also
made a contribution. Capital inflows
into several Asian emerging-market
economies—particularly Thailand—in
late 2006 and early this year put upward
pressure on local currencies. Measures
taken by Thai authorities seemed to succeed in limiting upward movement of
the baht, but share prices in the Thai
stock market fell sharply. Financial markets in other countries in the region
were less affected and showed no noticeable spillovers from events in Thailand.
Output growth in Mexico was exceptionally strong in the first half of last
year, especially in the manufacturing,
construction, and services sectors.
Growth stepped down in the second
half; construction activity remained robust but was offset by a slowdown in
exports of manufactured goods to the
United States. Mexican consumer price
inflation was elevated during the second
half by higher food prices and reached
rates above the 4 percent upper limit of
the central bank's inflation target range;
at year-end, inflation was still at the top
end of the range.
Brazilian output growth was solid in
the first quarter but slowed noticeably
later in the year, partly because of weak
manufacturing performance. Brazilian
34
93rd Annual Report, 2006
four-quarter inflation fell markedly,
from almost 6 percent at the end of 2005
to just over 3 percent in December. In
Argentina, steady growth in investment
and consumption kept real GDP on a
solid uptrend throughout 2006. The Ar-
gentine government continued to attempt to bring down inflation through
voluntary price agreements with producers in several sectors; although inflation
had edged down to the single-digit range
by year-end, it was still high.
•
35
Monetary Policy Report of July 2006
Monetary Policy and the
Economic Outlook
The U.S. economy continued to expand
at a brisk rate, on balance, over the first
half of 2006. Spending in the first quarter, which was especially robust, was
temporarily buoyed by several factors,
including federal spending for hurricane
relief and the effects of favorable
weather on homebuilding. The pace of
the expansion moderated in the spring,
to some degree because the influence of
these special factors dissipated. More
fundamentally, consumer spending
slowed as further increases in energy
prices restrained the real incomes of
households. In addition, home sales and
new homebuilding dropped back noticeably from the elevated levels of last
summer, partly in response to higher
mortgage interest rates. Outside of the
household sector, increases in demand
and production appear to have been well
maintained in the second quarter. Demand for U.S. exports was supported by
strong economic activity abroad, and
business fixed investment remained on a
solid upward trend. Early in the year, as
aggregate output increased rapidly, businesses added jobs at a relatively robust
pace, and the unemployment rate moved
down further. Since April, monthly
gains in payroll employment have been
smaller but still sufficient to keep the
jobless rate steady.
NOTE: The discussion in this chapter consists of
the text and tables from the Monetary Policy
Report submitted to the Congress on July 19,
2006; the charts from that report (as well as earlier
reports) are available on the Board's web site, at
www.federakeserve.gov/boarddocs/hh.
Thus far in 2006, inflation pressures
have been elevated. Higher prices for
crude oil contributed to a further run-up
in domestic energy costs; this year's
increases, combined with the steep
increases in 2004 and 2005, not only
boosted the prices of gasoline and heating fuel but also put upward pressure on
the costs of production for a broad range
of goods and services. Partly as a result
of these cost pressures, the rate of core
consumer price inflation picked up.
Nevertheless, measures of inflation
expectations remained contained, and
the rate of increase in labor costs was
subdued, having been held down by
strong gains in productivity and moderate increases in labor compensation.
Taking a longer perspective, the U.S.
economy appears to be in the midst of a
transition in which the rate of increase
in real gross domestic product (GDP) is
moving from a pace above that of its
longer-run capacity to a more moderate
and sustainable rate. An important element in the transition is the lagged effect
of the changes in monetary policy since
mid-2004, changes that have been intended to keep inflation low and to promote sustainable economic expansion
by aligning real economic activity more
closely with the economy's productive
potential. Moreover, longer-term interest rates have risen, contributing to
increased borrowing costs for both
households and businesses. Over time,
pressures on inflation should abate as
the pace of real activity moderates and,
as futures markets suggest, the prices of
energy and other commodities roughly
stabilize. The resulting easing in inflation should help contain long-run inflation expectations.
36
93rd Annual Report, 2006
Even as the rate of increase in real
economic activity moderates, the prospects for sustained expansion of household and business spending appear
favorable. Higher energy prices have put
strains on household budgets, but once
that effect fades, households should experience gains in real income consistent
with the ongoing expansion of jobs.
Household balance sheets remain generally sound; although some pockets of
distress have surfaced, average delinquency rates on mortgages and other
consumer debt are still low. Similarly, in
the business sector, balance sheets are
strong, credit quality is high, and most
firms have ready access to funds. Sustained expansion of the global economy,
along with the effects of the earlier
depreciation of the foreign exchange
value of the dollar, should support demand for U.S. exports. The potential for
efficiency gains, as well as further
declines in the relative cost of capital,
are likely to continue to spur capital
spending. Indeed, the ongoing advances
in efficiency should sustain solid growth
of labor productivity, providing support
for gains in real wages and income.
As always, considerable uncertainties
attend the outlook. Regarding inflation,
the margin between production and consumption of crude oil worldwide is quite
narrow, and oil markets are especially
sensitive to news about the balance of
supply and demand and to geopolitical
events with the potential to affect that
balance; adverse developments could
result in yet another surge in energy
costs. Indeed, futures markets provide
only imperfect readings on the prospects
for energy markets, as witnessed by the
fact that the surprises in crude oil prices
during the past few years have been
predominantly to the upside. In addition, a further rise in prices of other,
non-energy materials and commodities,
if it materializes, could also intensify
cost pressures. Another risk is that the
effect on imported-goods prices of earlier declines in the foreign exchange
value of the dollar, which has been limited to date, could become larger. More
broadly, if the higher rate of core inflation seen this year persists, it could induce a deterioration in longer-run inflation expectations that, in turn, might
give greater momentum to inflation.
However, the risks to the inflation outlook are not entirely to the upside. In the
current environment of elevated profit
margins, competitive forces, both in
domestic markets and from abroad,
could impose significant restraint on the
pricing decisions of businesses.
Regarding risks to the outlook for real
activity, rates of increase in real GDP
have been uneven during the past year,
complicating the assessment of whether
the pace of the economic expansion is
moving into line with its underlying potential rate. One possible risk to the
upside is that the softer tone of the
recent data on real activity will prove
transitory rather than mark a shift to a
more sustainable underlying rate of
expansion. For example, slower spending and hiring in recent months may
represent a shorter-lived adjustment to a
higher level of energy prices or to the
unusually robust increases in economic
activity earlier in the year. In coming
months, a sharp rebound in consumer
spending accompanied by an acceleration of capital spending could return real
activity to a pace that would be unsustainable over the longer run. But downside risks also exist. In particular, the
slowing in real estate markets since last
summer has been moderate, and the easing of house-price inflation has been
gradual. If the softening in the demand
for housing and in real estate values
becomes more pronounced, the resulting
drop in construction activity and the
erosion of household wealth could
Monetary Policy Report of July 2006
weaken aggregate demand noticeably.
Consumer spending might be depressed
by the loss of income and wealth, and
that effect could be amplified if the
downturn is abrupt enough to shake
households' confidence about their ability to finance spending or manage their
current financial obligations.
The Conduct of Monetary Policy
over the First Half of 2006
The Federal Open Market Committee
(FOMC) continued to firm the stance of
monetary policy over the first half of
2006. At the time of the January meeting, available information suggested that
underlying growth in aggregate demand
was solid at the turn of the year. The
expansion of real GDP in the fourth
quarter of 2005 was estimated to have
slowed temporarily, in part because of
the disruptions associated with last autumn's hurricanes. Core inflation had
stayed relatively low, and inflation expectations had remained contained. With
rising energy prices and increases in
resource utilization having the potential
to add to inflationary pressures, the
FOMC decided to extend the firming of
policy that it had implemented over the
previous eighteen months by tightening
the policy rate 25 basis points, to
4V2 percent. The Committee indicated
that some further policy firming might
be needed to keep the risks to price
stability and to sustainable economic
growth roughly in balance.
By March, economic activity appeared to be expanding rapidly, propelled by robust consumer spending and
accelerating business investment. Although readings on core inflation for
January and February were generally
favorable, higher prices for energy and
other commodities, together with relatively tight labor and product markets,
threatened to add to existing inflation
37
strains. Against this backdrop, the Committee raised the target federal funds
rate another 25 basis points, to 43A percent. The statement released at the end
of the meeting continued to point to the
possible need for further policy firming.
Data received by the time of the May
meeting confirmed that the economy
had expanded robustly in the first quarter, though both consumer spending and
housing activity appeared to have moderated in late winter. In addition, inflationary pressures had intensified as core
consumer prices rose more rapidly in
March than in earlier months. Inflation
expectations, as measured by some surveys and by comparisons of yields on
nominal and inflation-indexed Treasury
securities, also rose in April. The Committee still judged those expectations to
be contained, but it was mindful that a
further increase could impart additional
momentum to inflation, as could the
surge in energy and other commodity
prices and the drop in the foreign
exchange value of the dollar that took
place in April and early May. To gain
greater assurance that inflationary forces
would not intensify, the FOMC decided
to raise the target federal funds rate
another 25 basis points, bringing it to
5 percent. The FOMC also indicated in
the policy statement that some further
policy firming could be required. However, the Committee was aware that the
cumulative effects of past monetary policy actions on economic activity could
turn out to be larger than expected. Accordingly, the FOMC stressed that the
extent and timing of any further firming
would depend importantly on the evolution of the economic outlook as implied
by incoming data.
By the time of the June meeting,
available data appeared to confirm that
economic growth had moderated from
the strong pace evident earlier in the
year. Consumer spending had softened,
38
93rd Annual Report, 2006
and activity in housing markets had continued to cool gradually. Evidence of
inflationary pressures was accumulating, however, and core price inflation
had increased. In addition, the high levels of resource utilization and of the
prices for energy and other commodities
had the potential to spur further inflation. Consequently, the FOMC decided
to increase the target federal funds rate
an additional 25 basis points, to
5lA percent. The Committee recognized
that the moderation in the growth of
aggregate demand that appeared to be
under way would help to limit inflationary pressures over time, but it judged
that, even after its policy action, some
upside inflation risks remained. Yet the
FOMC made clear that the extent and
timing of any additional firming needed
to address those risks will depend on the
evolution of the outlook for both inflation and economic growth as implied by
incoming information.
In recent years, the FOMC has
worked to improve the transparency of
its decisionmaking process, and it continues to seek further improvements.
Between the March and May meetings,
the Chairman appointed a subcommittee
to help the FOMC frame and organize
the discussion of a broad range of communication issues. At the June meeting,
the Committee discussed the subcommittee's plans for work in coming
months and decided to begin its consideration of communication issues at its
August meeting and to lengthen meetings later this year to allow a fuller
discussion of these issues.
Economic Projections
for 2006 and 2007
In conjunction with the FOMC meeting
at the end of June, the members of the
Board of Governors and the Federal
Reserve Bank presidents, all of whom
Economic Projections for 2006 and 2007
Percent
Indicator
Federal Reserve Governors
and
Reserve Bank presidents
Central
tendency
Range
2006
Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP
PCE price index excluding
food and energy
3-3 3 / 4
31/4-31/2
2V4-3
21/4-21/2
Average level,
fourth quarter
Civilian unemployment
rate
43/4-5
2007
Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP
PCE price index excluding
food and energy
Average level,
fourth quarter
Civilian unemployment
rate
43/4-6
2V2-31/4
5-5V2
3-3x/4
2-21/4
2-21/4
41/4-5V4
43/previous
4 -5
1. Change from average for fourth
quarter of
year to average for fourth quarter of year indicated.
participate in the deliberations of the
FOMC, provided economic projections
for 2006 and 2007. In broad terms, the
participants expect a sustained, moderate expansion of real economic activity
during the next year and a half. The
central tendency of the FOMC participants' forecasts for the increase in real
GDP is VA percent to 3*/2 percent over
the four quarters of 2006 and 3 percent
to 3V4 percent in 2007. The central tendency of their forecasts for the civilian
unemployment rate is 43/4 percent to
5 percent in the fourth quarter of this
year, and the jobless rate is expected to
still be in that range at the end of 2007.
For inflation, the central tendency of the
forecasts is an increase in the price in-
Monetary Policy Report of July 2006
39
dex for personal consumption expendi- Moreover, ongoing solid gains in protures excluding food and energy (core ductivity should work to limit increases
PCE) of 2J/4 percent to 2l/i percent over in unit labor costs.
the four quarters of 2006; in 2007, the
Over the next year and a half, FOMC
forecast shows a slower rate of 2 percent participants expect the economy to
to 2lA percent, which is similar to the achieve a sustainable rate of economic
rate of core PCE price inflation in 2004 expansion. That rate will be determined
and 2005.
in large part by the rate of increase in
A slowing in activity now appears to productivity. Productivity has been risbe under way in the housing sector, ing at a solid rate over the past two
where home sales and residential con- years, albeit more slowly than the espestruction have receded from the elevated cially rapid pace that prevailed during
levels of last summer. The associated the first three years of the expansion. A
easing in house-price appreciation will strong trend in productivity is likely to
likely temper gains in household wealth, be maintained as businesses take advanwhich, over time, may be a factor in tage of new investment in facilities and
damping consumer spending. However, equipment, as diffusion of technology
households' financial positions should continues, and as organizational adreceive a boost from an acceleration of vancements and business process imreal income if energy prices stabilize as provements yield further increases in
suggested by futures markets. In the efficiency.
business sector, participants view the
outlook for fixed investment over the
forecast period as positive. Although Economic and Financial
outlays for new equipment and software Developments in 2006
may increase a little more slowly with Although last year's hurricanes caused
the deceleration in real output, invest- the pace of aggregate economic activity
ment opportunities appear to remain at- around the turn of the year to be uneven,
tractive: The relative user cost of capital real GDP increased at an average annual
for equipment, particularly high- rate of 3.6 percent in the final quarter of
technology items, is expected to remain 2005 and first quarter of 2006—about
favorable, and competitive pressures the same pace that prevailed during the
should maintain strong incentives to ex- preceding year and a half. Over this
ploit opportunities for efficiency gains period, payroll employment posted addiand cost reduction. At the same time, tional solid gains, and the unemploynonresidential construction seems likely ment rate declined further. In recent
to continue to move up. Finally, the months, the incoming information on
strong performance of the economies of real activity has suggested that the pace
the United States' major trading part- of the expansion is moderating, with the
ners should continue to stimulate U.S. deceleration in spending most apparent
in the household sector. Still, as of midexports of goods and services.
The more moderate pace of expan- year, resource utilization in labor and in
sion and the stability in resource utiliza- product markets remained high.
tion, when coupled with less pressure
Inflation picked up over the first five
from the prices of energy and other com- months of the year, boosted importantly
modities, should contribute to an envi- by the effects of rising energy prices.
ronment in which inflation expectations Long-term inflation expectations fluctuare contained and inflation edges lower. ated over the period but remained con-
40
93rd Annual Report, 2006
tained, and increases in unit labor costs
were subdued. Although short-term market interest rates rose in line with the
FOMC's firming of monetary policy,
financial market conditions were still
generally supportive of economic
expansion in the first half of 2006.
Long-term interest rates rose but were
still moderate by historical standards,
and credit spreads and risk premiums
stayed narrow.
The Household Sector
Consumer Spending
After increasing at a robust rate around
the turn of the year, consumer spending
has been rising at a more moderate pace
in recent months. Over the first half of
2006, rising employment and the lagged
effect of increases in wealth continued
to provide support for spending by
households. However, consumers' purchasing power was restrained by a further run-up in energy costs in the spring.
Sales of new cars and light trucks
bounced back sharply at the turn of the
year; those sales had slackened in late
2005 after manufacturers ended the special "employee discount" programs that
had boosted sales last summer. New
light vehicles sold at an annual rate of
16.8 million units between January and
April, about the same as the average rate
in 2004 and 2005. However, elevated
gasoline prices affected the composition
of demand, and consumers shifted their
purchases away from light trucks and
sport-utility vehicles (SUVs) and toward autos. That shift led to an increase
in the market share captured by foreign
producers. As households' concerns
about the higher price of gasoline
weighed on their attitudes toward buying vehicles, sales dipped to an annual
rate of 16.2 million units in May and
June.
Spending for other household goods,
such as furniture, electronic equipment,
food, and clothing, was quite strong in
the first quarter of 2006; real outlays for
goods other than motor vehicles
increased at an annual rate of 83/4 percent. Some moderation was to be
expected after such a surge in spending.
Estimates of retail sales, which are
available through June, suggest that real
expenditures for these goods rose more
slowly in the second quarter. In contrast
to the uneven pattern of spending for
goods, real outlays for consumer services remained on a moderate upward
trend over the first half of 2006; they
rose at an annual rate of 2V2 percent
from the fourth quarter of 2005 through
May 2006.
Boosted by gains in nominal wage
and salary income, after-tax aggregate
personal income rose at an annual rate
of 4 percent over the first five months
of 2006. However, the acceleration in
consumer prices held real income about
constant. As a result, the steep decline
in the personal saving rate, which began
in 2004, extended into 2006. Since
2003, rising household wealth has
provided important support for spending, even as gains in real income have
been damped by increases in energy
prices. In 2005 and the first part of
2006, much of the increase in wealth
was the result of the rapid appreciation
in the value of homes.
According to the survey by the University of Michigan Survey Research
Center (SRC), the run-up in energy
prices contributed importantly to the deterioration in consumer confidence this
spring. Consumers' pessimism peaked
in May and then lessened somewhat, on
average, in June and early July. Nonetheless, at midyear, households indicated that they were still concerned
about the effect of the high cost of
energy on their financial situation. In
Monetary Policy Report of July 2006
41
Although recent increases in house
prices have been smaller than those that
accompanied the robust real estate markets of 2004 and 2005, the deceleration
thus far appears to have been modest.
The repeat-transactions index of house
prices, which is published by the Office
Residential Investment
of Federal Housing Enterprise OverThe demand for homes had begun to sight, increased at an annual rate of
1
soften in the summer of 2005, and, by 1 A percent in the first quarter of 2006,
the spring of 2006, starts of new single- the smallest quarterly increase since the
family homes were well below the very fourth quarter of 2001; that index atrapid pace that had prevailed in the pre- tempts to control for the quality of existceding two years. The reduced level of ing single-family homes sold by using
activity in real estate markets also led to prices of homes involved in repeat transsome easing in house-price appreciation actions (excluding refinancings). The
first-quarter reading brought the yearearly this year.
Sales of new and existing single- over-year change in this measure to 10
family homes, which had been climbing percent; in the second and third quarters
steadily since 2003, stopped rising dur- of 2005, purchase prices according to
ing the third quarter of 2005. By May, this index were up IIV2 percent from
sales of new and existing homes to- the level of a year earlier. An alternative
gether were 7V4 percent below their measure of house prices is the average
peak in June 2005. The cooling in sales price of existing single-family homes
caused inventories of unsold homes to sold, which is published by the National
rise. In May, the backlog of unsold new Association of Realtors. This measure,
homes equaled SVi months' supply at which does not control for the type of
that month's selling rate, and the back- homes sold, showed that the year-overlog of existing homes on the market was year change in prices peaked at
6V2 months' supply; in 2005, the stocks IIV2 percent in August 2005 and then
of both unsold new and existing homes fell to 4 percent in April and May of this
averaged roughly 4V2 months of supply. year. The greater deceleration in the latAn increase in mortgage rates contrib- ter measure suggests that, in addition to
uted to the slackening in the demand for some softening in prices, the mix of
housing. Since the middle of 2005, the existing units sold may have shifted toaverage rate for a thirty-year fixed-rate ward lower-priced homes.
The effect of the slowdown in demortgage has increased about 1 percentage point, to 63/4 percent, and the aver- mand on new construction became apage for a one-year adjustable-rate mort- parent during the second half of 2005,
gage has risen a bit more, to 53A percent. when the number of permits issued for
According to respondents to the Michi- new single-family homes began to fall.
gan SRC survey, the rise in borrowing This year, the decline in permit issuance
costs has been an important consider- was relatively steady from January to
ation damping their assessment of buy- May. Nonetheless, new single-family
ing conditions for homes since mid- homes were started at an exceptionally
2005; the rise in home prices has high annual rate of 1.75 million units
apparently also weighed on consumers' during the first quarter, when builders
were able to begin work on scheduled
attitudes.
addition, households' assessments of
current and expected business conditions remained considerably less optimistic than they were at the beginning
of the year.
42
93rd Annual Report, 2006
projects earlier than normal because of
favorable weather conditions. With
some starts having been advanced into
the first quarter, single-family starts
dropped to an average rate of 1.57 million units in April and May. In contrast
to the recent trend in the single-family
sector, construction of new multifamily
homes averaged an annual rate of
360,000 units from January to May,
about where it has been for more than
four years.
Housing activity, as measured by real
expenditures on residential structures,
contributed almost Vi percentage point
per year to the annual rate of increase in
real GDP in 2004 and 2005. In the first
quarter of 2006, that contribution
dropped to 0.2 percentage point; with
the reduced pace of sales and construction since the winter, a decline in residential investment is likely to have held
down the rise in real GDP in the second
quarter.
Household Finance
Household debt expanded at an annual
rate of about IIV2 percent in the first
quarter of 2006, about the same pace as
in 2005. Despite the rise in mortgage
rates and the slowing in housing activity, home mortgage debt expanded rapidly again early in the year as homeowners apparently continued to extract some
of the substantial gains in equity that
they have accumulated on their homes
in the past several years. Indeed, according to industry estimates, although the
number of homeowners refinancing
their mortgages has remained well below that seen during the refinancing
boom of several years ago, a large fraction of homeowners who have refinanced so far this year have chosen to
withdraw equity from their homes. As
has been the case in recent years, this
mortgage-related borrowing likely re-
placed, in part, some consumer credit
borrowing, which, at an annual rate of a
bit less than 3 percent, continued to
expand modestly in the first five months
of 2006.
The ratio of household financial obligations to disposable income rose
0.1 percentage point in the first quarter
to about 183/4 percent, narrowly exceeding the top of its historical range. Nonetheless, the evidence points to only limited pockets of financial distress in the
household sector. Delinquency rates on
residential mortgages were low by historical standards in the first quarter,
though they have edged higher since the
middle of last year, particularly in the
subprime sector. Delinquency rates on
consumer debt also continued to be low.
Meanwhile, household bankruptcy filings remained subdued in the first half
of 2006, running at a pace well below
the average of recent years. Bankruptcies have likely been damped this year
in part by the decision of some households in the fall of 2005 to accelerate
their filings to avoid the implementation
of a stricter bankruptcy law in October.
More recently, they may also have been
restrained by the greater costs of bankruptcy under the new law.
The Business Sector
Fixed Investment
Real business fixed investment increased at a solid rate, on average, during the final quarter of 2005 and the first
quarter of 2006. Over that period, real
business spending for new equipment
and software rose at an annual rate of
93/4 percent, a pace similar to that over
the first three quarters of 2005. In addition, investment in nonresidential structures, which had remained weak in
2005, turned up noticeably in early
2006. The underlying determinants of
Monetary Policy Report of July 2006
capital spending have stayed quite positive: Businesses have seen steady
increases in sales, robust profits, and
declining user costs for equipment; they
have ample liquid assets; and, despite
the rise in interest rates, credit quality is
strong.
Real outlays for equipment and software rose at an annual rate of
143A percent in the first quarter after
having risen at a 5 percent rate in the
fourth quarter of 2005. As can often be
the case, the timing of spending for a
number of types of equipment was uneven between these two quarters. Business purchases of cars and trucks slowed
in late 2005, after manufacturers reduced their special discounts on light
vehicles, and then recovered in the first
quarter. The first-quarter rebound was
strengthened by a further acceleration of
outlays for medium and heavy trucks.
According to industry analysts, businesses have been pulling forward these
purchases because the engines in the
2007 models will be required to meet
new emission regulations by the Environmental Protection Agency that will
make the new vehicles more costly to
operate. Deliveries of commercial aircraft to domestic customers also rebounded in the first quarter from a very
low level in the fourth quarter.
Demand for high-technology equipment stepped up noticeably in the first
quarter because of a sharp jump in outlays for communications equipment.
Providers of telecommunications services appear to be investing heavily in
fiber-optic networks, which will allow
them to offer a wider range of Internet
services; the recent spurt likely also
includes some replacement demand for
equipment damaged by last year's hurricanes. In contrast, business demand for
computing equipment, while still increasing at a double-digit pace in real
terms, has been relatively modest by
43
historical standards so far this year.
Industry analysts suggest that firms may
be delaying investment in anticipation
of introductions, later this year and in
early 2007, of several products that will
allow faster and more energy-efficient
processing. Spending on equipment
other than transportation and high-tech
goods continued to trend up at a solid
pace, on average, during the fourth and
first quarters. Demand was particularly
strong for metalworking and general
industrial machinery as well as for
equipment used in construction, energy
extraction, and services industries.
Demand for equipment and software
appears to have risen again in the second quarter. The information from U.S.
manufacturers on their orders and shipments of nondefense capital goods and
the data on imports of capital goods
suggest that business spending for
equipment other than transportation and
high-tech items remained on a strong
upward trajectory in April and May. The
elevated backlog of unfilled orders at
domestic firms likely provided support
for factory production of capital equipment in the second quarter. The indicators of demand for high-tech equipment
suggest that spending for communications equipment remained at a high
level, and real outlays for computing
equipment were still rising slowly. Sales
of medium and heavy trucks continued
to be robust in the second quarter,
although they eased slightly from the
exceptional rate at the beginning of the
year.
Real expenditures for nonresidential
construction increased at an annual rate
of 12V2 percent in the first quarter after
having edged up slightly during 2005.
Last year, the small net increase in this
sector reflected a sharp upturn in spending on structures used in domestic
energy exploration; construction of new
office and industrial buildings was re-
44
93rd Annual Report, 2006
strained by elevated vacancy rates.
However, vacancy rates for office and
industrial properties gradually declined
over the course of 2005, and, by the
turn of the year, nonresidential construction began to firm. As a result, the
increase in nonresidential investment in
the first quarter of 2006 was broadly
based; it included pickups in outlays in
the office, retail, and industrial sectors
in addition to another steep rise in
spending on structures associated with
energy exploration.
Inventory Investment
Business inventories appear generally to
be well aligned with sales. In surveys
taken during the first six months of
2006, about two-thirds of purchasing
managers at manufacturing firms who
responded characterized the level of
their customers' inventories as about
right. A similar proportion of respondents at nonmanufacturing firms reported that they were comfortable with
their own levels of inventories. However, dealer stocks of new light motor
vehicles, particularly trucks (including
SUVs), have risen noticeably as sales
have slowed; inventories of light trucks
reached an uncomfortable 89 days' supply in May. In late June, a number of
manufacturers introduced a new round
of incentives aimed at reducing dealer
stocks in advance of the introduction of
their new models this fall.
Corporate Profits
and Business Finance
Corporate profits were again strong in
the first quarter of 2006, and earnings
per share for S&P 500 firms rose about
15 percent from the same time last year.
Gains were widespread but were especially large for firms in the energy sector. Before-tax profits of nonfinancial
corporations measured as a share of sector GDP rose to about 14 percent in the
first quarter, above the previous peak
reached in 1997.
The expansion of business debt
picked up to an annual rate of nearly
10 percent in the first quarter of this
year, and data in hand suggest a robust
pace in the second quarter. A substantial
fraction of borrowing proceeds reportedly went to finance mergers and acquisitions in the first half of the year. Net
bond issuance has been strong so far in
2006. Short-term borrowing by nonfinancial corporations stepped up in the
first quarter of 2006 after slowing somewhat in the fourth quarter of last year; it
appears to have remained strong in the
second quarter as well. Commercial
paper outstanding started rising again,
on balance, after edging lower in 2005.
Bank business loans outstanding
expanded at an annual rate of 15V2 percent in the first quarter. Businesses benefited from a more accommodative lending environment: For example, a
significant net fraction of respondents to
the Federal Reserve's Senior Loan Officer Opinion Survey on Bank Lending
Practices in April 2006 noted that their
institutions had eased both standards and
terms on commercial and industrial
loans in the first three months of the
year. The most commonly cited reasons
for the easing of lending policies were
more-aggressive competition from other
banks and nonbank lenders, increased
liquidity in the secondary market for
business loans, and increased tolerance
for risk.
Gross equity issuance has remained
moderate so far this year, while an elevated level of cash-financed mergers
along with record share repurchases has
produced further sizable net equity retirements. Taken together, net funds
raised by nonfinancial corporations in
the credit and equity markets have been
Monetary Policy Report of July 2006
slightly negative in 2006, an indication
that nonfinancial corporations have financed their increased investment
spending with internal funds.
With profitability strong and balance
sheets flush with liquid assets, credit
quality in the nonfinancial business sector generally has remained quite high.
The six-month trailing default rate on
corporate bonds dropped after some
large firms in the troubled airline and
automobile sectors defaulted during the
past fall and winter. Delinquency rates
on business loans have stayed near the
bottom of their historical range.
Commercial real estate debt expanded
briskly in the first half of 2006, albeit
not as quickly as during 2005. Spreads
on BBB-rated commercial-mortgagebacked securities have fallen this year.
The decline reversed an increase that
took place at the end of last year, when
issuance surged; these spreads are now
back in line with those of comparablequality corporate bonds. With rents
climbing and vacancy rates falling, delinquency rates on commercial real estate loans have been low, and credit
quality has remained generally good.
The Government Sector
Federal Government
The deficit in the federal unified budget
narrowed further during the past year.
Over the twelve months ending in June,
the unified budget recorded a deficit of
$276 billion, about $60 billion less than
during the comparable period last year.
The federal deficit over the twelve
months ending in June was approximately 2 percent of nominal GDP and
was significantly lower than its recent
fiscal year peak of 3.6 percent of GDP
in 2004. Although outlays increased
faster than nominal GDP over the past
year, the rise in receipts was even larger.
45
Thus, in its recent Mid-Session Review
of the budget, the Administration estimated that the federal government will
finish fiscal 2006 with a deficit of $296
billion; that figure marks a decline from
the fiscal 2005 deficit of $318 billion
and is much lower than most analysts
had projected at the beginning of this
year.
During the twelve months ending in
June, federal receipts were 13V4 percent
higher than over the same period a year
earlier and equivalent to almost
I8V4 percent of nominal GDP. Income
tax receipts from individuals have outpaced the rise in nominal income; final
tax payments on income from 2005 were
especially strong in April and May. Corporate tax payments continued to rise at
a robust rate, even faster than corporate
profits.
Nominal federal outlays rose 9 percent between June 2005 and June 2006
and were about 2OV2 percent of nominal
GDP. The rise in outlays was bolstered
by increases in several components of
federal spending. Net interest payments
increased 20 percent over the year ending in June as federal debt continued to
rise and interest rates increased. Medicare outlays were up 14V2 percent; since
the inception of the new Part D prescription drug program in January, outlays
for benefits have added more than $20
billion to spending in this category. Legislative actions related to the hurricanes
in the Gulf Coast region last autumn
have added significantly to spending for
disaster relief over the past ten months.
Although defense spending has slowed
from the annual double-digit rates of
increase from 2002 to 2004, it still has
increased about 8 percent per year in the
past two years.
As measured in the national income
and product accounts (NIPA), real federal expenditures on consumption and
gross investment—the part of federal
46
93rd Annual Report, 2006
spending that is a direct component of
real GDP—increased at an annual rate
of VA percent, on average, during the
final calendar quarter of 2005 and the
first calendar quarter of 2006 and contributed roughly 0.3 percentage point to
the annualized change in real GDP over
the period. Over these two quarters, real
defense purchases were about constant,
on average, while spending related to
disaster relief from the hurricanes contributed importantly to a rise in real
nondefense purchases.
The narrowing of the federal deficit
recently has reduced its drain on national saving. However, net national saving excluding the federal government
has remained low relative to historical
norms. Although the saving rate for private business has moved up during the
past two years, the improvement has
been offset by the further decline in
personal saving. Overall, national saving, net of depreciation, stood at
2V2 percent of nominal GDP in the first
quarter of 2006. Although the recent
rate is a noticeable improvement from
the lows of the preceding few years, it
has been insufficient to avoid an increasing reliance on borrowing from abroad
to finance the nation's capital spending.
Federal Borrowing
Federal debt rose at an annual rate of
13 percent in the first quarter, a bit less
than in the corresponding quarter of
2005. In February, federal debt subject
to the statutory limit reached the ceiling
of $8,184 trillion, and the Treasury resorted to accounting devices to avoid
breaching the limit. The Congress subsequently increased the debt ceiling to
$8,965 trillion in March. In the second
quarter, federal debt likely declined temporarily because of a surge in tax receipts. On net, the Treasury has raised
substantially less cash in the market so
far this year than in the comparable
period of 2005.
In February, the Treasury conducted
an auction of thirty-year bonds for the
first time since 2001. The issue generated strong interest, especially from
investment funds; foreign investors were
awarded only a small fraction of the
total. In general, foreign demand for
Treasury securities appears to have
eased somewhat in 2006. The proportion of nominal coupon securities
bought at auction by foreign investors
has continued to fall from its peak of
24 percent in 2004; it averaged about
14 percent in the first six months of
2006. Data from the Treasury International Capital system generally suggested subdued demand from both foreign private investors and foreign
official institutions over this period. The
amount of Treasury securities held in
custody at the Federal Reserve Bank of
New York on behalf of foreign official
and international accounts has changed
little since the end of 2005.
State and Local Governments
The fiscal positions of states and localities continued to improve through early
2006. In particular, revenues are on track
to post a relatively strong gain for a
third consecutive year. Tax receipts from
sales, property, and personal and corporate income were up %lA percent during
the year ending in the first quarter of
2006, a rate similar to the increase in the
preceding year. The sustained strength
in revenues has enabled these jurisdictions to increase their nominal spending
somewhat while rebuilding their reserve
funds. On a NIPA basis, net saving by
state and local governments—a measure
that is broadly similar to the surplus in
an operating budget—rose to an annual
rate of $21 Vi billion in the first quarter
of 2006 after having been close to zero
Monetary Policy Report of July 2006
in 2005. Although most states have seen
improvement, a number of states are
still struggling with structural imbalances in their budgets, and those in the
Gulf Coast region are coping with demands related to damage from last
year's hurricanes. In addition, local governments may face pressure to hold the
line on property taxes after the sharp
increases in the past several years, and
governments at all levels will have to
contend with the need to provide pensions and health benefits to a rising
number of retirees in coming years.
Real expenditures by state and local
governments on consumption and gross
investment, as estimated in the NIPA,
rose at an annual rate of Wi percent in
the first quarter of 2006 after having
increased roughly 1 percent per year in
2004 and 2005. Real expenditures for
investment turned up in the first quarter
after having fallen during the second
half of 2005. Real outlays for current
consumption posted a moderate increase
in the first quarter, and that trend
appears to have continued into midyear.
Hiring by state and local governments
was slow early in the year but appears to
have firmed in the spring. Of the cumulative increase in employment of
100,000 between December and June,
40 percent of the jobs were in education.
State and Local Government
Borrowing
Borrowing by state and local governments has slowed thus far in 2006. The
deceleration likely reflects the general
improvement in budget conditions and a
decline in advance refundings, which
have dropped below their 2005 pace
amid rising interest rates and a dwindling pool of eligible securities. Credit
quality in the state and local sector has
continued to improve, and upgrades of
credit ratings have far outnumbered
47
downgrades. Consistent with the improvement in credit quality, yields on
long-dated municipal bonds have increased substantially less than those on
comparable-maturity Treasury securities, and the yield ratio has accordingly
fallen sharply.
The External Sector
The U.S. current account deficit narrowed in the first quarter of 2006 to
$835 billion at an annual rate, or about
6V2 percent of nominal GDP, from
$892 billion in the fourth quarter of
2005. The narrowing resulted from three
factors. Unilateral transfer payments to
foreigners dropped, largely because of a
decrease in government grants. The
trade deficit narrowed, primarily because the value of imported oil and natural gas declined. In addition, higher
direct investment receipts and lower
direct investment payments produced
an increase in the investment income
balance.
International Trade
Real exports of goods and services
increased \A3A percent at an annual rate
in the first quarter of 2006, far faster
than the 6V2 percent rate recorded in
2005. The surge in export growth in the
first quarter resulted in part from a
recovery in exports of many types of
industrial supplies following a period of
hurricane-related disruptions late last
year. Exports of capital goods also
increased rapidly in the first quarter,
with deliveries of aircraft to foreign carriers exhibiting particular strength. The
first-quarter increase in exports was
widespread across destinations, a sign of
robust economic activity in many parts
of the world, and exports to Mexico and
Canada showed especially large increases. Real exports of services rose
48
93rd Annual Report, 2006
at an annual rate of about 6*/2 percent in
the first quarter after increasing just
23/4 percent in 2005. Available data for
nominal exports in April and May suggest that the increase in real exports was
smaller in the second quarter, held down
in part by a drop in aircraft exports after
a strong first quarter.
Prices of exported goods increased at
an annual rate of 23A percent in the first
quarter of 2006, a pace somewhat faster
than in the second half of 2005. Prices
of non-agricultural industrial supplies
continued to increase steadily in the first
quarter, driven importantly by higher
prices for oil and metals. An acceleration in prices for finished goods, especially for capital and consumer goods,
contributed to the faster pace of export
price inflation in the first quarter. The
available data for the second quarter
point to further increases in export
prices on the strength of additional runups in the prices of non-agricultural
industrial supplies, especially metals.
Real imports of goods and services
rose at an annual rate of 103/4 percent in
the first quarter, slightly slower than in
the fourth quarter but still considerably
faster than the 5lA percent rate observed
for 2005 as a whole. Robust growth of
real GDP in the United States supported
the first-quarter increase in imports.
Among categories of goods, large
increases in imports of consumer goods,
automotive products, and capital goods,
particularly computers, more than offset
declines in imports of oil and some other
industrial supplies. The rise in imports
in the first quarter was widely distributed across countries, and the increases
for China and Mexico were especially
large. Real imports of services jumped
at an annual rate of 8V2 percent in the
first quarter. Nominal imports in April
and May point to an abrupt slowing of
real imports in the second quarter from
the first quarter's rapid pace.
Prices of imported goods excluding
oil and natural gas rose at an annual rate
of about 1 percent in the first quarter of
2006, 3/4 percentage point faster than the
pace in the second half of 2005. Prices
of material-intensive goods, such as
nonfuel industrial supplies and foods,
increased steadily in the last quarter of
2005 and in the first quarter of 2006.
Also in the first quarter, prices of finished goods, such as consumer goods
and many kinds of capital goods, turned
up slightly. Available data for the second quarter indicate that prices of finished goods kept rising at a subdued
pace. However, prices of materialintensive goods continued to increase
sharply, a development reflecting higher
prices for metals. The International
Monetary Fund's index of global metals
prices rose 46 percent between December 2005 and May 2006, largely because
of robust global demand. In June, metals
prices retreated about 8 percent,
although they remained well above the
levels of earlier this year.
The spot price of West Texas intermediate crude oil increased from around
$60 per barrel at the end of last year to
more than $75 per barrel in July, higher
than the peak that followed last year's
hurricanes. Oil prices have been highly
sensitive to news about both supply and
demand, particularly in light of the narrow margin of worldwide spare production capacity. Global oil demand has
continued to grow as the foreign economic expansion has spread, and developing countries have posted the largest
increases in oil consumption. Recent
events in the Middle East—including
concerns over Iran's nuclear program,
violence in Iraq, and the recent conflict
in Lebanon—have put additional
upward pressure on oil prices. In Nigeria, attacks against oil infrastructure
have reduced oil production for most of
this year. Government intervention in
Monetary Policy Report of July 2006
energy markets also raised concerns
about supply from some countries: In
recent months, Bolivia nationalized its
natural gas reserves, and Venezuela and
Russia continued to tighten governmental control of their energy industries.
The rise in the price of the far-dated
NYMEX oil futures contract (currently
for delivery in 2012) to more than $70
per barrel likely reflects a belief by oil
market participants that the balance of
supply and demand will remain tight
over the next several years.
The Financial Account
The U.S. current account deficit continues to be financed primarily by foreign
purchases of U.S. debt securities. Foreign official inflows in the first quarter
maintained the strength exhibited in
2005 but remained below the record
levels of 2004. As in recent years, the
majority of these official inflows were
attributable to Asian central banks and
have taken the form of purchases of U.S.
government securities.
Foreign private purchases of U.S. securities continued in the first quarter at
the extraordinary pace set in the second
half of 2005. Although private flows
into U.S. Treasury bonds were significantly smaller than in recent quarters,
this slowing was more than offset by
larger flows into agency bonds and equities. Preliminary data for April and May
suggest a slowdown in foreign purchases of U.S. securities relative to the
first quarter. Foreign direct investment
flows into the United States continued
in the first quarter near last year's average levels.
Net purchases of foreign securities by
U.S. residents, which represent a financial outflow, strengthened slightly in the
first quarter and continued at a solid
pace in April and May. In addition, significant outflows were associated with
49
U.S. direct investment abroad, a reversal
of some unusual inflows in the second
half of 2005. These second-half inflows
were prompted by the partial tax holiday
offered under the 2004 Homeland
Investment Act (HIA), which induced
the foreign affiliates of U.S. firms to
repatriate a portion of earlier earnings
that had been retained abroad. In the
first quarter, the foreign affiliates partially unwound the HIA-induced flows
by retaining an unusually large portion
of their first-quarter earnings. Increased
merger activity abroad also boosted
direct investment outflows in the first
quarter.
The Labor Market
Employment and Unemployment
Conditions in the labor market
continued to improve in the first half of
2006, although the pace of hiring has
slowed in recent months. Nonfarm
payroll employment increased 176,000
per month during the first quarter, a rate
roughly in line with the relatively brisk
pace that prevailed during 2004 and
2005. During the second quarter, hiring
slowed, and monthly gains in payrolls
averaged 108,000 jobs per month. Over
the two quarters, the civilian unemployment rate edged down further, to the
lowest quarterly level of joblessness in
five years.
In the first quarter, with homebuilding
quite strong, hiring continued to be particularly robust at construction sites; part
of this strength was the result of favorable weather, which allowed more construction activity than is typical during
the winter months. Although nonresidential construction activity was firming
by the spring, the pullback in housing
starts slowed the demand for residential
contractors and workers in the building
trades. As a result, monthly additions to
50
93rd Annual Report, 2006
construction industry payrolls declined
from more than 25,000 per month in the
first quarter to just 3,000 per month in
the second quarter. Cutbacks at retailers
also were an important factor holding
down the overall gain in employment in
the second quarter. After having been
stable early in 2006, employment at
retail outlets fell almost 30,000 per
month between March and June; most
of the cutbacks occurred at general
merchandisers.
In other sectors, employment remained on a solid upward trend during
the first half of the year. As has been the
case since mid-2004, establishments
providing education and health services,
those offering professional and technical
business services, and those involved in
financial activities, taken together,
added more than 60,000 jobs per month.
Employment in manufacturing, which
had turned up at the end of 2005, rose
further over the first half of 2006.
Expanding industrial production was
also associated with further job gains in
related industries, such as wholesale
trade and transportation. In addition, the
increase in energy production led to a
sustained rise in employment in the
natural resources and mining industry
over the first half of the year.
The increase in job opportunities so
far in 2006 led to a further reduction in
the civilian unemployment rate, from an
average of 5.0 percent in the second half
of 2005 to 4.7 percent in the second
quarter of 2006. Although hiring moderated in the spring, layoffs remained low.
New claims for unemployment insurance (UI) dipped below 300,000 per
week in January and February and then
fluctuated around a still-low level of
about 315,000 per week for most of the
period from March through early July.
Over the first half of 2006, longer-term
unemployment (fifteen weeks or more)
also moved down, and the proportion of
UI claimants who remained on the unemployment rolls until the exhaustion of
their benefits continued to recede.
After having edged up during 2005,
the labor force participation rate was
relatively stable over the first half of
2006 despite the ongoing improvement
in labor market conditions. Rates for
most broad age groups were little
changed from last year's levels. From a
longer perspective, developments during the past decade highlight the importance of structural as well as cyclical
influences on participation. The rise in
the attachment of adult women to the
workforce, which was a significant factor in the secular rise in participation
over much of the post-World War II
period, appears to have leveled off. And
the aging of the population is increasing
the proportion of the workforce that is
55 years and older; it rose from less than
12 percent in 1996 to 163/4 percent in
recent months. Although older workers
have tended in recent years to stay in the
labor force longer, their participation
rate, at 38 percent in the second quarter,
was less than half the rate for workers
who are age 25 to 54. Thus, the demographic shift to an older population has
already begun to reduce the overall rate
of labor force participation and has offset part of the rise in participation that
has been associated with the cyclical
upturn in job creation. The secular
forces that are slowing the expansion of
the labor force imply that the increase in
employment that is consistent with a
stable unemployment rate will, over
time, be smaller than it was during the
period when labor force participation
was rising steadily.
Productivity and Labor Costs
After having advanced at an unusually
rapid rate from 2001 to mid-2004, labor
productivity in the nonfarm business
Monetary Policy Report of July 2006
sector increased at a more moderate
annual rate of 2Vi percent from mid2004 to early 2006. Nonetheless, by historical standards, productivity performance recently has still been solid, with
gains at a rate matching those during the
second half of the 1990s. In an environment of a sustained expansion of aggregate demand, businesses have gradually
adjusted their use of labor, capital, and
services to achieve ongoing gains in
efficiency. Productivity has continued
to benefit importantly from investment
in new technologies, organizational
changes, and improvements in business
processes, although the contribution
from capital deepening has been smaller
in recent years than it was during the
capital investment boom of the late
1990s.
Broad measures of hourly labor compensation, which include both wages
and the costs of benefits, posted moderate gains over the year ending in early
2006 despite the run-up in headline price
inflation and the further tightening of
labor markets. Both the employment
cost index (ECI) and the estimate of
compensation per hour that uses data
from the national income and product
accounts increased 23A percent between
the first quarter of 2005 and the first
quarter of 2006.1 Both series had reported higher rates of change in hourly
labor compensation a year earlier.
The deceleration in labor compensation appears to have been associated
largely with smaller increases in employers' benefit costs. The benefits component of the ECI was up just 3 percent
between March 2005 and March 2006,
compared with an increase of 5.5 percent between March 2004 and March
1. The Bureau of Labor Statistics (BLS) developed a new ECI series and has provided data for
the changes in that series beginning in 2001. The
BLS considers the new ECI to be continuous with
the old series.
51
2005. The cost of health insurance,
which typically accounts for about onefourth of overall benefit costs, rose just
43/4 percent during the year ending in
March 2006; between 2000 and 2005,
these costs increased, on average,
83/4 percent per year. Another likely contributor to the slower rise in benefit
costs over the past year was smaller
employer contributions to their definedbenefit pension plans; those costs
dropped back somewhat after employers
made sizable payments to bolster those
pension assets in 2004.
Indicators of the recent trend in the
wage component of worker compensation have been providing mixed signals.
As measured in the ECI, wages rose
2.4 percent between March 2005 and
March 2006, slightly less than in the
preceding two years. In contrast, the
year-over-year change in average hourly
earnings of production or nonsupervisory workers—which refers to a narrower group of private nonfarm employees and has tended to show greater
cyclical variation than the ECI—has
increased steadily over the past three
years. Average hourly earnings rose
3.9 percent over the twelve months ending in June 2006, compared with an
increase of 2.7 percent over the twelve
months ending in June 2005.
Prices
Inflation pressures were elevated during
the first half of 2006. The chain-type
price index for personal consumption
expenditures (PCE) rose at an annual
rate of 4x/4 percent between December
2005 and May 2006. Over the same
period, core PCE prices increased at an
annual rate of 2.6 percent, nearly
0.6 percentage point faster than over the
twelve months of 2005.
Although energy prices eased temporarily in February, they turned up
52
93rd Annual Report, 2006
Alternative Measures of Price Change
Percent
Price measure
2004
to
2005
2005
to
2006
2.8
3.1
3.1
3.5
2.7
2.2
3.0
1.9
1.8
1.5
3.0
2.1
4.0
2.4
Chain-type (Ql to Ql)
Gross domestic product (GDP) .
Gross domestic purchases
Personal consumption
expenditures (PCE)
Excluding food and energy . . .
Market-based PCE excluding
food and energy
Fixed-weight (Q2 to Q2)
Consumer price index
Excluding food and energy . . .
NOTE: Changes are based on quarterly averages of
seasonally adjusted data.
sharply again from March to May; as a
result, the PCE price index for energy
increased 13 percent (not at an annual
rate) over the first five months of 2006,
a rise that marked a continuation of the
steep climb in prices that began in 2004.
This year, almost the entire rise in
energy prices has been associated with
higher prices for petroleum-based products. The PCE price index for gasoline
and motor fuel, which increased more
than I6V2 percent last year, climbed
another 24 percent (not at an annual
rate) by May. Although recent data from
the Department of Energy indicate that
gasoline prices fell back in June, they
moved up again in early July. Retail
prices of gasoline this year have risen
faster than the cost of crude oil in part
because of the additional cost of producing and distributing reformulated product with ethanol. Also, the demand for
fuel ethanol has been strong relative to
the current capacity to produce it. In
contrast, the consumer price of natural
gas has turned down this year as inventories have remained relatively high; the
price decline between January and May
almost completely reversed the steep
run-up that occurred last autumn.
Food price inflation remained moderate during the first five months of 2006;
between December 2005 and May 2006,
the PCE price index for food and beverages increased at an annual rate of
2lA percent. Retail prices of meat and
poultry have fallen so far this year.
Domestic supplies of meat have been
ample. Production has been expanding
at a time when export demand for beef
has been soft largely because of bans on
imports of U.S. beef by Japan and
Korea. Prices of processed food have
continued to rise at only a moderate rate
despite higher prices for grains; export
demand for grains has been strong, and
the price of corn has been boosted by
demand from producers of ethanol.
Prices for food consumed away from
home, which typically are influenced
heavily by labor and other business
costs, have continued to increase
relatively rapidly, rising at an annual
rate of 33A percent over the first five
months of the year.
The pickup in core inflation in the
first half of 2006 was evident in the
indexes for both goods and services.
Prices of consumer goods excluding
food and energy, which were unchanged
in 2005, edged up at an annual rate of
3
/4 percent this year. Prices of consumer
services also accelerated this spring; as
a result, the PCE price index for nonenergy services increased at an annual
rate of 3Vi percent between December
2005 and May 2006, compared with a
rise of 23/4 percent in 2005. In the three
months ending in May, increases in
housing rents were especially steep; the
rise may reflect, in part, a shift in demand toward rental units because home
purchases have become less affordable.
Another contributor to the higher inflation rate for consumer services has been
the acceleration in the index for nonmarket services to an annual rate of 4 percent over the first five months of the
Monetary Policy Report of July 2006
year from 3 percent last year.2 More
broadly, the pickup in core consumer
price inflation over the first five months
of 2006 likely is the result of the passthrough of higher energy costs to a wide
range of goods and services.
The cost pressures from the increase
in energy costs during the past three
years have been apparent in rising prices
of inputs used in the production and sale
of final goods and services. The producer price index for intermediate
goods, excluding food and energy, rose
at an annual rate of 11A percent between
December 2005 and May 2006; this index rose 43A percent in 2005 and
SV4 percent in 2004. In particular, prices
of industrial chemicals, fertilizer, and
stone and clay products, for which
energy represents a relatively high share
of the total costs of production, accelerated over the past several years. The
costs of a number of important business
services, particularly transportation by
air, rail, and truck, have also been
boosted by higher energy costs. The
pass-through of the costs of energy to
consumer prices is clear for a few items,
such as airfares. For other components
of core consumer price indexes, however, the extent of the pass-through is
harder to trace. Quantifying the extent
of the pass-through is difficult, in part
because it is diffused through a wide
range of retail goods and services. In
addition, the cost of energy is a small
share of overall costs—and that share
has been declining over time as businesses adopt more energy-efficient technologies and households reduce their
consumption of energy. Nonetheless, the
cumulative rise in energy costs in recent
years has been large enough to show
2. These are services—such as foreign travel or
the financial services provided by banks—for
which no prices based on market transactions are
available; the Bureau of Economic Analysis must
impute or estimate these indexes.
53
through to pricing of final goods and
services even as businesses have seen
their labor costs, which represent
roughly two-thirds of their costs, remain
restrained.
Near-term inflation expectations were
also influenced importantly over the first
half of 2006 by movements in energy
prices, but, as of midyear, they were
only slightly higher than they were at
the turn of the year. The Michigan SRC
survey measure of the median expectation of households for inflation over the
next twelve months held steady at
3 percent during the first three months
of the year but then rose sharply to
4 percent in May as gasoline prices
climbed. By early July, this measure of
near-term inflation expectations dropped
back to 3.1 percent. Longer-term inflation expectations remained within the
ranges in which they have fluctuated in
recent years. On average over the first
half of 2006, the median respondent to
the Michigan SRC survey continued to
expect the rate of inflation during the
next five to ten years to be just under
3 percent. In June, the Survey of Professional Forecasters, conducted by the
Federal Reserve Bank of Philadelphia,
reported expected inflation at a rate of
2x/2 percent over the next ten years, an
expectation that has been roughly unchanged for the past eight years. Inflation compensation implied by the spread
of yields on nominal Treasury securities
over their inflation-protected counterparts rose slightly, on net, over the first
half of the year; in early July it was just
above 2Vi percent.
U.S. Financial Markets
U.S. financial markets functioned
smoothly in the first half of 2006 against
the backdrop of increased volatility in
some asset prices. Yields on nominal
Treasury coupon securities rose about
54
93rd Annual Report, 2006
70 basis points, on net, through early
July as investors came to appreciate that
economic conditions and inflation pressures required more monetary policy
tightening than they had expected at the
end of 2005. Equity prices advanced
until mid-May but then reversed those
gains. Apparently, evidence of increased
inflationary pressures and some softerthan-expected data on economic activity
induced market participants to revise
down their longer-term outlook for business profits and to perceive greater risks
to that outlook. With corporate balance
sheets remaining strong and liquid, risk
spreads on corporate bonds stayed low,
an indication that the revision to the
outlook had not sparked broad concerns
about credit quality. Firms had ample
access to funds, and business-sector debt
expanded rapidly in the first quarter.
The need to finance brisk merger and
acquisition activity was one factor that
reportedly induced nonfinancial businesses to tap the credit markets heavily.
Bond issuance picked up noticeably, and
commercial and industrial loans
increased robustly. Banks continued to
ease terms and standards on such loans.
Household debt expanded further in the
first quarter amid rising house prices
and brisk cash-out refinancing activity.
As was the case in 2005, the M2 monetary aggregate has advanced moderately
so far in 2006.
Interest Rates
The FOMC increased the target federal
funds rate 25 basis points at each of its
four meetings this year. These actions
brought the rate to 5x/4 percent, about 60
basis points above the rate expected at
the end of last year for early July. In
contrast to the situation earlier in the
tightening cycle, when it was evident to
investors that considerable monetary
policy accommodation was in place and
had to be removed, market participants
more recently have had to focus to a
greater degree on economic data releases and their implications for the outlook for economic growth and inflation
to form expectations about near-term
policy. Although the information currently available suggests that growth of
real output slowed appreciably in the
second quarter, incoming price data have
pointed to greater-than-expected inflationary pressures throughout the first
half of the year. Investors anticipated
that the FOMC would act to counter
such pressures, and the expected policy
path moved upward, on balance, over
the first half of 2006. Nevertheless, market participants currently appear to
expect the target federal funds rate to
ease after the end of the year. Despite
investors' apparent awareness that
monetary policy decisions increasingly
depend on the implications of incoming
information for the economic outlook,
the implied volatility on short-term
Eurodollar rates calculated from option
prices has remained near the low end of
its historical range.
Yields on nominal Treasury coupon
securities rose about 70 basis points
across the maturity spectrum through
early July, in part because of the expectations for firmer policy. In addition, it
appears that a modest rebound in term
premiums, including investor compensation for inflation risk, may have contributed to the rise in longer-term rates;
still, estimated premiums remain low by
historical standards. Yields on inflationindexed Treasury securities rose less
than those on their nominal counterparts, leaving inflation compensation at
medium- and long-term horizons 20 to
30 basis points higher than at the turn of
the year.
In the corporate bond market, yields
on investment-grade securities moved
about in line with those on comparable-
Monetary Policy Report of July 2006
maturity Treasury securities through
early July. In contrast, those on
speculative-grade securities rose only
about 40 basis points; as a result, risk
spreads were 30 basis points lower in
that segment of the market. The narrowness of high-yield spreads was likely a
reflection of investors' sanguine views
about corporate credit quality over the
medium term, given the strength of business balance sheets and the outlook for
continued economic expansion.
Equity Markets
Broad equity indexes changed little, on
net, through early July. Stock prices
were boosted up to the first part of May
by an upbeat economic outlook and by
strong corporate earnings in the first
quarter. However, those gains were subsequently reversed as incoming data
clouded the prospects for economic
growth and continued to point to upward
pressures on inflation; the drop in share
prices was led by stocks that had logged
the largest gains in the previous months,
including those of firms with small capitalizations and of firms in cyclically sensitive sectors. A measure of the equity
risk premium—computed as the difference between the twelve-month forward
earnings-price ratio for the S&P 500
and an estimate of the real long-term
Treasury yield—has increased slightly
so far this year and remains near the
high end of its range of the past two
decades. The implied volatility of the
S&P 500 calculated from option prices
spiked temporarily in late May and early
June and remained somewhat elevated
compared with its levels earlier in the
year.
Net inflows to equity mutual funds
were very strong through April, as investors were evidently attracted by the
solid performance of the equity market
up to that point. In May and June, how
55
ever, investors withdrew funds as share
prices began to sag.
Debt and Financial Intermediation
In the first quarter of 2006, the total debt
of domestic nonfinancial sectors expanded at an annual rate of 11 percent.
The household, business, and federal
government components all increased
at double-digit rates, while state and
local government debt advanced at
about a 6 percent pace. Preliminary
data suggest somewhat slower growth
of the debt of nonfinancial sectors in
the second quarter. The slowdown is
particularly noticeable in the federal
and state and local government sectors,
where strong tax receipts held down
borrowing. The available data also
point to somewhat reduced growth of
nonfinancial business debt in the second quarter.
Commercial bank credit increased at
an annual rate of about 11 percent in the
first quarter of 2006, a little faster than
in 2005, and picked up further to an
almost 13 percent pace in the second
quarter. A continued rapid increase in
business loans was likely supported by
brisk merger and acquisition activity,
rising outlays for investment goods, ongoing inventory accumulation, and an
accommodative lending environment.
Growth in commercial mortgages was
also strong, as fundamentals in that sector continued to improve. Despite a
slowing of housing activity in recent
months, residential mortgage holdings
expanded robustly. However, higher
short-term interest rates likely contributed to a runoff in loans drawn down
under revolving home-equity lines of
credit. Consumer loans adjusted for securitizations decelerated in the second
quarter after rising at a solid pace in the
first quarter.
56
93rd Annual Report, 2006
Bank profitability remained solid, and
asset quality continued to be excellent in
the first quarter. Profits were supported
by gains in non-interest income and reductions in loan-loss provisions that
more than offset a rise in non-interest
expenses. Delinquency and charge-off
rates remained low across all loan types.
Delinquency rates on residential mortgages on banks' books edged lower in
the first quarter after moving up during
2005. Charge-off rates on consumer
loans declined to the lowest level seen
in recent years after a fourth-quarter
surge in charge-offs on credit card loans
that was associated with the implementation of the bankruptcy legislation in
October of last year.
As the policy debate about the possibility of curbing the balance sheet
growth of both Fannie Mae and Freddie
Mac continued, the combined size of the
mortgage investment portfolios at the
two government-sponsored enterprises
increased about 1 percent over the first
five months of 2006.
The M2 Monetary Aggregate
In the first quarter of 2006, M2 increased at an annual rate of about
6V2 percent, but its expansion moderated in the second quarter to a 23/4 percent pace, likely because of some slowing in the growth of nominal GDP.
Rising short-term interest rates continued to push up the opportunity cost of
holding M2 assets. Growth in liquid
deposits, whose rates tend to adjust sluggishly to changes in market rates, was
particularly slack. By contrast, the expansion in retail money market funds
and, especially, small time deposits was
brisk, as the yields on those instruments
kept better pace with rising market interest rates. Despite apparently modest demand from abroad, currency growth was
strong in the first quarter but has slowed
since. The velocity of M2 rose at an
annual rate of 2lA percent in the first
quarter and appears to have continued to
rise in the second quarter.
International Developments
Foreign economic growth was strong in
the first quarter of 2006 as the t-^pansion spread to all major regions of the
world. Accelerating domestic demand
boosted growth in the foreign industrial
countries, especially Canada and the
euro area. Emerging-market economies
continued to benefit from rapid export
growth, and Chinese economic activity
was also spurred by a surge in investment spending. Data for the second
quarter suggest continued strong growth
abroad but with moderation in some
countries. Rising energy prices have
pushed up inflation in many countries
this year, but upward pressure on core
inflation has generally continued to be
moderate.
Foreign monetary policy tightened in
the first half of this year in the context
of solid growth and some heightened
inflation concerns. The European Central Bank (ECB) raised its policy rate
l
A percentage point in March and again
in June, citing rapid credit growth and
the ECB's expectation of above-target
inflation. At its July policy meeting, the
Bank of Canada kept its target for the
overnight rate unchanged at 4VA percent,
but it had increased its target for the
overnight rate lA percentage point at
each of its previous seven policy meetings. On July 14, the Bank of Japan
(BOJ) ended its zero-interest-rate policy
by raising its target for the call money
rate to lA percent for the first time since
2001. Earlier, on March 9, the BOJ,
announcing an end to its five-year-old
policy of quantitative easing, said that it
would set policy in the future to control
Monetary Policy Report of July 2006
inflation over the medium to long run,
defined as one to two years ahead.
Long-term bond yields abroad have
risen along with U.S. bond yields on
indications of robust global growth and
expectations of additional tightening of
monetary policy. Ten-year sovereign
yields have risen roughly 70 basis points
in the euro area since the end of last
year, while the increases on similar securities in Canada and the United Kingdom have been about 50 basis points.
Part of the rise in yields abroad has been
increased compensation for possible
future inflation as measured by the difference in yield between ten-year nominal and inflation-indexed bonds. Yield
spreads of emerging-market bonds over
U.S. Treasuries narrowed somewhat
early in the year, but that narrowing was
more than reversed in the second quarter
as investors apparently demanded
greater compensation for risk amid uncertainties about economic growth and
inflation.
The foreign exchange value of the
dollar has declined about 4V2 percent,
on net, this year against a basket of the
currencies of the major industrial countries but is down only about 1 percent,
on net, against the currencies of the
other important trading partners of the
United States. Much of the dollar's
downward move occurred at times when
the market was focused on concerns
about global current account imbalances. The dollar has recovered some
ground since early May, as investors
reportedly have engaged in flightto-safety transactions into dollardenominated assets in conjunction with
the volatility in global commodity and
asset markets. On net, the dollar has
depreciated since the turn of the year
about 61/2 percent against the euro and
sterling, 3 percent against the Canadian
dollar, and 1 Vz percent against the Japanese yen. In contrast, the dollar has risen
57
roughly 4 percent, on balance, against
the Mexican peso this year. During the
first half of this year, several smaller
countries experienced episodes of substantial financial volatility that in some
cases involved sharp depreciations in
the exchange value of their currencies.
Through the first four months of
2006, a favorable economic outlook and
low interest rates supported gains in
equity prices in all major foreign countries. During May and early June, however, equity prices registered widespread
declines, as market participants grew
more concerned about inflation, monetary policy, and global economic
growth. More recently, developments in
the Middle East have weighed further
on stock prices. On net, equity price
indexes are up between 1 percent and
4 percent so far in 2006 in Europe and
Canada, but they have fallen roughly
8 percent since year-end in Japan. Latin
American and Asian emerging-market
equity indexes, which had generally
gained more than industrial-country indexes early in the year, have fallen more
sharply since early May. Equity indexes
in Mexico, Brazil, and Argentina have
dropped between 12 percent and 15 percent—leaving them still between
5 percent and 7 percent higher so far this
year—while stock prices in Korea have
fallen about 9 percent, on net, for the
year.
Industrial Economies
The Japanese economy has continued to
strengthen this year, although economic
growth has stepped down a bit from the
comparatively strong rate recorded in
2005. Household consumption maintained a solid rate of growth in the first
quarter, and private investment spending
rose 11 percent. However, net exports,
which previously had been an additional
source of strength, did not contribute to
58
93rd Annual Report, 2006
growth in the first quarter; the growth of
imports increased while export growth
remained firm. The labor market in Japan improved further in April and May:
The unemployment rate fell to 4 percent, and the ratio of job offers to applicants reached a thirteen-year high.
Although the GDP deflator has continued to decline, other signs indicate that
deflation is ending. In the first quarter of
2006, land prices in Japan's six largest
cities rose 3.8 percent over their yearago level, the first increase since 1991.
Core consumer prices have shown small
twelve-month increases over the past
several months.
Real GDP in the euro area accelerated
in the first quarter, expanding 2Vi percent, a rate of growth somewhat above
its average in recent years. The acceleration was spurred by strength in domestic
demand, especially private consumption
spending, which increased in the first
quarter at double its pace in 2005. Retail
sales were also strong at the start of the
second quarter. The revival in household
spending has been supported by a small
rise in the growth rate of employment
and by an improvement in employer and
consumer perceptions of employment
prospects. Private investment spending
has remained strong in the euro area,
and business sentiment has continued to
brighten in recent months. Energy price
increases have pushed euro-area consumer price inflation to about 2l/i percent recently, a level above the ECB's
2 percent ceiling, but core inflation has
remained near IV2 percent.
In the United Kingdom, real GDP
expanded at an annual rate of 3 percent
in the first quarter after rising about
P/4 percent in 2005. Consumer spending grew about 1V2 percent, the same
moderate pace seen last year. House
prices, which remained relatively flat
during late 2004 and most of 2005,
picked up in late 2005 and have contin
ued to rise in the first half of this year.
The twelve-month change in consumer
prices was 2.2 percent in May. Consumer prices have been boosted importantly by increases in energy prices over
the past several months.
In Canada, real GDP grew at an
annual rate of nearly 4 percent in the
first quarter, an increase led by a jump
in spending on consumer durables and
housing. Investment in residential structures grew at its fastest rate in more than
two years, and business investment continued to exhibit the strength observed
in the previous two quarters. Indicators
for the second quarter point generally to
a deceleration of GDP. Housing starts in
the second quarter were significantly below their elevated first-quarter levels;
the merchandise trade balance declined,
on balance, during the first five months
of this year; and in the manufacturing
sector, the volume of new orders and of
shipments both fell in April. In contrast,
in the second quarter, the labor market
maintained its strength of the past year,
and the unemployment rate has fallen to
6.2 percent, the lowest level in more
than thirty years. Consumer prices rose
2.8 percent in the twelve months ending
in May.
Emerging-Market Economies
In China, growth of real output was
especially robust in the first half. Economic indicators suggest that fixed
investment surged and that export
growth continued to be strong. The rapid
growth of investment prompted the Chinese government to impose a series of
new measures to slow capital spending,
including controls on credit and land use
and stricter criteria for approving investment projects. In addition, to restrain
credit, which has soared more than
15 percent over the past year, China's
central bank raised the one-year bank
Monetary Policy Report of July 2006
lending rate in April and raised banks'
reserve requirements Vi percentage point
in June. The Chinese trade surplus widened in the first half of this year as
exports accelerated. Chinese consumer
price inflation is about IV2 percent,
slightly above its pace in the second half
of last year but well below the more
than 5 percent rate seen in 2004.
Economic growth in India, Malaysia,
and Hong Kong also was quite strong in
the first quarter, although the pace of
activity of some of the other Asian
emerging-market economies has moderated a bit from last year's rapid rate.
Concerns about inflationary pressures
have increased, largely because of rising energy prices. In response, monetary policy has been tightened in some
countries, including Korea, India, and
Thailand.
In Mexico, strong performance in the
industrial sector, an expansion in services output, and a recovery in agricultural production propelled real GDP
growth to more than 6 percent at an
annual rate in the first quarter. In addition, a surge in manufacturing exports
boosted Mexico's trade and current
account balances noticeably. Industrial
production continued to increase early
in the second quarter. In June, Mexican
inflation was 3.2 percent, just above the
center of the Bank of Mexico's target
59
range of 2 percent to 4 percent. After
easing policy nine times between
August and April, the Bank of Mexico
signaled in April that it would leave its
policy rate unchanged for a time.
Real GDP growth in Brazil also
increased in the first quarter, rising to
53/4 percent, and was supported by very
strong performances in manufacturing,
mining, and construction. The rate of
inflation has been declining from a high
of 8 percent reached in April 2005; in
June, the twelve-month change in prices
edged down to 4 percent. In late May,
the central bank reduced its target for
the overnight interest rate 50 basis
points, to \5lA percent, bringing the cumulative decline to 450 basis points
since the current easing phase began last
September. In the minutes of its lateMay meeting, the policy making committee said that the onset of market volatility over the past month had increased
its uncertainty about the prospects for
inflation and had thus prompted it to
ease less than it would have otherwise.
In Argentina, output growth slowed
slightly in the first quarter. Amid emerging capacity constraints, inflation rose to
about 11 percent, up from 6 percent in
2004. The Argentine government has
tried to hold down inflation, with limited success, through voluntary price
agreements in several sectors.
•
Federal Reserve Operations
63
Banking Supervision and Regulation
The Federal Reserve has supervisory
and regulatory authority over a variety
of financial institutions and activities. It
works with other federal and state supervisory authorities to ensure the safety
and soundness of supervised financial
institutions and the stability of U.S.
financial markets as a whole.
In 2006, U.S. banking organizations
reported record earnings despite tight
net interest margins resulting from a
persistently flat yield curve and heightened competition for deposits and loans.
Credit quality indicators remained historically strong, although nonperforming assets increased, particularly in residential real estate portfolios. For a
second consecutive year, there were no
failures of insured banks. Banking supervisors focused on banking activities
that could prove vulnerable in the event
of an economic downturn. In particular,
the federal banking agencies during the
year issued guidance for supervised
financial institutions on extensions of
credit for nontraditional residential mortgages and for commercial real estate.
Delinquencies among loans of these and
most other types remained low.
Federal Reserve staff continued to
work throughout the year with the other
federal banking agencies to prepare for
U.S. implementation of the Basel II capital accord.1 In September, the agencies
1. The Basel II capital accord, an international
agreement formally titled "International Convergence of Capital Measurement and Capital Standards: A Revised Framework," was developed by
the Basel Committee on Banking Supervision,
which is made up of representatives of the central
banks or other supervisory authorities of thirteen
countries. The original document was issued in
2004; the original version and an updated version
issued a joint notice of proposed rulemaking (NPR) describing proposals for
implementing the Basel II framework in
the United States. In December, they
issued an NPR proposing revisions to
capital requirements for trading book
positions subject to the market risk capital rule. The agencies are also developing Basel II supervisory guidance for
examiners and the banking industry.
Under the NPR implementing Basel
II, the new capital framework would be
mandatory for large, internationally active banking organizations and optional
for all others. Federal banking supervisors expect that the vast majority of
banking organizations will remain subject to the existing risk-based capital
framework (Basel I). To update Basel I
and mitigate some of the consequences
of the differences between Basel I and
Basel II, the agencies in December
issued an NPR proposing changes to the
Basel I framework that would be optional for banking organizations not subject to Basel II.
Scope of Responsibilities for
Supervision and Regulation
The Federal Reserve is the federal supervisor and regulator of all U.S. bank
holding companies, including financial
holding companies formed under the
authority of the 1999 Gramm-LeachBliley Act, and state-chartered commercial banks that are members of the Federal Reserve System. In overseeing these
organizations, the Federal Reserve seeks
issued in November 2005 are available on the
web site of the Bank for International Settlements
(www.bis.org).
64
93rd Annual Report, 2006
primarily to promote their safe and
sound operation, including their compliance with laws and regulations.2
The Federal Reserve also has responsibility for supervising the operations of
all Edge Act and agreement corporations, the international operations of
state member banks and U.S. bank holding companies, and the U.S. operations
of foreign banking companies.
The Federal Reserve exercises important regulatory influence over entry into
the U.S. banking system, and the structure of the system, through its administration of the Bank Holding Company
Act, the Bank Merger Act (with regard
to state member banks), the Change in
Bank Control Act (with regard to bank
holding companies and state member
banks), and the International Banking
Act. The Federal Reserve is also responsible for imposing margin requirements
on securities transactions. In carrying
out these responsibilities, the Federal
Reserve coordinates its supervisory activities with the other federal banking
agencies, state agencies, functional
regulators, and the bank regulatory
agencies of other nations.
Supervision for
Safety and Soundness
To promote the safety and soundness of
banking organizations, the Federal Reserve conducts on-site examinations
2. The Board's Division of Consumer and
Community Affairs coordinates the Federal Reserve's supervisory activities with regard to compliance with consumer protection and civil rights
laws. Those activities are described in the chapter
"Consumer and Community Affairs." Supervision
for compliance with other banking laws and regulations, which is described in this chapter, is the
responsibility of the Board's Division of Banking
Supervision and Regulation and the Federal Reserve Banks, whose examiners also check for
safety and soundness.
and inspections and off-site surveillance
and monitoring. It also takes enforcement and other supervisory actions as
necessary.
Examinations and Inspections
The Federal Reserve conducts examinations of state member banks, the U.S.
branches and agencies of foreign banks,
and Edge Act and agreement corporations. In a process distinct from examinations, it conducts inspections of bank
holding companies and their nonbank
subsidiaries. Whether an examination or
an inspection is being conducted, the
review of operations entails (1) an assessment of the quality of the processes
in place to identify, measure, monitor,
and control risks; (2) an assessment of
the quality of the organization's assets;
(3) an evaluation of management, including an assessment of internal policies, procedures, controls, and operations; (4) an assessment of the key
financial factors of capital, earnings, liquidity, and sensitivity to market risk;
and (5) a review for compliance with
applicable laws and regulations. The table
provides information on the examinations
and inspections conducted by the Federal Reserve during the past five years.
Inspections of bank holding companies, including financial holding companies, are built around a rating system
introduced in 2005 that reflects the recent shift in supervisory practices for
these organizations away from the historical analysis of financial condition
toward a more dynamic, forward looking assessment of risk-management
practices and financial factors. Under
the system, known as RFI but more
fully termed RFI/C(D), holding companies are assigned a composite rating (C)
that is based on assessments of three
components: risk management (R), financial condition (F), and potential
Banking Supervision and Regulation
65
State Member Banks and Holding Companies, 2002-2006
Entity/Item
State member banks
Total number
Total assets (billions of dollars) .
Number of examinations
By Federal Reserve System ..
By state banking agency
Top-tier bank holding companies
Large (assets of more than $1 billion)
Total number
Total assets (billions of dollars)
Number of inspections
By Federal Reserve System1
On site
Off site
By state banking agency
Small (assets of $1 billion or less)
Total number
Total assets (billions of dollars)
Number of inspections
By Federal Reserve System
On site
Off site
By state banking agency
Financial holding companies
Domestic
Foreign
2006
2005
2004
2003
2002
901
1,405
761
500
261
907
1,318
783
563
220
919
1,275
809
581
228
935
1,912
822
581
241
949
1,863
814
550
264
448
12,179
566
557
500
57
9
394
10,261
501
496
457
39
5
355
8,429
500
491
440
51
9
365
8,295
454
446
399
47
329
7,483
439
431
385
46
4,654
947
3,449
3,257
112
3,145
192
4,760
890
3,420
3,233
170
3,063
187
4,796
852
3,703
3,526
186
3,340
177
4,787
847
3,453
3,324
183
3,141
129
4,806
821
3,726
3,625
264
3,361
101
599
44
591
38
600
36
612
32
602
30
1. For large bank holding companies subject to continuous, risk-focused supervision, includes multiple tar1 reviews.
impact (I) of the parent company and its
nondepository subsidiaries on the subsidiary depository institution.3 The
fourth component, depository institution
(D), is intended to mirror the primary
regulator's rating of the subsidiary depository institution.
In managing the supervisory process,
the Federal Reserve takes a risk-focused
approach that directs resources to
(1) those business activities posing the
greatest risk to banking organizations
and (2) the organizations' management
3. Each of the first two components has four
subcomponents: Risk Management—Board and
Senior Management Oversight; Policies, Procedures, and Limits; Risk Monitoring and Management Information Systems; and Internal Controls.
Financial Condition—Capital; Asset Quality;
Earnings; and Liquidity.
processes for identifying, measuring,
monitoring, and controlling risks. The
key features of the supervision program
for large complex banking organizations
(LCBOs) are (1) identifying those
LCBOs that are judged, on the basis of
their shared risk characteristics, to
present the highest level of supervisory
risk to the Federal Reserve System;
(2) maintaining continual supervision of
these organizations so that the Federal
Reserve's assessment of each organization's condition is current; (3) assigning
to each LCBO a supervisory team composed of Reserve Bank staff members
who have skills appropriate for the organization's risk profile (the team leader is
the System's central point of contact for
the organization, has responsibility for
only one LCBO, and is supported by
specialists capable of evaluating the
66
93rd Annual Report, 2006
risks of LCBO business activities and
functions); and (4) promoting Systemwide and interagency informationsharing through automated systems.
For other banking organizations, the
risk-focused supervision program provides that examination procedures are
tailored to each banking organization's
size, complexity, and risk profile. As
with the LCBOs, examinations entail
both off-site and on-site work, including planning, pre-examination visits,
detailed documentation, and examination reports tailored to the scope and
findings of the examination.
State Member Banks
At the end of 2006, 901 state-chartered
banks (excluding nondepository trust
companies and private banks) were
members of the Federal Reserve System. These banks represented approximately 12 percent of all insured U.S.
commercial banks and held approximately 14 percent of all insured commercial bank assets in the United States.
The guidelines for Federal Reserve
examinations of state member banks are
fully consistent with section 10 of the
Federal Deposit Insurance Act, as
amended by section 111 of the Federal
Deposit Insurance Corporation Improvement Act of 1991 and by the Riegle
Community Development and Regulatory Improvement Act of 1994. A fullscope, on-site examination of these
banks is required at least once a year,
although certain well-capitalized, wellmanaged organizations having total
assets of less than $250 million may be
examined once every eighteen months.
The Financial Services Regulatory Relief Act of 2006, signed into law in
October, authorized the federal banking
agencies to raise the total asset threshold
for certain institutions from $250 million to $500 million. Interim rules that
will incorporate this change into existing regulations are being developed. The
Federal Reserve conducted 500 exams
of state member banks in 2006.
Bank Holding Companies
At year-end 2006, a total of 5,825 U.S.
bank holding companies were in operation, of which 5,102 were top-tier bank
holding companies. These organizations
controlled 6,106 insured commercial
banks and held approximately 96 percent of all insured commercial bank
assets in the United States.
Federal Reserve guidelines call for
annual inspections of large bank holding
companies as well as complex smaller
companies. In judging the financial condition of the subsidiary banks owned by
holding companies, Federal Reserve examiners consult examination reports
prepared by the federal and state banking authorities that have primary responsibility for the supervision of those
banks, thereby minimizing duplication
of effort and reducing the supervisory
burden on banking organizations. Noncomplex bank holding companies with
consolidated assets of $1 billion or less
are subject to a special supervisory program that permits a more flexible approach.4 In 2006, the Federal Reserve
conducted 557 inspections of large bank
holding companies and 3,257 inspections of small, noncomplex bank holding companies.
Financial Holding Companies
Under the Gramm-Leach-Bliley Act,
bank holding companies that meet certain capital, managerial, and other re4. The program was implemented in 1997 and
modified in 2002. See SR letter 02-01 for a discussion of the factors considered in determining
whether a bank holding company is complex or
noncomplex (www.federalreserve.gov/boarddocs/
srletters/).
Banking Supervision and Regulation
quirements may elect to become financial holding companies and thereby
engage in a wider range of financial
activities, including full-scope securities
underwriting, merchant banking, and insurance underwriting and sales. The statute streamlines the Federal Reserve's
supervision of all bank holding companies, including financial holding companies, and sets forth parameters for the
supervisory relationship between the
Federal Reserve and other regulators.
The statute also differentiates between
the Federal Reserve's relations with
regulators of depository institutions and
its relations with functional regulators
(that is, regulators for insurance, securities, and commodities firms).
As of year-end 2006, 604 domestic
bank holding companies and 44 foreign
banking organizations had financial
holding company status. Of the domestic financial holding companies, 38 had
consolidated assets of $15 billion or
more; 121, between $1 billion and
$15 billion; 86, between $500 million
and $1 billion; and 359, less than
$500 million.
67
and agreement corporations, and bank
holding companies, the Federal Reserve
generally conducts its examinations or
inspections at the U.S. head offices of
these organizations where the ultimate
responsibility for the foreign offices lies.
Examiners also visit the overseas offices
of U.S. banks to obtain financial and
operating information and, in some
instances, to evaluate the organizations'
efforts to implement corrective measures or to test their adherence to safe
and sound banking practices. Examinations abroad are conducted with the cooperation of the supervisory authorities
of the countries in which they take
place; for national banks, the examinations are coordinated with the Office of
the Comptroller of the Currency (OCC).
At the end of 2006, 53 member banks
were operating 675 branches in foreign
countries and overseas areas of the
United States; 34 national banks were
operating 625 of these branches, and 19
state member banks were operating the
remaining 50. In addition, 17 nonmember banks were operating 21 branches in
foreign countries and overseas areas of
the United States.
International Activities
The Federal Reserve supervises the foreign branches and overseas investments
of member banks, Edge Act and agreement corporations, and bank holding companies and also the investments by bank
holding companies in export trading companies. In addition, it supervises the activities that foreign banking organizations
conduct through entities in the United
States, including branches, agencies, representative offices, and subsidiaries.
Foreign Operations of
U.S. Banking Organizations
In supervising the international operations of state member banks, Edge Act
Edge Act and Agreement Corporations
Edge Act corporations are international
banking organizations chartered by the
Board to provide all segments of the
U.S. economy with a means of financing
international business, especially exports. Agreement corporations are similar organizations, state chartered or federally chartered, that enter into an
agreement with the Board to refrain
from exercising any power that is not
permissible for an Edge Act corporation.
Sections 25 and 25A of the Federal
Reserve Act grant Edge Act and agreement corporations permission to engage
in international banking and foreign
financial transactions. These corpora-
68
93rd Annual Report, 2006
tions, most of which are subsidiaries of
member banks, may (1) conduct a deposit and loan business in states other
than that of the parent, provided that the
business is strictly related to international transactions, and (2) make foreign
investments that are broader than those
permissible for member banks.
At year-end 2006, 71 banking organizations, operating 9 branches, were
chartered as Edge Act or agreement corporations. These corporations are examined annually.
U.S. Activities of Foreign Banks
The Federal Reserve has broad authority
to supervise and regulate the U.S. activities of foreign banks that engage in
banking and related activities in the
United States through branches, agencies, representative offices, commercial
lending companies, Edge Act corporations, commercial banks, bank holding
companies, and certain nonbanking
companies. Foreign banks continue to
be significant participants in the U.S.
banking system.
As of year-end 2006, 178 foreign
banks from 54 countries were operating
214 state-licensed branches and agencies, of which 8 were insured by the
Federal Deposit Insurance Corporation
(FDIC), and 45 OCC-licensed branches,
of which 4 were insured by the FDIC.
These foreign banks also owned
12 Edge Act and agreement corporations and 2 commercial lending companies; in addition, they held a controlling
interest in 62 U.S. commercial banks.
Altogether, the U.S. offices of these foreign banks at the end of 2006 controlled
approximately 19 percent of U.S. commercial banking assets. These 178 foreign banks also operated 85 representative offices; an additional 59 foreign
banks operated in the United States
solely through a representative office.
State-licensed and federally licensed
branches and agencies of foreign banks
are examined on-site at least once every
eighteen months, either by the Federal
Reserve or by a state or other federal
regulator. In most cases, on-site examinations are conducted at least once every twelve months, but the period may
be extended to eighteen months if the
branch or agency meets certain criteria.
In cooperation with the other federal
and state banking agencies, the Federal
Reserve conducts a joint program for
supervising the U.S. operations of foreign banking organizations. The program has two main parts. One part involves examination of those foreign
banking organizations that have multiple U.S. operations and is intended to
ensure coordination among the various
U.S. supervisory agencies. The other
part is a review of the financial and
operational profile of each organization
to assess its general ability to support its
U.S. operations and to determine what
risks, if any, the organization poses
through its U.S. operations. Together,
these two processes provide critical information to U.S. supervisors in a logical, uniform, and timely manner. The
Federal Reserve conducted or participated with state and federal regulatory
authorities in 339 examinations in 2006.
Anti-Money-Laundering
Examinations
The U.S. Department of the Treasury
regulations (31 CFR 103) implementing
the Bank Secrecy Act (BSA) generally
require banks and other types of financial institutions to file certain reports
and maintain certain records that are
useful in criminal or regulatory proceedings. The BSA and separate Board regulations require banking organizations supervised by the Board to file reports on
suspicious activity related to possible
Banking Supervision and Regulation
violations of federal law, including
money laundering, terrorist financing,
and other financial crimes. In addition,
BSA and Board regulations require that
banks develop written programs on
BSA/anti-money-laundering compliance
and that the programs be formally approved by bank boards of directors. An
institution's compliance program must
(1) establish a system of internal controls to ensure compliance with the
BSA, (2) provide for independent compliance testing, (3) identify individuals
responsible for coordinating and monitoring day-to-day compliance, and (4) provide training for personnel as appropriate.
The Federal Reserve is responsible
for examining its supervised institutions
for compliance with various antimoney-laundering laws and regulations.
During examinations of state member
banks and U.S. branches and agencies of
foreign banks and, when appropriate,
inspections of bank holding companies,
examiners review the institution's compliance with the BSA and determine
whether adequate procedures and controls to guard against money laundering
and terrorism financing are in place.
Specialized Examinations
The Federal Reserve conducts specialized examinations of banking organizations in the areas of information technology, fiduciary activities, transfer agent
activities, and government and municipal securities dealing and brokering. The
Federal Reserve also conducts specialized examinations of certain entities,
other than banks, brokers, or dealers,
that extend credit subject to the Board's
margin regulations.
Information Technology Activities
In recognition of the importance of information technology to safe and sound
69
operations in the financial industry, the
Federal Reserve reviews the information technology activities of supervised
banking organizations as well as certain
independent data centers that provide
information technology services to these
organizations. All safety and soundness
examinations include a risk-focused review of information technology risk
management activities. During 2006, the
Federal Reserve was the lead agency in
1 cooperative, multiagency examination
of a large, multiregional data processing
servicer.
Fiduciary Activities
The Federal Reserve has supervisory responsibility for state member commercial banks and depository trust companies that together reported, at the end of
2006, $36 trillion of assets in various
fiduciary or custodial capacities. Additionally, state member nondepository
trust companies supervised by the Federal Reserve reported $33 trillion of assets held in a fiduciary or custodial
capacity. During on-site examinations
of fiduciary activities, an organization's
compliance with laws, regulations, and
general fiduciary principles and potential conflicts of interest are reviewed;
its management and operations, including its asset- and account-management,
risk-management, and audit and control
procedures, are also evaluated. In 2006,
Federal Reserve examiners conducted
97 on-site fiduciary examinations.
Transfer Agents and
Securities Clearing Agencies
As directed by the Securities Exchange
Act of 1934, the Federal Reserve conducts specialized examinations of those
state member banks and bank holding
companies that are registered with the
Board as transfer agents. Among other
70
93rd Annual Report, 2006
things, transfer agents countersign and
monitor the issuance of securities, register the transfer of securities, and exchange or convert securities. On-site examinations focus on the effectiveness of
an organization's operations and its
compliance with relevant securities
regulations. During 2006, the Federal
Reserve conducted on-site examinations
at 15 of the 78 state member banks and
bank holding companies that were registered as transfer agents and examined
1 state member limited-purpose trust
company acting as a national securities
depository.
Government and Municipal Securities
Dealers and Brokers
The Federal Reserve is responsible for
examining state member banks and foreign banks for compliance with the Government Securities Act of 1986 and with
Department of the Treasury regulations
governing dealing and brokering in government securities. Twenty-five state
member banks and 8 state branches of
foreign banks have notified the Board
that they are government securities dealers or brokers not exempt from Treasury's regulations. During 2006, the
Federal Reserve conducted 6 examinations of broker-dealer activities in government securities at these organizations. These examinations are generally
conducted concurrently with the Federal
Reserve's examination of the state member bank or branch.
The Federal Reserve is also responsible for ensuring that both state member banks and bank holding companies
that act as municipal securities dealers
comply with the Securities Act Amendments of 1975. Municipal securities
dealers are examined pursuant to
the Municipal Securities Rulemaking
Board's rule G-16 at least once every
two calendar years. Of the 20 entities
that dealt in municipal securities during
2006, 9 were examined during the year.
Securities Credit Lenders
Under the Securities Exchange Act of
1934, the Board is responsible for regulating credit in certain transactions
involving the purchase or carrying of
securities. As part of its general examination program, the Federal Reserve
examines the banks under its jurisdiction for compliance with the Board's
Regulation U (Credit by Banks and
Persons other than Brokers or Dealers
for the Purpose of Purchasing or Carrying Margin Stock). In addition, the Federal Reserve maintains a registry of persons other than banks, brokers, and
dealers who extend credit subject to
Regulation U. The Federal Reserve may
conduct specialized examinations of
these lenders if they are not already
subject to supervision by the Farm
Credit Administration, the National
Credit Union Administration (NCUA),
or the Office of Thrift Supervision
(OTS).
At the end of 2006, 602 lenders other
than banks, brokers, or dealers were registered with the Federal Reserve. Other
federal regulators supervised 210 of
these lenders, and the remaining 392
were subject to limited Federal Reserve
supervision. On the basis of regulatory
requirements and annual reports, the
Federal Reserve exempted 290 lenders
from its on-site inspection program. The
securities credit activities of the remaining 102 lenders were subject to either
biennial or triennial inspection. Sixty
inspections were conducted during the
year.
Business Continuity
In 2006, the Federal Reserve continued
its efforts to strengthen the resilience of
Banking Supervision and Regulation
the U.S. financial system in the event of
unexpected disruptions. Throughout the
year, the staff continued to work with
financial institutions to assess implementation of the sound practices identified in the April 2003 "Interagency Paper on Sound Practices to Strengthen the
Resilience of the U.S. Financial System," a joint publication with the OCC
and the Securities and Exchange Commission (SEC). During 2006, the agencies provided additional guidance to
help institutions implement testing of
their business continuity plans. The
agencies continue to coordinate their
efforts to ensure a consistent supervisory approach for business continuity
practices.
Enforcement Actions and
Special Examinations
The Federal Reserve has enforcement
authority over the banking organizations
it supervises and their affiliated parties.
Enforcement actions may be taken to
address unsafe and unsound practices or
violations of any law or regulation. Formal enforcement actions include ceaseand-desist orders, written agreements,
removal and prohibition orders, and civil
money penalties. In 2006, the Federal
Reserve completed 37 formal enforcement actions. Civil money penalties totaling $212,050 were assessed. All civil
money penalties, as directed by statute,
are remitted to either the Department of
the Treasury or the Federal Emergency
Management Agency. Enforcement orders, which are issued by the Board, and
written agreements, which are executed
by the Reserve Banks, are made public
and are posted on the Board's web
site(www.federalreserve.gov/boarddocs/
enforcement).
In addition to taking these formal enforcement actions, the Reserve Banks
completed 70 informal enforcement
71
actions in 2006. Informal enforcement
actions include memoranda of understanding and board of directors resolutions. Information about these actions is
not available to the public.
Surveillance and
Off-Site Monitoring
The Federal Reserve uses automated
screening systems to monitor the financial condition and performance of state
member banks and bank holding companies between on-site examinations. Such
monitoring and analysis helps direct examination resources to institutions that
have higher risk profiles. Screening systems also assist in the planning of examinations by identifying companies
that are engaging in new or complex
activities.
In January 2006, the Federal Reserve
replaced its primary off-site monitoring
tool, SEER (System to Estimate
Examination Ratings), with the Supervision and Regulation Statistical Assessment of Bank Risk model (SR-SABR).
Drawing primarily on the financial data
that banks report on their Reports of
Condition and Income (Call Reports),
SR-SABR uses econometric techniques
to identify banks that report financial
characteristics weaker than those of
other banks assigned similar supervisory
ratings. To supplement the SR-SABR
screening, the Federal Reserve also
monitors various market data, including
equity prices, debt spreads, agency ratings, and measures of expected default
frequency, to gauge market perceptions
of the risk in banking organizations. In
addition, the Federal Reserve prepares
quarterly Bank Holding Company
Performance Reports (BHCPRs) for use
in monitoring and inspecting supervised
banking organizations. The reports,
which are compiled from data provided
by large bank holding companies in
72
93rd Annual Report, 2006
quarterly regulatory reports (FR Y-9C
and FR Y-9LP), contain, for individual
companies, financial statistics and
comparisons with peer companies.
BHCPRs are made available to the
public on the National Information
Center web site, which can be accessed
at www.ffiec.gov.
During the year, four major upgrades
to the web-based Performance Report
Information and Surveillance Monitoring (PRISM) application were completed. PRISM is a querying tool used
by Federal Reserve analysts to access
and display financial, surveillance, and
examination data. In the analytical
module, users can customize the presentation of institutional financial information drawn from Call Reports, Uniform Bank Performance Reports,
FR Y-9 statements, BHCPRs, and other
regulatory reports. In the surveillance
module, users can generate reports
summarizing the results of surveillance
screening for banks and bank holding
companies. The upgrades made more
regulatory data available for querying,
added the results of surveillance
screens (including SR-SABR), added
new search options, and improved the
user interface.
The Federal Reserve works through
the Federal Financial Institutions Examination Council (FFIEC) Task Force
on Surveillance Systems to coordinate
surveillance activities with the other federal banking agencies.5
Technical Assistance
In 2006, the Federal Reserve continued
to provide technical assistance on bank
supervisory matters to foreign central
5. The federal banking agencies that are members of the FFIEC are the Federal Reserve Board,
the FDIC, the NCUA, the OCC, and the OTS.
banks and supervisory authorities. Technical assistance involves visits by Federal Reserve staff members to foreign
authorities as well as consultations with
foreign supervisors who visit the Board
or the Reserve Banks. Technical assistance in 2006 was concentrated in Latin
America, Asia, and former Soviet bloc
countries. The Federal Reserve, along
with the OCC, the FDIC, and the
Department of the Treasury, was also an
active participant in the Middle East and
North Africa Financial Regulators'
Training Initiative, which is part of the
U.S. government's Middle East Partnership Initiative.
During the year the Federal Reserve
offered training courses exclusively for
foreign supervisory authorities in Washington, D.C., and a number of foreign
jurisdictions. System staff also took part
in technical assistance and training missions led by the International Monetary
Fund, the World Bank, the InterAmerican Development Bank, the Asian
Development Bank, the Basel Committee on Banking Supervision, and the
Financial Stability Institute.
The Federal Reserve is also an associate member of the Association of Supervisors of Banks of the Americas
(ASBA), an umbrella group of bank supervisors from countries in the Western
Hemisphere. The group, headquartered
in Mexico, promotes communication
and cooperation among bank supervisors in the region; coordinates training
programs throughout the region, with
the help of national banking supervisors
and international agencies; and aims to
help members develop banking laws,
regulations, and supervisory practices
that conform to international best practices. The Federal Reserve contributes
significantly to ASBA's organizational
management and to its training and technical assistance activities.
Banking Supervision and Regulation
Supervisory Policy
The Federal Reserve's supervisory
policy function is responsible for developing guidance for examiners and banking organizations as well as regulations
for banking organizations under the Federal Reserve's supervision. Staff members participate in supervisory and regulatory forums, provide support for the
work of the FFIEC, and participate in
international forums such as the Basel
Committee on Banking Supervision, the
Joint Forum, and the International Accounting Standards Board.
Capital Adequacy Standards
Risk-Based Capital Standards for
Certain Internationally Active
Banking Organizations
On September 25, 2006, the Federal
Reserve, OCC, FDIC, and OTS published a joint notice of proposed rulemaking (NPR) setting forth their views
on Basel II and seeking public comment
on the U.S. plan for implementing the
agreement. Under the proposal, the basic minimum risk-based capital ratio
format—regulatory capital divided by
risk-weighted assets—would be maintained, with the minimum for tier 1 capital set at 4 percent and the minimum for
total qualifying capital set at 8 percent.
The primary differences between the
current and proposed rules are the
internal-ratings-based methodologies
used to calculate risk-weighted assets
and the advanced measurement approach for operational risk under Basel II. Banking organizations using the
methods set forth in the NPR would also
be subject to certain public disclosure
requirements, to foster transparency and
market discipline. All banking organizations, including those using the internalratings-based approach for credit risk
73
and the advanced measurement approach for operational risk, would continue to be subject to the tier 1 leverage
ratio requirement and the market risk
capital rule, if applicable, as well as the
prompt corrective action rules.
Revisions to Market Risk Capital Rule
On September 25, 2006, the agencies
issued for public comment a notice of
proposed rulemaking proposing revisions to the market risk capital rule used
by the OCC, Board, and FDIC since
1997 for banking organizations having
significant exposure to market risk. Under the market risk capital rule, certain
banking organizations are required to
calculate a capital requirement for the
general market risk of their covered
positions and the specific risk of their
covered debt and equity positions. The
proposed revisions would enhance the
rule's risk sensitivity, require the market
risk capital charge to reflect any incremental default risk of traded positions,
and require public disclosure of certain
qualitative and quantitative market risk
information. The comment period will
end on January 23, 2007.
Risk-Based Capital Standards
for Banking Organizations
Not Subject to Basel II
On December 26, 2006, the banking
agencies issued for public comment an
NPR proposing modifications to Basel I
that would be optional for banking organizations not subject to Basel n. The
proposals aim to enhance risk sensitivity
without unduly increasing regulatory
burden. They would expand the number
of risk-weight categories, allow the use
of external credit ratings to risk-weight
certain exposures, expand the range of
recognized collateral and eligible guarantors, use loan-to-value (LTV) ratios
to risk-weight residential mortgages,
74
93rd Annual Report, 2006
increase the credit conversion factor for
certain commitments having an original
maturity of one year or less, assess a
capital charge for early amortizations in
securitizations of revolving credit exposures, and remove the 50 percent limit
on the risk weight for certain over-thecounter derivatives transactions. The
comment period for the NPR will end
on March 26, 2007.
Other Capital Issues
Board staff conduct supervisory analyses of innovative capital instruments and
novel transactions to determine whether
such instruments qualify for inclusion in
tier 1 capital.6 Much of this work in
2006 involved evaluating enhanced
forms of trust preferred securities that
bank holding companies developed in
order to be granted more credit for equity by the rating agencies under the
Board's 2005 revisions to the rule on the
qualifying components of tier 1 capital.
Staff members also identify and
address supervisory concerns related to
supervised banking organizations' capital issuances and work with the Reserve
Banks to evaluate the overall composition of banking organizations' capital.
In this work, the staff often must
review the funding strategies proposed
in applications for acquisitions and
other transactions submitted to the Federal Reserve by banking organizations.
Accounting Policy
The supervisory policy function is also
responsible for monitoring major domestic and international proposals, standards, and other developments af6. Tier 1 capital comprises common stockholders' equity and qualifying forms of preferred stock,
less required deductions such as goodwill and
certain intangible assets.
fecting the banking
stry in the areas
of accounting, auditing, internal controls, disclosure, and supervisory financial reporting. Federal Reserve staff
members interact with key entities in the
accounting and auditing professions, including standards-setters and accounting
firms, the other banking agencies, and
the banking industry, and issue supervisory guidance as appropriate.
During 2006, the Federal Reserve, together with the other banking agencies,
issued a comment letter to the Financial
Accounting Standards Board (FASB) on
its then-proposed Statement of Financial
Accounting Standards titled The Fair
Value Option for Financial Assets and
Financial Liabilities.7 The agencies also
jointly issued guidance on loan and lease
losses and on limitations on the liability
of external auditors.
Policy Statement on the Allowance for
Loan and Lease Losses
In December the Federal Reserve,
FDIC, NCUA, OCC, and OTS issued
"Interagency Policy Statement on the
Allowance for Loan and Lease Losses,"
which updates and replaces earlier guidance on the methodology for calculating
the allowance for loan and lease losses
(ALLL). Revisions were made to ensure
that policy is consistent with generally
accepted accounting principles and with
recent supervisory guidance related to
the ALLL. Updated in the guidance are
the responsibilities of boards of directors, management, and banking organization examiners; factors to be considered in estimating the ALLL; and the
objectives and elements of an effective
loan review system, including a sound
credit-grading system. The guidance
7. The FASB issued the final standard, Statement of Financial Accounting Standard No. 159,
in February 2007.
Banking Supervision and Regulation
also reiterates the points of agreement
between the SEC and the banking agencies since 1999. To assist in application
of the revised guidance, the agencies
also issued a supplemental document
anticipating frequently asked questions.
Advisory on Limitations on the
Liability of External Auditors
The Federal Reserve, FDIC, NCUA,
OCC, and OTS in May issued "Interagency Advisory on the Unsafe and Unsound Use of Limitation of Liability
Provisions in External Audit Engagements." The guidance addresses safety
and soundness concerns that may arise
when financial institutions enter into external audit contracts that limit the auditor's liability for audit services. Specifically, the guidance informs financial
institutions that the inclusion of certain
auditor liability limitations in external
audit contracts (typically referred to as
engagement letters) for audits of financial statements, audits of internal control over financial reporting, or attestations on management's assessment of
internal control over financial reporting
is generally unsafe and unsound.
Bank Secrecy Act and
Anti-Money Laundering
In 2006, the FFIEC updated the Bank
Secrecy Act/Anti-Money Laundering
Examination Manual issued in 2005 by
adding sections on risk assessment and
automated clearinghouse transactions,
updating the section on trade finance,
and incorporating regulatory changes.
The manual continues to contain an
overview of Bank Secrecy Act (BSA)
and anti-money-laundering requirements
and supervisory expectations, resource
materials, and examination procedures
and to emphasize a banking organization's responsibility to establish and
75
implement a risk-based approach to
complying with the BSA.
In January, the Federal Reserve, the
Department of the Treasury's Financial
Crimes Enforcement Network, and the
other federal banking agencies issued
guidance on sharing Suspicious Activity
Reports (SARs) with head offices or
controlling companies. The guidance
confirmed that a U.S. branch or agency
of a foreign bank may disclose a SAR to
its head office outside the United States.
Similarly, a U.S. bank or savings association may disclose a SAR to its controlling company, whether domestic or
foreign.
In March, the Federal Reserve issued
a final rule amending Regulation K (International Banking Operations) to conform the Board's regulations to BSA
requirements and to clarify that Edge
and agreement corporations and U.S.
branches, agencies, and representative
offices of foreign banks supervised by
the Federal Reserve must establish and
maintain procedures reasonably designed to ensure and monitor compliance with the BSA and its implementing
regulations.
In April, the Federal Reserve and the
other federal banking agencies entered
into a memorandum of understanding
with the Office of Foreign Assets Control within the Department of the Treasury to facilitate information-sharing
and to further enhance interagency coordination in implementing U.S. sanctions
rules.
International Guidance on
Supervisory Policies
As a member of the Basel Committee on
Banking Supervision (Basel Committee), the Federal Reserve participates in
efforts to advance sound supervisory
policies for internationally active banking organizations and to improve the
76
93rd Annual Report, 2006
stability of the international banking
system. In 2006, the Federal Reserve
continued to work cooperatively on
Basel II, the 2004 accord to revise the
international capital regime, and to develop international supervisory guidance. The Federal Reserve also continued to participate in Basel Committee
working groups to address issues not
fully resolved in the Basel II framework.
Risk Management
The Federal Reserve contributed to supervisory policy papers, reports, and
recommendations issued by the Basel
Committee during 2006 that were generally aimed at improving the supervision of banking organizations' riskmanagement practices.8
• "Enhancing Corporate Governance for
Banking Organizations," final paper
issued in February, updating guidance
published in 1999
• "Basel II: International Convergence
of Capital Measurement and Capital
Standards: A Revised Framework—
Comprehensive Version," published
in June
Core Principles for
Effective Banking Supervision
The Core Principles, developed by the
Basel Committee in 1997, have become
the de facto international standard for
sound prudential regulation and supervision of banks. In 2006, the Federal Reserve participated in a Basel Committee
effort to update the Core Principles in
light of the significant changes in international banking regulation and experience gained since the principles were
last revised in 1999. The revised guid8. Papers issued by the Basel Committee can
be accessed via the Bank for International Settlements web site at www.bis.org.
ance, "Core Principles for Effective Banking Supervision," was issued in October.
Joint Forum
In 2006, the Federal Reserve also continued to participate in the Joint
Forum—a group established under the
aegis of the Basel Committee to address
issues related to the banking, securities,
and insurance sectors, including the
regulation of financial conglomerates. It
is made up of representatives of the
Basel Committee, the International Organization of Securities Commissions,
and the International Association of Insurance Supervisors. The Federal Reserve contributed to the following supervisory policy papers, reports, and
recommendations issued by the Joint
Forum during 2006.9
• "Regulatory and Market Differences:
Issues and Observations," issued in
May
• "The Management of Liquidity Risk
in Financial Groups," issued in May
• "High-Level Principles for Business
Continuity," issued in August
International Accounting
The Federal Reserve participates in the
Basel Committee's Accounting Task
Force (ATF) and represents the Basel
Committee at international meetings on
accounting, auditing, and disclosure issues affecting global banking organizations. During 2006, Federal Reserve
staff were involved in the development
of two key Basel Committee documents
issued to national supervisors and also
of various comment letters related to
accounting and auditing that were submitted to the International Accounting
9. Papers issued by the Joint Forum can be
accessed via the Bank for International Settlements web site at www.bis.org.
Banking Supervision and Regulation
Standards Board and the International
Auditing and Assurance Standards
Board.
The Basel Committee document "Supervisory Guidance on the Use of the
Fair Value Option for Financial Instruments by Banks," issued in June, provides guidance on the prudential supervision of banks in their implementation
of the fair value option included in the
amended International Accounting Standard (IAS) 39, which became effective
January 1, 2006. Under IAS 39, the fair
value option allows an organization to
irrevocably elect, at the date of purchase, a fair value measurement for certain financial instruments and to record
in current earnings the gains and losses
resulting from changes in fair value.
The Basel Committee document
"Sound Credit Risk Assessment and
Valuation for Loans," issued in June,
provides guidance on assessing credit
risk and accounting for loan impairment. Specifically, the document addresses supervisory expectations for, and
supervisory evaluations of, a banking
organization's establishment and support of its loan-loss-allowance accounts.
Response to Hurricane Katrina
Since Hurricane Katrina, the federal
banking agencies—the Federal Reserve,
FDIC, NCUA, OCC, and OTS—and the
state banking agencies in Alabama,
Louisiana, and Mississippi have worked
together to monitor and support the
recovery efforts of financial institutions
and their customers in the U.S. Gulf
Coast region. In 2006, the interagency
efforts included
• developing examiner guidance on the
agencies' expectations related to assessments of the financial condition of
institutions affected by the hurricane;
11
• conducting a public service campaign
encouraging individuals affected by
Hurricane Katrina to contact their
lenders (and also issuing a statement
encouraging financial institutions to
work with their borrowers to assist
them in their financial recovery); and
• releasing "Lessons Learned from Hurricane Katrina: Preparing Your Institution for a Catastrophic Event," a booklet describing financial institutions'
experiences with Hurricane Katrina
and the lessons they learned that other
institutions might find helpful in considering their readiness for a catastrophic event.
Credit Risk Management
The Federal Reserve works with the
other federal banking agencies to
develop guidance on the management
of credit risk.
Real Estate Appraisals
Under the federal banking agencies'
regulations on real estate appraisals,
regulated institutions must ensure that
the appraisals they use in connection
with federally related transactions adhere to the Uniform Standards of Professional Appraisal Practice (USPAP). In
June 2006, the Federal Reserve, FDIC,
NCUA, OCC, and OTS issued an interagency statement informing regulated
institutions that the Appraisal Standards
Board of the Appraisal Foundation had
made significant revisions to USPAP,
effective July 1, 2006; providing an
overview of the revisions; and discussing the ramifications of the revisions for
the institutions' compliance with the
regulations.
Home Equity Lending
In September, the Federal Reserve,
FDIC, NCUA, OCC, and OTS issued an
78
93rd Annual Report, 2006
addendum to guidance issued in 2005—
"Interagency Credit Risk Management
Guidance for Home Equity Lending"—
that provided additional guidance on
managing the risks associated with
open-end home equity lines of credit
(HELOCs) that have interest-only or
negative amortization features. While
such HELOCs may give consumers
some flexibility, the agencies are concerned that consumers may not fully
understand the product terms and associated risks. The addendum addressed
the timing and content of communications with consumers that are obtaining
HELOCs having these features and
clarified the agencies' expectations for
assessing borrower repayment capacity.
Nontraditional Mortgage Products
In September, the Federal Reserve,
FDIC, NCUA, OCC, and OTS issued
guidance, titled "Interagency Guidance
on Nontraditional Mortgage Product
Risks," that addresses risk-management
and consumer disclosure practices that
institutions should employ to effectively
assess and manage the risks associated
with residential mortgage loans that
allow borrowers to defer repayment of
principal and, sometimes, interest (referred to as nontraditional mortgage
loans). Specifically, the guidance states
that regulated institutions should
• ensure that loan terms and underwriting standards are consistent with prudent lending practices (including, for
example, that they evaluate the borrower's repayment capacity);
• recognize that many nontraditional
mortgage loans, particularly those that
have risk-layering features, are untested in a stressed environment and
warrant strong risk-management standards, capital levels commensurate
with risk, and allowances for loan and
lease losses that reflect the collectibility of the portfolio; and
• ensure that consumers have sufficient
information to understand the loan
terms and the associated risks before
they choose a product or a payment
arrangement.
Commercial Real Estate
Concentrations
In December, the Federal Reserve,
FDIC, and OCC issued guidance titled
"Interagency Guidance on Concentrations in Commercial Real Estate Lending, Sound Risk Management Practices"
to remind institutions that strong riskmanagement practices and appropriate
levels of capital are important elements
of a sound lending program, particularly
if the institution has a concentration in
commercial real estate loans. The guidance reinforced and enhanced existing
regulations and guidelines for safe and
sound real estate lending. (For more information, see the box "Guidance on
Concentrations in Commercial Real Estate Lending.")
Complex Structured Finance Activities
During the year, the Federal Reserve,
FDIC, OCC, OTS, and SEC prepared a
final statement on sound practices for
complex structured finance transactions
(CSFTs). The statement, to be issued in
early 2007, describes the types of internal controls and risk-management procedures that financial institutions should
use to identify, manage, and address the
heightened legal and reputational risks
that may arise from certain CSFTs.
(Excluded are most structured finance
transactions that are familiar to participants in the financial markets and have
well-established track records—such as
standard public mortgage-backed securities and hedging-type transactions in-
Banking Supervision and Regulation
volving "plain vanilla" derivatives or
collateralized debt obligations.) Financial institutions that engage in CSFTs
should, as part of their process for approving transactions and new products,
establish and maintain policies, procedures, and systems that are designed to
identify elevated-risk CSFTs and should
ensure that transactions and new products so identified are subject to greater
review by appropriate levels of management. An institution should decline to
participate in an elevated-risk CSFT if it
determines that the transaction presents
unacceptable risks or would result in a
violation of applicable laws, regulations,
or accounting principles.
Banks' Securities Activities
In December, the Board and the SEC
requested comments on joint proposed
rules that would help define the scope of
securities activities that a bank may conduct without registering with the SEC as
a securities broker. The Gramm-LeachBliley Act eliminated the blanket "broker" exception for banks that had been
contained in section 3(a)(4) of the Securities Exchange Act of 1934, but it
granted exceptions designed to allow
banks to continue to engage in securities
transactions for customers in connection
with their normal trust, fiduciary, custodial, and other banking operations. The
proposed rules would implement the
most important "broker" exceptions.
Comments on the proposal are due by
March 26, 2007.
Small Bank Holding Company
Threshold
In February, the Board issued a final
rule that raises, from $150 million to
$500 million, the asset-size threshold
used to determine whether a bank holding company qualifies for (1) the
79
Board's Small Bank Holding Company
Policy Statement and (2) an exemption
from the Board's risk-based and leverage capital adequacy guidelines for
bank holding companies. The final rule
also modifies the qualitative criteria
used in determining whether a bank
holding company that is under the
asset-size threshold nevertheless would
not qualify for the policy statement or
the exemption. In addition, the final
rule clarifies the treatment under
the policy statement of subordinated
debt associated with trust preferred
securities.
Economic Growth and Regulatory
Paperwork Reduction Act of 1996
The Economic Growth and Regulatory
Paperwork Reduction Act of 1996 requires that the federal banking agencies
review their regulations every ten years
to identify and eliminate any unnecessary requirements imposed on insured
depository institutions. (In addition, the
Board periodically reviews each of its
regulations.) During 2006, the Federal
Reserve, OCC, FDIC, and OTS conducted the required review. Among
other activities, they met with representatives of the banking industry and of
consumer groups around the country to
hear their concerns and their suggestions for reducing regulatory burden.
The agencies expect to issue a final
report in 2007.
Bank Holding Company
Regulatory Financial Reports
The Federal Reserve requires that U.S.
bank holding companies periodically
submit reports providing financial and
structure information. This information
is essential to the supervision of the
companies and the formulation of regulations and supervisory policies. It is
80
93rd Annual Report, 2006
Guidance on Concentrations in Commercial Real Estate Lending
As any banker worth his or her salt knows, lending concentrations must be
carefully identified, monitored, and managed. It is one of the basics of banking to
understand the consequences of placing all your eggs in one basket. Naturally,
supervisors from time to time have concerns about growing credit risk concentrations at banks and bankers' ability to manage them.
Susan Schmidt Bies, Member, Board of Governors
June 2006
In response to rising concentrations of
commercial real estate (CRE) loans at
many financial institutions, the Federal
Reserve, the Office of the Comptroller of
the Currency, and the Federal Deposit Insurance Corporation on December 12,
2006, issued guidance promoting sound
risk-management practices in this sector.1
In the guidance, titled "Concentrations in
Commercial Real Estate Lending, Sound
1. As defined by the guidance, CRE loans
include land development and construction loans
(including one- to four-family residential and
commercial construction loans) and other land
loans; loans secured by multifamily property;
and loans secured by nonfarm nonresidential
property for which 50 percent or more of the
source of repayment is third-party, nonaffiliated,
rental income or the proceeds of the sale, refinancing, or permanent financing of the property.
The guidance also applies to some loans to real
estate investment trusts and unsecured loans to
developers.
also used in responding to requests from
Congress and the public for information
on bank holding companies and their
nonbank subsidiaries. Foreign banking
organizations are also required to periodically submit reports to the Federal
Reserve.
The FR Y-9 series of reports provides
standardized financial statements for
bank holding companies on both a consolidated basis and a parent-only basis.
Risk Management Practices," the agencies
recognize that financial institutions play a
vital role in funding real estate development in their communities and can do so in
a profitable way. However, as an institution's concentration in CRE lending increases, management should understand its
possible exposure to a downturn in the
CRE market or to other adverse market and
economic events.
Supervisors have observed over the past
decade that CRE concentrations have been
rising at many institutions, especially at
small and medium-size banks. Between
1993 and 2005, CRE loans as a proportion
of total equity plus reserves rose from
145 percent to 280 percent for commercial
banks with assets between $100 million
and $1 billion and from 120 percent to
230 percent for commercial banks with
assets of $1 billion to $10 billion. Experience has shown that credit concentrations
add a dimension of risk that compounds
the simple risk inherent in individual loans.
The reports are used to detect emerging
financial problems, to review performance and conduct pre-inspection
analysis, to monitor and evaluate risk
profiles and capital adequacy, to evaluate proposals for bank holding company
mergers and acquisitions, and to analyze
the holding company's overall financial
condition. The nonbank subsidiary
reports—FRY-11, FR 2314, and
FRY-7N—help the Federal Reserve
Banking Supervision and Regulation
Further, supervisors are concerned that
risk-management practices at some institutions may not have kept pace with the
growth of CRE concentrations.
The agencies developed the 2006 CRE
guidance to remind financial institutions
that strong risk-management practices and
appropriate capital levels are important
elements of a sound CRE lending program,
particularly when an institution has a concentration in CRE loans or has experienced
rapid portfolio growth. The guidance provides the agencies' examiners with two
supervisory screening criteria designed to
identify institutions whose CRE concentrations may require additional scrutiny:
• Total loans for construction, land development, and other land represent 100
percent or more of the institution's total
capital; or
• Total CRE loans represent 300 percent or
more of the institution's total capital, and
the outstanding balance of the institution's commercial real estate loan portfolio has increased 50 percent or more
during the previous thirty-six months.
These screening criteria serve as a starting point for a dialogue between the agencies' supervisory staff and an institution's
management about the level and nature of
CRE concentration risk. The guidance focuses on CRE loans for which the risk of
default is sensitive to CRE market demand,
capitalization rates, vacancy rates, or rents.
determine the condition of bank holding
companies that are engaged in nonbank
activities and also aid in monitoring the
volume, nature, and condition of the
companies' nonbank subsidiaries.
In March, several revisions to the
FR Y-9C, FR Y-9LP, and FRY-9SP
reports were approved for implementation during 2006. Effective March 31,
the asset-size threshold for filing
the FRY-9C and FR Y-9LP reports
81
The agencies recognize that different
types of CRE lending present different levels of risk. For example, a well-structured
loan for a multifamily housing project
would generally have a lower risk profile
than a loan for an office building to be built
on speculation. The guidance acknowledges that institutions are in the best position to make such assessments about the
level and nature of concentration risk in
their CRE portfolios.
Building upon the agencies' existing
regulations and guidelines for real estate
lending and loan portfolio management,
the guidance describes the key elements
that an institution should address in the
areas of board and management oversight,
portfolio management, management information systems, market analysis, creditunderwriting standards, portfolio stresstesting and sensitivity analysis, and the
credit-risk review function.
The Federal Reserve recognizes that
commercial real estate lending is a critically important activity that has become
the "bread and butter" business of many
small and medium-size banks. Supervisors
emphasize that they did not intend the
guidance to limit commercial real estate
lending; rather, they expect that the guidance will encourage institutions to develop
and maintain appropriate corporategovernance structures to address the risks
posed by their lending strategies.
was raised from $150 million to
$500 million, reducing the number of
respondents by approximately 60 percent. Other FR Y-9C revisions effective
March 31 included the elimination of a
number of data items; the addition of
data items on loans for purchasing and
carrying securities, regulatory capital,
and credit derivatives; and the removal
of the FR Y-9C filing requirement for
lower-tier bank holding companies hav-
82
93rd Annual Report, 2006
ing total assets of $1 billion or more.
Revisions effective September 30 included new officer signature requirements and additional data items on mortgage banking activities and secured
borrowings.
Effective June 30, the asset-size cap
for the FR Y-9SP was raised from
$150 million to $500 million, increasing
the number of respondents by approximately 50 percent. Other FR Y-9SP revisions effective June 30 included the
addition of two items identifying the
total value of off-balance-sheet activities conducted directly or through a nonbank subsidiary and the total value of
debt and equity securities registered
with the SEC. Revised officer signature
requirements for the FR Y-9SP were
effective December 31.
In March, the Board also revised the
asset-size threshold for the quarterly
FR Y-ll and FR 2314 nonbank subsidiary reports, to make it consistent with
the revised threshold for the FR Y-9C
and to reduce reporting burden. Revising the threshold for the FR Y-ll reduced the number of quarterly respondents by approximately 30 percent; the
revision had no immediate effect on the
number of FR 2314 filers. Other
FRY-11 and FR2314 revisions effective March 31 included the addition of a
new equity capital component to the
balance sheet for reporting partnership
interest and, for the FR Y-ll only, the
expansion of the scope of several loan
items reported on the balance sheet
memoranda.
Effective December 31, a new report
was implemented: the Annual Report of
Merchant Banking Investments Held for
an Extended Period (FR Y-12A). The
report collects data concerning merchant banking investments that are approaching the end of the holding period
permissible under Regulation Y (Bank
Holding Companies and Change in
Bank Control).
Commercial Bank
Regulatory Financial Reports
As the federal supervisor of state member banks, the Federal Reserve, along
with the other banking agencies through
the FFIEC, requires banks to submit
quarterly Consolidated Reports of Condition and Income (Call Reports). Call
Reports are the primary source of data
for the supervision and regulation of
banks and the ongoing assessment of the
overall soundness of the nation's banking system. Call Report data, which also
serve as benchmarks for the financial
information required by many other
Federal Reserve regulatory financial reports, are widely used by state and local
governments, state banking supervisors,
the banking industry, securities analysts,
and the academic community.
For the 2006 reporting period, the
FFIEC implemented various revisions
to the Call Report to streamline the reporting requirements and to add new
items that focus on areas of increasing
supervisory concern. The principal revisions included the collection of data related to the implementation of deposit
insurance reform provisions, funding
sources (Federal Home Loan Bank
advances and other borrowings), and
mortgage banking activities. The signature and attestation requirements were
revised to add the chief financial officer,
or equivalent, to the list of officials required to attest to and sign the Call
Report.
In October, the FFIEC proposed revisions for the 2007 reporting period to
address new safety and soundness considerations and to facilitate supervision.
Among the proposed revisions are
changes in data collection related to the
deposit insurance assessment collection
Banking Supervision and Regulation
process; changes in generally accepted
accounting principles (including certain
financial instruments measured at fair
value and principles for accounting for
defined benefit pension and other postretirement plans); and nontraditional
mortgage products.
Supervisory Information
Technology
Information technology supporting Federal Reserve supervisory activities is
managed within the System supervisory
information technology (SSIT) function
in the Board's Division of Banking
Supervision and Regulation. SSIT
works through assigned staff at the
Board and the Reserve Banks, as well
as through System committees, to
ensure that key staff members throughout the System participate in identifying requirements and setting priorities
for IT initiatives.
In 2006, the SSIT function worked on
the following strategic projects and initiatives: (1) align technology investments with business needs; (2) improve
security of information-sharing technologies and provide for seamless
collaboration in interagency efforts;
(3) identify and implement improvements in the accessibility of technology
to staff working in the field; (4) identify
opportunities to converge and streamline IT applications, including key
administrative systems, to provide consistent and seamless information;
(5) evaluate and implement technologies (such as portals, search engines,
and content management tools) to
integrate supervisory and management
information systems that support both
office-based and field staff; and
(6) enhance the information security
framework for the supervisory function,
improving both overall security and
83
compliance with best-practices and
regulatory requirements.
National Information Center
The National Information Center (NIC)
is the Federal Reserve's comprehensive
repository for supervisory, financial, and
banking structure data and supervisory
documents. NIC includes comprehensive data on banking structure throughout the United States; the National Examination Database (NED), which
enables supervisory personnel and state
banking authorities to access NIC data;
the Banking Organization National
Desktop (BOND), an application that
facilitates secure, real-time electronic
information-sharing and collaboration
among federal and state banking regulators for the supervision of banking organizations; and the Central Document and
Text Repository (CDTR), which contains documents supporting the supervisory processes.
The structure and supervisory data
systems are continually being updated
to extend their useful lives and improve
business workflow efficiency. During
2006, the NED system was modified to
begin collecting Bank Secrecy Act
information in an automated format, to
support Federal Reserve enforcement
activities. In 2006, the BOND and
CDTR systems were modified to provide further integration with the Federal
Reserve's internal surveillance program, to provide additional support for
the supervision of large financial institutions, and to allow integration of
examinations of technology service
providers. In addition, user authentication software was upgraded for external
agency users, and use of the BOND
and CDTR systems was extended to
additional federal and state regulatory
agencies.
84
93rd Annual Report, 2006
Staff Development
ness or consumer affairs. In 2006, 190
examiners passed the first proficiency
examination, and 61 passed the second
proficiency examination: 53 the safety
and soundness exam, and 8 the consumer affairs exam.
The System Staff Development Program
trains staff members at the Board, the
Reserve Banks, state banking departments, and foreign supervisory authorities. Training is offered at the basic,
intermediate, and advanced levels in
several disciplines within bank supervi- Regulation of the
sion: safety and soundness, information U.S. Banking Structure
technology, international banking, and The Federal Reserve administers several
consumer affairs. Classes are conducted federal statutes that apply to bank holdin Washington, D.C., as well as at ing companies, financial holding compaReserve Banks and other locations. The nies, member banks, and foreign bankFederal Reserve System also partici- ing organizations—the Bank Holding
pates in training offered by the FFIEC Company Act, the Bank Merger Act, the
and by certain other regulatory agencies. Change in Bank Control Act, the FedThe System's involvement includes de- eral Reserve Act, and the International
veloping and implementing basic and Banking Act. In administering these
advanced training in relation to various statutes, the Federal Reserve acts on a
emerging issues as well as in specialized variety of proposals that directly or indiareas such as international banking, in- rectly affect the structure of the U.S.
formation technology, anti-money laun- banking system at the local, regional,
dering, capital markets, payment sys- and national levels; the international optems risk, and real estate appraisal. In erations of domestic banking organizaaddition, the System co-hosts the World tions; or the U.S. banking operations of
Bank Seminar for supervisors from de- foreign banks. The proposals concern
bank holding company formations and
veloping countries.
In 2006, the Federal Reserve trained acquisitions, bank mergers, and other
3,619 students in System schools, 952 in transactions involving bank or nonbank
schools sponsored by the FFIEC, and 24 firms. In 2006, the Federal Reserve
in other schools, for a total of 4,595, acted on 1,378 proposals, which repreincluding 312 representatives of foreign sented 3,171 individual applications
central banks and supervisory agencies filed under the five administered
(see table). The number of training days statutes.
in 2006 totaled 23,321.
The System gave scholarship assisBank Holding Company Act
tance to the states for training their examiners in Federal Reserve and FFIEC Under the Bank Holding Company Act,
schools. Through this program, 605 state a corporation or similar legal entity
examiners were trained—308 in Federal must obtain the Federal Reserve's
Reserve courses, 293 in FFIEC pro- approval before forming a bank holding
grams, and 4 in other courses.
company through the acquisition of one
A staff member seeking an examin- or more banks in the United States.
er's commission is required to take a Once formed, a bank holding company
first proficiency examination as well as must receive Federal Reserve approval
a second proficiency examination in one before acquiring or establishing addiof two specialty areas: safety and sound- tional banks. The act also identifies the
Banking Supervision and Regulation
85
Training Programs for Banking Supervision and Regulation, 2006
Number of sessions conducted
Program
Total
Regional
8
3
15
8
14
7
7
1
15
8
14
5
5
3
2
3
2
3
4
5
2
2
2
0
1
Principles of fiduciary supervision
Commercial lending essentials for consumer affairs
Consumer compliance examinations I
Consumer compliance examinations II
CRA examination techniques
CA risk-focused examination techniques
Fair lending examination techniques
2
1
2
2
2
2
3
2
1
0
2
2
2
3
Foreign banking organizations seminar
Information systems continuing education
Asset liability management (ALM1)
Asset liability management (ALM2)
Fundamentals of interest rate risk management
Trading and operations
Technology risk integration
1
7
2
2
8
1
3
1
7
2
1
8
1
3
6
16
11
4
15
11
34
26
Schools or seminars conducted by the Federal Reserve
Core schools
Banking and supervision elements
Financial analysis and risk management
Bank management
Report writing
Management skills
Conducting meetings with management
Other schools
Credit risk analysis
Examination management
Real estate lending seminar
Senior forum for current banking and regulatory issues .
Basel II corporate activities
Basel II operational risk
Basel II retail activities
Leadership dynamics
Fundamentals of fraud
Information technology seminars1
Seminar for senior supervisors of foreign central banks2
and 13 other international courses
Self-study or online learning*
Orientation (core and specialty) ..
Self-study modules (26 modules).
Other agencies conducting courses*
Federal Financial Institutions Examination Council.
The Options Institute
1. Held at the IT Lab at the Chicago Reserve Bank.
2. Conducted jointly with the World Bank.
nonbanking activities permissible for
bank holding companies; depending on
the circumstances, these activities may
or may not require Federal Reserve
approval in advance of their commencement.
When reviewing a bank holding company application or notice that requires
prior approval, the Federal Reserve may
78
1
3. Self-study programs do not involve group sessions.
4. Open to Federal Reserve employees.
consider the financial and managerial
resources of the applicant, the future
prospects of both the applicant and the
firm to be acquired, the convenience and
needs of the community to be served,
the potential public benefits, the competitive effects of the proposal, and the
applicant's ability to make available to
the Federal Reserve information deemed
86
93rd Annual Report, 2006
necessary to ensure compliance with
applicable law. In the case of a foreign
banking organization seeking to acquire
control of a U.S. bank, the Federal
Reserve also considers whether the foreign bank is subject to comprehensive
supervision or regulation on a consolidated basis by its home-country supervisor. In 2006, the Federal Reserve acted
on 638 applications filed by bank holding companies to acquire a bank or a
nonbank firm, or to otherwise expand
their activities.
Bank holding companies generally
may engage in only those nonbanking
activities that the Board has previously
determined to be closely related to banking under section 4(c)(8) of the Bank
Holding Company Act. Since 1996, the
act has provided an expedited priornotice procedure for certain permissible
nonbank activities and for acquisitions
of small banks and nonbank entities.
Since that time the act has also permitted well-run bank holding companies
that satisfy certain criteria to commence
certain other nonbank activities on a de
novo basis without first obtaining Federal Reserve approval.
A bank holding company may repurchase its own shares from its shareholders. When the company borrows money
to buy the shares, the transaction
increases the company's debt and decreases its equity. The Federal Reserve
may object to stock repurchases by holding companies that fail to meet certain
standards, including the Board's capital
adequacy guidelines. In 2006, the
Federal Reserve reviewed 7 stockrepurchase proposals by bank holding
companies.
The Federal Reserve also reviews
elections from bank holding companies
seeking financial holding company status under the authority granted by the
Gramm-Leach-Bliley Act. Bank holding
companies seeking financial holding
company status must file a written declaration with the Federal Reserve. In
2006, 48 domestic financial holding
company declarations and 7 foreign
bank declarations were approved.
Bank Merger Act
The Bank Merger Act requires that all
proposals involving the merger of
insured depository institutions be acted
on by the appropriate federal banking
agency. The Federal Reserve has primary jurisdiction if the institution surviving the merger is a state member
bank. Before acting on a merger proposal, the Federal Reserve considers
the financial and managerial resources
of the applicant, the future prospects of
the existing and combined organizations, the convenience and needs of the
community(ies) to be served, and the
competitive effects of the proposed
merger. In 2006, the Federal Reserve
approved 65 merger applications under
the act.
As a result of enactment of the Financial Services Regulatory Relief Act of
2006, the Federal Reserve is no longer
required for each proposed bank merger
to either request competitive factors reports from the other federal banking and
thrift regulatory agencies or provide reports on competitive factors to those
other agencies. The Federal Reserve
now must consider only the views of the
U.S. Department of Justice regarding the
competitive aspects of a proposed bank
merger. In addition, the views of the
Department of Justice need not be solicited for bank mergers involving affiliated insured depository institutions.
Before these statutory changes occurred
in the third quarter of 2006, the Federal
Reserve had submitted 451 reports
on competitive factors to the other
agencies.
Banking Supervision and Regulation
Change in Bank Control Act
The Change in Bank Control Act requires individuals and certain other parties that seek control of a U.S. bank or
bank holding company to obtain approval from the appropriate federal
banking agency before completing the
transaction. The Federal Reserve is responsible for reviewing changes in the
control of state member banks and bank
holding companies. In its review, the
Federal Reserve considers the financial
position, competence, experience, and
integrity of the acquiring person; the
effect of the proposed change on the
financial condition of the bank or bank
holding company being acquired; the
effect of the proposed change on competition in any relevant market; the completeness of the information submitted
by the acquiring person; and whether
the proposed change would have an adverse effect on the federal deposit insurance funds. In addition, with enactment
of the Financial Services Regulatory Relief Act of 2006, the Federal Reserve
must also consider the future prospects
of the institution to be acquired: a proposed transaction should not jeopardize
the stability of the institution or the
interests of depositors. During its review
of a proposed transaction, the Federal
Reserve may contact other regulatory or
law enforcement agencies for information about relevant individuals.
In 2006, the Federal Reserve approved 98 changes in control of state
member banks and bank holding
companies.
Federal Reserve Act
Under the Federal Reserve Act, a member bank may be required to seek Federal Reserve approval before expanding
its operations domestically or internationally. State member banks must ob
87
tain Federal Reserve approval to establish domestic branches, and all member
banks (including national banks) must
obtain Federal Reserve approval to establish foreign branches. When reviewing proposals to establish domestic
branches, the Federal Reserve considers, among other things, the scope and
nature of the banking activities to be
conducted. When reviewing proposals
for foreign branches, the Federal
Reserve considers, among other things,
the condition of the bank and the bank's
experience in international banking. In
2006, the Federal Reserve acted on new
and merger-related branch proposals for
2,033 domestic branches and granted
prior approval for the establishment of 7
new foreign branches.
State member banks must also obtain
Federal Reserve approval to establish
financial subsidiaries. These subsidiaries
may engage in activities that are financial in nature or incidental to financial
activities, including securities and insurance agency-related activities. In 2006,
1 application for a financial subsidiary
was approved.
Overseas Investments by
U.S. Banking Organizations
U.S. banking organizations may engage
in a broad range of activities overseas.
Many of the activities are conducted
indirectly through Edge Act and agreement corporation subsidiaries. Although
most foreign investments are made under general consent procedures that involve only after-the-fact notification to
the Federal Reserve, large and other significant investments require prior approval. In 2006, the Federal Reserve
approved 29 proposals for significant
overseas investments by U.S. banking
organizations. The Federal Reserve also
approved 16 applications to make additional investments through an Edge
88
93rd Annual Report, 2006
Act or agreement corporation, 1 application to establish an Edge Act corporation, and 2 applications to extend the
corporate existence of an Edge Act
corporation.
with U.S. law. In 2006, the Federal Reserve approved 19 applications by foreign banks to establish branches, agencies, or representative offices in the
United States.
International Banking Act
Public Notice of
Federal Reserve Decisions
The International Banking Act, as
amended by the Foreign Bank Supervision Enhancement Act of 1991, requires
foreign banks to obtain Federal Reserve
approval before establishing branches,
agencies, commercial lending company
subsidiaries, or representative offices in
the United States.
In reviewing proposals, the Federal
Reserve generally considers whether the
foreign bank is subject to comprehensive supervision or regulation on a consolidated basis by its home-country supervisor. It also considers whether the
home-country supervisor has consented
to the establishment of the U.S. office;
the financial condition and resources of
the foreign bank and its existing U.S.
operations; the managerial resources of
the foreign bank; whether the homecountry supervisor shares information
regarding the operations of the foreign
bank with other supervisory authorities;
whether the foreign bank has provided
adequate assurances that information
concerning its operations and activities
will be made available to the Federal
Reserve, if deemed necessary to determine and enforce compliance with
applicable law; whether the foreign bank
has adopted and implemented procedures to combat money laundering and
whether the home country of the foreign
bank is developing a legal regime to
address money laundering or is participating in multilateral efforts to combat
money laundering; and the record of the
foreign bank with resnect to compliance
Certain decisions by the Federal Reserve that involve an acquisition by a
bank holding company, a bank merger, a
change in control, or the establishment
of a new U.S. banking presence by a
foreign bank are made known to the
public by an order or an announcement.
Orders state the decision, the essential
facts of the application or notice, and
the basis for the decision; announcements state only the decision. All orders
and announcements are made public immediately; they are subsequently reported in the Board's weekly H.2 statistical release. The H.2 release also
contains announcements of applications
and notices received by the Federal Reserve upon which action has not yet
been taken. For each pending application and notice, the related H.2A contains the deadline for comments. The
Board's web site (www.federalreserve.
gov) provides information on orders and
announcements as well as a guide for
U.S. and foreign banking organizations
that wish to submit applications or notices to the Federal Reserve.
Enforcement of
Other Laws and Regulations
The Federal Reserve's enforcement responsibilities also extend to the disclosure of financial information by state
member banks and the use of credit to
purchase and carry securities.
Banking Supervision and Regulation
Financial Disclosures by
State Member Banks
State member banks that issue securities
registered under the Securities Exchange
Act of 1934 must disclose certain information of interest to investors, including
annual and quarterly financial reports
and proxy statements. By statute, the
Board's financial disclosure rules must
be substantially similar to those of the
SEC. At the end of 2006, 17 state member banks were registered with the
Board under the Securities Exchange
Act of 1934.
Securities Credit
Under the Securities Exchange Act, the
Board is responsible for regulating
credit in certain transactions involving
the purchase or carrying of securities.
The Board's Regulation T limits the
amount of credit that may be provided
by securities brokers and dealers when
the credit is used to trade debt and
equity securities. The Board's Regulation U limits the amount of credit that
may be provided by lenders other than
brokers and dealers when the credit is
used to purchase or carry publicly held
equity securities if the loan is secured by
those or other publicly held equity secu-
89
rities. The Board's Regulation X applies
these credit limitations, or margin requirements, to certain borrowers and to
certain credit extensions, such as credit
obtained from foreign lenders by U.S.
citizens.
Several regulatory agencies enforce
the Board's securities credit regulations. The SEC, the National Association of Securities Dealers, and the
national securities exchanges examine
brokers and dealers for compliance
with Regulation T. With respect to
compliance with Regulation U, the federal banking agencies examine banks
under their respective jurisdictions; the
Farm Credit Administration, the
NCUA, and the OTS examine lenders
under their respective jurisdictions; and
the Federal Reserve examines other
Regulation U lenders.
Federal Reserve Membership
At the end of 2006, 2,593 banks were
members of the Federal Reserve System
and were operating 53,938 branches.
These banks accounted for 35 percent of
all commercial banks in the United
States and for 71 percent of all commercial banking offices.
•
91
Consumer and Community Affairs
Among the Federal Reserve's responsibilities in the areas of consumer and
community affairs are
• writing and interpreting regulations to
implement federal laws that protect
and inform consumers;
• supervising state member banks to ensure compliance with the regulations;
• investigating complaints from the
public about state member banks'
compliance with regulations; and
• promoting community development in
historically underserved markets.
These responsibilities are carried out by
the members of the Board of Governors,
the Board's Division of Consumer and
Community Affairs, and the consumer
and community affairs staff of the Federal Reserve Banks.
Implementation of Statutes
Designed to Inform and Protect
Consumers
The Board of Governors writes regulations to implement federal laws involving consumer financial services and fair
lending. The Board revises and updates
these regulations to address the introduction of new products and technologies, to implement legislative changes to
existing laws, and to address problems
consumers may encounter in their financial transactions. To interpret and clarify
the regulations, Board staff issue commentaries and other guidance.
During 2006, the Board published final amendments to its Regulation E,
which implements the Electronic Fund
Transfer Act, and the associated commentary to make the regulation applicable to payroll card accounts established
through an employer to provide a consumer with electronic fund transfers of
salary, wages, or other employee compensation on a recurring basis. The
Board also amended Regulation E to
clarify that a person, such as a merchant,
must obtain a consumer's authorization
to collect returned-item fees electronically from the consumer's account. The
Board engaged in several rulemaking
and other activities with the other federal banking agencies and the Federal
Trade Commission (FTC). The Board,
the Federal Deposit Insurance Corporation (FDIC), and the Office of the
Comptroller of the Currency (OCC)
issued final guidance on the most recent
amendments to the agencies' Community Reinvestment Act (CRA) regulations. The Board also issued joint final
guidance with the OCC, the FDIC, the
Office of Thrift Supervision (OTS), and
the National Credit Union Administration (NCUA) to address the risks associated with nontraditional mortgage products. In addition, the Board and the FTC
jointly issued a report to Congress on
the consumer dispute provisions of the
Fair Credit Reporting Act.
Furthermore, the Board raised the
dollar threshold that triggers additional
requirements under the Home Ownership and Equity Protection Act and
raised the exemption threshold for
depository institutions required to collect data under the Home Mortgage Disclosure Act.
92
93rd Annual Report, 2006
Amendments to Regulation E
(Electronic Fund Transfers)
Payroll Cards
In August, the Board published final
amendments to Regulation E that address payroll card accounts established
through an employer on behalf of a
consumer and to which recurring electronic fund transfers of salary, wages, or
other employee compensation are made.
Under the final rule, payroll card
accounts are subject to the same requirements that apply to traditional transaction accounts under Regulation E; these
requirements include a financial institution's duty to provide payroll-card
account holders with initial disclosures,
periodic statements, and error-resolution
and liability provisions. For periodic
statements, however, the final rule
allows financial institutions to provide
the specified account information electronically, and in writing upon the consumer's request, rather than through
paper statements.
Regulation E applies to financial institutions that (1) hold an account belonging to a consumer or (2) both issue
an access device (such as a debit card)
to a consumer and agree with the consumer to provide electronic fund transfer (EFT) services. The final rule clarifies that the depository institution
holding the consumer's funds in a payroll card account is a financial institution under the regulation. The final rule
does not generally cover employers or
third-party service providers. The mandatory compliance date for the final rule
is July 1, 2007.
Returned'Item Fees
In December, the Board published a
final rule amending Regulation E and
its official staff commentary. These
amendments clarify the consumerauthorization requirements for the electronic collection of returned-item fees.
The final rule states that a person seeking to collect a fee for a returned check
or any other item must obtain a consumer's authorization to initiate an EFT
to collect this fee. This requirement
applies to the person initiating the EFT,
not to the consumer's account-holding
financial institution. Consumer authorization is obtained when (1) a notice
stating the specific amount of the fee
(or explaining how the fee is calculated, if the fee may vary) and a statement that the fee will be collected via
an EFT is provided to the consumer
and (2) the consumer goes forward with
the transaction. For point-of-sale transactions, the notice must be posted in a
prominent and conspicuous location,
and a copy of the notice must be given
to the consumer to retain. The required
copy of the notice may be given to the
consumer at the time of the transaction
or mailed to the consumer's address as
soon as reasonably practicable after the
EFT has been initiated.
Joint Guidance on the Community
Reinvestment Act Regulations
In March, the Board, along with the
FDIC and the OCC, issued joint final
guidance to implement changes to the
agencies' CRA regulations, which were
effective in September 2005. The guidance answers frequently asked questions
about the new CRA rules, including a
new rule that provides CRA "community development" consideration for
bank activities that revitalize or stabilize
designated disaster areas. The guidance
states that banks will receive consideration for activities they conduct within
36 months of an area's designation as a
disaster area when such activities help
to attract new, or to retain existing, busi-
Consumer and Community Affairs
nesses or residents to the area and are
related to disaster recovery.
The guidance also implements a new
rule that provides "community development" consideration for bank activities
that revitalize or stabilize underserved
or distressed middle-income rural areas.
The guidance describes the types of activities that will receive consideration as
well as how such activities will be
evaluated. In addition, the guidance discusses the new community development
test for intermediate small banks (banks
that have assets of between $250 million
and $1 billion).
Interagency Guidance
on the Risks of
Nontraditional Mortgage Products
In September, the Board, along with the
OCC, the FDIC, the OTS, and the
NCUA, issued final guidance to address
the risks associated with the growing
use of so-called nontraditional mortgage
products, such as interest-only mortgages and payment-option adjustablerate mortgages.1 These products, which
allow borrowers to defer repayment of
the loan's principal and sometimes interest, are being offered to a wide spectrum
of borrowers. Among other issues, the
interagency guidance addresses concerns that some borrowers may not fully
understand the risks of these products,
including their potential for negative
amortization.
Specifically, the agencies provided
guidance in three primary areas: loan
terms and underwriting standards, portfolio and risk-management practices,
and consumer protection issues. The
first section of the guidance advises financial institutions to ensure that their
loan terms and underwriting standards
1. See www.federalreserve.gov/boarddocs/press/
bcreg/2006/20060929/default.htm.
93
for nontraditional mortgage products are
consistent with prudent lending practices, which include considering whether
a borrower has the capacity to repay a
loan. The second section outlines the
need for financial institutions to have
strong risk-management standards, capital levels commensurate with the risk of
their products and activities, and an allowance for loan and lease losses that
reflects the collectibility of their loan
portfolio. The third section describes
recommended practices to ensure that
financial institutions are providing consumers with clear and balanced information that allows them to understand the
terms and associated risks of a loan
before they choose a specific product or
payment option. (See related box "Nontraditional Mortgages—Balancing Innovation, Regulation, and Education.")
Report on Compliance with
Consumer Dispute Provisions of
the Fair Credit Reporting Act
In August, the Board and the FTC issued
a joint report to Congress pursuant to
section 313(b) of the Fair and Accurate
Credit Transactions Act of 2003 (the
FACT Act). In addition to other
changes, the FACT Act amended the
Fair Credit Reporting Act (FCRA) to
enhance the FCRA's consumer dispute
provisions. The joint report describes
the extent to which consumer reporting
agencies (CRAs) and furnishers of information to CRAs comply with the consumer dispute provisions of the FCRA.
Before writing the report, the Board and
the FTC conducted a study that examined several sources of information:
public comments from consumers,
CRAs, and consumer and industry
groups; consumer complaints sent to the
federal financial institution regulatory
agencies; bank examination data on
FCRA compliance; and other studies,
94
93rd Annual Report, 2006
Nontraditional Mortgages—
Balancing Innovation, Regulation, and Education
Homeownership has long been viewed as a
fundamental step to furthering personal
and financial well-being. A home is often
the largest and most important asset
individuals and families acquire, and the
equity earned on a home can, over time,
provide homeowners with financial flexibility and security. Consumers have
benefited from public policies to encourage and facilitate homeownership, as well
as from innovations in the financial services industry that have increased both the
number of lenders and types of home loans
available. While increased competition and
product choice provide consumers with
new opportunities, they also present many
challenges for both borrowers, who must
be prepared to evaluate their options, and
for regulators, who seek to ensure
consumer protections without hindering
market innovation through overly restrictive regulation.
In recent years, so-called nontraditional
mortgages, including interest-only and
payment-option adjustable-rate mortgages,
have become increasingly popular. Originally designed as niche products to meet the
needs of certain borrowers, such as wealthy
customers or customers who have seasonal
or other fluctuations in their incomes, nontraditional mortgages are now commonplace among more-typical borrowers. In
2006, nontraditional mortgages accounted
for one-third of all mortgage originations,
compared with only one-tenth of mortgage
originations in 2003. Nontraditional mortgages can provide borrowers with greater
flexibility by allowing them to repay only
interest for a period of time or to choose
among other repayment options, in contrast
to a fully amortizing loan that requires
fixed payments throughout the loan term.
The interest rate and payments are adjusted
later in the term of a nontraditional mortgage in order to recapture repayment of
principal. Because nontraditional mortgages typically allow a borrower to make
lower payments early in the loan, these
loans have become increasingly popular in
high-cost housing markets.
But nontraditional mortgages can also
carry significant risk, including negative
amortization, which occurs when the
amount of the loan increases over time, and
"payment shock," which occurs when
interest rate adjustments result in a much
higher payment later in the loan term. Further, reports of aggressive marketing practices for these loans, as well as reported
incidents of consumers receiving inadequate or misleading loan disclosures, have
raised concerns among consumer groups,
financial institution regulatory agencies,
and some lawmakers that nontraditional
mortgages are inappropriately marketed to
and used by some borrowers. However, the
need to ensure that consumer protections
are in place for nontraditional mortgages
must be balanced with the desire to encourage innovation and flexibility in the mortgage industry.
In 2006, the Federal Reserve Board took
a multifaceted approach to responding to
consumer-related issues in today's mortgage market, including the risks presented
by the growing use of nontraditional mortgage products. During the summer, the
Board convened a series of public hearings
to discuss home equity lending markets
and practices. After conducting initial outreach to an array of interested groups, Federal Reserve regulatory and research staff
structured the hearings to include discussion panels on the impact of the 2002
changes to the Home Ownership and
Equity Protection Act (HOEPA) regu-
Consumer and Community Affairs
lations, as well as panels on key issues in
the mortgage market. Topics included
trends and issues associated with complex
products, such as nontraditional mortgages
and reverse mortgages, as well as efforts to
provide consumers with pre- and postpurchase counseling and intervention,
lender "best practices" and the role of
mortgage brokers, and the results of research on state predatory lending laws. The
hearings also explored consumer behavior
in shopping for mortgage loans and discussed the challenges of designing more
effective and informative consumer disclosures. Both lenders and consumer advocates participated in the hearings, which
enabled diverse viewpoints on both the
benefits and pitfalls of nontraditional mortgages to be presented.
Lenders testified that nontraditional
mortgage loans are appropriately underwritten and have historically shown strong
performance. Consumer advocates and
state officials, on the other hand, testified
that aggressive marketing and the complexity of these products increase the risk that a
borrower will obtain a mortgage he or she
does not understand and might not be able
to afford. They also questioned whether
additional loan disclosures would only
overwhelm consumers, because the products are so complex. Board staff are considering the comments from these hearings, as
well as insights gained from consumer focus groups and other sources of information, as they evaluate potential revisions to
the mortgage disclosure requirements in
Regulation Z.
Recognizing the important role of education in understanding mortgage transactions, the Board partnered with other federal supervisory agencies to improve the
resources available to both consumers and
lenders on nontraditional mortgages. For
consumers, the Federal Reserve, in partnership with the Office of Thrift Supervision,
updated the "Consumer Handbook on
Adjustable-Rate Mortgages," which in-
95
cludes an in-depth discussion of nontraditional mortgages and illustrations of how
loan payments may result in negative amortization.1 The Board also published a
consumer information brochure, "InterestOnly Mortgage Payments and PaymentOption ARMs—Are They for You?,"
which includes a glossary of lending terms,
a mortgage shopping worksheet, and a list
of additional information sources to help
consumers evaluate whether these types of
loans are right for them.2 This publication
stresses the importance of understanding
key mortgage loan terms, warns of the
risks consumers may face, and urges borrowers to be realistic about whether they
can handle future payment increases. In
addition, interagency guidance on nontraditional mortgages, issued in September,
highlights the increased risk for lenders
and borrowers that nontraditional mortgages can present.3 The guidance discusses
the importance of (1) carefully managing
the potential heightened risk levels, for
the benefit of both lenders and borrowers;
(2) using prudent loan-structuring and
-underwriting standards; (3) considering a
borrower's repayment capacity; and (4) ensuring that consumers have sufficient information to understand the terms and risks
before making a loan or payment choice.
The mortgage industry has proven to be
innovative in developing a wide range of
mortgage credit products. Through its supervisory responsibilities, research, consumer education, and outreach to communities and lenders, the Federal Reserve
will continue to strive to balance such innovation in the financial services industry
with responsive oversight and consumer
protection.
1. www.federalreserve.gov/pubs/arms/arms_
english.htm
2. www.federalreserve.gov/pubs/mortgage_
interestonly/default.htm
3. www.federalreserve.gov/boarddocs/press/bcreg/
2006/20060929/default.htm
96
93rd Annual Report, 2006
reports, and data conducted or maintained by the federal financial institution
regulatory agencies. The report found
that most CRAs appear to be processing
consumer disputes within the statutory
time frame; however, there was disagreement as to the adequacy of the
dispute investigations conducted by
CRAs and furnishers of information to
CRAs.
To ensure that the FACT Act provisions enhancing the consumer dispute
process are given enough time to be
effective, the Board and the FTC did not
recommend any additional administrative or legislative actions at this time.
However, as discussed in the report, the
FTC and the Board will continue to
monitor the performance of the dispute
process, explore possible enhancements,
and recommend actions, if appropriate.
Other Regulatory Actions
The Board also took the following regulatory actions during 2006:
in the consumer price index. As a
result, depository institutions that
have assets of $36 million or less as of
December 31, 2006, are exempt from
data collection, effective January 1,
2007.
Supervision for Compliance
with Consumer Protection and
Community Reinvestment Laws
Activities Related to the
Community Reinvestment Act
The Community Reinvestment Act
(CRA) requires that the Federal Reserve
and other banking agencies encourage
financial institutions to help meet the
credit needs of the local communities in
which they do business, consistent with
safe and sound operations. To carry out
this mandate, the Federal Reserve
• examines state member banks to assess their compliance with the CRA;
• analyzes applications for mergers and
acquisitions by state member banks
and bank holding companies in relation to CRA performance; and
• In August, the Board amended the
official staff commentary to Regulation Z to raise from $528 to $547 the
total dollar amount of points and fees
that triggers additional requirements
for certain mortgage loans under the
Home Ownership and Equity Protection Act. As prescribed by that statute,
the increased threshold (effective
January 1, 2007) reflects changes in
the consumer price index.
Examinations for Compliance
with the CRA
• In December, the Board amended the
official staff commentary to Regulation C to raise from $35 million to
$36 million the asset-size exemption
threshold for depository institutions
required to collect data under the
Home Mortgage Disclosure Act. As
prescribed by that statute, the
increased threshold reflects changes
The Federal Reserve assesses and rates
the CRA performance of state member
banks in the course of examinations conducted by staff at the twelve Reserve
Banks. During the 2006 reporting
period, the Reserve Banks conducted
CRA examinations of 276 banks: 27
were rated Outstanding, 248 were rated
Satisfactory, none was rated Needs to
• disseminates information on community development techniques to bankers and the public through community
affairs offices at the Reserve Banks.
Consumer and Community Affairs
Improve, and one was rated Substantial
Noncompliance.2
Analysis of Applications for
Mergers and Acquisitions in
Relation to the CRA
During 2006, the Board considered
applications for several significant banking mergers. The Board approved the
application by Capital One Financial
Corporation, McLean, Virginia, to acquire North Fork Bancorporation, Inc.,
Melville, New York, in November; this
acquisition was a major expansion of
Capital One Corporation's relatively
new retail banking operations. In addition, three large bank holding companies, National City Corporation, in
Cleveland, Ohio; BB&T Corporation, in
Winston-Salem, North Carolina; and
Marshall & Ilsley Corporation, in Milwaukee, Wisconsin, each acquired two
large banking organizations in 2006.
Several other significant applications
are listed below.
• An application by Trustmark Corporation, Jackson, Mississippi, to acquire
Republic Bancshares of Texas, Inc.,
Houston, Texas, was approved in
August.
• An application by Wachovia Corporation, Charlotte, North Carolina, to
acquire Golden West Financial Corporation, Oakland, California, was approved in September.
• An application by Regions Financial
Corporation, Birmingham, Alabama,
to acquire AmSouth Bancorporation,
also of Birmingham, was approved in
October.
The public submitted comments on
each of these applications. Commenters
expressed concerns that minority appli2. The 2006 reporting period for examination
data was July 1, 2005, through June 30, 2006.
97
cants were being denied mortgage loans
more frequently than nonminority applicants; other concerns described included
potentially predatory lending practices
of subprime and payday lenders; potential adverse effects of branch closings;
and lenders' failure to address the convenience and needs of low- and
moderate-income communities. Many of
the comments referenced pricing information on residential mortgage loans
that was required to be reported beginning with the 2004 Home Mortgage Disclosure Act (HMDA) data. Commenters' concerns that minority applicants
were more likely than nonminority
applicants to receive higher-priced mortgages were largely based on observations of the 2004 and 2005 HMDA pricing data.3
In total, the Board acted on twentyfour bank and bank holding company
applications that involved protests by
members of the public concerning the
CRA performance of insured depository
institutions. The Board also reviewed
thirty-six applications involving other
issues related to CRA, fair lending, or
compliance with consumer credit protection laws.4
Other Consumer Compliance
Activities
The Division of Consumer and Community Affairs supports and oversees the
supervisory efforts of the Reserve Banks
to ensure that consumer protection laws
and regulations are fully and fairly en3. HMDA requires lenders to collect price information on loans they originated in the higherpriced segment of the home-loan market. "Higherpriced mortgages" refers to mortgage loans whose
annual percentage rates are 3 percentage points or
more over the yield on comparable Treasury securities on first-lien loans, and 5 percentage points or
more over that yield on junior-lien loans.
4. In addition, four applications involving consumer compliance issues were withdrawn.
98
93rd Annual Report, 2006
forced. Division staff provide guidance
and expertise to the Reserve Banks on
consumer protection regulations, examination and enforcement techniques, examiner training, and emerging issues.
The staff develop and update examination policies, procedures, and guidelines, as well as review Reserve Bank
supervisory reports and work products.
They also participate in interagency activities that promote uniformity in examination principles and standards.
Examinations are the Federal Reserve's primary means of enforcing
compliance with consumer protection
laws. During the 2006 reporting period,
the Reserve Banks conducted 321 consumer compliance examinations—303
of state member banks and 18 of foreign
banking organizations.5
The Board periodically issues guidance for Reserve Bank examiners on
consumer protection laws and regulations. In addition to updating examination procedures and guidance in concert
with the other federal financial institution regulatory agencies, the Board
issued guidance on state member banks'
activities in disaster areas affected by
the 2005 hurricanes in the Gulf Coast
region.6 As put forth in the guidance,
state member banks located outside of
the hurricane disaster areas will receive
CRA consideration for their activities
that revitalize or stabilize the disaster
areas, if the banks have otherwise ad5. The foreign banking organizations examined
by the Federal Reserve are organizations operating
under section 25 or 25A of the Federal Reserve
Act (Edge Act and agreement corporations) and
state-chartered commercial lending companies
owned or controlled by foreign banks. These institutions are not subject to the Community Reinvestment Act and typically engage in relatively few
activities that are covered by consumer protection
laws.
6. The guidance was released in a letter (CA
06-5) to the Reserve Banks on February 24, 2006
(www.federalreserve.gov/boarddocs/caletters).
equately met the needs of their assessment areas. (See "Response to the 2005
Hurricanes" later in this chapter.")
Fair Lending
The Federal Reserve is committed to
ensuring that every institution it supervises complies fully with the federal fair
lending laws—the Equal Credit Opportunity Act (ECOA) and the Fair Housing
Act. Fair lending reviews are conducted
regularly within the supervisory cycle.
Additionally, examiners may conduct
fair lending reviews outside of the usual
supervisory cycle, if warranted. To promote rigorous and consistent fair lending enforcement, the Division of Consumer and Community Affairs staff
coordinate investigations of potential
fair lending violations with Reserve
Bank staff.
The Federal Reserve enforces the
ECOA and the provisions of the Fair
Housing Act that apply to lending institutions. The ECOA prohibits creditors
from discriminating against any applicant, in any aspect of a credit transaction, on the basis of race, color, religion, national origin, sex, marital status, or age. In addition, creditors may
not discriminate against an applicant
because the applicant receives income
from a public assistance program or has
exercised, in good faith, any right under
the Consumer Credit Protection Act.
The Fair Housing Act prohibits discrimination in residential real estaterelated transactions, including the making and purchasing of mortgage loans,
on the basis of race, color, religion,
national origin, handicap, familial status, or sex.
Pursuant to the ECOA, if the Board
has reason to believe that a creditor has
engaged in a pattern or practice of discrimination in violation of the ECOA,
the matter will be referred to the Depart-
Consumer and Community Affairs
ment of Justice. If a violation of the
ECOA also constitutes a violation of
the Fair Housing Act and a referral is
not made to the Department of Justice,
the matter will be referred to the
Department of Housing and Urban
Development.
During 2006, the Board referred the
following matters to the Department of
Justice, on the basis of these findings:
• The Board determined that a mortgage company owned by a state
member bank had engaged in redlining—that is, discrimination against
potential borrowers on the basis of
the racial composition of their
neighborhoods—in violation of the
ECOA and the Fair Housing Act. The
mortgage company had adopted a
marketing strategy that was based on
negative racial stereotypes and, as a
result, excluded a cluster of minority
neighborhoods from its lending
activity.
• The Board found that a state member
bank had violated the ECOA and the
Fair Housing Act by discriminating
against several mortgage applicants on
the basis of race and national origin.7
The bank rejected several minority
applicants on the basis of "insufficient
collateral" without ordering an appraisal, even though, in contrast, the
bank did not deny any white applicants for insufficient collateral without ordering an appraisal.
7. The Board referred this case to the Department of Justice in December 2005. It was not
included in the 2005 Annual Report because the
referral occurred outside the reporting period for
the 2005 report (July 1, 2004, through June 30,
2005). It is included in the 2006 Annual Report,
which otherwise reports referrals occurring during
the 2006 calendar year.
99
• Two state member banks were found
to have engaged in discrimination on
the basis of marital status in their
pricing of auto loans, in violation of
the ECOA. The banks used rate sheets
that expressly provided that nonspousal co-applicants (applicants who
were not married to each other) should
be charged higher interest rates.
• The Board determined that a state
member bank discriminated on the
basis of age, in violation of the ECOA,
by offering customers over 50 years of
age a special account with preferential
credit features. The "over 50" account
provided for an interest rate reduction
on consumer loans if payment was
made through automatic debit. This
interest rate reduction was not offered
to borrowers who did not have an
"over 50" account. The ECOA generally prohibits creditors from considering age when evaluating creditworthiness, except that a creditor may
consider the age of an applicant
62 years or older in the applicant's
favor.
Since the addition of pricing information to the data reported under HMDA,
the Federal Reserve has used the pricing
data to facilitate its fair lending enforcement efforts. (See "Reporting on Home
Mortgage Disclosure Act Data" later in
this chapter.) The Federal Reserve does
not rely on HMDA data alone in its
enforcement efforts, however, because
HMDA data do not include many
potential determinants of loan pricing,
such as the borrower's credit history
and the loan-to-value ratio. Instead, the
Federal Reserve analyzes the HMDA
pricing data in conjunction with other
fair lending risk factors—such as
discretionary pricing and incentives for
loan officers to charge higher prices—to
identify lenders that are at risk for pric-
100 93rd Annual Report, 2006
ing discrimination.8 These lenders will
receive a targeted pricing review. During a targeted pricing review, examiners collect additional information
(including factors that are not available
in the HMDA data) to determine
whether a pricing disparity by race or
ethnicity is fully attributable to legitimate factors, or whether any portion of
the pricing disparity is attributable to
discrimination.
Flood Insurance
The National Flood Insurance Act imposes certain requirements on loans secured by buildings or mobile homes located in, or to be located in, areas
determined to have special flood hazards. Under the Federal Reserve's Regulation H, which implements the act, state
member banks are generally prohibited
from making, extending, increasing, or
renewing any such loan unless the building or mobile home and any personal
property securing the loan are covered
by flood insurance for the term of the
loan. The act requires the Board and
other federal financial institution regulatory agencies to impose civil money
penalties when it finds a pattern or practice of violations of the regulation. The
civil money penalties are payable to
the Federal Emergency Management
Agency for deposit into the National
Flood Mitigation Fund.
During 2006, the Board imposed civil
money penalties against four state member banks. The penalties, which were
assessed via consent orders, totaled
$32,050.
8. See the Interagency Fair Lending Examination Procedures for a full discussion of fair lending
risk factors (www.ffiec.gov/PDF/fairlend.pdf).
Coordination with
Other Federal Banking Agencies
The member agencies of the Federal
Financial Institutions Examination
Council (FFIEC) develop uniform examination principles, standards, procedures, and report formats.9 In 2006, the
FFIEC revised examination procedures
for the Fair Credit Reporting Act
(FCRA). Section 604(g) of the FCRA
generally prohibits creditors from obtaining and using medical information
in connection with any determination of
a consumer's eligibility, or continued
eligibility, for credit unless permitted by
regulation. The agencies have issued
regulations creating exceptions to the
statute's general prohibition; therefore,
the FCRA examination procedures have
been revised to reflect these new regulations. In addition, the FFIEC revised the
CRA examination procedures for large
banks, small banks, wholesale or
limited-purpose banks, and banks operating under strategic plans. The revisions incorporate the CRA regulatory
changes that were approved in 2005.
In 2006, the four banking agencies
(the FDIC; the Federal Reserve, the
OCC; and the OTS) convened the first
Interagency Consumer Affairs Conference. The conference's objectives were
to (1) discuss the banking regulatory
issues that affect consumers, (2) determine more-effective ways for the agencies to share information about the complaints they receive, and (3) identify
best practices for communicating and
interacting with the public. These agencies plan to hold regular consumer
9. The FFIEC member agencies are the Board
of Governors of the Federal Reserve System, the
Federal Deposit Insurance Corporation (FDIC),
the Office of the Comptroller of the Currency
(OCC), the Office of Thrift Supervision (OTS), and
the National Credit Union Administration (NCUA).
Consumer and Community Affairs
affairs conferences; the next conference
is scheduled for October 2007.
Finally, the Board, the OCC, and the
FDIC updated the host-state loan-todeposit ratios used to determine compliance with section 109 of the RiegleNeal Interstate Banking and Branching
Efficiency Act of 1994.10
Response to 2005 Hurricanes
In 2006, the Federal Reserve and the
other banking agencies continued initiatives to help financial institutions affected by the 2005 hurricanes in the
Gulf Coast. The Board, the FDIC, the
OCC, and the OTS sponsored an interagency forum, "The Future of Banking
in the Gulf Coast: Helping Banks and
Thrifts Rebuild Communities," that focused on the short-term and long-term
challenges facing these financial institutions, including how they can help meet
the needs of their local communities. In
addition to officials from the sponsoring
agencies, senior executives from both
large and small financial institutions and
representatives from community development corporations and a number of
other federal agencies participated in the
forum.
The FFIEC member agencies and the
Conference of State Bank Supervisors
released a booklet, "Lessons Learned
from Hurricane Katrina: Preparing Your
Institution for a Catastrophic Event."11
Using financial institutions' experiences
and lessons learned during Hurricane
Katrina and its aftermath, the booklet is
intended to help other institutions plan
for an emergency or a catastrophic
event.
10. See the June 13, 2006, press release
(www.federalreserve.gov/boarddocs/press/bcreg/
2006/).
11. The booklet is available on the FFIEC's
web site (www.ffiec.gov/Katrina_lessons.htm).
101
The FFIEC member agencies, along
with state financial institution regulators, also conducted a public service
campaign to encourage banks, thrifts,
and credit unions to continue working
with borrowers affected by Hurricane
Katrina or Hurricane Rita. Public service announcements (PSAs) were distributed to radio stations and print publications in geographic areas that had
the highest concentrations of people affected by the hurricanes. The radio
PSAs played more than 1,495 times on
thirty-one stations, reaching an estimated audience of 4.13 million people
in the targeted regions. The print PSAs
appeared more than sixteen times in ten
newspapers and other local publications,
reaching approximately 565,000 people.
Training for Bank Examiners
Ensuring that financial institutions comply with laws that protect consumers
and encourage community reinvestment
is an important part of the bank examination and supervision process. As the
number and complexity of consumer
financial transactions grow, training for
examiners of the organizations under
the Federal Reserve's supervisory responsibility becomes even more important. The consumer compliance examiner training curriculum consists of six
courses focused on various consumer
protection laws, regulations, and examining concepts. In 2006, these courses
were offered in ten sessions to more
than 195 consumer compliance examiners and System staff members.
Board and Reserve Bank staff regularly review the core curriculum for examiner training, updating subject matter
and adding new elements as appropriate.
During 2006, staff conducted curriculum reviews of the following two
courses in order to incorporate technical
changes in policy and laws, along with
102 93rd Annual Report, 2006
changes in
techniques:
instructional
delivery
• Community Reinvestment Act Examination Techniques Course. Equips assistant examiners to participate in all
aspects of a CRA examination, including the evaluation of a bank's CRA
program and the determination of its
CRA rating.
• Fair Lending Examination Techniques
Course. Provides assistant examiners
with the skills and knowledge to plan
and conduct the risk-focused fair lending portion of a consumer compliance
examination.
When appropriate, courses are delivered via alternative methods, such as the
Internet or other distance-learning technologies. The CRA course discussed
above uses a combination of instructional methods: (1) classroom instruction focused on case studies and
(2) specially developed computer-based
instruction that includes interactive selfcheck exercises. The computer-based
instruction is reinforced through daily
conference calls and discussions on
electronic bulletin boards. The Fair
Lending course discussed above also
uses computer-based training.
In addition to providing core training,
the examiner curriculum emphasizes the
importance of continuing professional
development. Opportunities for continuing development include special projects
and assignments, self-study programs,
rotational assignments, the opportunity
to instruct at System schools, mentoring
programs, and an annual senior examiner forum.
Reporting on Home Mortgage
Disclosure Act Data
The Home Mortgage Disclosure Act
(HMDA), enacted by Congress in 1975,
requires most mortgage lenders located
in metropolitan areas to collect data
about their housing-related lending activity, report the data annually to the
government, and make the data publicly
available. In 1989, Congress expanded
the data required by HMDA to include
information about loan applications that
did not result in a loan origination, as
well as information about the race, sex,
and income of applicants and borrowers.
In response to the growth of the
subprime-loan market, the Federal
Reserve updated Regulation C in 2002.
The revisions, which became effective
in 2004, require lenders to collect price
information for loans they originated in
the higher-priced segment of the homeloan market. When applicable, lenders
report the number of percentage points
by which a loan's annual percentage
rate exceeds the threshold that defines
"higher-priced loans." The threshold is
3 percentage points or more above the
yield on comparable Treasury securities
for first-lien loans, and 5 percentage
points or more above that yield for
junior-lien loans. The HMDA data collected in 2004 and released to the public in 2005 provided the first publicly
available loan-level data about loan
prices. The FFTEC released the 2005
HMDA data to the public in September
2006.
A September 2006 article published
by Federal Reserve staff in the Federal
Reserve Bulletin uses the 2005 data to
describe the market for higher-priced
loans and patterns of lending across loan
products, geographic markets, and borrowers and neighborhoods of different
races and incomes.12
As in 2004, relatively few lenders
accounted for most of the higher-priced
12. The complete article is available at
www.federalreserve.gov/pubs/bulletin/2006/hmda/
bullO6hmda.pdf.
Consumer and Community Affairs
loan originations in 2005. Of the 8,850
home lenders reporting HMDA data,
1,120 of them made 100 or more higherpriced loans. The 10 home lenders that
had the largest volume of higher-priced
loans accounted for about 59 percent of
all such loans. Higher-priced lending is
also concentrated by price: in 2005, the
vast majority of higher-priced loans had
annual percentage rates within 3 percentage points of the reporting thresholds. As in 2004, the majority of all
loan originations were not higher priced
in 2005, however, the incidence of
higher-priced lending did increase
substantially—26.2 percent in 2005,
compared with 15.5 percent in 2004.
Some of the increase in the incidence
of higher-priced lending is attributed to
changes in the interest rate environment
from 2004 to 2005, as well as to
changes in borrower profiles and lender
practices.
Loan pricing is a complex process
that may reflect a wide variety of factors about the level of risk a particular
loan or borrower presents to the lender.
As a result, the prevalence of higherpriced lending varies widely. First, the
incidence of higher-priced lending varies by product type. For example,
manufactured-home loans show the
greatest incidence of higher-priced
lending, because these loans are considered higher risk. In addition, first-lien
mortgages are generally less risky than
comparable junior-lien loans, and the
pricing for these loans reflects their risk
profiles: 25.7 percent of first-lien refinance loans were reported as higherpriced in 2005, compared with 30.2
percent of comparable junior-lien loans.
Second, higher-priced lending varies
widely by geography. As in 2004, many
of the metropolitan areas that reported
the greatest incidence of higher-priced
lending were in the southern region of
the country. Several metropolitan areas
103
on the West Coast also had an elevated
incidence of higher-priced lending in
2005. For example, in many metropolitan areas in the South, Southwest, and
West, 30 percent to 40 percent of the
homebuyers who obtained conventional
loans in 2005 received higher-priced
loans.
Third, the incidence of higher-priced
lending varies greatly among borrowers
of different races and ethnicities. In
2005, as in 2004, blacks and Hispanics
were much more likely than nonHispanic whites and Asians to receive
higher-priced loans. For example, in
2005, 55 percent of black borrowers,
and 46 percent of Hispanic borrowers,
received higher-priced home-purchase
loans, compared with only 17 percent of
non-Hispanic white or Asian borrowers.
To a large extent, these differences reflect a segmentation of the home-loan
market, that is, black and Hispanic borrowers were much more likely to obtain
mortgage loans from institutions that
specialize in higher-priced lending.
Because HMDA data lack information about credit risk and other legitimate pricing factors, it is not possible to
determine from HMDA data alone
whether the observed pricing disparities
and market segmentation reflect discrimination. When analyzed in conjunction with other fair lending risk factors
and supervisory information, however,
the HMDA data can facilitate fair lending supervision and enforcement. (See
"Fair Lending" earlier in this chapter.)
Agency Reports on Compliance
with Consumer Protection Laws
The Board reports annually on compliance with consumer protection laws by
entities supervised by federal agencies.
This section summarizes data collected
from the twelve Federal Reserve Banks,
104 93rd Annual Report, 2006
the FFIEC member agencies, and other
federal enforcement agencies.13
Regulation B
(Equal Credit Opportunity)
The FFIEC agencies reported that
87 percent of the institutions examined
during the 2006 reporting period were in
compliance with Regulation B, compared with 85 percent for the 2005 reporting period. The most frequently
cited violations involved the failure to
take one or more of the following actions:
• abstain from inquiring about the race,
color, religion, national origin, or sex
of an applicant in connection with a
credit transaction unless permitted by
regulation
• collect information for monitoring
purposes about the race, ethnicity, sex,
marital status, and age of applicants
seeking credit primarily for the purchase or refinancing of a principal
residence
• note on the application form monitoring information regarding ethnicity,
race, and sex when an applicant
chooses not to provide the information
• provide a written notice of denial or
other adverse action to a credit applicant that contains the specific reason
for the adverse action, along with
other required information
During this reporting period, the OTS
issued one supervisory agreement to a
savings association for its alleged violations of the Equal Credit Opportunity
13. Because the agencies use different methods
to compile the data, the information presented
here supports only general conclusions. The 2006
reporting period was July 1, 2005, through June
30, 2006.
Act (ECOA) and Regulation B, as well
as other consumer regulations. The other
FFIEC agencies did not issue any formal enforcement actions relating to
Regulation B during the reporting period.
The other agencies that enforce the
ECOA—the Farm Credit Administration (FCA), the Department of Transportation, the Securities and Exchange
Commission (SEC), the Small Business
Administration, and the Grain Inspection, Packers and Stockyards Administration of the Department of Agriculture—reported substantial compliance among the entities they supervise.
The FCA's examination activities
revealed that most Regulation B violations involved either creditors' providing inadequate statements of specific
reasons for denial or creditors' failure
to request or provide information for
government monitoring purposes. As
reported by the SEC, an examination
conducted by the National Association
of Securities Dealers, Inc., found one
violation of Regulation B at a member
firm. The firm's written supervisory
procedures did not contain information
regarding the denial of credit to customers. However, none of these other
agencies initiated any formal enforcement actions relating to Regulation B
during 2006.
Regulation E
(Electronic Fund Transfers)
The FFIEC agencies reported that approximately 95 percent of the institutions examined during the 2006 reporting period were in compliance with
Regulation E, which is comparable to
the level of compliance for the 2005
reporting period. The most frequently
cited violations involved the failure to
take one or more of the following actions:
Consumer and Community Affairs
• determine whether an error occurred,
within ten business days of receiving
a notice of error from a consumer
• give the consumer provisional credit
for the amount of an alleged error
when an investigation into the alleged
error cannot be completed within ten
business days
• provide initial disclosures that contain
required information, including limitations on the types of transfers permitted and error-resolution procedures, at
the time a consumer contracts for an
electronic fund transfer service
• when a determination is made that no
error has occurred, provide a written
explanation and note the consumer's
right to request documentation supporting the institution's findings
The Federal Trade Commission (FTC)
filed two complaints in federal district
court for alleged violations of Regulation E and federal statutes. Among other
allegations, one complaint alleged that
the defendants charged consumers'
credit cards or debited their bank
accounts, both on a recurring basis, to
pay for a discount health plan, without
obtaining the consumers' authorization
for preauthorized electronic fund transfers. The other complaint alleged that
defendants enrolled consumers in a
mail-order program for dietary supplements and then automatically billed consumers on a recurring basis, without
obtaining their authorizations for the recurring debits. The FFIEC agencies and
the SEC did not issue any formal enforcement actions relating to Regulation
E during the period.
Regulation M (Consumer Leasing)
The FFIEC agencies reported that more
than 99 percent of the institutions examined during the 2006 reporting period
105
were in compliance with Regulation M,
which is comparable to the level of compliance for the 2005 reporting period.
The FFIEC agencies did not issue any
formal enforcement actions relating to
Regulation M during the period.
Regulation P (Privacy of Consumer
Financial Information)
The FFIEC agencies reported that
98 percent of the institutions examined
during the 2006 reporting period were in
compliance with Regulation P, compared with 97 percent for the 2005 reporting period. The most frequently
cited violations involved the failure to
take one or more of the following
actions:
• provide a clear and conspicuous
annual privacy notice to customers
• disclose the institution's informationsharing practices in initial, annual, and
revised privacy notices
• provide customers with a clear and
conspicuous initial privacy notice that
accurately reflects the institution's privacy policies and practices, not later
than when the customer relationship is
established
The FFIEC agencies did not issue any
formal enforcement actions relating to
Regulation P during the reporting
period.
Regulation Z (Truth in Lending)
The FFIEC agencies reported that
85 percent of the institutions examined
during the 2006 reporting period were in
compliance with Regulation Z, compared with 80 percent for the 2005 reporting period. The most frequently
cited violations involved the failure to
take one or more of the following
actions:
106 93rd Annual Report, 2006
• in closed-end credit transactions, accurately disclose the finance charge
and the security interest that the creditor has or will acquire in the property
identified
• ensure that disclosures reflect the
terms of the legal obligation between
the parties and, when any information
necessary for an accurate disclosure is
unknown, ensure that the creditor
states that the disclosure is an estimate
• on certain residential mortgage transactions, provide a good faith estimate
of the required disclosures before consummation, or not later than three
business days after receipt of the loan
application
In addition, 106 banks supervised by
the Federal Reserve and the FDIC were
required, under the Interagency Enforcement Policy on Regulation Z, to
reimburse a total of approximately
$1.5 million to consumers for understating the annual percentage rate or the
finance charge in their consumer loan
disclosures.
The OTS issued three supervisory
agreements for violations of a number
of consumer regulations, including
Regulation Z, during the reporting
period. The other FFIEC agencies did
not issue any formal enforcement
actions relating to Regulation Z during
the reporting period.
The Department of Transportation investigated one air carrier for its improper handling of credit card and cash
refunds for unused refundable tickets.
As a result of this investigation, the air
carrier made the required refunds and
entered into a consent order under which
it was directed to cease and desist from
further violations of the credit refund
requirements of Regulation Z. The air
carrier was assessed a civil penalty of
$50,000.
The FTC continued litigation against
a mortgage broker and its principals for
their alleged violations of Regulation Z
and federal statutes, in connection with
advertisements for extremely low mortgage rates. In 2004, the court entered a
stipulated preliminary injunction against
the defendants. In 2006, the defendant's
chief executive filed for bankruptcy, following his 2005 agreement to—among
other terms—pay the FTC $400,000 under a stipulated order releasing him from
confinement for civil contempt of the
2004 stipulated preliminary injunction.
The FTC filed a proof of claim for
amounts it is owed in the underlying
federal district court action and the contempt action. Litigation is ongoing in
this case.
In 2006, the FTC settled charges in a
case alleging that a defendant violated
Regulation Z and federal statutes. The
defendant allegedly engaged in misrepresentation about refunds for tax information products. After accepting product returns from consumers, or
otherwise acknowledging that the consumers were owed refunds, the defendant failed to credit the consumers'
credit card accounts in a timely fashion.
Regulation AA (Unfair or Deceptive
Acts or Practices)
The FFIEC agencies reported that more
than 99 percent of the institutions examined during the 2006 reporting period
were in compliance with Regulation
AA, which is comparable to the level of
compliance for the 2005 reporting
period. No formal enforcement actions
relating to Regulation AA were issued
during the reporting period.
Regulation CC (Availability of Funds
and Collection of Checks)
The FFIEC agencies reported that
92 percent of institutions examined dur-
Consumer and Community Affairs
ing the 2006 reporting period were in
compliance with Regulation CC, compared with 93 percent for the 2005 reporting period. The most frequently
cited violations involved the failure to
take one or more of the following
actions:
• make available on the next business
day the lesser of $100 or the aggregate
amount of checks deposited that are
not subject to next-day availability
• follow procedures when invoking the
exception for large-dollar deposits
• provide required information when
placing an exception hold on an
account
• make funds from local and certain
other checks available for withdrawal
within the times prescribed by regulation
The OTS issued one supervisory agreement for violations of a number of consumer regulations, including Regulation
CC. The other FFIEC agencies did not
issue any formal enforcement actions
related to Regulation CC during the reporting period.
Regulation DD (Truth in Savings)
The FFIEC agencies reported that 91
percent of institutions examined during
the 2006 reporting period were in compliance with Regulation DD, which is
comparable to the level of compliance
for the 2005 reporting period. The most
frequently cited violations involved the
failure to take one or more of the following actions:
• use the phrase "annual percentage
yield" in an advertisement disclosing
required additional terms and conditions for customer accounts
• provide account disclosures containing all required information
107
• provide account disclosures clearly
and conspicuously, in writing, and in a
form that the consumer may keep
The FFIEC agencies did not issue any
formal enforcement actions related to
Regulation DD during the reporting period.
Consumer Complaints
The Federal Reserve investigates complaints against state member banks and
forwards to the appropriate enforcement
agency any complaints that it receives
that involved other creditors and businesses. Each Reserve Bank investigates
complaints against state member banks
in its District. In 2006, the Federal Reserve received 641 consumer complaints
about regulated practices by state member banks—complaints were received by
mail, by telephone, in person, and electronically via the Internet.
Complaints against
State Member Banks
Of the 641 complaints about regulated
practices, 70 percent involved consumer
loans: 2 percent alleged discrimination
on a basis prohibited by law (race, color,
religion, national origin, sex, marital status, handicap, age, the fact that the applicant's income comes from a public
assistance program, or the fact that the
applicant has exercised a right under the
Consumer Credit Protection Act), and
the remainder concerned other creditrelated practices, such as fair credit reporting; billing-error resolution; and
credit card rates, terms, and fees.
Twenty-eight percent of the complaints
involved disputes about insufficientfunds charges and procedures, amounts
withdrawn from a consumer's account,
funds availability, and other deposit account practices, including electronic
108 93rd Annual Report, 2006
Consumer Complaints against State
Member Banks, by Classification, 2006
Number
Classification
Regulation B (Equal Credit Opportunity)
Regulation C (Home Mortgage Disclosure)...
Regulation E (Electronic Fund Transfers)
Regulation H (Bank Sales of Insurance)
Regulation H (Flood Insurance)
Regulation M (Consumer Leasing)
Regulation P (Privacy of Consumer
Financial Information)
Regulation Q (Payment of Interest)
Regulation Z (Truth in Lending)
Regulation BB (Community Reinvestment)...
Regulation CC (Expedited Funds
Availability)
Regulation DD (Truth in Savings)
Fair Credit Reporting Act
Fair Debt Collection Practices Act
Fair Housing Act
Regulations T, U, and X
Real Estate Settlement Procedures Act
17
0
243
1
Total
641
53
0
73
1
3
1
39
60
117
20
3
0
10
fund transfers; the remaining 2 percent
concerned disputes about trust services
or other practices. (See tables.)
In 97.5 percent of the 641 complaints
against state member banks regarding
regulated practices that were investigated in 2006, the banks had correctly
handled the customer's account. The
remaining 2.5 percent of the complaints
against state member banks resulted in a
finding that the bank had violated a
consumer protection regulation. The
most common violations involved real
estate loans, deposit accounts, and electronic fund transfers.
Unregulated Practices
As required by section 18(f) of the Federal Trade Commission Act, the Board
continued to monitor complaints about
banking practices that are not subject to
existing regulations and to focus on
those that concern possible unfair or
deceptive practices. In 2006, the Federal Reserve received more than 1,300
complaints against state member banks
that involved unregulated practices.
The most common complaints involved
checking accounts and credit cards.
Consumers most frequently complained
about problems with either opening or
closing an account (113 complaints),
issues
involving
fraud
(104),
insufficient-funds charges and procedures (77), and concerns over specific
interest rates, terms, and fees on credit
cards (70). The remainder of the com-
Complaints against State Member Banks That Involve Regulated Practices, 2006
Complaints involving violations
All complaints
Subject of complaint
Number
Total
641
Loans
Discrimination alleged
Real estate loans
Credit cards
Other loans
Percent
100
Number
Percent
16
2.50
0.47
0.62
0.47
Other types of complaints
Real estate loans
Credit cards
Other loans
57
342
41
8.89
53.35
6.40
7.02
0.88
2.44
Deposits
Electronic fund transfers . . .
108
73
16.85
11.39
2.78
6.85
1
9
0.16
1.40
Trust services
Other
0
0
Consumer and Community Affairs
plaints concerned a wide range of
unregulated practices involving credit
cards, including errors or delays in processing consumers' payments, the
amounts banks charged for late payments, and overlimit fees and procedures.
Complaint Referrals to HUD
In accordance with a memorandum of
understanding between HUD and the
federal bank regulatory agencies that requires that a complaint alleging a violation of the Fair Housing Act be forwarded to HUD, in 2006 the Federal
Reserve referred three complaints to
HUD that alleged state member bank
violations of the Fair Housing Act. In
two of the three cases, the Federal Reserve's investigations revealed no evidence of illegal discrimination. The remaining case was pending at year-end.
Advice from the
Consumer Advisory Council
The Board's Consumer Advisory
Council—whose members represent
consumer and community organizations,
the financial services industry, academic institutions, and state agencies—
advises the Board of Governors on
matters concerning laws and regulations that the Board administers and on
other issues related to consumer financial services. Council meetings are held
three times a year, in March, June, and
October, and are open to the public.
(For a list of members of the council,
see the section "Federal Reserve System Organization.")
During their March meeting, council
members discussed proposed changes to
Regulation E, which implements the
Electronic Fund Transfer Act (EFTA).
The proposed changes addressed payroll
card accounts, specifically the disclo
109
sure and notification requirements of
financial institutions that provide payroll card account services to consumers.
Under the interim final rule, financial
institutions are granted relief from the
requirement to provide consumers with
paper periodic statements—if they provide the information in periodic statements to consumers through alternative
means (such as electronically or by telephone). Both industry and consumer
representatives generally supported the
proposed changes and agreed that their
scope and approach effectively addressed consumer protection issues.
Several industry representatives noted
that substituting alternative methods for
the delivery of account information appropriately balances consumers' rights
and their need to access their accounts,
on the one hand, with financial institutions' potential compliance costs, on the
other. Some consumer representatives,
however, suggested that the periodic
statements are an important educational
tool for consumers and, therefore, consumers would benefit from receiving
paper periodic statements.
Council members also discussed proposed changes to Regulation Z, which
implements the Truth in Lending Act
(TILA), at their March meeting. Members shared their views on whether the
Board should establish a standard cutoff
time for the crediting of payments on
open-end credit accounts. The council
did not reach a consensus on a specific
cutoff time; however, members noted
that such a cutoff would have important
consequences, including high fees and
increased interest rates, for consumers
who make late payments. Several members suggested that the need to provide
consumers with more transparency
about the costs and fees imposed as a
result of late payments may be greater
than the need to establish cutoff times
for the crediting of payments. Council
110 93rd Annual Report, 2006
members also discussed a TBLA amendment that requires creditors that offer
open-end credit accounts to provide consumers with disclosures, on each periodic statement, about the effects of making only minimum payments on their
accounts. Members expressed a wide
range of views on whether such disclosures would be meaningful and useful to
consumers; members also shared concerns about ensuring the accuracy of the
disclosures.
During its March and June meetings,
the council discussed issues related to
the Board's public hearings on the home
equity lending market, as well as the
adequacy of existing consumer disclosures and protections. Members discussed the Board's 2002 revisions to the
Home Ownership and Equity Protection
Act (HOEPA) rules and their effect on
consumer protections and the availability of credit in the high-cost and
subprime-lending markets. The council
also discussed several issues related to
how consumers shop for credit and how
that process may affect the loan terms
they ultimately receive. Members discussed the increased role that mortgage
brokers play in the loan-making
process—and whether this role highlights a need for additional regulation of
brokers, specifically regulation on the
broker practice of directing potential
borrowers to certain mortgage products.
Members addressed the need to
strengthen consumer disclosures to ensure that borrowers understand key
credit terms and costs, particularly for
mortgage products that feature interestonly periods, prepayment penalties, and
adjustable or "teaser rates." Several
members also expressed a need for additional research on consumer behavior in
the home mortgage market.
In June, the council discussed several
issues related to financial literacy,
including goals for financial education
programs, methods for educating consumers, and how to measure and evaluate the effectiveness of financial education programs. Members identified
financial education as a fundamental
tool for helping consumers build and
preserve assets. Because financial literacy not only enhances the well-being
of individuals or households but also
strengthens neighborhoods and communities, council members support (1)
making financial literacy a national public policy priority and (2) creating national education initiatives and moreformalized methods to train and educate
consumers.
At the October meeting, members
also discussed proposed regulations and
guidelines to implement provisions of
the Fair and Accurate Credit Transactions Act (FACT Act) that require financial institutions to identify "red flags"
for detecting possible cases of identity
theft. Most industry representatives expressed the need for more-flexible
guidelines that would allow financial
institutions to use a risk-based approach
to address identity-theft risks, which
change rapidly. Consumer representatives were concerned that the proposed
guidelines give covered institutions and
creditors too much discretion over their
identity-theft prevention and detection
policies. Council members also shared
their views on the implementation of the
proposed regulations, including the staff
training requirement and requirements
for covered institutions to develop and
implement a written identity-theft prevention program.
At their October meeting, members
discussed the importance of creating
greater incentives to encourage investment in affordable housing. Homeownership is a fundamental part of a consumer's asset-building strategy; the
availability of affordable housing in a
neighborhood can create economic op-
Consumer and Community Affairs
portunities that, in turn, support future
investments in entrepreneurship and
education. Members noted that financial
institutions play a critical role by providing mortgage credit to consumers and
by financing the development of affordable housing. They highlighted the need
for federal bank regulators to play a
larger role by providing institutions with
greater incentives for (1) meeting affordable housing needs and (2) expanding
their outreach to local community organizations, as part of their community
reinvestment strategies.
During each of their meetings this
past year, council members discussed
interagency guidance on managing the
potential heightened risk of new and
emerging residential mortgage products,
often referred to as "nontraditional," "alternative," or "exotic" mortgage loans.
Members generally supported the guidance, noting its importance in light of
the recent proliferation and use of nontraditional mortgage products, especially
by consumers whose household incomes
are not keeping up with home-price
appreciation. Members generally agreed
that these products do not present problems for some borrowers. But the loans
are risky for consumers whose cash
flows or income projections may limit
their ability to repay, who may not have
the capacity or discipline to manage the
loan, or who are not fully informed
about the terms and conditions such
loans carry.
Several members expressed concern
that the guidance has given certain mortgage originators a competitive advantage, since the key principles of the
guidance apply only to banking and
thrift organizations and federal credit
unions. Others reiterated this concern by
emphasizing that the agencies are only
providing guidance rather than creating
requirements that could be enforced by
consumers or law enforcement agencies.
111
Members also commented on the proposed illustrations of consumer information, which were part of the guidance.
The illustrations are designed to help
borrowers better understand the features
of nontraditional mortgages. The council was generally supportive of the illustrations. Members stated that the illustrations highlight important information,
such as the costs, terms, features, and
risks of a loan, for borrowers. However,
members expressed a need to include
additional loan information, such as information on the risk of payment shock
to the consumer, the costs of reduceddocumentation loans, prepayment penalties, and the potential for negative amortization of the loan.
Consumer Education
and Research
The Consumer Education and Research
section produces the Board's consumer
education materials and supports the
Board's consumer outreach initiatives.
Section staff also conduct research in
support of the division's policy development and community development functions. For example, research staff analyze the annual HMDA data, which are
then used in the monitoring and enforcement of the fair lending laws.
The Federal Reserve maintains a consumer information web site (www.
federalreserve.gov/consumer.htm) that
contains publications and educational
materials related to the Board's consumer regulations. In 2006, staff produced or updated the following publications on nontraditional mortgages:
• "Interest-Only Mortgage Payments
and Payment-Option ARMs—Are
They for You?" (a new publication,
issued jointly with the FFDEC agencies, that includes a glossary of lending terms, a mortgage-shopping work-
112 93rd Annual Report, 2006
sheet, and a list
information sources)
of
additional
• "Consumer Handbook on AdjustableRate Mortgages" (substantially revised and updated in conjunction with
the OTS to incorporate descriptions
and illustrations of how changes in
interest rates affect a consumer's loan
payments, including an example of how
an increase in interest rates may actually increase the total loan amount)
Emergency Relief (a private nonprofit
organization), staff are studying whether
a two-day financial education program
had an impact on how the participating
soldiers manage their finances. At this
stage, baseline data have been collected,
and staff will be working to gather
follow-up data.
Research on Financial Information
and Disclosures
In addition, the Board's brochure "How
to File a Consumer Complaint about a
Bank," was updated. (The brochure is
available in both English and Spanish.)
Print and web-based versions of these
publications are available on the web
site.
Throughout the year, Board staff participated in a number of financial education events, including events for
community members, federal employees, and congressional staff. The Board
continued to work with the interagency
Financial Literacy and Education Commission (FLEC); last year, staff helped
update and expand the FLEC's
MyMoney.gov web site to incorporate
links to Reserve Bank consumer education resources. In their speeches and
other appearances, Board members
underscored the importance of financial
education to an individual's economic
well-being. Former Governor Mark
Olson spoke at the press conference for
the announcement of FLEC's National
Strategy for Financial Education in
April. Chairman Ben Bernanke testified
on the Federal Reserve's role in financial education before the U.S. Senate
Committee on Banking, Housing, and
Urban Affairs in May.14
In cooperation with the Department
of Defense, the U.S. Army, and Army
A financial institution is required to provide consumers with disclosures about
its products and services, including disclosures about its privacy policy or the
terms of a loan. The Federal Reserve is
one of seven agencies working to develop more "consumer-friendly" disclosures, that is, disclosures written in clear,
understandable language that provide information a consumer can use to compare financial services providers. In the
spring, the agencies released a report
that summarized their research on developing a comprehensible financial privacy notice for consumers.15 The Financial Services Regulatory Relief Act of
2006, which was signed in October, subsequently required the federal financial
regulatory agencies to develop a model
privacy notice. The design, format, and
language of the model notice must be
easily understood and allow consumers
to compare the privacy policies of different financial institutions.
As part of its overall effort to improve
consumer disclosures, the Board studied
how consumers use different types of
information sources—both the quantity
and quality of the sources—and whether
this information affected their credit and
investment decisions. This study, in
addition to the research on privacy notices, will be used in the upcoming
14. See www.federalreserve.gov/boarddocs/
testimony/2006/20060523/default.htm.
15. See www.federalreserve.gov/boarddocs/
press/bcreg/2006/20060331/default.htm.
Consumer and Community Affairs
review of the Board's open-end credit
regulations. The Board has contracted
with a market research firm to conduct
formative and usability testing on credit
card disclosures, including the disclosures used in solicitation letters, applications, periodic statements, and changein-terms notices. Consumer testing will
continue in early 2007; the Board will
consider data collected in these sessions
as it develops new proposed rules under
Regulation Z.
Promotion of Community
Economic Development and
Access to Financial Services in
Historically Underserved
Markets
In 2006, the community affairs function
within the Federal Reserve System supported several initiatives to promote
community economic development and
fair access to credit for low- and
moderate-income communities and
populations. The function continued to
focus on improving the sustainability
and financial capacity of community development organizations, creating assetbuilding opportunities for low-income
individuals, and promoting initiatives to
help homeowners preserve this important asset and avoid foreclosure. Activities included publishing newsletters and
articles, sponsoring conferences and
seminars, conducting research, and supporting the dissemination of information
to both general and targeted audiences.
As a decentralized function, the Community Affairs Offices (CAOs) at each
of the twelve Reserve Banks design activities in response to the needs of communities in the Districts they serve in
conjunction with staff from the Board.
The CAOs focus on providing information and promoting awareness of
investment opportunities to financial
institutions, government agencies, and
113
organizations that serve low- and
moderate-income communities and
populations. Similarly, the Board's CAO
promotes and coordinates Systemwide
efforts, in addition to engaging in activities and exploring issues that have public policy implications. In 2006, the
Board and the Reserve Banks collaborated on a number of activities that focused on asset-building for individuals
and strengthening community development organizations, while continuing
their efforts to expand public understanding of the need to enhance access
to affordable credit in underserved
markets.
Collaborative Efforts
The Reserve Banks and the Board continued their work on two substantial collaborative efforts over the past year. The
System resumed its asset-building and
wealth-creation partnership with the
CFED, a nonprofit organization dedicated to expanding access to economic
opportunity by bringing together community development practitioners, public policy analysts, and private-sector
representatives. In 2006, the Federal
Reserve System and the CFED held the
last three in a series of five forums
convening leaders in economic policy,
community development, philanthropy,
and the financial industry. Starting with
the initial forum in June 2005, the forums were convened to encourage more
individuals to engage in asset-building
activities, such as homeownership, entrepreneurship, savings, and investment.
One session, held in Kansas City, focused on the unique challenges to developing asset-building programs in rural
communities; the forum was cosponsored by the Reserve Banks of Kansas
City, Dallas, Minneapolis, and St. Louis.
A second meeting, hosted by the
Reserve Bank of Atlanta, explored asset-
114 93rd Annual Report, 2006
building for low- and moderate-income Richmond Reserve Bank chaired the
savers, but from the perspective of planning committee for the South Carofinancial institutions. The discussions lina Asset Development Collaborative,
focused on developing products to help and staff from the San Francisco
this population begin or expand its sav- Reserve Bank facilitated both the Oring efforts. The final forum, hosted by egon Asset Building Convergence and
the Board of Governors, gathered a the Washington State Asset Building
roundtable of leaders in the asset- Summit. Other Reserve Banks continbuilding field. The leaders reflected on ued to provide advisory services for
the results of the regional forums and more than a dozen other state and reidentified next steps to help the industry gional asset-building coalitions throughprogress.16
out the country, such as the Houston
A related initiative, led by the San Asset Building Coalition, Minnesota
Francisco Reserve Bank, was a call for Saves, and the Nashville Wealth Buildpapers on asset-building issues and strat- ing Alliance.
egies. Twenty-eight of the more than
Another Systemwide collaboration
100 papers received were presented at a was a partnership with the Aspen Instiresearch forum during CFED's 2006 tute, a national research and leadership
Assets Learning Conference, "A Life- development organization. The goal of
time of Assets: Building Families, Com- this collaboration was to identify susmunities and Economies." More than tainable and scalable business models
1,000 participants attended; staff from that community development organizaeach Reserve Bank and the Board were tions can use to more effectively
actively involved in planning the confer- advance their goals. In 2006, the Federal
ence, including developing the agenda, Reserve System and the Aspen Institute
presenting research, and serving as mod- cosponsored four conferences around
erators and participants in formal discus- the country that explored a variety of
sion groups. The Board's Community business models that have led to sucAffairs officer delivered a keynote ad- cessful community development finance
dress during the conference. Board staff programs. A forum at the San Francisco
presented research on the asset port- Reserve Bank highlighted funding effolios of low-income households and forts for community development finanhow these assets have changed over the cial institutions (CDFIs), individual depast fifteen years (from 1989 to 2004). velopment account programs, charter
Staff also explored homeownership and schools, and child care facilities. A foforeclosure patterns that affect the asset- rum at the Chicago Reserve Bank fobuilding capabilities of low-income cused on collaborative efforts to prohouseholds.17
mote the earned-income tax credit by
Beyond the CFED partnership, helping low- to moderate-income famiReserve Banks have been active in the lies prepare their taxes. Participants at a
promotion and development of regional forum at the New York Reserve Bank
asset-building coalitions. Staff from the examined several collaborative efforts
undertaken by development organiza16. Summaries of the forum sessions are avail- tions, including efforts to share infraable on the CFED web site (www.cfed.org/
structure resources (facilities, equipfocus.m).
ment,
etc.), collaborate on fundraising,
17. The research papers presented at this conference are available at www.frbsf.org/community/ and pool other resources and strategies
to increase their organizational capacity.
research/assets.html.
Consumer and Community Affairs
Finally, a forum at the Dallas Reserve
Bank focused on the formation of potential new sources of capital for CDFIs
and community development corporations. These forums generated ongoing
Systemwide research on various aspects
of public and private subsidies for community development. Staff from several
of the Reserve Banks and the Board are
currently involved in a research project
to measure the magnitude of the need
for public and private groups to subsidize community development, measure
how effectively these subsidies are utilized, and identify emerging strategies
for optimizing the leverage of subsidy
dollars.
Access to Financial Services
Staff from around the System have continued working on several initiatives to
enhance access to affordable credit in
currently underserved markets. In 2006,
the San Francisco Reserve Bank and the
Board partnered to study issues related
to the creation of a secondary market for
community development loans. The San
Francisco Reserve Bank devoted an
issue of its Community Development
Investment Review to an overview of the
community development finance industry, which included advice on best practices from industry practitioners. The
Board and the San Francisco Reserve
Bank followed up by hosting a conference in Washington, D.C., for lenders,
investors, and financial intermediaries,
in addition to policymakers and academics. The conference sought to (1) assess
the status of the industry and (2) discuss
ways to innovate and collaborate to
increase liquidity for community development lending. The next edition of the
Review included the conference proceedings and essays by conference participants laying out a possible road map
for the creation of a secondary market
115
for community development loans,
and included remarks by Governor
Kroszner, who keynoted the conference.
The Minneapolis Reserve Bank has
taken the lead in another initiative to
expand access to financial services
through its work with Native American
communities. On many reservations, access to affordable credit is often limited
by ambiguities and inconsistencies in
the various tribal laws that govern secured transactions. In response, Minneapolis Reserve Bank staff have worked
to help investors and lenders better understand the property rights of Native
Americans. For the past few years, the
Reserve Bank staff have worked to create an improved legal structure that
tribes can use to facilitate their efforts to
borrow from off-reservation partners or
other tribes. In 2005, staff were part of a
team that completed a draft Model
Tribal Secured Transactions Act (MTA)
for the National Conference of Commissioners on Uniform State Laws
(NCCUSL). Throughout 2006, staff supported education and dissemination efforts for the MTA by providing technical assistance and making numerous
presentations, including one to tribal
judges, on the benefits of tribal adoption
of the MTA. During the year, the Crow
tribe adopted the MTA, three additional
tribes in Montana passed resolutions to
adopt it, and approximately fifteen tribes
were in various stages of considering
adoption of the MTA.
Resources, Advisory Services,
and Outreach
In 2006, the Board released an update of
the Federal Reserve Fiscal Impact Tool
(FIT). First released in 2003, the FIT
software helps users analyze the fiscal
impacts of economic development in
small- and mid-sized communities. FIT
supports economic development plan-
116 93rd Annual Report, 2006
ning by producing a cost-benefit analysis of proposed development projects;
FIT estimates a project's impact on local
sales and property tax revenues and on
costs to local government. To supplement this analysis, FIT integrates a wide
array of data, at the city, county, and
state levels, on incorporated locations in
the United States. The 2006 update contains more and newer data, along with a
module that allows for time discounting
and the calculation of a net present
value. The Board distributed more than
1,000 copies of the updated software in
2006. Users include state and local economic development organizations, academics, and consultants. A recent survey of users identified two communities—El Paso, Texas, and Lincoln,
Nebraska—that have employed FIT to
assist in setting limits on incentives for
development projects.
During the past year, the foreclosure
rate has risen for certain housing markets. Low- and moderate-income families and communities may be especially
at risk for foreclosure. Consequently,
the Board and the Reserve Banks have
enhanced their efforts to preserve homeownership among these populations.
The Board continued its involvement
with NeighborWorks® America (NeighborWorks), a national network of more
than 240 community-based organizations providing financial support, technical assistance, and training for community rehabilitation efforts. A member of
the Board of Governors serves on the
NeighborWorks board of directors, and
members of the Board's staff serve on
the organization's Center for Homeownership Education and Counseling. Staff
from the Reserve Banks have led regional collaborative efforts with NeighborWorks through their participation in
foreclosure-prevention training workshops for homeownership counselors.
The Banks have also provided support
to and endorsement of state-level activities, for example, the Minneapolis
Reserve Bank's participation in Minnesota's Emerging Market Homeownership Initiative and the Cleveland
Reserve Bank's promotion (through the
Pittsburgh Branch) of the foreclosuremitigation efforts of the Pennsylvania
secretary of banking.
Over the past year, the Board continued its outreach activities to provide the
public with information about the
Board's responsibilities, to facilitate understanding of changes in banking regulations and their impact on banks and
consumers, to promote community development and consumer education, and
to foster discussion of policy issues.
Board staff periodically met with financial institutions, community groups, and
other members of the public in formal
and informal settings. For example, the
Board expanded its prior work with Operation HOPE, a national nonprofit organization dedicated to developing and
implementing programs focused on connecting minority communities with
mainstream, private-sector resources
and to empowering underserved communities. The System has collaborated
with Operation HOPE in prior years,
and the director of the Board's Division
of Consumer and Community Affairs
serves on the Operation HOPE MidAtlantic Advisory Board. In 2006,
Chairman Bernanke delivered a keynote
address at the "Anacostia Economic
Summit," a conference sponsored by
Operation HOPE and the District of Columbia. (Anacostia is an underdeveloped
neighborhood in southeast Washington,
D.C.) The summit focused on ways to
encourage revitalization in this area and
highlighted the importance of obtaining
both targeted public and private investment to jump-start the development efforts in this and other underserved
neighborhoods. In preparation for the
Consumer and Community Affairs
conference, Chairman Bernanke toured
the Anacostia community with lenders,
community development leaders, and
117
local property developers to gain firsthand insight into the community's
redevelopment.
•
119
Federal Reserve Banks
In addition to contributing to the setting
of national monetary policy and supervising and regulating banks and other
financial entities (discussed in preceding chapters), the Federal Reserve Banks
provide payment services to depository
and certain other institutions, distribute
the nation's currency and coin, and
serve as fiscal agents and depositories
for the United States.
Developments in
Federal Reserve Priced Services
The Federal Reserve Banks provide a
range of payment and related services to
depository institutions, including collecting checks, operating an automated
clearinghouse service, transferring funds
and securities, and providing a multilateral settlement service. The Reserve
Banks charge fees for providing these
"priced services."
The Monetary Control Act of 1980
requires that the Federal Reserve establish fees for priced services provided to
depository institutions so as to recover,
over the long run, all direct and indirect
costs actually incurred as well as the
imputed costs that would have been incurred, including financing costs, taxes,
and certain other expenses, and the return on equity (profit) that would have
been earned if a private business firm
had provided the services. The imputed
costs and imputed profit are collectively
referred to as the private-sector adjustment factor (PSAF).1 Over the past ten
1. In addition to income taxes and the return on
equity, the PSAF is made up of three imputed
costs: interest on debt, sales taxes, and assessments for deposit insurance by the Federal Deposit
Insurance Corporation (FDIC). Board of Gover
years, the Reserve Banks have recovered 99.0 percent of their priced services
costs, including the PSAF (table).2 In
2006, the Board implemented changes
to the method for calculating the target
return on equity measure in the PSAF.3
Overall, the price index for priced
services increased 2.4 percent from 2005
to 2006. Revenue from priced services
amounted to $908.4 million, other income was $122.8 million, and costs
were $875.5 million, resulting in net
income from priced services of $155.7
million. In 2006, the Reserve Banks recovered 108.8 percent of total costs of
$947.5 million, including the PSAF.4
nors assets and costs that are related to priced
services are also allocated to priced services; in
the pro forma financial statements at the end of
this chapter, Board assets are part of long-term
assets, and Board expenses are included in operating expenses.
2. Effective December 31, 2006, the Reserve
Banks implemented the Financial Accounting
Standards Board's Statement of Financial Accounting Standards No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans (FAS 158), which resulted in the
recognition of a $343.9 million reduction in equity
related to the priced services' benefit plans. Including this reduction in equity, which represents
a decline in economic value, results in cost recovery of 95.5 percent for the ten-year period. For
details on how implementing FAS 158 affected the
pro forma financial statements, refer to notes 2, 3,
and 5 at the end of this chapter.
3. In 2005, the Board approved changing the
method from using the average of the results of
three analytical methods—the comparable accounting earnings model, the discounted cashflow model, and the capital asset pricing model
(CAPM)—to using only the CAPM.
4. Financial data reported throughout this
chapter—revenue, other income, cost, net revenue, and income before taxes—can be linked to
the pro forma financial statements at the end of
this chapter. Other income is revenue from invest-
120 93rd Annual Report, 2006
Priced Services Cost Recovery, 1997-2006
Millions of dollars except as noted
Year
1997
1998
1999
2000
Revenue from
services1
Operating
expenses and
imputed costs2
Targeted return
on equity
Total
costs
Cost recovery
(percent)3'4
818.8
839.8
867.6
922.8
752.8
743.2
775.7
818.2
54.3
66.8
57.2
98.4
807.1
809.9
832.9
916.6
101.5
103.7
104.2
100.7
2001
2002
2003
2004
2005
2006
960.4
918.3
881.7
914.6
994.7
1,031.2
901.9
891.7
931.3
842.6
834.7
875.5
109.2
92.5
104.7
112.4
103.0
72.0
1,011.1
984.3
1,036.1
955.0
937.7
947.5
95.0
93.3
85.1
95.8
106.1
108.8
1997-2006
9,149.9
8,367.5
870.5
9,238.1
99.0
. . . .
NOTE: Here and elsewhere in this chapter, totals and
percentages may not reflect components shown because
of rounding.
1. For the ten-year period, includes revenue from services of $8,727.4 million and other income and expense
(net) of $422.5 million.
2. For the ten-year period, includes operating expenses
of $7,722.6 million, imputed costs of $296.4 million, and
imputed income taxes of $348.5 million.
3. Revenue from services divided by total costs.
4. For the ten-year period, cost recovery is 95.5 percent, including the reduction in equity related to FAS 158
reported by the priced services in 2006.
Commercial Check Collection
Service
adoption of check-processing services
associated with the Check Clearing for
the 21st Century Act (Check 21).5
The Reserve Banks handled 11.0 billion checks in 2006, a decrease of 9.9
percent from 2005 (table). The decline
in Reserve Bank check volume is consistent with nationwide trends away
from the use of checks and toward
greater use of electronic payment methods.6 Of all the checks presented by the
Reserve Banks to paying banks in 2006,
14.0 percent of the checks were deposited and 4.3 percent were presented using Check 21 products, compared with
1.8 percent and 0.0 percent, respec-
In 2006, operating expenses and imputed costs for the Reserve Banks' commercial check collection service totaled
$716.9 million, of which $35.4 million
was attributable to the transportation of
commercial checks between Reserve
Bank check-processing centers. Revenue amounted to $745.0 million, of
which $34.2 million was attributable
to estimated revenues derived from
the transportation of commercial
checks between Reserve Bank checkprocessing centers, and other income
was $100.7 million. The resulting net
income was $128.7 million. Check service revenue in 2006 increased $4.7 million from 2005, largely because of price
increases and faster-than-anticipated
ment of clearing balances net of earnings credits,
an amount termed net income on clearing balances. Total cost is the sum of operating expenses,
imputed costs (interest on debt, interest on float,
sales taxes, and the FDIC assessment), imputed
income taxes, and the targeted return on equity.
5. The Reserve Banks' Check 21 product suite
includes electronic alternatives to paper-check collection, return, and presentment.
6. The Federal Reserve System's retail payments research suggests that the number of checks
written in the United States has been declining
since the mid-1990s. For details, see Federal
Reserve System, "The 2004 Federal Reserve
Payments Study: Analysis of Noncash Payments
Trends in the United States, 2000-2003"
(December 2004). (www.frbservices.org/Retail/
pdf/2004PaymentResearchReport.pdf)
Federal Reserve Banks 121
Activity in Federal Reserve Priced Services, 2004-2006
Thousands of items
Percent change
Commercial check . .
Commercial ACH
Funds transfer
Multilateral settlement
Securities transfer
2005
2006
Service
. ..
10,982,367
8,230,782
136,399
470
9,053
12,195,301
7,338,950
135,227
440
9,235
2004
13,904,382
6,486,091
128,270
435
9,208
2005 to 2006
2004 to 2005
-9.9
12.2
0.9
6.8
-2.0
-12.3
13.1
5.4
1.3
0.3
NOTE: Activity in commercial check is the total number of commercial checks collected, including processed
and fine-sort items; in commercial ACH, the total number
of commercial items processed; in funds transfer and
securities transfer, the number of transactions originated
online and offline; and in multilateral settlement, the
number of settlement entries processed.
tively, in 2005 P Overall, the price index
for check services increased 3.6 percent
from 2005.
In response to the continuing decline
in check volume, the Reserve Banks in
2006 continued to reduce check service
operating costs through a combination
of measures, including consolidating
some check-processing sites. Check processing at New Orleans has now been
consolidated to Atlanta; New York's
East Rutherford Operations Center to
Philadelphia; Columbus to Cleveland;
and Boston to Windsor Locks, Connecticut. Additional consolidations are
planned for 2007 and beyond.
trillion), an increase of 12.2 percent
from 2005. Overall, the price index for
ACH services decreased 9.1 percent
from 2005.
In 2006, the Reserve Banks began
offering ACH risk-management services
to all depository institutions. These services help originating institutions manage the operational and credit risk associated with originating ACH payments.
By the end of 2006, 76 financial institutions subscribed to these services.
Commercial Automated
Clearinghouse Services
Reserve Bank operating expenses and
imputed costs for commercial automated
clearinghouse (ACH) services totaled
$80.1 million in 2006. Revenue from
ACH operations totaled $80.5 million
and other income totaled $10.9 million,
resulting in net income of $11.3 million.
The Banks processed 8.2 billion commercial ACH transactions (worth $13.1
7. The Reserve Banks also offer non-Check 21
electronic presentment products. In 2006, 25.2
percent of the Reserve Banks' deposit volume was
presented to paying banks using these products.
Fedwire Funds and
National Settlement Services
Reserve Bank operating expenses and
imputed costs for the Fedwire Funds
and National Settlement Services totaled $59.3 million in 2006. Revenue
from these operations totaled $63.6 million and other income amounted to $8.6
million, resulting in net income of $13.0
million.
Fedwire Funds Service
The Fedwire Funds Service allows participants to draw on their reserve or
clearing balances at the Reserve Banks
and transfer funds to other institutions
that maintain accounts at the Banks. In
2006, the number of Fedwire funds
transfers originated by depository insti-
122 93rd Annual Report, 2006
tutions increased 0.9 percent from 2005,
to approximately 136.4 million. The
average daily value of Fedwire funds
transfers in 2006 was $2.3 trillion. Overall, the price index for the Fedwire
Funds and National Settlement Services
increased 3.4 percent from 2005.
Last year, the Reserve Banks collaborated with The Clearing House Payments Company to study the use of
funds transfers for business-to-business
payments. The study examined why
businesses select one payment type over
another and what changes are needed to
make funds transfers a more attractive
payment alternative. Key findings from
the study suggested that businesses
wanted a more streamlined process for
making funds transfers and favored the
inclusion of remittance information in
funds transfer orders.
National Settlement Service
The National Settlement Service is a
multilateral settlement system that
allows participants in private-sector
clearing arrangements to exchange and
settle transactions on a net basis using
reserve or clearing balances. In 2006,
the service processed settlement files for
approximately fifty-four local and national private arrangements, primarily
check clearinghouse associations. The
Reserve Banks processed slightly more
than 17,300 files that contained more
than 470,000 settlement entries for these
arrangements in 2006.
Fedwire Securities Service
The Fedwire Securities Service allows
participants to transfer electronically securities issued by the U.S. Treasury, federal government agencies, governmentsponsored enterprises, and certain
international organizations to other par-
ticipants in the service.8 Reserve Bank
operating expenses and imputed costs
for providing this service totaled $19.1
million in 2006. Revenue from the service totaled $19.2 million, and other
income totaled $2.6 million, resulting in
net income of $2.7 million. Overall, the
price index for the service increased
2.8 percent from 2005.
In 2006, approximately 9.1 million
non-Treasury securities transfers were
processed by the service, slightly lower
than in 2005. Last year, the Reserve
Banks also implemented technical
changes to the Fedwire Securities Service applications to support changes to
the Federal Reserve Policy on Payments
System Risk (PSR). The PSR policy
changes require that governmentsponsored enterprises and certain international organizations fund principal
and interest payments before the
Reserve Banks distribute those payments in order to limit the credit exposure of the Reserve Banks.
Float
The Federal Reserve had daily average
credit float of $85.9 million in 2006,
compared with debit float of $133.4 million in 2005.9
8. The expenses, revenues, volumes, and fees
reported here are for transfers of securities issued
by federal government agencies, governmentsponsored enterprises, and certain international
organizations. The Reserve Banks provide Treasury securities services in their role as the U.S.
Treasury's fiscal agent. These services are not
considered priced services. For details, see the
section "Debt Services" later in this chapter.
9. Credit float occurs when the Reserve Banks
present items for collection to the paying bank
prior to providing credit to the depositing bank,
and debit float occurs when the Reserve Banks
credit the depositing bank prior to presenting items
for collection to the paying bank.
Federal Reserve Banks
Developments in
Currency and Coin
The Federal Reserve Banks distribute
the nation's currency (in the form of
Federal Reserve notes) and coin through
depository institutions and also receive
currency and coin from circulation
through these institutions. As currency
flows into the Reserve Banks, the Banks
inspect the notes and destroy those that
are unfit for recirculation.
The Reserve Banks received 38.5 billion Federal Reserve notes from circulation in 2006, a 3.5 percent increase from
2005, and made payments of 39.1 billion notes into circulation in 2006, a
1.5 percent increase from 2005. They
received 59.7 billion coins from circulation in 2006, a 6.5 percent increase from
2005, and made payments of 73.9 billion coins into circulation, a 2.7 percent
increase from 2005.
In March, the Board approved a policy that provides incentives to encourage depository institutions to recirculate
fit currency to their customers rather
than return it to the Federal Reserve for
processing. Under the policy, the Federal Reserve implemented a custodial
inventory program that allows depository institutions to transfer a portion of
the currency holdings in their vaults to
the books of a Reserve Bank. As of
December 31, the Reserve Banks had
established twenty-nine custodial inventory sites with depository institutions. Beginning in July 2007, the
Reserve Banks will charge fees to institutions that, within a one-week period,
deposit fit $10 or $20 notes and reorder
currency of the same denomination,
above a de minimis amount, within the
same Reserve Bank office's service
area.
In March, the Reserve Banks began
issuing the redesigned $10 Federal
Reserve note that includes enhanced se-
123
curity features and subtle background
colors.
The Presidential $1 Coin Act requires, among other things, that the Federal Reserve and the Mint take steps to
ensure that an adequate supply of $1
coins is available for commerce. To that
end, the Federal Reserve worked with
the United States Mint to develop an
effective distribution strategy for Presidential $1 coins, the first of which was
issued by the Mint in February 2007.
Consistent with the requirements of the
Presidential $1 Coin Act, the Federal
Reserve and the Mint conducted outreach to depository institutions and coin
users in an effort to gauge demand for
the coins and to anticipate and eliminate
obstacles to the efficient circulation of
$1 coins.
The Reserve Banks conducted extensive testing of a prototype upgrade to
the high-speed currency-processing machines. The Reserve Banks will begin
implementing the upgrades on their machines in 2007; the upgrades are scheduled to be completed in 2009.
The Federal Reserve developed the
requirements for an automation system
to replace the current platform used to
support and facilitate the System's provision of cash services. The Reserve
Banks issued a preview request for proposal for development of the new automation system and held an orientation
with potential vendors in December.
The Reserve Banks completed a comprehensive study of cost-effective alternatives to the existing infrastructure for
providing cash services. The study
resulted in the elimination of cash processing at the Oklahoma City and Birmingham offices in March and May,
respectively, and the replacement of
these offices with outsourced cash depots. In these cash depot arrangements,
armored carrier facilities serve as collection and distribution points for deposi-
124 93rd Annual Report, 2006
Expenses of the Federal Reserve Banks for Fiscal Agency and Depository Services,
2004-2006
Thousands of dollars
Agency and service
2006
2005
2004
73,931.4
7,535.2
23,594.9
3,853.1
1,578.7
110,493.2
86,503.2
6,055.8
17,553.5
2,575.5
1,806.5
114,494.5
103,257.7
6,267.0
17,159.5
5,935.1
1,709.8
134,329.1
DEPARTMENT OF THE TREASURY
Bureau of the Public Debt
Treasury retail securities
Treasury securities safekeeping and transfer
Treasury auction
Computer infrastructure development and support
Other services
Total
Financial Management Service
Payment services
Government check processing
Automated clearinghouse
Fedwire funds transfers
Other payment programs
Collection services
Tax and other revenue collections
Other collection programs
Cash-management services
Computer infrastructure development and support
Other services
Total
20,918.6
5,823.1
123.1
69,696.8
20,988.0
5,709.5
109.4
49,366.0
24,245.4
5,352.9
111.6
33,646.9
37,095.5
14,122.6
48,320.2
67,046.4
7,414.8
270,561.2
39,736.0
14,354.2
40,496.7
67,703.3
2,332.2
240,795.4
34,248.4
12,922.8
21,835.8
52,673.3
6,931.6
191,968.6
Other Treasury
Total
Total, Treasury
16,786.3
397,840.7
15,726.7
371,016.6
15,106.1
341,403.7
2,929.8
2,642.4
4,519.0
OTHER FEDERAL AGENCIES
Department of Agriculture
Food coupons
United States Postal Service
Postal money orders
Other agencies
Other services
Total, other agencies
9,334.4
7,647.8
7,774.6
15,977.1
28,241.4
14,870.2
25,160.4
16,104.0
28,397.5
Total reimbursable expenses
426,082.1
396,177.0
369,801.2
tory institutions' currency deposits and
orders. The deposits and orders are
transported to and from the nearest
Reserve Bank by armored carrier for
processing.
Developments in
Fiscal Agency and
Government Depository Services
As fiscal agents and depositories for the
federal government, the Federal Reserve
Banks provide services related to the
federal debt, help the Treasury collect
funds owed to the federal government,
process electronic and check payments
for the Treasury, maintain the Treasury's bank account, and invest excess
Treasury balances. The Reserve Banks
also provide limited fiscal agency and
depository services to other entities.
The total cost of providing fiscal
agency and depository services to the
Treasury and other entities in 2006
amounted to $426.1 million, compared
with $396.2 million in 2005 (table).
Treasury-related costs were $397.8 million in 2006, compared with $371.0 million in 2005, an increase of 7.2 percent.
The cost of providing services to other
Federal Reserve Banks
entities was $28.2 million, compared
with $25.2 million in 2005. In 2006, as
in 2005, the Treasury and other entities
reimbursed the Reserve Banks for the
costs of providing these services.
Debt Services
The Reserve Banks auction, provide
safekeeping for, and transfer Treasury
securities. Reserve Bank operating expenses for these activities totaled
$31.1 million in 2006, compared with
$23.6 million in 2005. The Banks processed 148,000 commercial tenders for
Treasury securities, compared with
169,000 in 2005. They originated
12.9 million transfers of Treasury securities in 2006, a 1.8 percent increase
from 2005. The Reserve Banks are developing a new Treasury auction application and infrastructure that will provide increased functionality
and
security. The application will be operational in late 2007.
The Reserve Banks also operate computer applications and provide customer
service and back-office support for the
Treasury's retail securities programs.
Reserve Bank operating expenses for
these activities were $73.9 million in
2006, compared with $86.5 million in
2005. The Reserve Banks operate
Legacy Treasury Direct, a program that
allows investors to purchase and hold
Treasury securities directly with the
Treasury through the Reserve Banks instead of through a broker. The program
held $72 billion (par value) of Treasury
securities as of December 31. Because
the program was designed for investors
who plan to hold their securities to maturity, it does not provide transfer services. Investors may, however, sell their
securities for a fee through Sell Direct, a
program operated by one of the Reserve
Banks. Approximately 13,000 securities
worth $678.9 million were sold through
125
Sell Direct in 2006, compared with
14,000 securities worth $874.8 million
in 2005. The Banks printed and mailed
more than 28.9 million savings bonds in
2006, a 10 percent decrease from 2005.
They issued more than 5.3 million Series I (inflation-indexed) bonds and 23.1
million Series EE bonds.
Payments Services
The Reserve Banks process both electronic and check payments for the Treasury. Reserve Bank operating expenses
for processing government payments
and for payments-related programs totaled $96.6 million in 2006, compared
with $76.2 million in 2005. The Banks
processed 991.6 million ACH payments
for the Treasury, an increase of 2.8 percent from 2005, and more than 855,000
Fed wire funds transfers. They also processed 192 million paper government
checks, a decline of 11 percent from
2005. In addition, the Banks issued more
than 170,000 fiscal agency checks, a
decrease of 17.4 percent from 2005.
Collection Services
The Reserve Banks support several
Treasury programs to collect funds
owed the federal government. Reserve
Bank operating expenses related to these
programs totaled $51.2 million in 2006,
compared with $54.1 million in 2005.
The Banks operate the Federal Reserve
Electronic Tax Application (FR-ETA) as
an adjunct to the Treasury's Electronic
Federal Tax Payment System (EFTPS).
EFTPS allows businesses and individual
taxpayers to pay their taxes electronically. It uses the automated clearinghouse (ACH) to collect funds, so tax
payments must be scheduled at least one
day in advance. Some business taxpayers, however, do not know their tax
liability until the tax due date. FR-ETA
126 93rd Annual Report, 2006
allows these taxpayers to use EFTPS by
providing a same-day electronic federal
tax payment alternative. FR-ETA collected $456.3 billion for the Treasury in
2006, compared with $409.2 billion in
2005.
In addition, the Reserve Banks operate Pay.gov, a Treasury program that
allows members of the public to pay for
goods and services offered by the federal government over the Internet. They
also operate the Treasury's Paper Check
Conversion and Electronic Check Processing programs, whereby checks written to government agencies are converted into ACH transactions at the point
of sale or at lockbox locations. In 2006,
the Reserve Banks originated more than
2.6 million ACH transactions through
these programs, roughly the same number of transactions as in 2005.
was $1.04 billion. In March, Treasury
launched the Repurchase Agreement
Program, a pilot program that allows
Treasury to place a portion of its excess
operating funds directly with TT&L depositaries through a repurchase transaction for a set period at an agreed-on
interest rate. In 2006, the Reserve Banks
placed a total of $478.9 billion of investments through repurchase agreements.
Services Provided to Other Entities
The Reserve Banks provide fiscal
agency and depository services to other
domestic and international entities when
required to do so by the Secretary of the
Treasury or when required or permitted
to do so by federal statute. The majority
of the work is securities-related.
Cash-Management Services
Electronic Access to
Reserve Bank Services
The Treasury maintains its bank account
at the Reserve Banks and invests the
funds it does not need for current payments with qualified depository institutions through the Treasury Tax and Loan
(TT&L) program, which the Reserve
Banks operate. Reserve Bank operating
expenses related to this program and
other cash-management initiatives totaled $48.3 million in 2006, compared
with $40.5 million in 2005. The investments either are callable on demand or
are for a set term. In 2006, the Reserve
Banks placed a total of $309.2 billion in
immediately callable investments, which
includes funds invested through retained
tax deposits and direct, special direct,
and dynamic investments, and $508 billion in term investments. The rate for
term investments is set by auction; the
Reserve Banks held 104 such auctions
in 2006, roughly the same number of
auctions as in 2005. In 2006, the Treasury's income from the TT&L program
In 2006, the Federal Reserve Banks
completed the migration of their FedLine DOS customers to FedLine Advantage. About 6,200 customers were converted to FedLine Advantage, a webbased access delivery channel typically
used by small and medium-sized depository institutions to access critical payment services, such as the Fedwire
Funds, Fedwire Securities, National
Settlement, and FedACH Services. In
addition, the Reserve Banks began migrating their high-volume computerinterface customers, which are typically
large depository institutions, to FedLine
Direct,
an
internet-protocol-based
computer-to-computer access delivery
channel for critical payment services.
Also in 2006, the Reserve Banks announced a new option, FedLine
Command, a lower-cost computer-tocomputer access delivery channel for
FedACH customers. The Reserve Banks
will continue to migrate customers to
Federal Reserve Banks 127
FedLine Direct and FedLine Command
in 2007.
Information Technology
In early 2006, the Federal Reserve
Banks initiated the first phase of the
Information
Security
Architecture
Framework (ISAF), a program that will
cost $30.5 million by the end of 2008,
when this phase of the program will be
completed. The ISAF program is intended to respond to the continuing and
increasingly sophisticated threats facing
information technology systems and to
improve information security at all
points in the Federal Reserve System's
networks. ISAF is a portfolio of initiatives to improve (1) targeted security
services by ensuring that overall risks
are reduced and the residual risks of
these services are acceptable and (2) the
overall efficiency and coherence of the
provisioning of these services.
The System established a National
Information Security Assurance (NISA)
function in 2006 to enhance information
security governance. By managing and
coordinating information security at the
enterprise level, NISA will have an integrated view of information security
compliance across the Reserve Banks.
NISA will implement a businessoriented model of information security
responsibility and accountability and
will establish comprehensive information security standards and processes for
all the Reserve Banks.
In mid-2006, the Federal Reserve
System adopted the Technology Project
Standards (TPS), a set of standards for
managing
information
technology
projects. The standards are based on the
Project Management Book of Knowledge (PMBOK), a recognized industry
best practice. All Reserve Banks are
expected to train their staff members
who are involved in information tech
nology projects and to fully transition to
the TPS by January 1, 2008.
Also in 2006, the Federal Reserve
Bank of New York migrated its primary
dealers (banks and securities brokerdealers) to the FedTrade application,
which provides increased functionality
and security. The FedTrade application
is used to execute various forms of open
market operations using electronic auctions with the primary dealers as
bidders.
Throughout 2006, the Reserve Banks
continued to focus on initiatives to reduce IT costs over the long term by
standardizing processes, increasing productivity, and strengthening the Federal
Reserve's ability to respond to cyber
security threats.
Examinations of the
Federal Reserve Banks
Section 21 of the Federal Reserve Act
requires the Board of Governors to order
an examination of each Federal Reserve
Bank at least once a year. The Board
performs its own reviews and engages a
public accounting firm. The public
accounting firm performs an annual audit of the combined financial statements
of the Reserve Banks (see the section
"Federal Reserve Banks Combined
Financial Statements") and audits the
annual financial statements of each of
the twelve Banks. The Reserve Banks
use the framework established by the
Committee of Sponsoring Organizations
of the Treadway Commission (COSO)
in assessing their internal controls over
financial reporting, including the safeguarding of assets. The Reserve Banks
have further enhanced their assessments
under the COSO framework to
strengthen the key control assertion process and in 2006 met the requirements
of the Sarbanes-Oxley Act of 2002.
Within this framework, management of
128 93rd Annual Report, 2006
each Reserve Bank provides an assertion letter to its board of directors annually confirming adherence to COSO
standards, and a public accounting firm
confirms management's assertion and
issues an attestation report to the Bank's
board of directors and to the Board of
Governors.
The firm engaged for the audits of the
individual and combined financial statements of the Reserve Banks for 2006
was PricewaterhouseCoopers
LLP
(PwC). Fees for these services totaled
$4.2 million. To ensure auditor independence, the Board requires that PwC be
independent in all matters relating to the
audit. Specifically, PwC may not perform services for the Reserve Banks or
others that would place it in a position
of auditing its own work, making management decisions on behalf of the
Reserve Banks, or in any other way
impairing its audit independence. In
2006, the Reserve Banks did not engage
PwC for nonaudit services.
The Board's annual examination of
the Reserve Banks includes a wide range
of off-site and on-site oversight activities conducted by the Division of
Reserve Bank Operations and Payment
Systems. Division personnel monitor the
activities of each Reserve Bank on an
ongoing basis and conduct on-site
reviews based on the division's riskassessment methodology. The examinations also include assessing the efficiency and effectiveness of the internal
audit function. To assess compliance
with the policies established by the Federal Reserve's Federal Open Market
Committee (FOMC), the division also
reviews the accounts and holdings of the
System Open Market Account at the
Federal Reserve Bank of New York and
the foreign currency operations conducted by that Bank. In addition, PwC
audits the schedule of participated asset
and liability accounts and the related
schedule of participated income accounts at year-end. The FOMC receives
the external audit reports and the report
on the division's examination.
Income and Expenses
The accompanying table summarizes the
income, expenses, and distributions of
net earnings of the Federal Reserve
Banks for 2005 and 2006.
Income in 2006 was $38,410 million,
compared with $30,729 million in 2005.
Expenses totaled $4,056 million ($2,987
million in operating expenses, $276 million in earnings credits granted to depository institutions, $301 million in assessments for expenditures by the Board
of Governors, and $492 million for the
cost of new currency). Revenue from
priced services was $908 million. Net
additions to and deductions from current
net income showed a net loss of
$159 million. The loss was due primarily to interest expense on securities sold
under agreements to repurchase offset,
in part, by unrealized gains on assets
denominated in foreign currencies revalued to reflect current market exchange
rates. Statutory dividends paid to member banks totaled $871 million, $90 million more than in 2005; the increase
reflects an increase in the capital and
surplus of member banks and a consequent increase in the paid-in capital
stock of the Reserve Banks.
Payments to the U.S. Treasury in the
form of interest on Federal Reserve
notes totaled $29,052 million in 2006,
up from $21,468 million in 2005; the
payments equal net income after the
deduction of dividends paid and of the
amount necessary to equate the Reserve
Banks' surplus to paid-in capital. The
implementation of FAS 158 required a
reduction to surplus of $1,849 million
and increased the amount necessary to
equate surplus to paid-in capital in 2006.
Federal Reserve Banks
129
Income, Expenses, and Distribution of Net Earnings
of the Federal Reserve Banks, 2006 and 2005
Millions of dollars
2006
2005
Current income
Current expenses
Operating expensesx
Earnings credits granted
38,410
3,264
2,987
276
30,729
2,890
2,677
213
Current net income
Net additions to (deductions from, - ) current net income
Assessments by the Board of Governors
For expenditures of Board
For cost of currency
35,147
-159
793
301
492
27,840
-3,577
743
266
All
Net income before payments to Treasury
Dividends paid
Transferred to surplus2
34,195
871
4,272
23,520
781
1,272
Payments to Treasury3
29,052
21,468
Item
1. Includes a net periodic pension expense of $53 million in 2006 and a net periodic pension credit of $11 million in 2005.
2. The implementation of FAS 158 in 2006 reduced
surplus by $1,849 million and increased the amount of the
transfer required to equate capital and surplus.
3. Interest on Federal Reserve notes.
In the "Statistical Tables" section of
this report, table 10 details the income
and expenses of each Reserve Bank for
2006 and table 11 shows a condensed
statement for each Bank for the years
1914 through 2006; table 9 is a statement of condition for each Bank, and
table 13 gives the number and annual
salaries of officers and employees for
each Bank. A detailed account of the
assessments and expenditures of the
Board of Governors appears in the section "Board of Governors Financial
Statements."
4.59 percent, from 3.80 percent in 2005,
and the average rate of interest earned
on loans increased to 5.44 percent, from
3.49 percent.
Holdings of Securities and Loans
In 2006, construction continued on the
Kansas City Bank's new headquarters
building and construction began on the
San Francisco Bank's new Seattle
Branch building after the Board approved the project's final design. The
multiyear renovation program at the
New York Bank's headquarters building
continued, as did facility renovation
projects at several Reserve Bank offices
to accommodate the consolidation of
check activities. A long-term facility re-
The Federal Reserve Banks' average
daily holdings of securities and loans
during 2006 amounted to $794,395 million, an increase of $32,886 million
from 2005 (table). Holdings of U.S. government securities increased $32,879
million, and holdings of loans increased
$7 million. The average rate of interest
earned on the Reserve Banks' holdings
of government securities increased to
Volume of Operations
Table 12 in the "Statistical Tables" section shows the volume of operations in
the principal departments of the Federal
Reserve Banks for the years 2003
through 2006.
Federal Reserve Bank Premises
130 93rd Annual Report, 2006
Securities and Loans of the Federal Reserve Banks, 2004-2006
Millions of dollars except as noted
Item and year
Average daily holdings 3
2004
2005
2006
Earnings4
2004
2005
2006
.
.
Total
U.S.
government
securities1
Loans 2
719,647
761,509
794,395
719,494
761,295
794,174
153
214
221
22,347
28,966
36,464
22,344
28,959
36,452
3
7
12
3.11
3.80
4.59
3.11
3.80
4.59
1.74
3.49
5.44
Average interest rate (percent)
2004
2005
2006
1. Includes federal agency obligations.
2. Does not include indebtedness assumed by the Federal Deposit Insurance Corporation.
3. Based on holdings at opening of business.
4. Earnings have not been netted with the interest expense on securities sold under agreements to
repurchase.
development program at the St. Louis
Bank continued. Construction of a new
pedestrian-screening vestibule was completed, and construction of an addition
to the Board's headquarters building began.
Security enhancement programs continue at several facilities. One such
project is the recently completed external perimeter security improvement
project at the Boston Bank. In addition,
the Richmond Bank continued construction of additional security improvements
to its headquarters building. The Dallas
Bank completed the purchase of property behind its headquarters building for
the construction of a remote vehiclescreening and shipping/receiving facility. Planning continues for a similar
screening facility at the Philadelphia
Bank.
Also during 2006, the Board approved the Richmond Bank's purchase
of property adjacent to its headquarters
building for construction of a new park-
ing garage. The sales of the Chicago
Bank's former Detroit Branch building,
the Kansas City Bank's Oklahoma City
Branch building, and the San Francisco
Bank's Portland Branch building were
finalized. Efforts to sell the St. Louis
Bank's Little Rock Branch building continued, as did efforts by the Dallas Bank
to sell excess land at its Houston
Branch.
Activities for the Portland Branch
were moved to leased facilities. The
Kansas City Bank sold its Oklahoma
City Branch building and is leasing
space in the building for the Branch's
administrative activity. The Birmingham Branch check and cash operations
were relocated to the head office in Atlanta. The Birmingham building will
house the remaining Branch activities,
and available space will be leased.
Table 14 in the "Statistical Tables"
section of this report details the acquisition costs and net book value of the
Federal Reserve Banks and Branches. •
Federal Reserve Banks 131
Pro Forma Financial Statements for Federal Reserve Priced Services
Pro Forma Balance Sheet for Priced Services, December 31, 2006 and 2005
Millions of dollars
Item
Short-term assets (Note 1)
Imputed reserve requirements
on clearing balances
Imputed investments
Receivables
.
. . .
Materials and supplies
Prepaid expenses
Items in process of collection
Total short-term assets
Long-term assets (Note 2)
Premises
Furniture and equipment
Leases, leasehold improvements, and
long-term prepayments
Prepaid pension costs
Deferred tax asset
Total long-term assets
Long-term liabilities
Long-term debt
Postretirement/postemployment
benefits obligation
Total long-term liabilities
15,657.7
11,557.1
424.9
127.9
424.5
156.1
83.3
399.0
146.0
88.5
796.8
0.0
1,181.0
1,465.9
12,738.1
17,123.6
10,703.2
5,163.0
0.0
126.2
8,015.6
3,592.5
0.0
100.4
15,992.4
11,708.4
0.0
0.0
392.8
Total liabilities
Equity (including accumulated other
comprehensive loss of
$343.9 million at
December 31, 2006)
Total liabilities and equity (Note 3) . . .
NOTE: Components may not sum to totals because of
rounding.
993.2
8,626.4
77.0
1.3
25.6
5,934.4
821.7
7,245.7
73.6
0.9
24.2
3,391.0
Total assets
Short-term liabilities
Clearing balances and balances
arising from early credit
of uncollected items
Deferred-availability items
Short-term debt
Short-term payables
Total short-term liabilities
2005
2006
275.0
392.8
275.0
12,101.2
16,267.4
636.9
856.2
12,738.1
17,123.6
The accompanying notes are an integral part of these
pro forma priced services financial statements.
132 93 rd Annual Report, 2006
Pro Forma Income Statement for Federal Reserve Priced Services, 2006 and 2005
Millions of dollars
Item
Revenue from services provided
to depository institutions (Note 4)
Operating expenses (Note 5)
Income from operations
Imputed costs (Note 6)
Interest on float
Interest on debt
Sales taxes
FDIC insurance
Income from operations after
imputed costs
Other income and expenses (Note 7)
Investment income
Earnings credits
Income before income taxes
Imputed income taxes (Note 6)
Net income
MEMO: Targeted return on equity (Note 6)
2005
2006
901.0
750.0
150.9
908.4
803.5
104.8
-4.9
0.0
10.8
0.0
6.1
0.0
11.3
0.0
5.9
17.4
133.5
98.9
383.6
-260.8
NOTE: Components may not sum to totals because of
rounding.
292.7
-199.0
122.8
221.8
66.1
155.7
72.0
93.7
227.2
67.3
160.0
103.0
The accompanying notes are an integral part of these
pro forma priced services financial statements.
Pro Forma Income Statement for Federal Reserve Priced Services, by Service, 2006
Millions of dollars
Item
Total
Commercial
check
collection
Commercial
ACH
Fedwire
funds
Fedwire
securities
Revenue from services
(Note 4)
908.4
745.0
80.5
63.6
19.2
Operating expenses
(Note 5)
803.5
658.2
74.7
52.9
17.7
Income from operations
104.8
86.8
5.8
10.7
1.5
Imputed costs (Note 6)
5.9
4.1
0.6
0.8
0.3
Income from operations
after imputed costs
Other income and expenses,
net (Note 7)
98.9
82.7
5.2
9.9
1.3
122.8
100.7
10.9
8.6
2.6
Income before income taxes .
221.8
183.3
16.1
18.5
3.9
Imputed income taxes
(Note 6)
Net income .
MEMO: Targeted return on
equity (Note 6)
66.1
54.6
4.8
5.5
1.2
155.7
128.7
11.3
13.0
2.7
72.0
57.1
7.5
5.6
1.8
NOTE: Components may not sum to totals because of
rounding.
The accompanying notes are an integral part of these
pro forma priced services financial statements.
Federal Reserve Banks
133
FEDERAL RESERVE BANKS
NOTES TO PRO FORMA FINANCIAL STATEMENTS FOR PRICED SERVICES
(1) SHORT-TERM ASSETS
The imputed reserve requirement on clearing balances
held at Reserve Banks by depository institutions reflects a
treatment comparable to that of compensating balances
held at correspondent banks by respondent institutions.
The reserve requirement imposed on respondent balances
must be held as vault cash or as non-earning balances
maintained at a Reserve Bank; thus, a portion of priced
services clearing balances held with the Federal Reserve
is shown as required reserves on the asset side of the
balance sheet. Another portion of the clearing balances is
used to finance short-term and long-term assets. The
remainder of clearing balances is assumed to be invested
in a portfolio of investments, shown as imputed
investments.
Receivables are (1) amounts due the Reserve Banks for
priced services and (2) the share of suspense-account and
difference-account balances related to priced services.
Materials and supplies are the inventory value of shortterm assets.
Prepaid expenses include salary advances and travel
advances for priced-service personnel.
Items in process of collection is gross Federal Reserve
cash items in process of collection (CIPC) stated on a
basis comparable to that of a commercial bank. It reflects
adjustments for intra-System items that would otherwise
be double-counted on a consolidated Federal Reserve
balance sheet; adjustments for items associated with nonpriced items, such as those collected for government
agencies; and adjustments for items associated with providing fixed availability or credit before items are received and processed. Among the costs to be recovered
under the Monetary Control Act is the cost of float, or net
CIPC during the period (the difference between gross
CIPC and deferred-availability items, which is the portion
of gross CIPC that involves a financing cost), valued at
the federal funds rate.
(2) LONG-TERM ASSETS
Consists of long-term assets used solely in priced services, the priced-service portion of long-term assets
shared with nonpriced services, and an estimate of the
assets of the Board of Governors used in the development
of priced services.
Effective December 31, 2006, the Reserve Banks
implemented FAS 158, which requires an employer to
record the funded status of its benefit plans on its balance
sheet, resulting in a reduction to the prepaid pension asset
related to priced services and the recognition of an associated deferred tax asset with an offsetting adjustment, net
of tax, to accumulated other comprehensive income
(AOCI) (see note 3).
(3) LIABILITIES AND EQUITY
Under the matched-book capital structure for assets,
short-term assets are financed with short-term payables
and clearing balances. Long-term assets are financed with
long-term liabilities and clearing balances. As a result, no
short- or long-term debt is imputed. Other short-term
liabilities include clearing balances maintained at Reserve
Banks and deposit balances arising from float. Other
long-term liabilities consist of accrued postemployment,
postretirement, and nonqualified pension benefits costs
and obligations on capital leases.
In order to reflect the funded status of its benefit plans
as required by FAS 158, the Reserve Banks recognized
the deferred items related to these plans, which include
prior service costs and actuarial gains or losses, on the
balance sheet. This resulted in an increase to the benefits
obligation related to the priced services and an offsetting
adjustment, net of tax, to AOCI, which is included in
equity.
Equity is imputed at 5 percent of total assets.
(4)
REVENUE
Revenue represents charges to depository institutions for
priced services and is realized from each institution
through one of two methods: direct charges to an institution's account or charges against its accumulated earnings credits.
(5) OPERATING EXPENSES
Operating expenses consist of the direct, indirect, and
other general administrative expenses of the Reserve
Banks for priced services plus the expenses for staff
members of the Board of Governors working directly on
the development of priced services. The expenses for
Board staff members were $7.5 million in 2006 and $6.6
million in 2005.
Effective January 1, 1987, the Reserve Banks implemented the Financial Accounting Standards Board's
Statement of Financial Accounting Standards No. 87,
Employers' Accounting for Pensions (FAS 87). Accordingly, the Reserve Banks recognized operating expenses
for the qualified pension plan of $11.5 million in 2006
and a credit to expenses of $1.3 million in 2005. Operating expenses also include the nonqualified pension expense of $3.2 million in 2006 and $1.0 million in 2005.
The implementation of FAS 158 does not change the
systematic approach required by generally accepted
accounting principles to recognize the expenses associated with the Reserve Banks' benefit plans in the income
statement.
The income statement by service reflects revenue, operating expenses, and imputed costs. Certain corporate
overhead costs not closely related to any particular priced
service are allocated to priced services based on an
expense-ratio method. Corporate overhead was allocated
among the priced services during 2006 and 2005 as
follows (in millions):
2006
2005
Check
ACH
Fedwire funds
Fedwire securities
30.6
4.1
2.8
1.5
29.4
3.7
2.6
1.3
Total
39.0
37.0
134 93rd Annual Report, 2006
(6) IMPUTED COSTS
Imputed costs consist of income taxes, return on equity,
interest on debt, sales taxes, the FDIC assessment, and
interest on float. Many imputed costs are derived from the
private-sector adjustment factor (PSAF) model. The cost
of debt and the effective tax rate, which reflect bank
holding company data as the proxy for a private-sector
firm, are used to impute debt and income taxes in the
PSAF model. The after-tax rate of return on equity is
based on the returns of the equity market as a whole and
is used to impute the profit that would have been earned
had the services been provided by a private-sector firm.
Interest is imputed on the debt assumed necessary to
finance priced-service assets; however, no debt was imputed in 2006 or 2005. The sales taxes and FDIC assessment that the Federal Reserve would have paid had it
been a private-sector firm are also among the components
of the PSAF.
Interest on float is derived from the value of float to be
recovered, either explicitly or through per-item fees, during the period. Float costs include costs for checks,
book-entry securities, ACH, and funds transfers.
Float cost or income is based on the actual float
incurred for each priced service. Other imputed costs are
allocated among priced services according to the ratio of
operating expenses less shipping expenses for each service to the total expenses for all services less the total
shipping expenses for all services.
The following list shows the daily average recovery of
actual float by the Reserve Banks for 2006 in millions of
dollars:
Total
float
Unrecovered
float
Float subject to recovery
-84.7
15.6
-100.3
Sources of recovery of float
Income on clearing balances
As-of adjustments
Direct charges
Per-item fees
-10.0
-1.2
497.6
-589.1
Unrecovered float includes float generated by services
to government agencies and by other central bank services. Float recovered through income on clearing balances is the result of the increase in investable clearing
balances; the increase is produced by a deduction for float
for cash items in process of collection, which reduces
imputed reserve requirements. The income on clearing
balances reduces the float to be recovered through other
means. As-of adjustments and direct charges refer to float
that is created by interterritory check transportation and
the observance of non-standard holidays by some depository institutions. Such float may be recovered from the
depository institutions through adjustments to institution
reserve or clearing balances or by billing institutions
directly. Float recovered through direct charges and peritem fees is valued at the federal funds rate; credit float
recovered through per-item fees has been subtracted from
the cost base subject to recovery in 2006.
(7) OTHER INCOME AND EXPENSES
Consists of investment income on clearing balances and
the cost of earnings credits. Investment income on clearing balances for 2006 and 2005 represents the average
coupon-equivalent yield on three-month Treasury bills
plus a constant spread, based on the return on a portfolio
of investments. In both years, the return is applied to the
total clearing balance maintained, adjusted for the effect
of reserve requirements on clearing balances. Expenses
for earnings credits granted to depository institutions on
their clearing balances are derived by applying a discounted average coupon-equivalent yield on three-month
Treasury bills to the required portion of the clearing
balances, adjusted for the net effect of reserve requirements on clearing balances.
135
The Board of Governors and the
Government Performance and Results Act
The Government Performance and
Results Act (GPRA) of 1993 requires
that federal agencies, in consultation
with Congress and outside stakeholders,
prepare a strategic plan covering a multiyear period and submit an annual performance plan and performance report.
Although the Federal Reserve is not
covered by the GPRA, the Board of
Governors voluntarily complies with the
spirit of the act.
port indicates that the Board generally
met its goals for 2004-05.
All of the aforementioned documents
are available on the Board's web site,
at www.federalreserve.gov/boarddocs/
rptcongress. The Board's mission statement and a summary of the Federal
Reserve's goals and objectives, as set
forth in the most recently released strategic and performance plans, are listed
below.
Mission
Strategic Plan, Performance
Plan, and Performance Report
The Board's strategic plan articulates
the Board's mission, sets forth major
goals, outlines strategies for achieving
those goals, and discusses the environment and other factors that could affect
their achievement. It also addresses
issues that cross agency jurisdictional
lines, identifies key quantitative performance measures, and discusses performance evaluation. The most recent strategic plan covers the period 2006-09.
Both the performance plan and the
performance report are prepared biennially. The performance plan sets forth
specific targets for some of the performance measures identified in the strategic plan and describes the operational
processes and resources needed to meet
those targets. It also discusses data validation and results verification. The most
recent performance plan covers the
period 2006-07.
The performance report discusses the
Board's performance in relation to its
goals. The most recent performance re
The mission of the Board is to foster the
stability, integrity, and efficiency of the
nation's monetary, financial, and payment systems so as to promote optimal
macroeconomic performance.
Goals and Objectives
The Federal Reserve has six primary
goals with interrelated and mutually reinforcing elements.
Goal
To conduct monetary policy that promotes the achievement of maximum
sustainable long-term growth and the
price stability that fosters that goal
Objectives
• Stay abreast of recent developments
and prospects in the U.S. economy
and financial markets, and in those
abroad, so that monetary policy decisions will be well informed.
• Enhance our knowledge of the structural and behavioral relationships in
136 93rd Annual Report, 2006
the macroeconomic and financial markets, and improve the quality of the
data used to gauge economic performance, through developmental research activities.
Implement monetary policy effectively in rapidly changing economic
circumstances and in an evolving
financial market structure.
Contribute to the development of U.S.
international policies and procedures,
in cooperation with the U.S. Department of the Treasury and other
agencies.
Promote understanding of Federal
Reserve policy among other government policy officials and the general
public.
Goal
To promote a safe, sound, competitive,
and accessible banking system and
stable financial markets
Objectives
• Promote overall financial stability,
manage and contain systemic risk, and
identify emerging financial problems
early so that crises can be averted.
• Provide a safe, sound, competitive,
and accessible banking system
through comprehensive and effective
supervision of U.S. banks, bank and
financial holding companies, foreign
banking organizations, and related
entities. At the same time, remain
sensitive to the burden on supervised
institutions.
• Provide a dynamic work environment
that is challenging and rewarding. Enhance efficiency and effectiveness,
while remaining sensitive to the burden on supervised institutions, by addressing the supervision function's
procedures, technology, resource allocation, and staffing issues.
Promote compliance by domestic and
foreign banking organizations supervised by the Federal Reserve with
applicable laws, rules, regulations,
policies, and guidelines through a
comprehensive and effective supervision program.
Goal
To effectively implement federal laws
designed to inform and protect the consumer, to encourage community development, and to promote access to banking services in historically underserved
markets
Objectives
• Take a leadership role in shaping the
national dialogue on consumer protection in financial services, addressing
the rapidly emerging issues that affect
today's consumers, strengthening consumer compliance supervision programs when required, and remaining
sensitive to the burden on supervised
institutions.
• Promote, develop, and strengthen effective communications and collaborations within the Board, the Federal
Reserve Banks, and other agencies
and organizations.
• Increase public understanding of consumer protection and community development and the Board's role in
these areas through increased outreach
and by developing programs that address the information needs of consumers and the financial services
industry.
• Develop a staff that is highly skilled,
professional, innovative, and diverse,
providing career development opportunities to ensure the retention
of highly productive staff and recruiting highly qualified and skilled
employees.
Government Performance and Results Act
137
effective performance, and sound
project management and should assist
the Board in the effective discharge of
its oversight responsibilities.
• Promote an efficient and effective
work environment by aligning business functions with appropriate work
processes and implementing solutions
for work products and processes that
can be handled more efficiently
through automation.
Goal
Goal
To foster the integrity, efficiency, and
effectiveness of Board programs
To foster the integrity, efficiency, and
accessibility of U.S. payment and settlement systems
Objectives
• Develop sound, effective policies and
regulations that foster payment system integrity, efficiency, and accessibility. Support and assist the Board in
overseeing U.S. dollar payment and
securities settlement systems by assessing their risks and risk management approaches against relevant policy objectives and standards.
• Conduct research and analysis that
contributes to policy development and
increases the Board's and others' understanding of payment system dynamics and risk.
Goal
To provide high-quality professional
oversight of Reserve Banks
Objective
• Produce high-quality assessments and
oversight of Federal Reserve System
strategies, projects, and operations,
including adoption of technology to
the business and operational needs of
the Federal Reserve. The oversight
process and outputs should help Federal Reserve management foster and
strengthen sound internal control systems, efficient and reliable operations,
Objectives
• Oversee a planning and budget process that clearly identifies the Board's
mission, results in concise plans for
the effective accomplishment of operations, transmits to the staff the information needed to attain objectives
efficiently, and allows the public to
measure our accomplishments.
• Develop appropriate policies, oversight mechanisms, and measurement
criteria to ensure that the recruiting,
training, and retention of staff meet
Board needs.
• Establish, encourage, and enforce a
climate of fair and equitable treatment
for all employees regardless of race,
creed, color, national origin, age, or
sex.
• Provide financial management support needed for sound business
decisions.
• Provide cost-effective and secure
information resource management
services to Board divisions, support
divisional distributed-processing requirements, and provide analysis on
information technology issues to the
Board, Reserve Banks, other financial
regulatory institutions, and central
banks.
• Efficiently provide safe, modern, and
secure facilities and necessary support
for activities conducive to efficient
and effective Board operations.
•
139
Federal Legislative Developments
The following federal laws enacted during 2006 affect the Federal Reserve System and the institutions it regulates: the
Financial Services Regulatory Relief
Act of 2006; the Unlawful Internet
Gambling Enforcement Act of 2006; the
Military Personnel Financial Services
Protection Act; and the Financial Netting Improvements Act of 2006.
Financial Services
Regulatory Relief Act of 2006
On October 13, 2006, President Bush
signed into law the Financial Services
Regulatory Relief Act of 2006 (Regulatory Relief Act), culminating more than
four years of work by Congress, the
Board, and other interested parties. The
act incorporates a number of significant
monetary policy, supervisory, and regulatory provisions that were proposed or
supported by the Board. These provisions should reduce unnecessary burden
on banking organizations and improve
operation of the financial system. The
most important provisions of the Regulatory Relief Act affecting the Federal
Reserve System and banking organizations supervised by the Federal Reserve
are discussed below. Except as noted
below, the act became effective on October 13, 2006.
Monetary Policy Provisions
Authority to Pay Interest
on Balances Held at Reserve Banks
and Greater Flexibility in Setting
Reserve Requirements
For monetary policy purposes, federal
law obliges the Board to establish re-
serve requirements on certain deposits
held at depository institutions and
mandates that the Board set the ratio
of required reserves on transaction
accounts above a certain percentage
(8 percent for amounts above the socalled low reserve tranche, and 3 percent for amounts within the low reserve
tranche). Because the Federal Reserve
does not pay interest on balances held at
Reserve Banks to meet reserve requirements, depositories have an incentive to
reduce their reserve balances to a minimum. To do so, they engage in a variety
of reserve-avoidance activities, including using "sweep" arrangements that
move funds from accounts that are subject to reserve requirements to accounts
and money market investments that are
not. These sweep programs and similar
activities absorb resources and therefore
diminish banking system efficiency.
Depository institutions also may voluntarily hold contractual clearing balances
and excess reserve balances at a Reserve
Bank. These balances also do not explicitly earn interest, although contractual
clearing balances implicitly earn interest
in the form of credits that may be used
to pay for Federal Reserve services,
such as check clearing.
The Regulatory Relief Act gives the
Federal Reserve the authority, effective
as of October 1, 2011, to pay explicit
interest on all types of balances (including required reserves, excess reserves,
and contractual clearing balances) held
by or for depository institutions at a
Reserve Bank. Paying interest on required reserve balances, once authorized, will remove a substantial portion
of the incentive for depositories to
140 93rd Annual Report, 2006
engage in reserve-avoidance measures,
and the resulting improvements in efficiency should eventually be passed
through to bank borrowers and depositors.
Moreover, if the Board were to determine to pay explicit interest on contractual clearing balances, once authorized
to do so, the action could provide a
stable enough supply of voluntary balances to allow the Federal Reserve to
effectively implement monetary policy
using existing procedures without the
need for required reserves.
Importantly, the Regulatory Relief
Act gives the Board the discretion, effective as of October 1, 2011, to lower
the ratio of reserves that a depository
institution must maintain against its
transaction accounts below the ranges
currently established by law, including
potentially establishing a zero reserve
ratio. Thus, once these authorities
become effective, the Board could reduce
or even eliminate reserve requirements if
it determined that such action was consistent with the effective implementation of
monetary policy. Such action, if taken,
would reduce a significant regulatory
burden for all depository institutions.
Having the authority to pay interest
on excess reserves also will enhance the
Federal Reserve's monetary policy toolkit. If the Board were to determine to pay
interest on such balances at some point in
the future, the rate paid would act as a
minimum for overnight interest rates
and, thus, could help mitigate potential
volatility in overnight interest rates.
Authority for Member Banks
to Use Pass-Through Reserves
The Regulatory Relief Act also eliminated the statutory provisions that prohibited banks that are members of the
Federal Reserve from counting as
reserves their deposits in other banks
that are "passed through" by those banks
to the Federal Reserve as required reserve balances. These amendments,
once implemented, will enable national
and state member banks to take advantage of the same type of pass-through
reserve arrangements previously available only to state nonmember banks.
Supervisory and
Regulatory Provisions
Rules Implementing the "Broker"
Exceptions for Banks Adopted as
Part of the Gramm-Leach-Bliley Act
Before the Gramm-Leach-Bliley Act
(GLB Act) of 1999, banks had a blanket
exception from the definition of "broker" in the Securities Exchange Act of
1934. This meant that banks could
engage in any type of securities activity
permissible under federal and state
banking laws without registering with
the Securities and Exchange Commission (SEC) as a broker and without complying with the SEC's rules applicable
to registered brokers. In the GLB Act,
Congress eliminated this blanket exception for banks from the definition of
"broker" and replaced it with eleven
exceptions for broad types of securities
activities conducted by banks. These
new activity-focused exceptions were
designed and intended to allow banks to
continue to provide their customers with
securities services as part of their usual
trust, fiduciary, custodial, and other
banking functions. The SEC requested
comment on rules that would implement
these "broker" exceptions for banks in
2001 and 2004.
The Regulatory Relief Act requires
that the SEC and the Board, within 180
days of enactment, jointly request comment on a new "single set" of rules to
implement the "broker" exceptions for
banks that were adopted as part of the
GLB Act. The Regulatory Relief Act
Federal Legislative Developments
also requires that the SEC and the Board
jointly adopt a "single set" of final rules
to implement these exceptions after consulting with, and seeking the concurrence of, the Office of the Comptroller
of the Currency (OCC), the Federal Deposit Insurance Corporation (FDIC), and
the Office of Thrift Supervision (OTS).
In addition, the act provides that the
single set of final rules adopted jointly
by the Board and the SEC shall supersede the rules previously issued by the
SEC to implement these exceptions.
On December 18, 2006—well before
the end of the 180-day period established by the Regulatory Relief Act—
the Board and the SEC issued and requested comment on joint proposed
rules to implement the "broker" exceptions for banks. See 71 FR 77,522
(Dec. 26, 2006). These joint proposed
rules—designated Regulation R—are
designed to accommodate the securities
activities that banks conduct as part of
their normal banking functions, consistent with the purposes of the GLB Act.
Expanded Eligibility for EighteenMonth Examination Schedule
for Small Banks
The Regulatory Relief Act expands the
number of well-capitalized and wellmanaged small insured depository institutions that may qualify for an eighteenmonth (rather than a twelve-month) onsite safety and soundness examination
schedule. Before the act, an insured
depository institution could qualify for
an extended eighteen-month safety and
soundness examination schedule only if
the institution had less than $250 million in total assets, was well capitalized
and well managed, and met certain other
supervisory criteria. See 12 USC
1820(d)(4). The act raised this $250 million asset threshold for an eighteenmonth exam cycle to $500 million,
141
thereby allowing additional small, wellrun institutions to potentially qualify for
an extended examination schedule. On
January 11, 2007, President Bush also
signed into law a complementary bill,
Pub. L. 109-473, that allows an insured
depository institution that meets the
new $500 million total assets threshold
to potentially qualify for an eighteenmonth on-site exam cycle if the institution received a composite rating of
either a 1 or a 2 at its most recent safety
and soundness examination.
Nonwaiver of Privileges
The Regulatory Relief Act includes an
important provision that should facilitate the sharing of information between
banking organizations and federal, state,
and foreign banking authorities. Specifically, the act provides that any privilege
(for example, attorney-client or workproduct privilege) a person may have
with respect to information is not
waived or destroyed if the person provides that information to "any federal
banking agency, state bank supervisor,
or foreign banking authority for any purpose in the course of the supervisory or
regulatory process of such agency, supervisor, or authority."
Voting State Representative Added to
the Federal Financial Institutions
Examination Council
Another provision of the Regulatory
Relief Act adds a state representative as
a voting member of the Federal Financial Institutions Examination Council
(FFIEC). Specifically, the act provides
for the current State Liaison Committee
of the FFIEC (which is composed of
five representatives of state supervisory
agencies for depository institutions) to
elect a chairperson, and adds this
chairperson as a full voting member of
the FFIEC.
142 93rd Annual Report, 2006
Elimination of Certain Reporting
Requirements Relating to
Insider Lending
215) that implement the elimination of
these reporting requirements. See 71 FR
71,472 (December 11, 2006).
The Regulatory Relief Act eliminated Streamlining the Supervisory Process
certain reporting requirements previ- for Bank Merger Transactions
ously imposed on banks and their executive officers and principal shareholders The Regulatory Relief Act streamlines
that the federal banking agencies did not the supervisory process for Bank Merger
find particularly useful in monitoring Act (12 USC 1828(c)) transactions in
insider lending or preventing insider two respects. First, it eliminates the need
abuse. Specifically, the act eliminated for the responsible agency in a Bank
the statutory provisions that previously Merger Act transaction to request a report on the competitive effects of the
required
transaction from each of the other fed• an executive officer of a bank to file a eral banking agencies, as well as the
report with the bank's board of direc- Attorney General. Instead, the act retors whenever the executive officer quires that the responsible agency request a competitive factors report only
obtained a loan from another bank in
from the Attorney General and provide
an amount that exceeded the amount
a copy of the request to the FDIC (if it is
the executive officer could obtain
not the responsible agency). Second, the
from his or her own bank (12 USC Regulatory Relief Act allows the
375a(g)(6)),
reviewing agency for a Bank Merger
• a bank to file a separate report with its
quarterly Call Report concerning any
loans the bank made to its executive
officers since its previous Call Report
(12 USC 375a(g)(9)), and
• an executive officer or principal shareholder of a bank to file an annual
report with the bank's board of directors if the officer or shareholder had a
loan outstanding from a correspondent bank of the bank (12 USC
1972(2)(G)).
Although the act eliminated these reporting requirements, it did not alter the
statutory and regulatory limits and restrictions on lending to insiders or the
ability of the federal banking agencies
to examine for potential insider lending
abuses as part of the supervisory process. On December 6, 2006, the Board
adopted, on an interim basis, and requested public comment on amendments
to the Board's Regulation O (12 CFR
Act transaction to avoid requesting a
competitive factors report from the other
federal banking agencies and the Attorney General if the transaction involves
affiliated institutions. The act also eliminates the post-approval waiting period
for bank mergers involving affiliated institutions, as these transactions typically
do not present any competitive issues.
The act does not, however, alter in any
way the reviewing agency's obligation
to conduct a competitive analysis of a
proposed Merger Act transaction.
Amendment Allowing the Board to
Grant Exceptions from the Attribution
Rule in Section 2(g)(2) of the Bank
Holding Company Act
Section 2(g)(2) of the Bank Holding
Company Act (BHC Act) (12 USC
1841(g)(2)) provides that in all circumstances, a company is deemed to control
any shares that are held by a trust for the
benefit of the company or its sharehold-
Federal Legislative Developments
143
ers, members, or employees. This attri- serving as a management official of any
bution rule was intended to prevent a other nonaffiliated depository organizabank holding company from using a tion if the organizations have offices
trust established for the benefit of its located in the same metropolitan statismanagement, shareholders, or employ- tical area. The act provides an exception
ees to evade the BHC Act's restrictions from this restriction if each of the
on the acquisition of shares of banks and depository organizations involved has
nonbanking companies. However, the less than a specified amount of total
rule can create inappropriate results in assets. The Regulatory Relief Act raised
situations in which the bank holding this specified amount from $20 million
company does not have the ability to to $50 million, thus allowing a greater
control, directly or indirectly, the shares number of small depository organizaacquired by the trust. Accordingly, the tions to qualify for the exception.
Regulatory Relief Act allows the Board
to waive application of this attribution Protection of Confidential Information
rule if the Board determines that the Received by Federal Banking Agencies
exception is appropriate in light of the from Foreign Banking Supervisors
facts and circumstances of the case and
the purposes of the BHC Act. Such an The Regulatory Relief Act clarifies the
exception might be appropriate, for authority of the Board and the other
example, if the shares are held by the federal banking agencies to maintain the
trust as part of a participant-directed and confidentiality of information obtained
widely held 401 (k) plan and the plan's from a foreign regulatory or supervisory
investment options are selected by an authority. Specifically, the act provides
independent fiduciary (and not by the that a federal banking agency may not
bank holding company or its officers, be compelled to disclose information
received from a foreign regulatory or
directors, or employees).
supervisory authority if public disclosure of the information would violate
Streamlining Reports of Condition
the law of the foreign country and the
The Regulatory Relief Act requires the federal banking agency obtained the inBoard and the other federal banking formation in connection with the adminagencies to conduct a review of the istration and enforcement of the federal
Call Report forms within one year of banking laws or under a memorandum
enactment, and at least once every five of understanding between the foreign
years thereafter, and to eliminate any authority and the agency. The act, howinformation or schedule that the agen- ever, would not authorize the agencies
cies determine is no longer necessary or to withhold such information from Congress or if the information was sought
appropriate.
under a court order in an action initiated
by the United States or the agency.
Increase in Asset Threshold for the
Small Depository Institution Exception
under the Depository Institution
Modification to Cross-Marketing
Management Interlocks Act
Restrictions Applicable to
Merchant Banking Investments
The Depository Institution Management
Interlocks Act, among other things, gen- Another provision of the Regulatory Reerally prohibits a management official lief Act allows the depository institution
of one depository organization from subsidiaries of a financial holding com
144 93rd Annual Report, 2006
pany, with prior Board approval, to
engage in cross-marketing activities
through "statement staffers" and Internet web sites with nonfinancial portfolio
companies held by the financial holding
company under the GLB Act's merchant banking authority. Previously, the
depository institution subsidiaries of a
financial holding company were permitted to engage, with Board approval, in
these limited types of cross-marketing
activities only with portfolio companies
held by the financial holding company
under the GLB Act's insurance company investment authority.
Change in Bank Control Act
Amendments
The Regulatory Relief Act expands the
factors that the Board and the other federal banking agencies may consider in
determining whether to disapprove, or
extend the time period for processing, a
notice filed under the Change in Bank
Control Act (CIBC Act). In particular,
the act allows the appropriate federal
banking agency to disapprove a CIBC
Act notice if the agency determines that
the future prospects of the institution to
be acquired might jeopardize the stability of the institution or the interests of
depositors. (Currently, the financial and
managerial factors in the CIBC Act focus on the resources of the acquiring
person, not the institution to be acquired.) In addition, the act allows an
agency to extend the time for processing
a CIBC Act notice for up to an additional two 45-day periods (beyond the
initial 60-day review period and discretionary 30-day extension) if the agency
determines that additional time is needed
to analyze (1) the future prospects of the
institution to be acquired or (2) the safety
and soundness of any plans by the acquiring person to make major changes in
the business, corporate structure, or management of the institution.
Amendments to Allow D.C.-Chartered
Banks to Become State Member Banks
The Regulatory Relief Act makes several technical changes to the Federal
Reserve Act to allow banks chartered in
the District of Columbia to become state
member banks.
Enforcement-Related Provisions
Amendments Expanding the Agencies'
Suspension Authority
The Federal Deposit Insurance Act (FDI
Act) currently allows the appropriate
federal banking agency to suspend,
remove, or prohibit an institutionaffiliated party (IAP) from participating
in the affairs of the depository institution with which he or she is affiliated if
the IAP is charged with or convicted of
certain crimes involving dishonesty,
breach of trust, or money laundering.
See 12 USC 1818(g)(l). The Regulatory
Relief Act expands this authority by
allowing the appropriate federal banking agency to suspend an IAP that has
been charged with such a crime from
participating in the affairs of any depository institution (not just the institution at
which the IAP then serves). In addition,
the act clarifies that the appropriate
agency may suspend, remove, or prohibit an LAP even if the IAP is no longer
associated with any depository institution at the time the action is taken.
Restricting the Ability of Convicted
Individuals to Participate in the Affairs
of a Bank Holding Company or
Edge Act or Agreement Corporation
Section 19 of the Federal Deposit Insurance Act (12 USC 1829) automatically
prohibits a person that has been convicted of a crime involving dishonesty, a
breach of trust, or money laundering
from participating in the affairs of an
Federal Legislative Developments
145
insured depository institution without
the consent of the FDIC. The Regulatory Relief Act extends this prohibition
so that persons convicted of such crimes
also may not participate in the affairs of
a bank holding company (other than a
foreign bank), an Edge or agreement
corporation, or a savings and loan holding company unless the individual receives the prior consent of the Board or
the OTS, as appropriate. The Regulatory
Relief Act also gives the Board and the
OTS additional discretionary authority
to remove a person convicted of such a
crime from, respectively, a nonbank subsidiary of a bank holding company or a
savings and loan holding company.
ten condition imposed on the institution
or an IAP, or a written agreement entered into by the agency with the institution or IAP, without demonstrating that
the institution or IAP was unjustly enriched or acted in reckless disregard of
the law or a prior agency order. Similarly, the act allows the appropriate federal banking agency for an undercapitalized institution to enforce a written
condition imposed on, or a written
agreement entered into with, the institution or an IAP without regard to the
limit in the FDI Act (12 USC
1831o(e)(2)(E)) that normally caps the
liability of a controlling shareholder under a capital restoration plan.
Authority to Enforce
Deposit Insurance Conditions
Clarifying the Ability of the Banking
Agencies to Enforce Conditions
Imposed in Connection with
CIBC Act Notices
Section 8 of the Federal Deposit Insurance Act currently permits the appropriate federal banking agency for an insured depository institution to enforce a
written condition imposed by that
agency on the institution or an IAP of
the institution. The Regulatory Relief
Act amended section 8 of the FDI Act to
allow the appropriate federal banking
agency for an institution to enforce a
condition imposed on an insured depository institution by another federal banking agency. This will allow, for example, the Board (as the appropriate
agency for a state member bank) to enforce a condition imposed on a state
member bank by the FDIC in connection with the bank's application for deposit insurance
Standards for Enforcing Written
Conditions and Written Agreements
The Regulatory Relief Act also amended
section 8 of the Federal Deposit Insurance Act to allow the appropriate federal banking agency for an insured
depository institution to enforce a writ
The Regulatory Relief Act amends section 8(b) of the Federal Deposit Insurance Act to provide that the appropriate
federal banking agency for an insured
depository institution may enforce written conditions imposed in connection
with "any action on any application,
notice, or other request" by the depository institution or an IAP. These changes
are designed to clarify and confirm the
agencies' ability to enforce conditions
imposed in connection with a notice filed
under the Change in Bank Control Act.
Board Approval of
OCC Removal Actions
The Regulatory Relief Act strikes the
provision in the FDI Act (see 12 USC
1818(e)(4)) that required the Board to
issue a final decision in any contested
administrative action by the OCC to
remove or prohibit an IAP of a national
bank. Thus, the OCC now has the same
authority as the Board, the FDIC, and
the OTS to independently remove or
146 93rd Annual Report, 2006
prohibit an IAP of an institution under
the agency's jurisdiction.
Consumer-Related Provisions
Public Welfare Investments by
National and State Banks
The Regulatory Relief Act makes several important modifications to the statutes that authorize national and state
member banks to make "public welfare"
investments. See 12 USC 24 (eleventh)
and 338a. First, it raises, from 10 percent of capital and surplus to 15 percent
of capital and surplus, the aggregate
amount of "public welfare" investments
that a national or state member bank
may make under these authorities.1 In
addition, the act refocuses these investments on low- and moderate-income
(LMI) families and communities by providing that to be considered a "public
welfare" investment, an investment must
primarily benefit LMI families or communities (such as by providing housing,
services, or jobs). The act also clarifies
that each "public welfare" investment
made by a national or state member
bank, either directly or through a subsidiary, must benefit primarily LMI communities or families.
Development of Model
Privacy Disclosure Forms
The Regulatory Relief Act requires the
Board, the other federal banking agencies, the National Credit Union Administration, the Secretary of the Treasury,
the Securities and Exchange Commission, and the Federal Trade Commission
to jointly develop a model form that
1. As under current law, a national or state
member bank would have to obtain the approval
of the OCC or the Board, respectively, to make
"public welfare" investments that, in the aggregate, exceed 5 percent of the bank's capital and
surplus.
may be used by financial institutions, at
their option, to fulfill the initial and
annual privacy policy disclosure requirements imposed by section 503 of
the Gramm-Leach-Bliley Act (12 USC
6803). The model form must be issued
in proposed form for public comment
within 180 days of enactment. The
Board has been working extensively
with the other relevant agencies and
conducting consumer testing to develop
potential model privacy forms that may
be used by financial institutions.
Studies and Reports
GAO Study of
Currency Transaction Reports
The Regulatory Relief Act directs the
Government Accountability Office
(GAO) to conduct a study of the volume
of currency transaction reports (CTRs)
filed with the Secretary of the Treasury
under the Bank Secrecy Act. The study
must evaluate, among other things,
(1) the extent to which depository institutions avail themselves of the current
exemption system for CTRs, (2) ways to
improve the current exemption system
for CTRs, and (3) the usefulness of
CTRs to law enforcement agencies. The
Regulatory Relief Act also provides that
the study should include recommendations for changes to the CTR exemption
system that would reduce burden without adversely affecting the reporting system's effectiveness. The GAO must submit a report on its findings to Congress
by January 13, 2007.
Unlawful Internet Gambling
Enforcement Act of 2006
The Unlawful Internet Gambling Enforcement Act of 2006, Pub. L. 109347, (codified at 31 USC 5361 et seq.)
prohibits a person engaged in the busi-
Federal Legislative Developments
147
ness of betting or wagering from know- jointly find that it is not reasonably pracingly accepting credit, electronic fund tical to identify and block, or otherwise
transfers, checks, drafts, or similar in- prevent or prohibit, such restricted transstruments drawn on or payable through actions. The regulations must be pubany financial institution in connection lished by July 10, 2007.
with the participation of another person
in unlawful Internet gambling ("reMilitary Personnel Financial
stricted transactions"). The act generally
Services Protection Act
defines "unlawful Internet gambling" as
transmitting a bet by any means that The National Defense Authorization Act
involves the use, at least in part, of the for Fiscal Year 2007, Pub. L. No. 109Internet and where such bet or wager is 364, enacted on September 30, 2006,
unlawful under any applicable federal or imposes restrictions on and disclosure
state law in the state or tribal lands in requirements for consumer credit prowhich the bet or wager is initiated, re- vided to members of the military and
ceived, or otherwise made.
their families. The act charges the DeThe act charges the Secretary of the partment of Defense (DOD) with definTreasury and the Board, in consultation ing "consumer credit" in its regulations
with the Attorney General, with devel- and permits the DOD to include all conoping regulations to require each pay- sumer credit apart from residential mortment system that the agencies determine gages, loans to fund the purchase of a
could be used to process restricted pay- motor vehicle, and other personal propments (as well as financial transaction erty loans when the property purchased
providers participating in such payment from the proceeds of the loan serves as
systems) to establish "policies and pro- collateral for the loan. Requirements for
cedures reasonably designed to identify creditors include a 36 percent annual
and block or otherwise prevent or pro- percentage rate (APR) cap, which
hibit the acceptance of restricted trans- includes all fees, along with APR calcuactions." In prescribing the regulations, lations and disclosures that differ from
the Secretary and the Board must iden- the APR used in disclosures under the
tify the types of policies and procedures, Truth in Lending Act (TILA). The act
including
nonexclusive
examples, mandates that all credit disclosures,
deemed by the agencies to be reason- including TILA disclosures, be provided
ably designed to identify and block re- both orally and in writing prior to the
stricted transactions. To the extent prac- extension of credit.
Moreover, the act imposes limitations
tical, any participant in a designated
payment system must be permitted to on lending to members of the military
choose among alternative means of and their dependents, such as prohibitcomplying, including by relying on and ing rollovers and refinancings of concomplying with the policies and proce- sumer credit by the same creditor, and
dures of the designated payment system, prohibiting loans with prepayment penso long as these policies and procedures alties and mandatory arbitration clauses.
comply with the regulation. The act also The act imposes criminal and monetary
requires the Secretary and the Board to penalties for knowing violations and
grant exemptions from any requirement voids contracts that are prohibited under
imposed under the regulations to par- the statute. The legislation was intended,
ticular types of transactions or desig- at least in part, to address concerns
nated payment systems if the agencies about payday loans, installment loans
148 93rd Annual Report, 2006
that are secured by a motor vehicle
(other than loans for the purchase of a
motor vehicle), and other forms of shortterm credit to military members and
their dependents. In prescribing regulations for this legislation, the DOD must
consult with the Board, among other
federal agencies. The effective date of
the act is October 1, 2007, regardless of
whether the DOD adopts regulations.
This statute would become effective earlier if interim regulations are issued by
the DOD.
Financial Netting Improvements
Act of 2006
In 2005, Congress passed comprehensive legislation to revise the federal
bankruptcy laws (Bankruptcy Abuse
Prevention and Consumer Protection
Act of 2005, Pub. L. 109-8). Title IX of
that act contained amendments to banking laws find the Bankruptcy Code to
provide increased certainty that netting
and close-out of financial market contracts would be enforceable, even in the
event of a counterparty insolvency. Title
IX also clarified certain duties and
obligations of the FDIC as receiver or
conservator of an insured depository
institution.
The Financial Netting Improvements
Act of 2006 (Pub. L. 109-390), enacted
on December 12, 2006, makes technical
changes to the netting and financial contract provisions that were added or revised by title IX of the 2005 act. The
2006 act updates the descriptions of
various financial contracts ("securities
contract," "forward contract," and
"swap agreement") in the Federal Deposit Insurance Act, the Federal Credit
Union Act (FCUA), and the Bankruptcy
Code to reflect current market and regulatory practice. The 2006 act also revises provisions in the Bankruptcy Code
to clarify the rights of certain counterparties to exercise self-help foreclosureon-collateral rights, setoff rights, and
netting rights with respect to financial
contracts with a debtor. These provisions conform the Bankruptcy Code
with parallel provisions in the FDI Act
and the FCUA. In addition, the 2006 act
amends the FDI Act and the FCUA to
clarify the conditions under which a receiver of an insolvent depository institution can enforce a financial contract that
contains a "walkaway" clause (a clause
that would otherwise allow a contract
participant to suspend, condition, or extinguish a payment obligation when the
other party becomes insolvent). The
2006 act also makes other technical and
conforming revisions to the FDI Act,
FCUA, Bankruptcy Code, Federal Deposit Insurance Corporation Improvement Act of 1991, and Securities Investor Protection Act of 1970.
•
Records
151
Record of Policy Actions
of the Board of Governors
Regulation D
Reserve Requirements
of Depository Institutions
[Docket No. R-1268]
On October 18, 2006, the Board approved amendments to reflect the annual
indexing of the low reserve tranche and
of the reserve requirement exemption
for use in 2007 reserve requirement calculations. The amendments decrease the
3 percent low reserve tranche for net
transaction accounts to $45.8 million
(from $48.3 million in 2006) and
increase the reserve requirement exemption to $8.5 million (from $7.8 million
in 2006).
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Warsh, Kroszner, and Mishkin. Absent
and not voting: Governor Bies.
Regulation E
Electronic Fund Transfers
[Docket No. R-1247]
On August 24, 2006, the Board approved amendments to Regulation E and
its official staff commentary to apply the
regulation to payroll card accounts
established to distribute employee
salaries, wages, or other compensation
NOTE: Full texts of the policy actions are available via the online version of the Annual Report,
from the "Reading Rooms" on the Board's FOIA
web page, and on request from the Board's Freedom of Information Office.
on a recurring basis. The amendments
also provide financial institutions with
an alternative to sending periodic statements for payroll card accounts if they
make account information available to
account holders by certain specified
means. The amendments are effective
July 1, 2007.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, and Kroszner.
[Docket No. R-1265]
On November 27, 2006, the Board approved amendments to Regulation E and
its official staff commentary to clarify
that the requirement to obtain consumer
authorization applies to any person who
intends to collect electronically a fee for
a check or other item that is returned
unpaid. The amendments also provide
guidance on the regulation's requirements concerning consumer notice when
a returned-item fee is collected electronically or a transaction involves an
electronic check conversion. The
amendments, which are based substantially on an interim final rule approved
on August 24, 2006, are effective January 1, 2007; compliance with certain
disclosure requirements for returneditem fees collected in connection with
point-of-sale transactions is delayed until January 1, 2008.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, and Kroszner. Absent and
not voting: Governor Mishkin.
152 93rd Annual Report, 2006
Regulation H
Membership of
State Banking Institutions
in the Federal Reserve System
Regulation O
Loans to Executive Officers,
Directors, and Principal
Shareholders of Member Banks
[Docket No. R-1271]
Regulation Y
Bank Holding Companies
and Change in Bank Control
[Docket No. R-1087]
On February 2, 2006, the Board, acting
with the other federal bank regulatory
agencies, approved amendments to the
agencies' market risk rules to reduce
the capital requirement for certain
securities-borrowing transactions collateralized with cash. The interagency rule,
which makes permanent and expands an
interim final rule approved in 2000, is
effective February 22, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Ferguson, and Governors
Bies, Olson, and Kohn.
On December 6, 2006, the Board approved an interim final rule, with request for comment, to implement section 601 of the Financial Services
Regulatory Relief Act of 2006 by eliminating certain reporting requirements
that have not contributed significantly to
effective monitoring or prevention of
insider lending abuse. The interim final
rule is effective December 11, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, Kroszner, and Mishkin.
Regulation Y
Bank Holding Companies
and Change in Bank Control
[Docket No. R-1235]
On February 22, 2006, the Board approved amendments to expand the applicability of its Small Bank Holding Company Policy Statement and related
[Docket No. R-1147]
exemptions from its consolidated capital
adequacy guidelines on risk-based and
On March 15, 2006, the Board approved leverage measures by increasing the
amendments requiring Edge Act and asset-size limitation specified in the polagreement corporations and the U.S. icy statement from $150 million to $500
branches, agencies, and representative million. The amended policy statement
offices of foreign banks supervised by does not apply, however, to bank holdthe Board to establish and maintain pro- ing companies with less than $500 milcedures that ensure and monitor compli- lion in assets that engage in significant
ance with the Bank Secrecy Act and nonbanking or off-balance-sheet activirelated regulations. The amendments are ties or have a material amount of debt or
effective April 19, 2006.
equity securities registered with the Securities and Exchange Commission. The
Votes for this action: Chairman Bernanke
and Governors Bies, Olson, Kohn, Warsh, amendments also clarify that subordiand Kroszner. Absent and not voting: Vice nated debt related to the issuance of
trust preferred securities generally
Chairman Ferguson.
Regulation K
International Banking Operations
Record of Policy Actions of the Board of Governors 153
would be treated as debt under the policy statement, subject to a five-year transition period. The amendments are effective March 30, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Ferguson, and Governors
Bies, Olson, and Kohn.
Regulation BB
Community Reinvestment
[Docket No. OP-1240]
On March 1, 2006, the Board, acting
with the other federal bank regulatory
agencies, approved guidance intended to
aid implementation of recent changes to
the agencies' regulations under the
Community Reinvestment Act (CRA).
The guidance discusses, among other
regulatory topics, (1) the criteria for determining if an area is distressed, is
underserved, or has suffered a disaster;
(2) the period of time that bank activities in those areas are eligible for consideration in a CRA evaluation; and (3) the
standards used by CRA examiners to
decide if such activities qualify as "community development." The guidance
also explains how the new community
development test for intermediate small
banks (banks with assets between
$250 million and $1 billion) will be
applied. The interagency guidance is effective March 10, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Ferguson, and Governors
Bies, Olson, Kohn, and Warsh.
Rules Regarding
Equal Opportunity
ment, to extend eligibility for access to
confidential supervisory information to
certain noncitizen employees. The interim rule is effective August 7, 2006,
and also applies to all grants of access
made as of that date.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, and Kroszner.
Policy Statements
and Other Actions
Interagency Advisory on the
Unsafe and Unsound Use of
Limitation of Liability Provisions
in External Audit
Engagement Letters
On January 30, 2006, the Board, acting
with the other federal financial regulatory agencies, approved an advisory to
address safety and soundness concerns
associated with agreements by financial
institutions that limit the liability of their
external auditors. The advisory applies
to provisions that (1) indemnify an external auditor against claims made by
third parties (including punitive damages); (2) hold harmless or release an
external auditor from liability for claims
or potential claims that might be asserted by the client financial institution;
or (3) limit the remedies available to the
client financial institution. Provisions
that waive the right of financial institutions to seek punitive damages against
their external auditors are not considered unsafe and unsound under the advisory. The interagency advisory is effective for engagement letters executed on
or after February 9, 2006.
[Docket No. OP-1264]
On August 1, 2006, the Board approved
an interim rule, with request for com
Votes for this action: Chairman Greenspan, Vice Chairman Ferguson, and Governors Bies, Olson, and Kohn.
154 93rd Annual Report, 2006
Federal Reserve
Currency Recirculation Policy
Guidance on Concentrations in
Commercial Real Estate Lending,
Sound Risk-Management Practices
[Docket No. OP-1164]
[Docket No. OP-1248]
On March 17, 2006, the Board revised
the Federal Reserve System's cash services policy, with the intention of
increasing the recirculation of fit currency by (1) initiating a custodial inventory program to encourage depository
institutions to hold $10 and $20 notes in
their vaults to meet customer demand
and (2) charging a fee to depository
institutions that deposit fit $10 or
$20 notes at a Reserve Bank and order
the same denominations, above a
de minimis amount, during the same
business week. The custodial inventory
program will begin in July 2006, and
fee assessments are expected to begin in
July 2007.
Votes for this action: Chairman Bernanke
and Governors Olson, Kohn, Warsh, and
Kroszner. Absent and not voting: Vice
Chairman Ferguson and Governor Bies.
Nontraditional Mortgage
Product Risks
[Docket No. OP-1246]
On September 27, 2006, the Board, acting with the other federal financial regulatory agencies, approved interagency
guidance on underwriting and managing
nontraditional mortgage products (loans
that allow borrowers to defer payment
of principal and in some cases interest)
in a safe and sound manner and on
clearly disclosing the potential risks of
those products.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, Kroszner, and Mishkin.
On December 6, 2006, the Board, acting
with the other federal bank regulatory
agencies, approved guidance intended to
reinforce sound risk-management practices for institutions that have high and
increasing concentrations of commercial
real estate loans on their balance sheets.
The guidance includes supervisory criteria to assist in identifying institutions
that have potentially significant concentrations. The interagency guidance is effective December 12, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, Kroszner, and Mishkin.
Interagency Statement on
Sound Practices concerning
Elevated Risk Complex Structured
Finance Activities
[Docket No. OP-1254]
On December 20, 2006, the Board, acting with the Securities and Exchange
Commission and the other federal bank
and thrift regulatory agencies, approved
a statement that describes internal controls and risk-management procedures
to assist financial institutions in identifying, managing, and addressing the
heightened legal and reputational risks
associated with certain complex
structured finance transactions. The
interagency statement is effective January 11, 2007.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Kroszner, and Mishkin. Absent and
not voting: Governor Warsh.
Record of Policy Actions of the Board of Governors 155
Discount Rates in 2006
Under the Federal Reserve Act, boards
of directors of the Federal Reserve
Banks must establish rates on loans to
depository institutions at least every
fourteen days, subject to review and determination by the Board of Governors.
Primary Credit
Primary credit is the Federal Reserve's
main lending program. Primary credit is
made available with minimal administration for very short terms as a backup
source of liquidity to depository institutions that, in the judgment of the lending
Federal Reserve Bank, are in generally
sound financial condition. Primary
credit is extended at a rate above the
federal funds rate target set by the Federal Open Market Committee (FOMC).
During 2006, the Board approved
four increases in the primary credit rate,
bringing the rate from 5lA percent to
6lA percent. The Board reached its determinations on the primary credit rate
recommendations of the Reserve Bank
boards of directors in conjunction with
the FOMC's decisions to raise the target
federal funds rate from 4V4 percent to
5VA percent and related economic and
financial developments. Rising energy
prices coupled with high levels of
resource utilization contributed to
heightened inflation pressures over the
first half of the year. Those pressures
receded over the second half of the year
as energy prices dropped and weakness
in the housing sector weighed on economic activity. In light of these conditions, the Federal Reserve raised the
structure of policy rates at a measured
pace in the first half of the year and kept
those rates unchanged for the remainder
of the year. Monetary policy developments are reviewed more fully in other
parts of this report (see the section
"Monetary Policy and Economic Developments" and the minutes of FOMC
meetings held in 2006).
Secondary and Seasonal Credit
Secondary credit is available in appropriate circumstances to depository institutions that do not qualify for primary
credit. The secondary credit rate is set at
a spread above the primary credit rate.
In 2006, the spread was set at 50 basis
points.
Seasonal credit is available to smaller
depository institutions to meet liquidity
needs that arise from regular swings in
their loans and deposits. The rate on
seasonal credit is calculated every two
weeks as an average of selected moneymarket yields, typically resulting in a
rate close to the federal funds rate target.
At year-end, the secondary and seasonal credit rates were 63A percent and
5.30 percent, respectively.
Votes on Discount Rate Changes
About every two weeks during 2006, the
Board approved proposals by the twelve
Reserve Banks to maintain the formulas
for computing the secondary and seasonal credit rates. Details on the four
actions by the Board to approve changes
in the primary credit rate are provided
below.
January 31, 2006. Effective this date,
the Board approved actions taken by the
directors of the Federal Reserve Banks
of Boston, New York, Philadelphia,
Cleveland, Richmond, Atlanta, Chicago,
Kansas City, Dallas, and San Francisco
to raise the rate on discounts and
advances under the primary credit program by lA percentage point, to 5Vi percent. The same increase was approved
for the Federal Reserve Bank of St.
Louis, effective February 1, 2006. The
156 93rd Annual Report, 2006
Board also approved an identical action
subsequently taken by the directors of
the Federal Reserve Bank of Minneapolis, effective February 2, 2006.
Votes for this action: Chairman Greenspan, Vice Chairman Ferguson, and Governors Bies, Olson, and Kohn. Votes
against this action: None.
March 28, 2006. Effective this date, the
Board approved actions taken by the
directors of the Federal Reserve Banks
of Boston, New York, Philadelphia,
Cleveland, Richmond, Atlanta, Chicago,
Minneapolis, Dallas, and San Francisco
to raise the rate on discounts and
advances under the primary credit program by lA percentage point, to 53/4 percent. The same increase was approved
for the Federal Reserve Bank of St.
Louis, effective March 29, 2006. The
Board also approved an identical action
subsequently taken by the directors of
the Federal Reserve Bank of Kansas
City, effective March 30, 2006.
Votes for this action: Chairman Bernanke
and Governors Bies, Olson, Kohn, Warsh,
and Kroszner. Votes against this action:
None.
May 10, 2006. Effective this date, the
Board approved actions taken by the
directors of the Federal Reserve Banks
of Boston, New York, Philadelphia,
Cleveland, Richmond, Atlanta, Chicago,
Minneapolis, Dallas, and San Francisco
to raise the rate on discounts and
advances under the primary credit program by VA percentage point, to 6 percent. The same increase was approved
for the Federal Reserve Bank of St.
Louis, effective May 11, 2006. The
Board also approved an identical action
subsequently taken by the directors of
the Federal Reserve Bank of Kansas
City, effective May 11, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Ferguson, and Governors
Bies, Olson, Kohn, Warsh, and Kroszner.
Votes against this action: None.
June 29, 2006. Effective this date, the
Board approved actions taken by the
directors of the Federal Reserve Banks
of Boston, New York, Philadelphia,
Cleveland, Richmond, Atlanta, Chicago,
Minneapolis, and Dallas to raise the rate
on discounts and advances under the
primary credit program by lA percentage
point, to 6lA percent. The same increase
was approved for the Federal Reserve
Bank of St. Louis, effective June 30,
2006. The Board also approved identical
actions subsequently taken by the directors of the Federal Reserve Banks of
San Francisco, effective June 29, 2006,
and Kansas City, effective July 6, 2006.
Votes for this action: Chairman Bernanke,
Vice Chairman Kohn, and Governors
Bies, Warsh, and Kroszner. Votes against
this action: None.
•
157
Minutes of Federal Open Market
Committee Meetings
The policy actions of the Federal Open
Market Committee, contained in the
minutes of its meetings, are presented in
the Annual Report of the Board of Governors pursuant to the requirements of
section 10 of the Federal Reserve Act.
That section provides that the Board
shall keep a complete record of the
actions taken by the Board and by the
Federal Open Market Committee on all
questions of policy relating to open market operations, that it shall record therein
the votes taken in connection with the
determination of open market policies
and the reasons underlying each policy
action, and that it shall include in its
annual report to Congress a full account
of such actions.
The minutes of the meetings contain
the votes on the policy decisions made
at those meetings as well as a summary
of the information and discussions that
led to the decisions. The descriptions of
economic and financial conditions are
based solely on the information that was
available to the Committee at the time
of the meetings.
Members of the Committee voting for
a particular action may differ among
themselves as to the reasons for their
votes; in such cases, the range of their
views is noted in the minutes. When
members dissent from a decision, they
are identified in the minutes and a summary of the reasons for their dissent is
provided.
Policy directives of the Federal Open
Market Committee are issued to the
Federal Reserve Bank of New York as
the Bank selected by the Committee to
execute transactions for the System
Open Market Account. In the area of
domestic open market operations, the
Federal Reserve Bank of New York
operates under instructions from the
Federal Open Market Committee that
take the form of an Authorization for
Domestic Open Market Operations and
a Domestic Policy Directive. (A new
Domestic Policy Directive is adopted at
each regularly scheduled meeting.) In
the foreign currency area, the Federal
Reserve Bank of New York operates
under an Authorization for Foreign Currency Operations, a Foreign Currency
Directive, and Procedural Instructions
with Respect to Foreign Currency Operations. These policy instruments are
shown below in the form in which they
were in effect at the beginning of 2006.
Changes in the instruments during the
year are reported in the minutes for the
individual meetings.
Authorization for Domestic
Open Market Operations
In Effect January 1, 2006
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, to the extent necessary to carry out the most recent domestic
policy directive adopted at a meeting of the
Committee:
(a) To buy or sell U.S. Government
securities, including securities of the Federal
Financing Bank, and securities that are direct
obligations of, or fully guaranteed as to
principal and interest by, any agency of the
United States in the open market, from or to
securities dealers and foreign and international accounts maintained at the Federal
Reserve Bank of New York, on a cash, regu-
158 93rd Annual Report, 2006
lar, or deferred delivery basis, for the System
Open Market Account at market prices, and,
for such Account, to exchange maturing
U.S. Government and Federal agency securities with the Treasury or the individual agencies or to allow them to mature without
replacement.
(b) To buy U.S. Government securities,
obligations that are direct obligations of,
or fully guaranteed as to principal and interest by, any agency of the United States, from
dealers for the account of the Federal
Reserve Bank of New York under agreements for repurchase of such securities or
obligations in 65 business days or less, at
rates that, unless otherwise expressly authorized by the Committee, shall be determined
by competitive bidding, after applying reasonable limitations on the volume of agreements with individual dealers; provided that
in the event Government securities or agency
issues covered by any such agreement are
not repurchased by the dealer pursuant to the
agreement or a renewal thereof, they shall be
sold in the market or transferred to the System Open Market Account.
(c) To sell U.S. Government securities
and obligations that are direct obligations of,
or fully guaranteed as to principal and interest by, any agency of the United States to
dealers for System Open Market Account
under agreements for the resale by dealers
of such securities or obligations in 65 business days or less, at rates that, unless
otherwise expressly authorized by the Committee, shall be determined by competitive
bidding, after applying reasonable limitations on the volume of agreements with
individual dealers.
2. In order to ensure the effective conduct
of open market operations, the Federal Open
Market Committee authorizes the Federal
Reserve Bank of New York to lend on an
overnight basis U.S. Government securities
held in the System Open Market Account to
dealers at rates that shall be determined by
competitive bidding. The Federal Reserve
Bank of New York shall set a minimum
lending fee consistent with the objectives of
the program and apply reasonable limitations
on the total amount of a specific issue that
may be auctioned and on the amount of
securities that each dealer may borrow. The
Federal Reserve Bank of New York may
reject bids which could facilitate a dealer's
ability to control a single issue as determined solely by the Federal Reserve Bank of
New York.
3. In order to ensure the effective conduct
of open market operations, while assisting in
the provision of short-term investments for
foreign and international accounts maintained at the Federal Reserve Bank of New
York and accounts maintained at the Federal
Reserve Bank of New York as fiscal agent
of the United States pursuant to Section 15
of the Federal Reserve Act, the Federal Open
Market Committee authorizes and directs the
Federal Reserve Bank of New York (a) for
System Open Market Account, to sell U.S.
Government securities to such accounts on
the bases set forth in paragraph l(a) under
agreements providing for the resale by such
accounts of those securities in 65 business
days or less on terms comparable to those
available on such transactions in the market;
and (b) for New York Bank account, when
appropriate, to undertake with dealers, subject to the conditions imposed on purchases
and sales of securities in paragraph l(b),
repurchase agreements in U.S. Government
and agency securities, and to arrange corresponding sale and repurchase agreements
between its own account and such foreign,
international, and fiscal agency accounts
maintained at the Bank. Transactions undertaken with such accounts under the provisions of this paragraph may provide for a
service fee when appropriate.
4. In the execution of the Committee's
decision regarding policy during any intermeeting period, the Committee authorizes
and directs the Federal Reserve Bank of
New York, upon the instruction of the Chairman of the Committee, to adjust somewhat
in exceptional circumstances the degree of
pressure on reserve positions and hence the
intended federal funds rate. Any such adjustment shall be made in the context of the
Committee's discussion and decision at its
most recent meeting and the Committee's
long-run objectives for price stability and
sustainable economic growth, and shall be
based on economic, financial, and monetary developments during the intermeeting
period. Consistent with Committee practice, the Chairman, if feasible, will consult
with the Committee before making any
adjustment.
Minutes of FOMC Meetings
Domestic Policy Directive
In Effect January 1, 20061
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with increasing the
federal funds rate to an average of around
4V* percent.
Authorization for
Foreign Currency Operations
In Effect January 1, 2006
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, for System Open Market
Account, to the extent necessary to carry out
the Committee's foreign currency directive
and express authorizations by the Committee pursuant thereto, and in conformity with
such procedural instructions as the Committee may issue from time to time:
A. To purchase and sell the following
foreign currencies in the form of cable transfers through spot or forward transactions on
the open market at home and abroad, including transactions with the U.S. Treasury, with
the U.S. Exchange Stabilization Fund established by Section 10 of the Gold Reserve
Act of 1934, with foreign monetary authorities, with the Bank for International Settlements, and with other international financial
institutions:
Canadian dollars
Danish kroner
Euro
Pounds sterling
Japanese yen
Mexican pesos
Norwegian kroner
Swedish kronor
Swiss francs
B. To hold balances of, and to have
outstanding forward contracts to receive or
to deliver, the foreign currencies listed in
paragraph A above.
C. To draw foreign currencies and to
permit foreign banks to draw dollars under
the reciprocal currency arrangements listed
in paragraph 2 below, provided that drawings by either party to any such arrangement
1. Adopted by the Committee at its meeting
on December 13, 2005.
159
shall be fully liquidated within 12 months
after any amount outstanding at that time
was first drawn, unless the Committee,
because of exceptional circumstances, specifically authorizes a delay.
D. To maintain an overall open position in all foreign currencies not exceeding
$25.0 billion. For this purpose, the overall
open position in all foreign currencies is
defined as the sum (disregarding signs) of
net positions in individual currencies. The
net position in a single foreign currency is
defined as holdings of balances in that currency, plus outstanding contracts for future
receipt, minus outstanding contracts for
future delivery of that currency, i.e., as the
sum of these elements with due regard to
sign.
2. The Federal Open Market Committee directs the Federal Reserve Bank of
New York to maintain reciprocal currency
arrangements ("swap" arrangements) for the
System Open Market Account for periods up
to a maximum of 12 months with the following foreign banks, which are among those
designated by the Board of Governors of the
Federal Reserve System under Section 214.5
of Regulation N, Relations with Foreign
Banks and Bankers, and with the approval of
the Committee to renew such arrangements
on maturity:
Foreign bank
Bank of Canada .
Bank of Mexico
Amount
of arrangement
(millions of
dollars equivalent)
2,000
. 3,000
Any changes in the terms of existing swap
arrangements, and the proposed terms of any
new arrangements that may be authorized,
shall be referred for review and approval to
the Committee.
3. All transactions in foreign currencies
undertaken under paragraph LA. above
shall, unless otherwise expressly authorized
by the Committee, be at prevailing market
rates. For the purpose of providing an investment return on System holdings of foreign
currencies or for the purpose of adjusting
interest rates paid or received in connection
with swap drawings, transactions with foreign central banks may be undertaken at
non-market exchange rates.
160 93rd Annual Report, 2006
4. It shall be the normal practice to
arrange with foreign central banks for the
coordination of foreign currency transactions. In making operating arrangements
with foreign central banks on System holdings of foreign currencies, the Federal
Reserve Bank of New York shall not commit
itself to maintain any specific balance, unless authorized by the Federal Open Market
Committee. Any agreements or understandings concerning the administration of the
accounts maintained by the Federal Reserve
Bank of New York with the foreign banks
designated by the Board of Governors under
Section 214.5 of Regulation N shall be
referred for review and approval to the
Committee.
5. Foreign currency holdings shall be invested to ensure that adequate liquidity is
maintained to meet anticipated needs and so
that each currency portfolio shall generally
have an average duration of no more than
18 months (calculated as Macaulay duration). When appropriate in connection with
arrangements to provide investment facilities
for foreign currency holdings, U.S. Government securities may be purchased from foreign central banks under agreements for
repurchase of such securities within 30 calendar days.
6. All operations undertaken pursuant to
the preceding paragraphs shall be reported
promptly to the Foreign Currency Subcommittee and the Committee. The Foreign
Currency Subcommittee consists of the
Chairman and Vice Chairman of the Committee, the Vice Chairman of the Board of
Governors, and such other member of the
Board as the Chairman may designate (or in
the absence of members of the Board serving
on the Subcommittee, other Board members
designated by the Chairman as alternates,
and in the absence of the Vice Chairman of
the Committee, his alternate). Meetings of
the Subcommittee shall be called at the
request of any member, or at the request of
the Manager, System Open Market Account
("Manager")* for the purposes of reviewing
recent or contemplated operations and of
consulting with the Manager on other matters relating to his responsibilities. At the
request of any member of the Subcommittee,
questions arising from such reviews and consultations shall be referred for determination
to the Federal Open Market Committee.
7. The Chairman is authorized:
A. With the approval of the Committee, to enter into any needed agreement or
understanding with the Secretary of the Treasury about the division of responsibility for
foreign currency operations between the System and the Treasury;
B. To keep the Secretary of the Treasury fully advised concerning System foreign currency operations, and to consult with
the Secretary on policy matters relating to
foreign currency operations;
C. From time to time, to transmit
appropriate reports and information to the
National Advisory Council on International
Monetary and Financial Policies.
8. Staff officers of the Committee are authorized to transmit pertinent information on
System foreign currency operations to appropriate officials of the Treasury Department.
9. All Federal Reserve Banks shall participate in the foreign currency operations
for System Account in accordance with paragraph 3G(1) of the Board of Governors'
Statement of Procedure with Respect to Foreign Relationships of Federal Reserve Banks
dated January 1, 1944.
Foreign Currency Directive
In Effect January 1, 2006
1. System operations in foreign currencies shall generally be directed at countering
disorderly market conditions, provided that
market exchange rates for the U.S. dollar
reflect actions and behavior consistent with
IMF Article IV, Section 1.
2. To achieve this end the System shall:
A. Undertake spot and forward purchases and sales of foreign exchange.
B. Maintain
reciprocal
currency
("swap") arrangements with selected foreign
central banks.
C. Cooperate in other respects with
central banks of other countries and with
international monetary institutions.
3. Transactions may also be undertaken:
A. To adjust System balances in light
of probable future needs for currencies.
B. To provide means for meeting System and Treasury commitments in particular
Minutes of FOMC Meetings, January 161
currencies, and to facilitate operations of the
Exchange Stabilization Fund.
C. For such other purposes as may be
expressly authorized by the Committee.
4. System foreign currency operations
shall be conducted:
A. In close and continuous consultation and cooperation with the United States
Treasury;
B. In cooperation, as appropriate, with
foreign monetary authorities; and
C. In a manner consistent with the obligations of the United States in the International Monetary Fund regarding exchange
arrangements under IMF Article IV.
Procedural Instructions
with Respect to
Foreign Currency Operations
In Effect January 1, 2006
In conducting operations pursuant to the
authorization and direction of the Federal
Open Market Committee as set forth in the
Authorization for Foreign Currency Operations and the Foreign Currency Directive,
the Federal Reserve Bank of New York,
through the Manager, System Open Market
Account ("Manager"), shall be guided by the
following procedural understandings with respect to consultations and clearances with
the Committee, the Foreign Currency Subcommittee, and the Chairman of the Committee. All operations undertaken pursuant to such clearances shall be reported
promptly to the Committee.
currency by the System, even though the
change in the System's net position in that
currency might be less than the limits specified in l.B.
D. Any swap drawing proposed by a
foreign bank not exceeding the larger of
(i) $200 million or (ii) 15 percent of the size
of the swap arrangement.
2. The Manager shall clear with the Committee (or with the Subcommittee, if the
Subcommittee believes that consultation
with the full Committee is not feasible in the
time available, or with the Chairman, if the
Chairman believes that consultation with
the Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $1.5 billion
since the most recent regular meeting of the
Committee.
B. Any swap drawing proposed by
a foreign bank exceeding the larger of
(i) $200 million or (ii) 15 percent of the
size of the swap arrangement.
3. The Manager shall also consult with
the Subcommittee or the Chairman about
proposed swap drawings by the System and
about any operations that are not of a routine
character.
Meeting Held on
January 31, 2006
A meeting of the Federal Open Market
1. The Manager shall clear with the Sub- Committee was held in the offices of the
committee (or with the Chairman, if the Board of Governors of the Federal
Chairman believes that consultation with the Reserve System in Washington, D.C.,
Subcommittee is not feasible in the time on Tuesday, January 31, 2006 at 9:00
available):
a.m.
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $300 million Present:
on any day or $600 million since the most
Mr. Greenspan, Chairman
recent regular meeting of the Committee.
Mr. Geithner, Vice Chairman
B. Any operation that would result in a
Ms. Bies
change on any day in the System's net posiMr. Ferguson
tion in a single foreign currency exceeding
Mr. Guynn
$150 million, or $300 million when the
Mr. Kohn
operation is associated with repayment of
Mr. Lacker
swap drawings.
Mr. Olson
C. Any operation that might generate a
Ms. Pianalto
substantial volume of trading in a particular
Ms. Yellen
162 93rd Annual Report, 2006
Mses. dimming and Minehan, Messrs.
Moskow, Poole, and Hoenig, Alternate Members of the Federal
Open Market Committee
Messrs. Fisher, Stern, and Santomero,
Presidents of the Federal Reserve
Banks of Dallas, Minneapolis, and
Philadelphia, respectively
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Mr. Baxter, Deputy General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Judd, Kamin, Madigan, Sniderman, Struckmeyer, and Wilcox, Associate
Economists
Mr. Kos, Manager, System Open Market Account
Messrs. Oliner and Slifman, Associate
Directors, Division of Research
and Statistics, Board of Governors
Mr. Whitesell, Deputy Associate Director, Division of Monetary Affairs,
Board of Governors
Messrs. English and Sheets, Assistant
Directors, Division of Monetary
Affairs and International Finance,
respectively, Board of Governors
Mr. Simpson, Senior Adviser, Division
of Research and Statistics, Board
of Governors
Mr. Small, Project Manager, Division
of Monetary Affairs, Board of
Governors
Mr. Chaboud and Mses. Kusko and
Weinbach, Senior Economists, Divisions of International Finance,
Research and Statistics, and Monetary Affairs, respectively, Board of
Governors
Ms. Roush, Economist, Division of
Monetary Affairs, Board of
Governors
Mr. Luecke, Senior Financial Analyst,
Division of Monetary Affairs,
Board of Governors
Ms. Low, Open Market Secretariat Specialist, Division of Monetary
Affairs, Board of Governors
Mr. Stone, First Vice President, Federal
Reserve Bank of Philadelphia
Messrs. Fuhrer and Rosenblum, Executive Vice Presidents, Federal
Reserve Banks of Boston and Dallas, respectively
Messrs. Evans and Hakkio, Mses.
Mester and Perelmuter, and
Messrs. Rasche, Rolnick, and
Steindel, Senior Vice Presidents,
Federal Reserve Banks of Chicago,
Kansas City, Philadelphia, New
York, St. Louis, Minneapolis, and
New York, respectively
Mr. Hetzel, Senior Economist, Federal
Reserve Bank of Richmond
In the agenda for this meeting, it was
reported that advices of the election of
the following members and alternate
members of the Federal Open Market
Committee for a term beginning January
31, 2006 had been received and that
these individuals had executed their
oaths of office.
The elected members and alternate
members were as follows:
Timothy F. Geithner, President of the Federal Reserve Bank of New York, with
Christine M. Cumming, First Vice
President, Federal Reserve Bank of
New York as alternate.
Jeffrey M. Lacker, President of the Federal
Reserve Bank of Richmond, with Cathy
E. Minehan, President of the Federal
Reserve Bank of Boston as alternate.
Sandra Pianalto, President of the Federal
Reserve Bank of Cleveland, with
Michael H. Moskow, President of the
Federal Reserve Bank of Chicago as
alternate.
Jack Guynn, President of the Federal
Reserve Bank of Atlanta, with William
Poole, President of the Federal Reserve
Bank of St. Louis as alternate.
Minutes of FOMC Meetings\ January
Janet L. Yellen, President of the Federal
Reserve Bank of San Francisco, with
Thomas M. Hoenig, President of the
Federal Reserve Bank of Kansas City as
alternate.
By unanimous vote, the following
officers of the Federal Open Market
Committee were selected to serve until
the selection of their successors at the
first regularly scheduled meeting of the
Committee in 2007, with the understanding that in the event of the discontinuance of their official connection with
the Board of Governors or with a Federal Reserve Bank, they would cease to
have any official connection with the
Federal Open Market Committee:
Chairman2
Vice Chairman
Secretary and
Economist
Deborah J. Danker
Deputy Secretary
David W. Skidmore
Assistant Secretary
Michelle A. Smith
Assistant Secretary
Scott G. Alvarez
General Counsel
Thomas C. Baxter, Jr. Deputy General
Counsel
Economist
Karen H. Johnson
David J. Stockton
Economist
Thomas A. Connors, Robert A. Eisenbeis,
John P. Judd, Steven B. Kamin, Brian F.
Madigan, Mark S. Sniderman, Charles
S. Struckmeyer, Joseph S. Tracy, John
A. Weinberg, and David W. Wilcox,
Associate Economists
Alan Greenspan
Timothy F. Geithner
Vincent R. Reinhart
In addition, it was agreed that the
Committee would conduct a notation
vote upon the swearing in of a new
Chairman of the Board of Governors to
elect Alan Greenspan's successor as
Chairman of the Committee.3
By unanimous vote, Deborah J.
Danker, or her successor as Deputy Secretary, was elected to serve as Chief
2. Alan Greenspan was elected to serve for the
remainder of the day.
3. Secretary's note: By notation vote completed
on February 1, 2006 the Committee unanimously
approved the election of Ben S. Bernanke as
Chairman of the Federal Open Market Committee.
163
Freedom of Information Act Officer to
comply with an Executive Order issued
on December 14, 2005 that requires federal agencies to take certain actions relating to FOIA activities.
By unanimous vote, the Committee
amended its Program for Security of
FOMC Information, primarily to reflect
incorporation of the Board's new rules
on access to confidential information by
non-citizens.
By unanimous vote, the Federal
Reserve Bank of New York was selected
to execute transactions for the System
Open Market.
By unanimous vote, Dino Kos was
selected to serve at the pleasure of the
Committee as Manager, System Open
Market Account, on the understanding
that his selection was subject to being
satisfactory to the Federal Reserve Bank
of New York.4
By unanimous vote, the Authorization for Domestic Open Market Operations was reaffirmed in the form shown
below.
Authorization for Domestic Open
Market Operations
(Reaffirmed January 31, 2006)
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, to the extent necessary
to carry out the most recent domestic policy
directive adopted at a meeting of the
Committee:
(a) To buy or sell U.S. Government
securities, including securities of the Federal
Financing Bank, and securities that are direct
obligations of, or fully guaranteed as to
principal and interest by, any agency of the
United States in the open market, from or to
securities dealers and foreign and international accounts maintained at the Federal
Reserve Bank of New York, on a cash,
regular, or deferred delivery basis, for the
4. Secretary's note: Advice subsequently was
received that the selection of Mr. Kos as Manager
was satisfactory to the board of directors of the
Federal Reserve Bank of New York.
164 93rd Annual Report, 2006
System Open Market Account at market
prices, and, for such Account, to exchange
maturing U.S. Government and Federal
agency securities with the Treasury or the
individual agencies or to allow them to mature without replacement;
(b) To buy U.S. Government securities,
obligations that are direct obligations of, or
fully guaranteed as to principal and interest
by, any agency of the United States, from
dealers for the account of the Federal Reserve Bank of New York under agreements
for repurchase of such securities or obligations in 65 business days or less, at rates that,
unless otherwise expressly authorized by the
Committee, shall be determined by competitive bidding, after applying reasonable limitations on the volume of agreements with
individual dealers; provided that in the event
Government securities or agency issues covered by any such agreement are not repurchased by the dealer pursuant to the agreement or a renewal thereof, they shall be sold
in the market or transferred to the System
Open Market Account.
(c) To sell U.S. Government securities
and obligations that are direct obligations of,
or fully guaranteed as to principal and interest by, any agency of the United States to
dealers for System Open Market Account
under agreements for the resale by dealers of
such securities or obligations in 65 business
days or less, at rates that, unless otherwise
expressly authorized by the Committee, shall
be determined by competitive bidding, after
applying reasonable limitations on the volume of agreements with individual dealers.
2. In order to ensure the effective conduct
of open market operations, the Federal Open
Market Committee authorizes the Federal
Reserve Bank of New York to lend on an
overnight basis U.S. Government securities
held in the System Open Market Account to
dealers at rates that shall be determined by
competitive bidding. The Federal Reserve
Bank of New York shall set a minimum
lending fee consistent with the objectives of
the program and apply reasonable limitations
on the total amount of a specific issue that
may be auctioned and on the amount of
securities that each dealer may borrow. The
Federal Reserve Bank of New York may
reject bids which could facilitate a dealer's
ability to control a single issue as determined
solely by the Federal Reserve Bank of New
York.
3. In order to ensure the effective conduct
of open market operations, while assisting in
the provision of short-term investments for
foreign and international accounts maintained at the Federal Reserve Bank of New
York and accounts maintained at the Federal
Reserve Bank of New York as fiscal agent of
the United States pursuant to Section 15 of
the Federal Reserve Act, the Federal Open
Market Committee authorizes and directs the
Federal Reserve Bank of New York (a) for
System Open Market Account, to sell U.S.
Government securities to such accounts on
the bases set forth in paragraph l(a) under
agreements providing for the resale by such
accounts of those securities in 65 business
days or less on terms comparable to those
available on such transactions in the market;
and (b) for New York Bank account, when
appropriate, to undertake with dealers, subject to the conditions imposed on purchases
and sales of securities in paragraph l(b),
repurchase agreements in U.S. Government
and agency securities, and to arrange corresponding sale and repurchase agreements between its own account and such foreign,
international, and fiscal agency accounts
maintained at the Bank. Transactions undertaken with such accounts under the provisions of this paragraph may provide for a
service fee when appropriate.
4. In the execution of the Committee's
decision regarding policy during any intermeeting period, the Committee authorizes
and directs the Federal Reserve Bank of
New York, upon the instruction of the Chairman of the Committee, to adjust somewhat
in exceptional circumstances the degree of
pressure on reserve positions and hence the
intended federal funds rate. Any such adjustment shall be made in the context of the
Committee's discussion and decision at its
most recent meeting and the Committee's
long-run objectives for price stability and
sustainable economic growth, and shall be
based on economic, financial, and monetary
developments during the intermeeting
period. Consistent with Committee practice,
the Chairman, if feasible, will consult with
the Committee before making any
adjustment.
With Mr. Lacker dissenting, the Committee approved the Authorization for
Foreign Currency Operations with an
Minutes of FOMC Meetings, January 165
amendment to paragraph 5 which clarifies the language about permissible
investment activities for the foreign
portfolio and brings that language into
alignment with that present in the authorization for the domestic portfolio. Accordingly, the Authorization for Foreign
Currency Operations was adopted, effective January 31, 2006, as shown below.
Authorization for
Foreign Currency Operations
(Amended January 31, 2006)
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, for System Open Market
Account, to the extent necessary to carry out
the Committee's foreign currency directive
and express authorizations by the Committee
pursuant thereto, and in conformity with
such procedural instructions as the Committee may issue from time to time:
A. To purchase and sell the following
foreign currencies in the form of cable transfers through spot or forward transactions on
the open market at home and abroad, including transactions with the U.S. Treasury, with
the U.S. Exchange Stabilization Fund established by Section 10 of the Gold Reserve Act
of 1934, with foreign monetary authorities, with
the Bank for International Settlements, and
with other international financial institutions:
Canadian dollars
Danish kroner
Euro
Pounds sterling
Japanese yen
Mexican pesos
Norwegian kroner
Swedish kronor
Swiss francs
B. To hold balances of, and to have
outstanding forward contracts to receive or
to deliver, the foreign currencies listed in
paragraph A above.
C. To draw foreign currencies and to
permit foreign banks to draw dollars under
the reciprocal currency arrangements listed
in paragraph 2 below, provided that drawings by either party to any such arrangement
shall be fully liquidated within 12 months
after any amount outstanding at that time
was first drawn, unless the Committee, because of exceptional circumstances, specifically authorizes a delay.
D. To maintain an overall open position
in all foreign currencies not exceeding $25.0
billion. For this purpose, the overall open
position in all foreign currencies is defined
as the sum (disregarding signs) of net positions in individual currencies. The net position in a single foreign currency is defined as
holdings of balances in that currency, plus
outstanding contracts for future receipt, minus outstanding contracts for future delivery
of that currency, i.e., as the sum of these
elements with due regard to sign.
2. The Federal Open Market Committee
directs the Federal Reserve Bank of New
York to maintain reciprocal currency arrangements ("swap" arrangements) for the
System Open Market Account for periods up
to a maximum of 12 months with the following foreign banks, which are among those
designated by the Board of Governors of the
Federal Reserve System under Section 214.5
of Regulation N, Relations with Foreign
Banks and Bankers, and with the approval of
the Committee to renew such arrangements
on maturity:
Foreign bank
Bank of Canada
Bank of Mexico
Amount of
arrangement
(millions of
dollars equivalent)
2,000
3,000
Any changes in the terms of existing swap
arrangements, and the proposed terms of any
new arrangements that may be authorized,
shall be referred for review and approval to
the Committee.
3. All transactions in foreign currencies
undertaken under paragraph I.A. above
shall, unless otherwise expressly authorized
by the Committee, be at prevailing market
rates. For the purpose of providing an investment return on System holdings of foreign
currencies or for the purpose of adjusting
interest rates paid or received in connection
with swap drawings, transactions with foreign central banks may be undertaken at
non-market exchange rates.
4. It shall be the normal practice to arrange with foreign central banks for the coordination of foreign currency transactions.
In making operating arrangements with foreign central banks on System holdings of
foreign currencies, the Federal Reserve Bank
of New York shall not commit itself to maintain any specific balance, unless authorized
by the Federal Open Market Committee. Any
166 93rd Annual Report, 2006
agreements or understandings concerning the
administration of the accounts maintained by
the Federal Reserve Bank of New York with
the foreign banks designated by the Board of
Governors under Section 214.5 of Regulation N shall be referred for review and approval to the Committee.
5. Foreign currency holdings shall be
invested to ensure that adequate liquidity is
maintained to meet anticipated needs and so
that each currency portfolio shall generally
have an average duration of no more than
18 months (calculated as Macaulay duration). Such investments may include buying
or selling outright obligations of, or fully
guaranteed as to principal and interest by, a
foreign government or agency thereof; buying such securities under agreements for
repurchase of such securities; selling such
securities under agreements for the resale of
such securities; and holding various time
and other deposit accounts at foreign institutions. In addition, when appropriate in
connection with arrangements to provide
investment facilities for foreign currency
holdings, U.S. Government securities may
be purchased from foreign central banks
under agreements for repurchase of such
securities within 30 calendar days.
6. All operations undertaken pursuant to
the preceding paragraphs shall be reported
promptly to the Foreign Currency Subcommittee and the Committee. The Foreign Currency Subcommittee consists of the Chairman and Vice Chairman of the Committee,
the Vice Chairman of the Board of Governors, and such other member of the Board as
the Chairman may designate (or in the absence of members of the Board serving on
the Subcommittee, other Board members
designated by the Chairman as alternates,
and in the absence of the Vice Chairman of
the Committee, his alternate). Meetings of
the Subcommittee shall be called at the request of any member, or at the request of the
Manager, System Open Market Account
("Manager"), for the purposes of reviewing
recent or contemplated operations and of
consulting with the Manager on other matters relating to his responsibilities. At the
request of any member of the Subcommittee,
questions arising from such reviews and consultations shall be referred for determination
to the Federal Open Market Committee.
7. The Chairman is authorized:
A. With the approval of the Committee,
to enter into any needed agreement or understanding with the Secretary of the Treasury
about the division of responsibility for foreign currency operations between the System and the Treasury;
B. To keep the Secretary of the Treasury fully advised concerning System foreign currency operations, and to consult with
the Secretary on policy matters relating to
foreign currency operations;
C. From time to time, to transmit appropriate reports and information to the National Advisory Council on International
Monetary and Financial Policies.
8. Staff officers of the Committee are authorized to transmit pertinent information on
System foreign currency operations to
appropriate officials of the Treasury
Department.
9. All Federal Reserve Banks shall participate in the foreign currency operations for
System Account in accordance with paragraph 3G(1) of the Board of Governors'
Statement of Procedure with Respect to Foreign Relationships of Federal Reserve Banks
dated January 1, 1944.
With Mr. Lacker dissenting, the Foreign Currency Directive was reaffirmed
in the form shown below.
Foreign Currency Directive
(Reaffirmed January 31, 2006)
1. System operations in foreign currencies
shall generally be directed at countering disorderly market conditions, provided that
market exchange rates for the U.S. dollar
reflect actions and behavior consistent with
IMF Article IV, Section 1.
2. To achieve this end the System shall:
A. Undertake spot and forward purchases and sales of foreign exchange.
B. Maintain
reciprocal
currency
("swap") arrangements with selected foreign
central banks.
C. Cooperate in other respects with
central banks of other countries and with
international monetary institutions.
3. Transactions may also be undertaken:
A. To adjust System balances in light
of probable future needs for currencies.
Minutes of FOMC Meetings, January
B. To provide means for meeting System and Treasury commitments in particular
currencies, and to facilitate operations of the
Exchange Stabilization Fund.
C. For such other purposes as may be
expressly authorized by the Committee.
4. System foreign currency operations
shall be conducted:
A. In close and continuous consultation
and cooperation with the United States
Treasury;
B. In cooperation, as appropriate, with
foreign monetary authorities; and
C. In a manner consistent with the obligations of the United States in the International Monetary Fund regarding exchange
arrangements under IMF Article IV.
Mr. Lacker dissented in the votes on
the Foreign Currency Directive and
Authorization for Foreign Currency
Operations to indicate his opposition to
foreign currency intervention by the
Federal Reserve. In his view, such
intervention would be ineffective if it
did not also signal a shift in domestic
monetary policy. And if it did signal
such a shift, it could potentially compromise the Federal Reserve's monetary
policy independence.
By unanimous vote, the Procedural
Instructions with Respect to Foreign
Currency Operations were reaffirmed in
the form shown below.
Procedural Instructions
with Respect to
Foreign Currency Operations
(Reaffirmed January 31, 2006)
In conducting operations pursuant to the
authorization and direction of the Federal
Open Market Committee as set forth in the
Authorization for Foreign Currency Operations and the Foreign Currency Directive,
the Federal Reserve Bank of New York,
through the Manager, System Open Market
Account ("Manager"), shall be guided by the
following procedural understandings with respect to consultations and clearances with
the Committee, the Foreign Currency Subcommittee, and the Chairman of the Com
167
mittee. All operations undertaken pursuant
to such clearances shall be reported promptly
to the Committee.
1. The Manager shall clear with the Subcommittee (or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $300 million
on any day or $600 million since the most
recent regular meeting of the Committee.
B. Any operation that would result in a
change on any day in the System's net position in a single foreign currency exceeding
$150 million, or $300 million when the operation is associated with repayment of swap
drawings.
C. Any operation that might generate a
substantial volume of trading in a particular
currency by the System, even though the
change in the System's net position in that
currency might be less than the limits specified in l.B.
D. Any swap drawing proposed by a
foreign bank not exceeding the larger of
(i) $200 million or (ii) 15 percent of the size
of the swap arrangement.
2. The Manager shall clear with the Committee (or with the Subcommittee, if the
Subcommittee believes that consultation
with the full Committee is not feasible in the
time available, or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $1.5 billion
since the most recent regular meeting of the
Committee.
B. Any swap drawing proposed by a
foreign bank exceeding the larger of (i) $200
million or (ii) 15 percent of the size of the
swap arrangement.
3. The Manager shall also consult with the
Subcommittee or the Chairman about proposed swap drawings by the System and
about any operations that are not of a routine
character.
Among the organizational matters
raised, the Committee indicated that it
intended to take up at a future meeting
168 93rd Annual Report, 2006
the relationship between its formal vote
and the policy statement issued after
each meeting.
The Manager of the System Open
Market Account reported on recent developments in foreign exchange markets. There were no open market operations in foreign currencies for the
System's account in the period since the
previous meeting. The Manager also reported on developments in domestic
financial markets and on System open
market transactions in government securities and federal agency obligations
during the period since the previous
meeting. By unanimous vote, the Committee ratified these transactions.
The information reviewed at this
meeting suggested that underlying
growth in aggregate demand remained
solid, even though the expansion of real
GDP was estimated to have slowed in
the fourth quarter. Household spending
rose smartly, outside of autos, and orders and shipments of nondefense capital goods in the business sector were
generally quite strong. Housing markets
showed some signs of cooling, but starts
and sales remained at high levels. Industrial production posted moderate gains,
even after excluding hurricane-related
rebounds in some production categories,
and private payrolls expanded at a firm
rate on average. Headline consumer inflation had been held down by falling
consumer energy prices; more recently,
however, crude oil prices climbed back
up to high levels. Meanwhile, core inflation had moved up a bit from low levels
seen last summer.
Labor demand expanded further in
the fourth quarter, as private nonfarm
payrolls showed large gains in November followed by more-modest gains in
December. The average increase over
those two months represented sturdy job
gains, even after accounting for the
likely catch-up in employment follow-
ing Hurricanes Katrina and Rita. Several
sectors, including manufacturing and
several service groups, added vigorously
to payrolls in December, but the total for
the month was held down by employment declines in a number of sectors,
such as retail trade and construction,
where seasonal adjustment can be difficult this time of year. Aggregate hours
fell slightly in December owing to a
decrease in the workweek, but they rose
over the fourth quarter as a whole. The
unemployment rate edged down to 4.9
percent in part due to the labor force
participation rate ticking down.
Industrial production rose notably in
November and December, boosted by
partial recovery from the effects of the
hurricanes. Production in the mining
industry, which includes oil and gas extraction, increased sharply. Utilities output also popped up in December as temperatures turned unseasonably cold in
the first half of the month. Abstracting
from the effects of these special factors,
underlying activity in the industrial sector advanced moderately. Modest production increases in most manufacturing
categories in December, including hightech, consumer goods, and business
equipment, outweighed production declines in the motor vehicles and parts
sector. The capacity utilization rate in
manufacturing stood a bit above its level
of one year ago and near its long-run
average.
Real personal consumption expenditures appeared to have increased only
modestly in the fourth quarter, as spending on motor vehicles was restrained
following a surge in the summer in
response to manufacturers' price incentives. Outside of motor vehicles, consumption was brisk, supported by job
growth, increases in personal income,
and the decline in energy prices. Consumption was also likely supported by
further gains in home values and equity
Minutes of FOMC Meetings, January
prices that raised the ratio of household
wealth to disposable income relative to
that seen earlier in 2005. Consumer sentiment measured by surveys moved up
in December and, judging by the preliminary reading of the Michigan Survey, edged up further in January.
Activity in the housing market
appeared to continue at high levels,
although there were some indications of
slowing. Single-family housing starts
decreased markedly in December; however, this decline may have been due in
part to unusually cold and wet weather
in some areas of the country. Multifamily housing starts increased in December. Sales of new and existing homes
remained at elevated levels but slowed
somewhat toward the end of the year.
Moreover, the stock of homes for sale
increased to the upper end of ranges
seen in recent years. Recent data on
mortgage applications and survey measures of homebuying attitudes also
pointed to some cooling in the housing
market.
Real outlays for equipment and software appeared to have slowed significantly in the fourth quarter, as expenditures for transportation and
communications equipment reversed
some of their earlier sharp increases.
With few exceptions, however, new orders appeared to be quite strong, and
order backlogs increased for several
goods in the transportation sector.
Underlying fundamentals continued to
support gains in capital spending as
business sector output expanded, firms
remained flush with funds, and relative
price declines pushed down the user
cost of capital equipment. Anecdotal reports and surveys also indicated that
businesses were optimistic about nearterm capital spending plans. Vacancy
rates for nonresidential properties
drifted lower as construction expenditures on commercial and manufacturing
169
structures remained well below recent
peaks. However, spending on drilling
and mining structures continued to
increase strongly. Business investment
in real nonfarm inventories increased
moderately in the fourth quarter, boosted
by a rapid accumulation of motor vehicle inventories. Outside of motor vehicles, stocks continued to rise slowly.
The restrained growth in inventories in
recent months suggested that firms outside the motor vehicle sector were intentionally keeping stockbuilding low;
however, it could also have reflected an
unanticipated increase in sales or supply
interruptions following the hurricanes
last fall. That said, the level of stocks
appeared reasonably well aligned with
demand in most industries.
After increasing further in October,
the U.S. international trade deficit narrowed somewhat in November. The reduction in the deficit reflected a modest
increase in exports and a similar-sized
decrease in imports that owed importantly to a decline in imports of oil. The
firm pace of third-quarter GDP growth
in foreign economies generally appeared
to continue in the fourth quarter.
Core consumer price inflation remained moderate over the second half
of last year. Core prices had posted a
string of very low increases last summer, held down in part by falling motor
vehicle prices. In recent months, increases in core prices had rebounded.
The overall consumer price index edged
down further in December in response
to substantial declines in its volatile
energy price components. However, survey data pointed to large increases in
gasoline prices in January, which were
due to the backup in crude oil prices.
Preliminary survey measures of nearterm inflation expectations for January
had nonetheless ticked down, continuing the reversal of a sharp increase after
the hurricanes last fall, and longer-term
170 93rd Annual Report, 2006
inflation expectations had moved lower
as well. Input prices increased somewhat less in December, as upward pressure from previous energy price increases receded somewhat. Indeed, the
increase in core intermediate producer
prices over the year was estimated to be
considerably lower than over the previous year. At its December meeting, the
Federal Open Market Committee decided to increase the target level of the
federal funds rate 25 basis points, to
4VA percent. In its accompanying statement, the Committee indicated that,
despite elevated energy prices and
hurricane-related disruptions, the expansion in economic activity appeared solid.
Core inflation had stayed relatively low
in recent months, and longer-term inflation expectations had remained contained. Nevertheless, the Committee
noted that possible increases in resource
utilization as well as elevated energy
prices had the potential to add to inflationary pressures. In these circumstances, the Committee believed that
some further measured policy firming
was likely to be needed to keep the risks
to the attainment of both sustainable
economic growth and price stability
roughly in balance.
Investors had largely anticipated the
Committee's interest rate decision at the
December meeting and a change in the
portions of the statement characterizing
policy as accommodative. Accordingly,
the policy announcement elicited only
modest reactions in financial markets.
With mixed readings on economic activity and inflation over the intermeeting
period, the market's expectations for the
path of monetary policy and yields on
Treasury coupon securities ended the
period little changed, on balance. Yields
on investment- and speculative-grade
corporate debt moved largely in line
with Treasury yields. Major stock price
indexes rose modestly, and the trade
weighted foreign exchange value of the
dollar depreciated slightly over the
period.
Domestic nonfinancial sector debt
appeared to have expanded at a somewhat slower pace in the fourth quarter,
down from the rapid increase in the
third quarter. Household debt growth
likely moderated amid hints of a downshift in mortgage borrowing from its
robust third-quarter pace and an outright
decline in consumer credit, which owed
in part to increased charge-offs from
October's spike in bankruptcy filings.
Business sector debt slowed somewhat
in the fourth quarter, mainly reflecting a
runoff of commercial paper by multinational firms that were reported to have
repatriated foreign earnings to take advantage of a recently enacted tax provision. M2 expanded at a somewhat faster
pace in the fourth quarter than had been
predicted from historical relationships
with income and opportunity costs. In
part, the monetary aggregate was likely
boosted by payments to hurricane victims by the federal government and insurance companies.
The staff forecast prepared for this
meeting suggested that, after slow
growth in the fourth quarter of 2005,
real GDP would expand at a fairly robust pace over the first half of this year,
boosted in part by spending on recovery
activities associated with the hurricanes.
Thereafter, real GDP growth was
expected to moderate, importantly reflecting a reduced impetus to consumption from house price appreciation and
some slowing in residential housing expenditures. Core PCE inflation was
expected to be a touch higher this year
than in 2005, largely because of the
pass-through of higher energy and nonfuel import prices, but, with energy
prices leveling out, core inflation was
projected to drop back modestly in
2007.
Minutes of FOMC Meetings, January
In their discussion of the economic
situation and outlook, meeting participants noted the slowing in GDP growth
in the fourth quarter of 2005, but believed that it probably owed in large part
to transitory factors and that economic
growth would bounce back in the current quarter. In that regard, several high
frequency indicators of production,
labor markets, and private demand suggested greater underlying strength of
late than had been reflected in the most
recent GDP data. Over the next couple
of years, the economy seemed poised to
expand at a moderate rate in the neighborhood of its sustainable pace. Most
participants expected core inflation to
move up slightly in the near term, reflecting some pass-through of increased
energy and other commodity prices.
Although heightened inflation pressures
could also arise from possible increases
in resource utilization, the outlook for
economic growth and the stability of
inflation expectations suggested that
core inflation should remain contained
over time.
In preparation for the Federal Reserve's semiannual report to the Congress on the economy and monetary policy, the members of the Board of
Governors and the presidents of the Federal Reserve Banks submitted individual
projections of the growth of GDP, the
rate of unemployment, and core consumer price inflation for the years 2006
and 2007. The forecasts of the rate of
expansion in real GDP for 2006 were in
a range of ?>lA to 4 percent, centered at
3V2 percent, while those for 2007 were
in a range of 3 to 4 percent, with a
central tendency of 3 to 7>Vi percent.
These rates of growth were associated
with projections of the civilian unemployment rate in a range of Al/i to
5 percent, with a central tendency of
43/4 to 5 percent, in both the fourth
quarter of 2006 and the fourth quarter of
171
2007. Expectations for the rate of inflation, as measured by the core PCE price
index, were in a range of I3/* to
2x/2 percent this year, centered at about
2 percent, and in a range of l3/4 to
2 percent in 2007.
In their discussion of major sectors of
the economy, meeting participants noted
that consumer spending in the latter
months of 2005 had been buffeted by
the effects of hurricanes, increased
energy prices, and reduced auto sales
incentives. However, anecdotal reports
contributed to a view that consumer
spending had been solid over the holiday season and in recent weeks, while
measures of consumer confidence
remained high. Nevertheless, signs of
slowing in the housing sector had
become more evident, and the boost to
construction from hurricane-related rebuilding now seemed likely to be spread
over the next couple of years rather than
being more concentrated in the near
term. In some areas, home price appreciation reportedly had slowed noticeably, highlighting the risks to aggregate
demand of a pullback in the housing
sector. For instance, the effects of a
leveling out of housing wealth on the
saving rate were difficult to predict, but,
in the view of some, potentially sizable.
Rising debt service costs, owing in part
to the repricing of variable-rate mortgages, were also mentioned as possibly
restraining the discretionary spending of
consumers. The most likely outlook,
however, was for a gradual moderation
in house price appreciation and in the
growth of consumption, which would
continue to be supported by increases in
jobs and incomes.
Participants generally anticipated
fairly strong growth of capital expenditures. Though firms had been cautious
about expanding their plant and equipment, business confidence was high, capacity utilization was tightening, and
172 93rd Annual Report, 2006
companies were continuing to look for
investment opportunities that increased
productivity. As a result, the outlook
was for reasonably robust spending on
capital equipment even if economic
growth slowed a bit. Anecdotal reports
suggested that nonresidential real estate
markets were improving in some areas.
The slowdown in government spending in the fourth quarter was generally
seen as reflecting shifts in the timing of
outlays, rather than a change in the
underlying trend. However, fiscal stimulus was expected to diminish somewhat
by next year. By contrast, global demand had picked up of late and would
provide ongoing support for U.S. exports; indeed, the sharp increases in
commodity prices and rallies in world
equity markets suggested the possibility
of an even stronger path for demand
abroad.
Financial market conditions in the
United States, as well as those abroad,
suggested that investors were optimistic
about the economic outlook. The recent
strength in equity markets and the low
prevailing term premiums and bond
spreads perhaps reflected market assessments that economic risks were lower
than usual, as well as strong demands
for longer-term assets and an ample
supply of liquidity. The possibility that
term premiums and credit spreads could
return to more typical settings represented a downside risk for interestsensitive components of aggregate
demand.
A variety of indicators, along with
anecdotal reports, suggested that employment was expanding at a fairly good
pace and labor compensation was rising
moderately. Some participants remarked
on the uncertainties regarding the extent
of remaining capacity in labor markets
and the outlook for labor costs. In particular, developments affecting the participation rate in the labor force and the
pace of growth in productivity would
importantly condition prospects for employment and business cost pressures.
Participants noted that, while the
pass-through of higher energy and other
commodity prices to prices of core
goods and services had remained subdued, there were continuing upside risks
to inflation from these sources. Whatever the size of such pass-through
effects, however, it was thought that they
would probably be temporary in nature
and likely diminish as energy prices flattened out, as long as inflation expectations did not move higher. In that regard, participants were encouraged that,
despite recent energy price increases,
survey measures of inflation expectations had notched down and longer-term
inflation compensation in financial markets was little changed. Although high
profit margins could imply some existing pricing power, they might also provide a cushion to absorb some future
cost increases. Indeed, anecdotal reports
suggested that the ability of firms to
pass through higher input costs generally remained limited. Nevertheless, the
increased prices of energy and other
commodities and the possibility of a
further rise in resource utilization, which
some members viewed as nearly full
at present, represented continuing
risks, potentially adding to inflation
pressures.
In the Committee's discussion of
monetary policy for the intermeeting
period, all members favored raising the
target federal funds rate 25 basis points
to 4V2 percent at this meeting. Although
recent economic data had been uneven,
the economy seemed to be expanding at
a solid pace. Members were concerned
that, even after their action today, possible increases in resource utilization
and elevated energy prices had the potential to add to inflation pressures.
Although the stance of policy seemed
Minutes of FOMC Meetings, March
close to where it needed to be given the
current outlook, some further policy
firming might be needed to keep inflation pressures contained and the risks to
price stability and sustainable economic
growth roughly in balance. In the view
of some members, the possibility of
additional policy moves was reinforced
by readings on core inflation and inflation expectations that were somewhat
higher than was desirable over the long
run. However, all members agreed that
the future path for the funds rate would
depend increasingly on economic developments and could no longer be prejudged with the previous degree of
confidence.
As this meeting marked Alan
Greenspan's last as a member of the
Committee, meeting participants took
the opportunity individually and collectively to pay tribute to his many years of
outstanding service to the Federal
Reserve and to the nation. They expressed their appreciation for his collegial and successful leadership of the
Committee and of the Federal Reserve
System and emphasized the privilege
and honor they felt in having served
with him.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
statement to be released shortly after the
meeting:
The Committee judges that some further
policy firming may be needed to keep the
risks to the attainment of both sustainable
economic growth and price stability roughly
in balance. In any event, the Committee will
respond to changes in economic prospects as
needed to foster these objectives.
Votes for this action: Messrs.
Greenspan and Geithner, Ms. Bies,
Messrs. Ferguson, Guynn, Kohn,
Lacker, and Olson, Mses. Pianalto and
Yellen. Votes against this action: None.
The confirmation of the date of the
next meeting of the Committee was
postponed, pending the election of a
successor Chairman.
The meeting adjourned at 12:25 p.m.
Notation Vote
By notation vote completed on December 30, 2005, the Committee unanimously approved the minutes of the
Federal Open Market Committee meeting held on December 13, 2005.
Vincent R. Reinhart
Secretary
Meeting Held on
March 27-28, 2006
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Monday, March 27, 2006 at 3:00
p.m. and continued on Tuesday, March
28, 2006 at 9:00 a.m.
The Federal Open Market Committee
seeks monetary andfinancialconditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the imme- Present:
Mr. Bernanke, Chairman
diate future seeks conditions in reserve
Mr. Geithner, Vice Chairman
markets consistent with increasing the federal funds rate to an average of around
Ms. Bies
AVi percent.
Mr. Guynn
The vote encompassed approval of
the paragraph below for inclusion in the
173
Mr. Kohn
Mr. Kroszner
Mr. Lacker
174 93rd Annual Report, 2006
Mr. Wright, Section Chief, Division
of Monetary Affairs, Board of
Governors
Mr. Olson
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Mses. Cumming and Minehan, Messrs.
Moskow, Poole, and Hoenig, Alternate Members of the Federal
Open Market Committee
Messrs. Fisher and Stern, Presidents of
the Federal Reserve Banks of Dallas and Minneapolis, respectively
Mr. Stone, First Vice President, Federal
Reserve Bank of Philadelphia
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Mr. Baxter, Deputy General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Kamin,
Madigan, Sniderman, Struckmeyer, Tracy, Weinberg, and Wilcox, Associate Economists
Mr. Kos, Manager, System Open Market Account
Mr. Perli, Senior Economist, Division
of Monetary Affairs, Board of
Governors
Mr. Luecke, Senior Financial Analyst,
Division of Monetary Affairs,
Board of Governors
Ms. Low, Open Market Secretariat Specialist, Division of Monetary
Affairs, Board of Governors
Mr. Connolly, First Vice President, Federal Reserve Bank of Boston
Messrs. Fuhrer and Rosenblum, Executive Vice Presidents, Federal
Reserve Banks of Boston and Dallas, respectively
Messrs. Evans and Hakkio, Ms. Mester,
and Messrs. Rasche, Rolnick, and
Rudebusch, Senior Vice Presidents, Federal Reserve Banks of
Chicago, Kansas City, Philadelphia, St. Louis, Minneapolis, and
San Francisco, respectively
Mr. Hambley,5 Assistant to the Board,
Office of Board Members, Board
of Governors
Ms. Mosser, Vice President, Federal
Reserve Bank of New York
Messrs. Oliner and Slifman, Associate
Directors, Division of Research
and Statistics, Board of Governors
The Manager of the System Open
Market Account reported on recent developments in foreign exchange markets. There were no open market operations in foreign currencies for the
System's account in the period since the
previous meeting. The Manager also reported on developments in domestic
financial markets and on System open
market transactions in government securities and federal agency obligations
during the period since the previous
meeting. By unanimous vote, the Committee ratified these transactions.
The information reviewed at this
meeting suggested that economic activity was expanding strongly in the first
quarter. Consumer spending was on
track to rise at a robust pace, and busi-
Mr. Whitesell, Deputy Associate Director, Division of Monetary Affairs,
Board of Governors
Mr. English, Assistant Director, Division of Monetary Affairs, Board of
Governors
Mr. Simpson, Senior Adviser, Division
of Research and Statistics, Board
of Governors
Mr. Orphanides,
of Monetary
Governors
Mr. Small, Project
of Monetary
Governors.
Adviser, Division
Affairs, Board of
Manager, Division
Affairs, Board of
5. Attended Monday's session only.
Minutes of FOMC Meetings, March
ness purchases of equipment and software picked up appreciably. Warm
weather boosted housing construction in
January and February, although sales of
new homes dropped back and house
prices decelerated slightly. Private payrolls advanced solidly in the first two
months of the year. Headline consumer
price inflation jumped in January but
moderated in February as energy prices
moved down. Core inflation remained
contained.
Labor demand continued to increase
in the first two months of 2006, as private nonfarm payroll employment
showed large gains in both January and
February. With favorable weather conditions, employment growth was especially brisk in the construction sector.
Financial activities, business services,
and nonbusiness services also posted
solid payroll gains. Although the average workweek edged down in February,
the level of aggregate hours for production and nonsupervisory workers was
above its average for the fourth quarter
of 2005. The unemployment rate continued to decline and averaged 43A percent
over the first two months of the year.
Several other labor market indicators
also signaled a further tightening of
labor market conditions.
Industrial production picked up in
February after a modest decline in January. That pattern was attributable to
swings in utilities output, as temperatures were historically warm early in the
year before reverting to near seasonal
norms in February. Excluding utilities,
industrial production posted a sizable
gain in January before flattening out in
February, pointing to a solid rise in the
first quarter. Mining output—which
includes oil and natural gas extraction—
slipped in February after registering robust gains in each of the previous three
months. Manufacturing output was unchanged in February after a significant
175
increase in January. The rate of capacity
utilization in the manufacturing sector
stood a bit above its long-run average.
Consumer spending appeared to have
rebounded strongly in the first quarter.
Motor vehicle purchases bounced back
in late 2005 and early 2006 from the
sluggish pace that followed the end of
the past summer's "employee pricing"
programs. Excluding motor vehicles,
consumption spending was robust, supported by continuing improvement in
the labor market and advances in wage
and salary income. The annual raise in
the pay of federal employees, cost-ofliving adjustments to Social Security
benefits and other transfer programs,
and the initiation of the Medicare Prescription Drug Plan boosted the level of
personal disposable income in January.
Consumption was likely supported also
by ongoing increases in home prices and
gains in the stock market. Consumer
confidence as measured by surveys
remained consistent with moderate
increases in consumer spending.
Housing activity had moderated
somewhat from the robust pace of the
past summer. Although the level of
single-family housing starts was unusually high in January and February, much
of this strength was likely the result of
mild winter weather; new permit issuance extended the downward trajectory
that began in October. After an unusual
spike in January, multifamily housing
starts dropped back in February to a rate
well within their historical range. Sales
of new homes fell in the first two
months of the year, while sales of existing homes turned up in February for the
first time since last August; both measures were well below their peaks of
mid-2005. The stock of homes for sale
was elevated compared with its range of
the last several years. Mortgage applications continued to decline in February,
and survey measures of homebuying at-
176 93rd Annual Report, 2006
titudes also maintained their recent Exports of industrial supplies, capital
downward trend. Housing demand was goods, and agricultural products picked
likely damped by rising mortgage rates, up robustly in January, while the
which moved up further in late 2005 and increase in imports was widespread
early 2006. House price appreciation across most product categories. Real
appeared to have slowed from the rapid GDP growth in foreign industrial econopace of the summer, but price increases mies was mixed in the fourth quarter, as
for both new and existing homes economic activity slowed in the euro
remained well within the elevated range area and in Canada while the Japanese
that has prevailed in recent years.
economy expanded briskly and growth
Real outlays for equipment and soft- in the United Kingdom firmed. Recent
ware decelerated in the fourth quarter of indicators of economic activity in devel2005 but appeared to have gained oping economies were generally quite
strength in early 2006. This pattern re- positive.
flected sizable swings in outlays for
Readings on core consumer price intransportation equipment. The funda- flation were favorable in recent months.
mentals underlying capital spending Nonetheless, the overall consumer price
continued to be supportive, as business index edged up in February after regissector output expanded briskly, firms tering a large increase in January that
remained flush with funds, and relative
was driven mostly by a spike in energy
price declines for high-tech equipment
prices. While prices of food and core
continued to push down its user cost.
items recorded only modest increases in
Although vacancy rates for nonresidenFebruary, energy prices fell back amid
tial properties were well below the peaks
increases in oil inventories and unseareached in the first quarter of 2004, real
spending on new construction had yet to sonably mild temperatures since the latgain traction. In contrast, outlays for ter part of December. Weekly data for
drilling and mining structures continued March, however, indicated that gasoline
to rise rapidly and appeared poised to prices rose sharply. Prices of capital
equipment inched up in February after a
increasefartherin the near term.
The book value of manufacturing and more substantial gain in January. Nevertrade inventories excluding motor vehi- theless, prices of capital equipment decles rose at a moderate pace in the fourth celerated over the past twelve months.
quarter of 2005, and inventories Higher energy prices still seemed to be
appeared to have continued to build in passing through to the prices of a numJanuary. Much of the increase reflected ber of core intermediate materials,
rising prices of goods held, and real although such increases were more modinventory accumulation was subdued. erate than those observed in the immediThe inventory-sales ratio declined ate aftermath of the hurricanes last auslightly in January, extending its long- tumn. The increase in the employment
run downward trend. Inventory stocks cost index in the fourth quarter of 2005
appeared to be well aligned with de- was relatively modest. Compensation
per hour in the nonfarm business sector,
mand in most industries.
The U.S. international trade deficit after having increased substantially in
rose in the fourth quarter and widened the third quarter, was estimated to have
further in January, as gains in exports of risen somewhat less in the fourth quargoods and services were outweighed by ter. Preliminary survey measures of
a substantially larger rise in imports. short-term inflation expectations in
Minutes of FOMC Meetings, March
March edged up, but longer-term measures remained steady.
At its January meeting, the Federal
Open Market Committee decided to
raise the target level of the federal funds
rate 25 basis points, to 4Vi percent. In its
accompanying statement, the Committee indicated that, although recent economic data had been uneven, the expansion in economic activity appeared solid.
Core inflation had stayed relatively low
in recent months, and longer-term inflation expectations had remained contained. Nevertheless, the Committee
noted that possible increases in resource
utilization as well as elevated energy
prices had the potential to add to inflation pressures. In these circumstances,
the Committee judged that some further
policy firming may be needed to keep
the risks to the attainment of both sustainable economic growth and price stability roughly in balance but reiterated
that it would respond to changes in economic prospects as needed to foster its
objectives.
Investors had largely anticipated both
the Committee's interest rate decision at
the January meeting and the text of the
accompanying statement. Consequently,
the policy announcement elicited little
market reaction. Policy expectations and
yields on Treasury coupon securities
subsequently firmed, on net, over the
intermeeting period, as incoming data
indicated robust economic growth in the
United States and strengthening expansion abroad. Yields on investment-grade
corporate debt rose roughly in line with
those on comparable-maturity Treasury
securities, while yields on speculativegrade corporate debt were little changed.
Broad stock market indexes were modestly higher amid favorable economic
news and lower oil prices, and the tradeweighted foreign exchange value of the
dollar appreciated slightly over the
period.
177
Growth of domestic nonfinancial sector debt appeared to have moderated
only a bit in the first quarter from its
robust pace in the fourth quarter of
2005. Net issuance of corporate bonds
and expansion of business loans at commercial banks had abated in February
and early March after robust growth in
January; commercial paper outstanding
was about flat in the first quarter. Household mortgage borrowing was thought
to have slowed somewhat in the first
quarter in response to increased mortgage interest rates. Consumer credit rebounded some in January after contracting in the fourth quarter because of
elevated charge-offs related to the spike
in bankruptcy filings. Based on monthly
Treasury statements, federal debt
seemed likely to have accelerated in the
first quarter. On average, M2 grew
briskly in January and February. While
liquid deposits expanded moderately,
small time deposits and retail money
funds advanced strongly, supported by
further increases in offering rates.
The staff forecast prepared for this
meeting showed real GDP expanding
briskly in the current quarter. Economic
growth was expected to moderate later
this year. The level of output in the
current quarter was estimated to be close
to the economy's potential and was anticipated to remain so over the projection period. Core PCE inflation was
expected to move slightly higher in 2006
because of cost pressures induced by
high energy and import prices and to
step back down in 2007 as these cost
pressures were anticipated to abate.
In their discussion of the economic
situation and outlook, meeting participants saw the economy as having rebounded strongly from the slowdown in
the fourth quarter of last year, with
aggregate spending and employment
expanding briskly in the current quarter.
Growth was expected to moderate to a
178 93 rd Annual Report, 2006
more sustainable pace later this year.
The ongoing cooling in the housing market would act to restrain residential construction and growth in consumption,
but business and household confidence
and supportive financial conditions
would help to foster growth in employment and incomes, keeping consumption and investment on a solid upward
track. Several meeting participants observed that, although the economy's sustainable potential output could not be
observed directly or estimated with precision, historical patterns and recent data
suggested that current levels of labor
and product market resource utilization
were in a zone consistent with little or
no remaining economic slack. The
recent behavior of core consumer prices
seemed to indicate that any pass-through
of higher energy and other commodity
prices had been limited. In addition, productivity growth, moderate increases in
compensation, contained inflation expectations, and international competition were helping to restrain unit labor
costs and price pressures. Nonetheless,
meeting participants generally remained
concerned about the risk that possible
increases in resource utilization, in combination with the elevated prices of
energy and other commodities, could
add to inflation pressures.
Regarding the major sectors of the
economy, meeting participants noted
that consumer spending appeared to be
growing at a solid pace, notwithstanding
earlier rises in energy prices. Contacts in
the retail sector reported strong demand,
and lending to households seemed to be
robust. However, some automobile dealers reported subdued demand for domestic name-plate products. In coming quarters, consumer outlays were expected to
be supported by continued employment
gains, household income growth, and
relatively low long-term interest rates,
even if gains in housing wealth abated.
Meeting participants discussed at
some length signs of cooling in the residential real estate market. Published data
on housing starts showed little evidence
of a significant weakening in construction activity. However, anecdotal reports
from several markets, surveys of homebuyer attitudes, and data on inventories,
home sales, and new home cancellation
rates all pointed to a moderation in housing activity. It was noted that the relatively robust data on construction activity could owe in part to unseasonably
warm weather. Going forward, participants expected a deceleration in house
prices to contribute to an increase in the
household saving rate and to weigh on
consumption growth. Aggregate demand
was also expected to be restrained directly by a softening in the pace of home
building. Moreover, rebuilding following last year's major hurricanes
appeared to be proceeding at a slow
pace, and so would provide only limited
offset to the implications of more fundamental developments in this market.
Generally, however, the economic
expansion appeared to be broad-based.
Contacts indicated that certain sectors,
such as energy and semiconductor production, were particularly strong.
Against this backdrop, robust growth in
business spending was seen as likely,
even as household spending growth
moderated somewhat. Business capital
expenditures, especially on equipment
and software, appeared to have considerable momentum, supported by strong
corporate profits, exceptionally liquid
balance sheets, and greater business optimism. Some participants indicated that
nonresidential construction was in the
process of picking up and commercial
vacancy rates were declining in some
regions.
Financial market conditions remained
supportive of growth, with long-term
rates relatively low, risk spreads in cor-
Minutes of FOMC Meetings, March 179
porate debt markets narrow, and banks
seeking lending opportunities. Merger
and acquisition activity was strong and
infusions of private equity continued at
a rapid pace, but the domestic market
for initial public offerings was reported
to be quite weak. Although rates on
fixed-rate mortgages remained historically low, some ratcheting up of rates on
adjustable-rate mortgages was seen as a
factor weighing to some degree on the
housing market. More generally, the
effects on spending of the substantial
increase in short- and intermediate-term
rates since June 2004 had probably not
yet been fully felt.
There were reports of increased construction by state and local governments, which were benefiting from
strong tax collections. Federal defense
expenditures had leveled out. Foreign
economic growth appeared to have
strengthened of late, prompting some
finning of monetary policy by several
foreign central banks. Nonetheless,
increases in imports were expected to
continue to outpace increases in exports
in coming quarters, trimming the rate of
expansion of domestic output.
Meeting participants saw both upside
and downside risks to their outlook for
expansion around the rate of growth of
the economy's potential. In the housing
market, for instance, some downshift
from the rapid price increases and strong
activity of recent years seemed to be
underway, but the magnitude of the
adjustment and its effects on household
spending were hard to predict. Some
participants cited stronger growth
abroad and robust nonresidential investment spending as potentially contributing more to activity than expected. It
was also noted that an abrupt rise in
long-term interest rates, reflecting, for
example, a reversion of currently low
term premiums to more typical levels,
could weigh on both household and
business spending.
Several participants noted that the
labor market had continued to
strengthen, with payrolls increasing at a
solid pace. The labor market was now
showing some signs of tightness, consistent with a relatively low jobless rate.
There were anecdotal reports of shortages of skilled labor in a few sectors,
such as health care, technology, and
finance. Still, participants expressed uncertainty about how much slack
remained. Pressures on unit labor costs
appeared contained, despite rising
health-care costs, amid continued robust
productivity growth and still-moderate
increases in several comprehensive measures of compensation growth.
In their discussion of prices, participants indicated that data over the intermeeting period, including measures of
inflation expectations, suggested that
underlying inflation was not in the process of moving higher. Crude oil prices,
though volatile, had not risen appreciably in recent months on balance, and a
flattening in energy prices was beginning to damp headline inflation. In addition, core consumer inflation was flat or
even a bit lower by some measures.
Some meeting participants expressed
surprise at how little of the previous rise
in energy prices appeared to have passed
through into core inflation measures.
However, with energy prices remaining
high, and prices of some other commodities continuing to rise, the risk of at
least a temporary impact on core inflation remained a concern.
Participants noted that there were as
yet few signs that any tightness in product and labor markets was adding to
inflation pressures. To date, unit labor
costs were not placing pressure on inflation, and high profit margins left firms a
considerable buffer to absorb cost increases. Moreover, actual and potential
180 93rd Annual Report, 2006
competition from abroad could be restraining cost and price pressures,
though participants exchanged views on
the extent to which conditions in foreign
markets might be constraining prices domestically. However, participants observed that there was a risk that continuing increases in resource utilization
could add to inflationary pressures.
Some participants held that core inflation and inflation expectations were already toward the upper end of the range
that they viewed as consistent with price
stability, making them particularly vigilant about upside risks to inflation, especially given how costly it might be to
bring inflation expectations back down
if they were to rise.
In the Committee's discussion of
monetary policy for the intermeeting
period, all members favored raising the
target federal funds rate 25 basis points
to 43/4 percent at this meeting. The economy seemed to be on track to grow near
a sustainable pace with core inflation
remaining close to recent readings
against a backdrop of financial conditions embodying an expectation of some
tightening. Since the available indicators showed that the economy could well
be producing in the neighborhood of its
sustainable potential and that aggregate
demand remained strong, keeping rates
unchanged would run an unacceptable
risk of rising inflation. Most members
thought that the end of the tightening
process was likely to be near, and some
expressed concerns about the dangers of
tightening too much, given the lags in
the effects of policy. However, members
also recognized that in current circumstances, checking upside risks to inflation was important to sustaining good
economic performance. The need for
further policy firming would be determined by the implications of incoming
information for future activity and
inflation.
With regard to the Committee's
announcement to be released after the
meeting, members expressed some difference in views about the appropriate
level of detail to include in the statement. In the end, they concurred that
the statement should note that economic
growth had rebounded in the current
quarter but that it appeared likely to
moderate to a more sustainable pace in
coming quarters. Policymakers agreed
that the announcement should also
highlight the favorable outlook for inflation and summarize their reasons for
that assessment, but that it should reiterate that possible increases in resource
utilization, along with elevated levels of
commodity and energy prices, had the
potential to add to inflation pressures.
Changes in the sentence on the balance
of risks to the Committee's objectives
were discussed. Several members were
concerned that market participants
might not fully appreciate the extent to
which future policy action will depend
on incoming economic data, especially
when an end to the tightening process
seems likely to be near. Some members
expressed concern that retention of the
phrase "some further policy firming
may be needed to keep the risks...
roughly in balance" could be misconstrued as suggesting that the Committee thought that several further
tightening steps were likely to be necessary. Nonetheless, all concurred that the
current risk assessment could be
retained at this meeting.
The Committee also discussed its experience with the two-day meeting. Participants agreed that the additional time
had facilitated their discussion of the
economy, policy, and the wording of the
announcement. It was agreed that, because of scheduling conflicts, the next
meeting of the Committee would be held
on one day, Wednesday, May 10, 2006.
After experience with that and perhaps
Minutes of FOMC Meetings, May
the subsequent meeting that is already
scheduled for two days, a decision
would be taken about the general format
of future meetings.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with increasing the federal funds rate to an average of around
43A percent.
The vote encompassed approval of
the paragraph below for inclusion in the
statement to be released shortly after the
meeting:
The Committee judges that some further
policy firming may be needed to keep the
risks to the attainment of both sustainable
economic growth and price stability roughly
in balance. In any event, the Committee will
respond to changes in economic prospects as
needed to foster these objectives.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Guynn,
Kohn, Kroszner, Lacker, and Olson,
Ms. Pianalto, Mr. Warsh, and Ms. Yellen. Vote against this action: None.
The meeting adjourned at 12:15 p.m.
Notation Vote
By notation vote completed on February
1, 2006, the Committee unanimously
approved the election of Ben S. Bernanke as Chairman of the Federal Open
Market Committee.
By notation vote completed on February 17, 2006, the Committee unani
181
mously approved the minutes of the
Federal Open Market Committee meeting held on January 31, 2006.
Vincent R. Reinhart
Secretary
Meeting Held on
May 10, 2006
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Wednesday, May 10, 2006 at 8:30
a.m.
Present:
Mr. Bernanke, Chairman
Mr. Geithner, Vice Chairman
Ms. Bies
Mr. Guynn
Mr. Kohn
Mr. Kroszner
Mr. Lacker
Mr. Olson
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Mr. Hoenig, Ms. Minehan, and Messrs.
Moskow and Poole, Alternate
Members of the Federal Open
Market Committee
Messrs. Fisher and Stern, Presidents of
the Federal Reserve Banks of Dallas and Minneapolis, respectively
Mr. Stone, First Vice President, Federal
Reserve Bank of Philadelphia
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Judd, Kamin, Madigan, Sniderman, Struckmeyer, and Wilcox, Associate
Economists
Mr. Kos, Manager, System Open Market Account
182 93rd Annual Report, 2006
Messrs. Oliner and Slifman, Associate
Directors, Division of Research
and Statistics, Board of Governors
System's account in the period since the
previous meeting. The Manager also reported on developments in domestic
Mr. Simpson, Senior Adviser, Division financial markets and on System open
of Research and Statistics, Board market transactions in government secuof Governors
rities and federal agency obligations
Mr. Orphanides, Adviser, Division during the period since the previous
of Monetary Affairs, Board of meeting. By unanimous vote, the ComGovernors
mittee ratified these transactions.
With Mr. Lacker dissenting, the ComMr. Small, Project Manager, Division
of Monetary Affairs, Board of mittee voted to extend for one year
Governors
beginning in mid-December 2006 the
Mr. Wright, Section Chief, Division reciprocal currency ("swap") arrangeof Monetary Affairs, Board of ments with the Bank of Canada and the
Governors
Banco de Mexico. The arrangement
Mr. Luecke, Senior Financial Analyst, with the Bank of Canada is in the
Division of Monetary Affairs, amount of $2 billion equivalent, and
that with the Banco de Mexico is in the
Board of Governors
Ms. Low, Open Market Secretariat Spe- amount of $3 billion equivalent. Both
cialist, Division of Monetary arrangements are associated with the
Federal Reserve's participation in the
Affairs, Board of Governors
North American Framework Agreement
Mr. Werkema, First Vice President,
Federal Reserve Bank of Chicago of 1994. The vote to renew the System's
participation in the swap arrangements
Messrs. Fuhrer and Rosenblum, Execu- maturing in December was taken at this
tive Vice Presidents, Federal
Reserve Banks of Boston and Dal- meeting because of the provision that
each party must provide six months
las, respectively
prior notice of an intention to terminate
Messrs. Evans and Hakkio, Ms. Mester, its participation. Mr. Lacker dissented
and Mr. Rasche, Senior Vice Presidents, Federal Reserve Banks of because of his opposition, as indicated
Chicago, Kansas City, Philadel- at the January meeting, to foreign
phia, and St. Louis, respectively
exchange market intervention by the
Federal
Reserve, which such swap
Mr. Hilton, Vice President, Federal
arrangements facilitate, and because of
Reserve Bank of New York
his opposition to direct lending to forMr. Potter, Assistant Vice President,
Federal Reserve Bank of New eign central banks.
By unanimous vote, the Committee
York
delegated the authority to review and
Mr. Weber, Senior Research Officer, determine appeals of a denial of access
Federal Reserve Bank of Minneto Committee records under FOIA and
apolis
other rules to the Board members desigMr. Hetzel, Senior Economist, Federal nated as the primary and alternate AdReserve Bank of Richmond
ministrative Governors for Freedom of
The Manager of the System Open Information and Privacy Act Matters.
Market Account reported on recent de- Also by unanimous vote, the Committee
velopments in foreign exchange mar- established a FOIA Requester Service
kets. There were no open market opera- Center and designated Carol R. Low to
tions in foreign currencies for the fulfill the associated responsibilities.
Minutes of FOMC Meetings, May
The information reviewed at this
meeting suggested that economic activity expanded strongly in the first quarter
and that gains were widespread across
most categories of final sales. Consumer
spending posted a sizable increase,
driven by January's bounceback in
motor vehicle purchases and an acceleration in spending on other goods at the
turn of the year. In addition, favorable
weather boosted housing construction
early in the quarter. Later in the quarter,
however, the pace of consumer spending
moderated, and housing starts retraced
their earlier run-up. Business investment
spending strengthened in the first quarter, in part because of a surge in the
purchases of transportation and hightech equipment and a step-up in nonresidential construction. Manufacturing production also posted solid gains in the
first quarter and payroll growth moderated a bit in April after robust gains in
employment in the first quarter. Overall
consumer prices jumped in March because of higher energy prices, while
core prices rose a bit more rapidly than
in earlier months.
Nonfarm payrolls increased by
138,000 jobs in April following robust
growth in March. The gains in April
were widespread: Manufacturing and related industries registered significant
increases, mining activity and employment were boosted by rising energy
prices, construction hiring posted a moderate gain, and a range of servicesproducing industries strengthened, with
the important exception of retail trade,
which more than reversed its March
gains. Average hours of production or
nonsupervisory workers on private nonfarm payrolls edged up in April. The
increases in the workweek and employment in April led to notable growth in
aggregate hours of production or nonsupervisory workers. The unemployment
183
rate edged down to 4.7 percent in March
and remained at that level in April.
Industrial production in March expanded at about the same strong pace as
it did in February, with gains posted
across all major components of the index. Manufacturing activity picked up
in March after a lull in February. While
manufacturing growth for the first quarter as a whole slowed from the rapid
pace of the fourth quarter, it exceeded
that of the previous year. Manufacturing
capacity utilization during the quarter
was a bit above its long-run average.
Mining output—which includes oil and
natural gas extraction—strengthened in
the first quarter as a whole. Within the
quarter, however, the boost from
hurricane-related recovery seemed to
ebb. While utility output surged in February and moved up a bit more in
March, these increases only partly
reversed the weather-related plunge in
January.
Growth of consumer spending
appeared to moderate after posting sizable gains around the turn of the year.
Excluding motor vehicles, real outlays
rose temperately in March, boosted by
the continued rise in spending on services. Spending on goods excluding
motor vehicles posted a second-straight
monthly decline after robust gains over
the previous four months. Sales of light
vehicles held steady in March and
picked up a bit in April, bringing the
average pace for the year well above
that of the fourth quarter but about even
with the rate of last year. Although continued improvements in the labor market had been generating considerable
gains in nominal wage and salary
income, rising gasoline prices held
down the increase in real disposable
personal income in March and were
expected to damp it in April as well.
Ongoing increases in home prices and
additional gains in the stock market,
184 93rd Annual Report, 2006
however, further boosted household
wealth during the first quarter. Measures
of consumer confidence remained
consistent with moderate increases in
consumer spending.
The underlying pace of residential activity seemed to moderate in the first
quarter. After unseasonably warm
weather allowed a high level of singlefamily housing starts in January and
February, starts fell in March to their
lowest level in a year. New permit issuance for single-family homes also fell in
March, continuing its downward trend.
Multifamily starts recovered a bit in
March from their low rate in February
but remained well within their historical
range. Home sales also declined, on net,
in recent months. Although sales of existing single-family homes edged up in
February and March, the level of sales
for the first quarter as a whole was
notably below the record high in the
second quarter of last year. Sales of new
homes also moved up in March, but
their average in the first quarter was
down substantially from the peak in the
third quarter of last year. House price
appreciation appeared to have slowed
from the elevated rates seen over the
past summer. Growth in the average
sales price of existing homes in March,
versus a year earlier, decelerated
sharply, and the average price for new
homes in March fell compared to a year
earlier. In addition, other indicators,
such as months' supply of both new and
existing homes for sale and the index of
pending home sales, supported the view
that housing markets had cooled in
recent months.
Real outlays for equipment and software surged in the first quarter after a
relatively subdued performance in the
fourth quarter of last year. Much of the
growth reflected a sharp jump in business purchases of transportation equipment, such as airplanes and motor vehi
cles. Spending on high-tech equipment
and software also improved as exceptionally strong growth in expenditures
for communications equipment more
than compensated for fairly soft spending on computers and peripherals and on
software. Conditions in the nonresidential construction sector improved noticeably. Although spending on nonresidential building construction remained well
short of the robust levels seen in late
2000, growth of expenditures in this
sector was at its fastest pace in the first
quarter in nearly six years. Outlays on
drilling and mining structures continued
to climb in the first quarter, and available data pointed to ongoing growth.
Real nonfarm inventories stepped
down in the first quarter, largely reflecting a decline in investment in motor
vehicle inventories. Excluding motor
vehicles, inventories increased at a pace
well above that in the fourth quarter.
Over the past twelve months, inventories relative to shipments and sales
had moved down moderately on balance, extending the long-run downward
trend.
The U.S. international trade deficit
narrowed in February as a sharp
decrease in imports more than offset a
modest fall in exports. The declines in
both categories were generally widespread across sectors with the exception
of oil imports, which were flat, and
imported services, which rose. Incoming data for foreign industrial economies were generally favorable and
pointed to continued expansion. Available data showed continued growth in
GDP in the United Kingdom in the first
quarter, continuing strong domestic demand in Canada through February, ongoing recovery in Japan, and a firstquarter rebound in euro-area economic
performance.
Headline inflation turned up in
March. Although the price of natural gas
Minutes of FOMC Meetings, May 185
had fallen because of continued plentiful inventories, retail gasoline prices
surged, leading to a jump in overall
energy prices for the month. Prices of
core goods and services also rose more
quickly in March, largely because of a
spike in the apparel component that unwound a decline in February and a onetime step-up in medical prices related to
changes in Medicare reimbursement
rules. During the twelve months ending
in March, overall inflation rose at a
slightly faster pace than that in the preceding twelve-month period, while core
prices for the same period increased a
bit more slowly than in the previous
year. Producer price inflation also
moved up in March, driven largely by
higher food and energy prices. Readings
on the growth in the cost of labor were
mixed. Over the three months ending in
March, the employment cost index for
hourly compensation of private industry
workers rose at its slowest pace in several years. Data on compensation per
hour in the nonfarm business sector,
however, pointed toward notably faster
growth in the first quarter. Some
financial-market and survey indicators
suggested that inflation expectations,
both for the upcoming year and for the
longer term, had moved up since the
March meeting.
At its March meeting, the Federal
Open Market Committee decided to
raise its target for the federal funds rate
25 basis points, to 43A percent. In its
accompanying statement, the Committee indicated that the slowing of the
growth of real GDP in the fourth quarter
of 2005 seemed largely to have reflected
temporary or special factors. Economic
growth had rebounded strongly in the
first quarter but seemed likely to moderate to a more sustainable pace. As yet,
the run-up in the prices of energy and
other commodities appeared to have had
only a modest effect on core inflation,
ongoing productivity gains had helped
to hold the growth of unit labor costs in
check, and inflation expectations had
remained contained. Still, the Committee noted that possible increases in
resource utilization, in combination with
the elevated prices of energy and other
commodities, had the potential to add to
inflation pressures. In these circumstances, the Committee judged that
some further policy firming may be
needed to keep the risks to the attainment of both sustainable economic
growth and price stability roughly in
balance, but reiterated that in any event
the Committee would respond to
changes in economic prospects as
needed to foster these objectives.
Investors anticipated the FOMC's decision at its March meeting to raise the
target federal funds rate 25 basis points,
but the Committee's post-meeting statement evidently led them to mark up
somewhat their expected path for the
federal funds rate. Subsequently, the
path was pushed up further by data releases that were, on balance, stronger
than market participants had expected.
Speeches by Federal Reserve officials,
the minutes of the March meeting, and
Congressional testimony by the Chairman combined to restrain policy expectations some. On net, the anticipated
path of the federal funds rate over the
next two years nonetheless rotated
upward. Yields on inflation-indexed
Treasury securities moved up over the
intermeeting period, but yields on nominal Treasury issues rose more. Spreads
of yields on investment-grade bonds
over those on comparable-maturity
Treasury securities were about unchanged, while those on speculativegrade bonds declined. Major stock price
indexes were up a bit over the intermeeting period, as positive first-quarter earnings reports more than offset the nega-
186 93rd Annual Report, 2006
tive effects of higher energy prices and
rising interest rates.
The trade-weighted exchange value
of the dollar against major foreign currencies fell since the March meeting.
Increased focus in public debate on the
risks posed by the large U.S. external
imbalance appeared to erode investor
support for the dollar.
Domestic nonfinancial sector debt
was estimated to have grown at a robust
pace in the first quarter, down only
slightly from the brisk pace of 2005.
Business sector debt appeared to have
expanded strongly, supported by significant net issuance of U.S. corporate
bonds and double-digit growth of business loans at commercial banks. In the
household sector, consumer credit continued to rise slowly, and the growth of
household mortgage debt was thought,
based on limited data, to have moderated somewhat in the first quarter
against a backdrop of higher mortgage
interest rates and some signs of a deceleration in house prices. M2 advanced at
a pace somewhat below that of nominal
GDP in the first quarter and was estimated to have expanded moderately in
April.
The staff forecast prepared for this
meeting showed real GDP growth moderating somewhat from the average pace
of the previous several quarters. The
projected deceleration of real GDP reflected the lagged effects of the tightening of monetary policy, the waning impetus from increases in household
wealth, and reduced stimulus from fiscal
policy. While higher energy prices were
expected to boost inflation in the near
term, structural productivity was strong,
and the influence of higher energy and
material costs was thought likely to
moderate. Thus, consumer prices, after
increasing at a faster rate in the first half
of the year, were expected to decelerate
later this year and next year.
In their discussion of the economic
situation and outlook, meeting participants saw the economy as having rebounded strongly so far this year after
the slowing of growth in the fourth quarter. The advance in output had been
vigorous in the first quarter of this year,
with real GDP increasing at around a
5 percent annual rate. Although the
expansion appeared likely to moderate,
it evidently remained solid. Inflation
pressures appeared to be somewhat
greater than the Committee had anticipated at the time of its March meeting.
Consumer prices recently had risen at a
pace noticeably above the average rise
over the previous twelve months. Also,
prices of energy and many other commodities had climbed sharply of late,
and inflation expectations appeared to
have risen slightly. If economic growth
continued to moderate over coming
quarters, as anticipated, pressures on
productive resources would most likely
continue to be limited. Most participants
expected that, after allowing for some
possible near-term volatility related to
the recent jump in energy and other
commodity prices, core inflation would
probably remain around the levels experienced on average over the past year.
However, recent developments suggested that upside risks to inflation had
risen somewhat since the time of the
March meeting.
In their discussion of major sectors of
the economy, some participants noted
that growth of household spending was
likely to slow over the remainder of the
year. Anecdotal information pointed to
some cooling of housing markets. That
cooling was especially noticeable for
high-end homes and for houses in markets that previously had experienced the
steepest appreciation. Data on home
sales, permits, and starts on the whole
likewise suggested that activity was
gradually diminishing. Some reports
Minutes of FOMC Meetings, May
indicated that speculative building of
homes had dropped off considerably, but
inventories of unsold homes still seemed
to be expanding. Although fresh comprehensive data were not available,
home prices on average appeared still to
be rising, but at a slower pace than over
the past few years. Going forward,
growth in consumption spending was
likely to be supported by gains in employment and personal income. But
slower appreciation of home prices and
the effects of the increases in energy
prices and interest rates that had already
occurred would likely act to restrain
consumption spending somewhat. Certain features of recently popular nontraditional mortgage products had the potential to cause financial difficulties for
some households and erode mortgage
loan performance for some lenders.
Nonetheless, the household sector
seemed likely to remain in sound financial condition overall. On balance, consumption spending was viewed as most
likely to expand at a moderate pace in
coming quarters.
Several participants remarked that
business investment spending was robust. Nonresidential construction was
accelerating notably, in the process absorbing some of the resources that were
being diverted from housing. Office vacancy rates were declining, spurring
construction of new office buildings.
Drilling and mining activity was said to
be particularly strong, propelled by the
high levels of energy prices. Investment
in equipment and software appeared to
be expanding at a solid rate. Capital
formation was likely to continue to be
supported by rising output, strong balance sheets in the business sector, and
ready availability of financing on attractive terms.
Some participants commented on the
recent surge in federal tax revenues, a
development that was being mirrored at
187
the state level. While the precise reasons
for the increase in federal receipts were
not entirely clear, robust income growth
was probably an important factor. In any
case, the effect was to trim the current
federal budget deficit noticeably. Nonetheless, the longer-run federal fiscal imbalance remained a serious concern.
Data on economic growth outside the
United States indicated that the global
expansion was firming, a sense amplified by reports from international contacts. The apparent strengthening of global growth was likely to support U.S.
exports and economic activity and
would also tend to maintain upward
pressures on energy and commodity
prices.
Meeting participants expressed some
concern about recent price developments and their implications for inflation prospects. Core consumer inflation
lately had been a little higher than
expected. Moreover, energy prices had
risen steeply in the period since the
March meeting, and, although passthrough apparently had been limited to
date, the most recent increases might be
reflected to a greater degree in core
inflation in coming months. Participants
noted that prices of non-energy commodities, such as industrial metals and
building supplies, also had been climbing. The recent decline in the dollar was
another factor that could add to inflation
pressures, although the effect of prior
changes in the foreign exchange value
of the dollar on core consumer prices
had apparently been limited. Business
contacts had reported continued shortages of certain types of skilled labor and
related wage pressures in some occupations, which would tend to boost costs.
However, participants also cited some
factors that could be expected to restrain
inflation. Although alternative measures
of labor compensation provided divergent readings, growth of total compen-
188 93rd Annual Report, 2006
sation on balance appeared to remain
moderate. And, even if nominal wages
should accelerate somewhat, relatively
wide profit margins could buffer the
effect on prices of final goods and services. While firms would seek to maintain those margins, recent experience
suggested that this might be accomplished in part through further productivity gains, which had remained fairly
strong on balance in recent quarters,
rather than through more rapid price
hikes.
Participants discussed in some detail
inflation expectations—a potentially important factor influencing future inflation trends. Some surveys suggested that
inflation expectations had risen in recent
weeks, but others implied that expectations were little changed. Measures of
inflation compensation based on the difference between yields on nominal Treasury securities and inflation-indexed
issues had edged higher. It was possible,
though, that investors' uncertainty regarding inflation prospects, not just inflation expectations themselves, had
risen. On balance, participants judged
that inflation expectations had risen
somewhat—a development that would
have to be taken into account in policymaking and warranted close monitoring—but remained contained.
Although the Committee discussed
policy approaches ranging from leaving
the stance of policy unchanged at this
meeting to increasing the federal funds
rate 50 basis points, all members believed that an additional 25 basis point
firming of policy was appropriate today
to keep inflation from rising and promote sustainable economic expansion.
Recent price developments argued for
another firming step at today's meeting.
Core inflation recently had been a bit
higher than had been expected, and several members remarked that core inflation was now around the upper end of
what they viewed as an acceptable
range. Moreover, a number of factors
were augmenting the upside risks to inflation: the surge in energy and commodity prices, some recent weakness in
the foreign exchange value of the dollar,
and the possibility that the apparent
increase in inflation expectations could,
if it persisted, impart momentum to inflation. In addition, the economy
appeared to be operating at a relatively
high level of resource utilization and
had been growing quite strongly, and
whether economic growth would moderate to a sustainable pace was not yet
clear. At the same time, members also
saw downside risks to economic activity. For example, the cumulative effect
of past monetary policy actions and the
recent rise in longer-term interest rates
on housing activity and prices could
turn out to be larger than expected. Still,
it seemed most likely that, with modest
further policy action, including a
25 basis point firming today, growth in
activity would moderate gradually over
coming quarters, pressures on resources
would remain limited, and core inflation
would stay close to levels experienced
over the past year.
Given the risks to growth and inflation, Committee members were uncertain about how much, if any, further
tightening would be needed after today's action. In view of the risk that the
outlook for inflation could worsen, the
Committee decided to repeat the indication in the policy statement released
after the March meeting that some further policy firming could be required.
However, the Committee agreed to emphasize that "the extent and timing of
any such firming will depend importantly on the evolution of the economic
outlook as implied by incoming information." Members debated the appropriate characterization of inflation expectations in the statement. Low and stable
Minutes of FOMC Meetings, June
inflation expectations were key to the
attainment of the Committee's dual objectives of price stability and maximum
sustainable economic growth. However,
the apparent pickup in longer-term expectations, while worrisome, was relatively small. They remained within the
range seen over the past couple of years,
and the increase could well reverse before long. Accordingly, it appeared appropriate to characterize inflation expectations again as "contained."
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with increasing the federal funds rate to an average of around
5 percent.
The vote encompassed approval of
the paragraph below for inclusion in the
statement to be released shortly after the
meeting:
The Committee judges that some further
policy firming may yet be needed to address
inflation risks but emphasizes that the extent
and timing of any such firming will depend
importantly on the evolution of the economic outlook as implied by incoming information. In any event, the Committee will
respond to changes in economic prospects as
needed to support the attainment of its
objectives.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Guynn,
Kohn, Kroszner, Lacker, and Olson,
Ms. Pianalto, Mr. Warsh, and Ms. Yellen. Votes against this action: None.
During the interval between the
March and May meetings, Chairman
189
Bernanke had appointed a subcommittee on communications issues to be
chaired by Governor Kohn and including Presidents Stern and Yellen. At
today's meeting, Governor Kohn indicated that the objective of the subcommittee was to help the Committee frame
and organize discussion of a broad range
of such issues over coming meetings.
The meeting adjourned at 1:10 p.m.
Notation Vote
By notation vote completed on April 17,
2006, the Committee unanimously approved the minutes of the Federal Open
Market Committee meeting held on
March 27-28, 2006.
Vincent R. Reinhart
Secretary
Meeting Held on
June 28-29, 2006
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Wednesday, June 28, 2006 at 2:00
p.m. and continued on Thursday, June
29, 2006 at 9:00 a.m.
Present:
Mr. Bernanke, Chairman
Mr. Geithner, Vice Chairman
Ms. Bies
Mr. Guynn
Mr. Kohn
Mr. Kroszner
Mr. Lacker
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Ms. Minehan, Messrs. Moskow, Poole,
and Hoenig, Alternate Members of
the Federal Open Market Committee
Messrs. Fisher and Stern, Presidents of
the Federal Reserve Banks of Dallas and Minneapolis, respectively
190 93rd Annual Report, 2006
Mr. Stone, First Vice President, Federal
Reserve Bank of Philadelphia
Division of Monetary Affairs,
Board of Governors
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Baxter, Deputy General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Ms. Low, Open Market Secretariat Specialist, Division of Monetary
Affairs, Board of Governors
Messrs. Connors, Eisenbeis, Judd, Kamin, Madigan, Sniderman, Struckmeyer, Tracy, Weinberg, and Wilcox, Associate Economists
Mr. Kos, Manager, System Open Market Account
Messrs. Oliner and Slifman, Associate
Directors, Division of Research
and Statistics, Board of Governors
Ms. Zickler, Deputy Associate Director,
Division of Research and Statistics, Board of Governors
Mr. English, Assistant Director, Division of Monetary Affairs, Board of
Governors
Messrs. Dale6 and Simpson, Senior Advisers, Divisions of Monetary
Affairs
and
Research
and
Statistics, respectively, Board of
Governors
Mr. Gross, Special Assistant to the
Board, Office of Board Members,
Board of Governors
Mr. Small, Project Manager, Division
of Monetary Affairs, Board of
Governors
Mr. Nelson, Section Chief, Division
of Monetary Affairs, Board of
Governors
Mr. Perli, Senior Economist, Division
of Monetary Affairs, Board of
Governor
Mr. Doyle and Ms. Judson, Economists,
Divisions of International Finance
and Monetary Affairs, respectively,
Board of Governors
Mr. Luecke, Senior Financial Analyst,
6. Attended Thursday's session only.
Mr. Moore, First Vice President, Federal Reserve Bank of Cleveland
Messrs. Fuhrer and Rosenblum, Executive Vice Presidents, Federal
Reserve Banks of Boston and Dallas, respectively
Mr. Evans, Ms. Mester, and Messrs.
Rasche, Rolnick, and Sellon,
Senior Vice Presidents, Federal
Reserve Banks of Chicago, Philadelphia, St. Louis, Minneapolis,
and Kansas City, respectively
Ms. Mucciolo, Vice President, Federal
Reserve Bank of New York
By unanimous vote, the Committee
approved a "Report and Plan of the
Federal Open Market Committee to
Improve FOIA Operations" and approved a delegation of authority to the
Chairman (or his designee) to take
actions required under the Freedom of
Information Act.
The Manager of the System Open
Market Account reported on recent developments in foreign exchange markets. There were no open market operations in foreign currencies for the
System's account in the period since the
previous meeting. The Manager also reported on developments in domestic
financial markets and on System open
market transactions in government securities and federal agency obligations
during the period since the previous
meeting. By unanimous vote, the Committee ratified these transactions.
The information reviewed at the June
meeting suggested that the growth of
economic activity in the second quarter
slowed substantially from its rapid firstquarter pace. The expansion of consumer spending softened, and activity in
Minutes of FOMC Meetings, June
the housing market continued to cool. In
contrast, the underlying rate of business
spending remained strong and was well
supported by fundamentals. The demand
for labor appeared to moderate as hiring
stepped down in recent months. Consumer price inflation remained elevated
in April and May, reflecting sharp rises
in energy prices and more rapid increases in core prices.
Gains in nonfarm private payrolls
averaged 112,000 over the three months
ending in May, a pace considerably below the average of about 170,000 jobs
per month for the prior three-month
period. The slowing in hiring was most
pronounced in retail trade but was also
evident in construction and information
services. Establishments in professional
and business services, nonbusiness services, and wholesale trade continued to
add jobs at roughly the same pace as
earlier in the year. Average hours of
production or nonsupervisory workers
on private nonfarm payrolls edged up in
April but reversed these gains in May.
The unemployment rate was 4.6 percent
in May, near its average for the year so
far.
Industrial production edged down in
May after strong growth in April,
largely reflecting the patterns of manufacturing output. For the year to date,
manufacturing production advanced at a
rate significantly below its rapid fourthquarter growth rate but only a bit below
its average pace of expansion since mid2003. The mining sector, which includes
oil and natural gas extraction, expanded
solidly in April before falling back in
May. Utilities output also grew strongly
in April but retreated in May as temperatures returned to normal after having
been unseasonably warm in April. Capacity utilization in manufacturing
remained somewhat above its long-run
average in both April and May.
191
Real consumer spending appeared to
be on track to decelerate noticeably in
the current quarter after posting robust
growth in the first quarter. The slowing
reflected both a marked reduction in the
growth in real outlays for motor vehicles from an elevated first-quarter pace
and a moderation in the advance of real
expenditures for other goods in recent
months. Underlying this slowing in the
expansion of consumer expenditures
was a moderation in the fundamental
determinants of spending. The level of
nominal wages and salaries beginning in
the fourth quarter of 2005 was revised
down considerably, and rising consumer
prices held down the gains in real disposable income. Higher interest rates
also likely restrained spending. Nonetheless, despite recent declines in equity
prices, the wealth-to-income ratio
remained well above its historical average, and consumer sentiment, which
dipped in May, rebounded some in early
June.
Residential construction activity moderated over the past few months but
remained at a historically high level.
Single-family starts posted a sizable
drop in May for the third consecutive
month. Although a substantial portion of
May's decline seemed to be a partial
payback for the elevated level of starts
early in the year, when weather conditions had been favorable, the underlying
pace of single-family housing construction appeared to have slowed. In the
multifamily sector, starts in May were
well within the typical range seen since
1995. Sales of both new and existing
single-family homes in April and May
were significantly below their peaks of
the summer of 2005, though new home
sales continued to regain some ground
after having fallen in February. The
most reliable measures of house prices
indicated modest growth following the
rapid increases seen last year.
192 93rd Annual Report, 2006
After a first-quarter surge, real spending on equipment and software appeared
on track for a much smaller gain in the
second quarter. Incoming data for the
current quarter suggested that spending
on transportation equipment reversed
the run-up that occurred in the first quarter. Spending on high-tech equipment
and software advanced at a slower pace
in the second quarter as a flattening out
of spending on communications equipment after a huge increase in the first
quarter offset some pickup in businesssector demand for computers and software. The construction of nonresidential
buildings picked up noticeably so far
this year, although activity remained
well short of its previous peak in mid2000. Outlays on drilling and mining
structures continued to climb in response to high projected energy prices.
The book value of manufacturing and
trade inventories excluding motor vehicles stepped up in April. The ratio of
book-value inventories to sales held
steady for the year so far after having
fallen considerably last year. In general,
inventories appeared to be well aligned
with demand, and business surveys suggested that firms were comfortable with
the level of inventories.
The U.S. international trade deficit
widened in April, reflecting a large
increase in imports coupled with a slight
decline in exports. Import growth was
led by sharp rises in the value of imported oil and natural gas and increased
imports of automotive products and
capital goods. Exports were restrained
in part by a decline in aircraft exports.
Expansion of economic activity in the
foreign industrial countries was solid in
the first quarter, but indications for the
second quarter were more mixed. Incoming data pointed to a possible slowing in Canada, but signs of further
expansion in the euro area and of continued growth in Japan were evident, not
withstanding sharp declines in equity
indexes in these countries.
Headline inflation picked up in April
and May, driven partly by sharp
increases in the prices of petroleumbased products. In contrast, natural gas
prices continued to decline in response
to excess supply, fully reversing last
autumn's rises. Higher oil prices showed
through to producer prices for a variety
of energy-intensive intermediate goods.
Consumer food prices decelerated markedly since January, reflecting slower
price increases for food away from
home and declines, on balance, in the
prices of fruits and vegetables. Core
price inflation rose less than headline
inflation in April and May but above its
pace earlier in the year. Core prices
were boosted in part by an acceleration
in shelter costs, especially those imputed for owner-occupied residences.
Readings on the growth of labor costs
were revised down for the fourth quarter
of 2005 and first quarter of 2006, but
recent data suggested a pickup in the
second quarter. A number of indicators
of inflation expectations largely reversed increases recorded in the spring.
At its May meeting, the Federal Open
Market Committee (FOMC) decided to
raise its target for the federal funds rate
25 basis points, to 5 percent. The Committee's accompanying statement indicated that economic growth had been
quite strong so far this year. The Committee saw growth as likely to moderate
to a more sustainable pace, partly reflecting a gradual cooling of the housing
market and the lagged effects of
increases in interest rates and energy
prices. At that time, the run-up in the
prices of energy and other commodities
appeared to have had only a modest
effect on core inflation. Ongoing productivity gains had helped to hold the
growth of unit labor costs in check, and
inflation expectations remained con-
Minutes of FOMC Meetings, June
tained. Still, possible increases in
resource utilization and the elevated
prices of energy and other commodities
had the potential to add to inflation pressures. In these circumstances, the Committee foresaw the possibility of a need
for some further policy firming to address inflation risks but emphasized that
the extent and timing of any such firming would depend importantly on the
evolution of the economic outlook as
implied by incoming information.
Investors anticipated the FOMC's decision at its May meeting to raise the
federal funds rate target 25 basis points,
but near-term policy expectations edged
up, apparently in response to the accompanying statement. Subsequent data releases reporting higher-than-expected
inflation, the release of the FOMC minutes, and speeches by Federal Reserve
policymakers all led investors to push
up their expectations for the future path
of the federal funds rate. Yields on nearterm nominal Treasury securities rose in
line with policy expectations over the
intermeeting period, but those on longerdated securities moved up by smaller
amounts. Yields on inflation-indexed
Treasury securities increased by more
than those on nominal securities, and the
resulting decline in inflation compensation retraced a substantial share of the
rise that had occurred over the preceding intermeeting period. Major stock
price indexes fell sharply over the
period. Spreads of yields on corporate
bonds over those on comparablematurity Treasury securities widened
somewhat, while those on speculativegrade issues rose by more.
After changing little on balance during much of May, the dollar's foreign
exchange value against other major currencies moved up in June and showed a
modest increase, on net, over the intermeeting period. The dollar appreciated
after comments by FOMC policymakers
193
that were interpreted by market participants as suggesting a higher likelihood
of policy tightening at the June FOMC
meeting. Prices of precious and industrial metals, which had risen sharply
since early March, particularly in May,
reversed those gains later in the intermeeting period.
Debt of the domestic nonfinancial
sectors was estimated to have decelerated in the second quarter after a robust
first-quarter increase. Business sector
debt advanced more slowly in the second quarter, although the expansion of
business loans remained brisk and net
issuance of corporate bonds was solid.
In the household sector, mortgage borrowing slowed in response to more subdued housing activity and moderating
house-price appreciation. M2 growth in
the second quarter was tepid, as the
growth of nominal income had apparently softened and rising opportunity
cost continued to dampen demand for
money.
The staff forecast prepared for this
meeting indicated that, after the significant deceleration of real GDP in the
current quarter from the first quarter of
2006, growth would proceed through
the end of 2007 at a pace a bit below the
rate of growth of the economy's potential. The outlook for modest growth of
real GDP reflected a slowdown in the
housing market, the effects of past policy tightening, and a diminished boost to
consumer spending from increases in
household wealth. Core consumer price
inflation was projected to have stepped
up in the second quarter from its average pace over the preceding several
quarters but to then drop back somewhat, albeit to a level higher than previously forecasted, as energy and import
prices flatten out and some slack
emerges in labor and product markets.
In their discussion of the economic
situation and outlook, meeting partici-
194 93rd Annual Report, 2006
pants saw economic growth as having
moderated in the second quarter from its
robust pace in the first quarter, reflecting
a cooling of the housing market and the
lagged effects of increases in interest
rates and energy prices. Most participants expected output to advance over
the next year and a half at a pace close
to that which the economy can sustain
over time. All participants found the
elevated readings on core inflation of
recent months to be of concern and, if
sustained, inconsistent with the maintenance of price stability. However, contained inflation expectations, the abatement of upward pressure from past
increases in energy and other commodity prices, and the slowing in the growth
of economic activity that was under way
were expected to contribute to a moderation in core inflation in coming quarters.
Nonetheless, participants noted a risk
that the drop-back in inflation could be
slower or more limited than the Committee would find desirable since
resource utilization was currently tight
and the pickup in price increases had
been broadly based rather than being
limited to a few specific sectors that
could be linked to energy costs.
In preparation for the Federal Reserve's semiannual report to the Congress on monetary policy, the members
of the Board of Governors and the presidents of the Reserve Banks submitted
individual projections of the growth of
GDP, the rate of unemployment, and
core consumer price inflation for 2006
and 2007, conditioned on the participants' views of the appropriate path for
monetary policy. The forecasts of the
rate of fourth-quarter to fourth-quarter
expansion in real GDP for 2006 were in
a range of 3 to 33A percent, with a
central tendency of 3V4 to 3V2 percent,
and those for 2007 were in a range of
2Vi to 3Vi percent, with a central tendency of 3 to 3V4 percent. These rates of
growth were associated with a civilian
unemployment rate in a range of 4Vi to
5 percent in the fourth quarter of this
year and 4lA to 5XA percent in the fourth
quarter of 2007, with a central tendency
at both horizons of 43A to 5 percent.
Forecasts of the rate of inflation, as
measured by the change in the average
fourth-quarter core PCE price index
from a year earlier, ranged from 2lA to
3 percent for this year, with a central
tendency of 2x/4 to 2Vi percent, and the
range and central tendency were 2 to
2lA percent for next year.
In their discussion of the major sectors of the economy, participants observed that housing construction activity
had declined notably in recent months
as indicated by lower housing starts and
permits; moreover, higher inventories of
unsold homes, a sharp rise in cancellations of new home sales, and reports
from construction companies suggested
that the weakness was likely to be
extended. Several participants pointed
out that the decline was broadly in line
with expectations in light of the tightening in monetary policy and the rapid
run-up in home prices and residential
construction in recent years. Participants
also observed that the evidence to date
indicated that the slowdown was orderly
but were mindful of the possibility of a
sharper downturn in the sector.
The growth of consumer spending
had dropped off significantly in the second quarter from a robust pace earlier in
the year. The slowdown was attributed
in part to higher energy prices and also
to a likely downshift in home price
appreciation and higher interest rates. A
reduction in the attractiveness of home
equity borrowing was mentioned as possibly contributing to the slowdown.
Some retailers, especially those catering
to lower- and middle-income customers,
reported weaker growth in sales. Consumer spending was expected to ad-
Minutes of FOMC Meetings, June
vance modestly in coming quarters as
the effects of more moderate gains in
home prices and a gradual rebound in
the household saving rate from recent
historically low levels were offset by
further gains in employment and growth
in labor income. A few participants
noted that the surge in federal tax
receipts this year and a similar advance
in revenue at the state level could be a
sign of vigorous gains in income,
indicating that household spending may
expand more rapidly than many were
anticipating.
Participants interpreted the incoming
data on orders and shipments of durable
goods, positive readings on business
sentiment, and continued high levels of
corporate profitability as suggesting that
business investment would remain a
source of strength going forward. In a
shift from the pattern observed in the
past few years, some contacts suggested
that businesses were now directing their
capital expenditures toward expanding
capacity rather than increasing efficiency, a signal of the anticipation of
continued solid growth in demand. Business expenditures on nonresidential
structures also were seen to be advancing robustly in a number of markets,
possibly providing some offset to reduced residential construction activity.
Several participants observed that the
continued ready availability of credit
would support business expenditures.
Others, however, noted that the pullback
from risk-taking that had been observed
in some financial markets over the preceding few months could intensify, raising the cost of funds.
Participants observed that many foreign central banks had tightened monetary policy over the intermeeting period
in response to strengthening activity and
indications of inflation pressures.
Greater uncertainty about inflation pressures and the needed policy response
195
had perhaps contributed to a reassessment of risks by investors globally. Despite the tighter policy, however, economic growth in the United States'
major trading partners appeared likely
to remain solid, supporting U.S. exports.
Participants also discussed the role of
global capacity utilization in the inflation process.
All meeting participants expressed
concern about recent elevated readings
on core inflation. A key issue was the
extent to which this spring's increase in
inflation reflected transitory or persistent influences. Many noted that a number of factors were temporarily boosting
inflation. The pass-through of the substantial rise in energy prices could
account for a considerable part of the
step-up in core inflation in recent quarters. In addition, rising rents had been
boosting the cost of shelter and so contributing to the increase in core inflation. However, energy prices were
expected to level out, and rents, while
difficult to forecast, were viewed by
some participants as likely to decelerate
in coming quarters. The moderation in
the economic expansion was expected
to prevent pressures on resource utilization from intensifying. In sum, with inflation expectations contained and unit
labor costs held down by ongoing gains
in productivity and modest advances in
compensation, inflation was seen by
most participants as likely to edge down.
Nevertheless, several factors were
cited as potentially sustaining upward
pressure on inflation, and the range of
participants' forecasts for core inflation
in 2007 rose by lA percentage point
relative to the range of forecasts made in
February. Some participants noted that
businesses in their Districts were experiencing difficulty hiring certain types of
skilled workers, suggesting that increased wage pressures might emerge.
In addition, some business contacts indi-
196 93rd Annual Report, 2006
cated a greater ability to pass higher would likely influence the future path of
costs on to customers, although other policy. In light of the possibility that the
businesses continued to report that their lessening of inflation pressures could be
pricing power remained limited. The more limited than consistent with susrelatively taut resource markets and the tained good performance of the econlagged effects of the increase in energy omy, members agreed to indicate that
prices raised the possibility that infla- "[ajlthough the moderation in the
tion could continue at somewhat el- growth of aggregate demand should help
evated levels for some time. Higher lev- to limit inflation pressures over time . . .
els of inflation, should they persist, some inflation risks remain." Neverthecould become embedded in inflation ex- less, with the economy slowing and
pectations. In that vein, several partici- some of the effects of past tightening
pants noted that inflation expectations still in the pipeline, members recognized
had been sensitive to incoming data and the value of accumulating more inforto communications regarding monetary mation for determining what, if any,
policy over the intermeeting period.
additional policy action would be
All Committee members agreed that needed following the tightening adopted
raising the target for the federal funds at the current meeting. To indicate that
rate 25 basis points, to 5V4 percent, at policy action at future meetings was not
this meeting was appropriate given the foreordained and would depend on the
recent readings on inflation and the as- forecasts for inflation and activity in the
sociated deterioration in the inflation medium term, the Committee agreed to
outlook. Such an action would also help state that "[t]he extent and timing of any
preserve the decline in inflation expecta- additional firming that may be needed to
tions that had occurred over the inter- address these risks will depend on the
meeting period and which appeared to evolution of the outlook for both inflabe conditioned on an outlook for a pol- tion and economic growth, as implied
icy firming. Characterizing the resulting by incoming information."
After consulting with the participants,
stance of policy was quite difficult in the
view of most members; those who did the communications subcommittee recventure a judgment saw the stance as ommended that the Committee begin its
ranging from modestly restrictive to discussions of communications issues at
somewhat accommodative. Many mem- the FOMC meeting in August and that
bers noted that significant uncertainty the FOMC meetings scheduled for later
accompanied the appropriate setting of this year be lengthened to allow a fuller
policy going forward, and one indicated initial discussion of some of these
that the decision to raise the target fed- issues. The Committee also discussed
eral funds rate at this meeting was a briefly the schedule for FOMC meetings
next year and tentatively agreed to
close call.
In their discussion of the wording of increase the number of two-day meetthe statement to be released after the ings to four.
At the conclusion of the discussion,
meeting, members expressed a wide
range of views. Some members favored the Committee voted to authorize and
a shorter statement that focused on the direct the Federal Reserve Bank of New
Committee's desire to see core inflation York, until it was instructed otherwise,
decline from its recent elevated levels, to execute transactions in the System
while others were inclined to provide Account in accordance with the followmore information about the forces that ing domestic policy directive:
Minutes of FOMC Meetings, August
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with increasing the federal funds rate to an average of around
5VA percent.
The vote encompassed approval of
the paragraph below for inclusion in the
statement to be released shortly after the
meeting:
Although the moderation in the growth of
aggregate demand should help to limit inflation pressures over time, the Committee
judges that some inflation risks remain. The
extent and timing of any additional firming
that may be needed to address these risks
will depend on the evolution of the outlook
for both inflation and economic growth, as
implied by incoming information. In any
event, the Committee will respond to
changes in economic prospects as needed to
support the attainment of its objectives.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Guynn,
Kohn, Kroszner, and Lacker, Ms. Pianalto, Mr. Warsh, and Ms.Yellen. Votes
against this action: None.
The meeting adjourned at 11:10 a.m.
197
Reserve System in Washington, D.C.,
on Tuesday, August 8, 2006 at 8:30 a.m.
Present:
Mr. Bernanke, Chairman
Mr. Geithner, Vice Chairman
Ms. Bies
Mr. Guynn
Mr. Kohn
Mr. Kroszner
Mr. Lacker
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Mr. Hoenig, Ms. Minehan, Messrs.
Moskow and Poole, Alternate
Members of the Federal Open
Market Committee
Messrs. Fisher, Plosser, and Stern,
Presidents of the Federal Reserve
Banks of Dallas, Philadelphia, and
Minneapolis, respectively
Mr. Reinhart, Secretary and Economist
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Kamin,
Madigan, Sniderman, Struckmeyer, and Wilcox, Associate
Economists
Mr. Kos, Manager, System Open Market Account
Notation Vote
By notation vote completed on May 30,
2006, the Committee unanimously approved the minutes of the Federal Open
Market Committee meeting held on May
10, 2006.
Vincent R. Reinhart
Secretary
Mr. English and Ms. Liang, Associate
Directors, Divisions of Monetary
Affairs
and Research and
Statistics, respectively, Board of
Governors
Mr. Reifschneider, Deputy Associate
Director, Division of Research and
Statistics, Board of Governors
Messrs. Dale and Orphanides, Senior
Advisers, Division of Monetary
Affairs, Board of Governors
Meeting Held on
August 8, 2006
Mr. Gross, Special Assistant to the
Board, Office of Board Members,
Board of Governors
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Mr. Small, Project Manager, Division
of Monetary Affairs, Board of
Governors
198 93rd Annual Report, 2006
Mr. Luecke, Senior Financial Analyst,
Division of Monetary Affairs,
Board of Governors
Ms. Beechey, Economist, Division
of Monetary Affairs, Board of
Governors
Ms. Low, Open Market Secretariat Specialist, Division of Monetary Affairs, Board of Governors
Mr. Barron, First Vice President, Federal Reserve Bank of Atlanta
Messrs. Fuhrer and Rosenblum, Executive Vice Presidents, Federal Reserve Banks of Boston and Dallas,
respectively
Mr. Hakkio, Ms. Mester, Messrs. Rasche and Williams, Senior Vice
Presidents, Federal Reserve Banks
of Kansas City, Philadelphia,
St. Louis, and San Francisco,
respectively
Messrs. Peach and Krane, and Ms.
Weir, Vice Presidents, Federal Reserve Banks of New York, Chicago, and New York, respectively
Mr. Weber, Senior Research Officer,
Federal Reserve Bank of
Minneapolis
Mr. Hetzel, Senior Economist, Federal
Reserve Bank of Richmond
The Manager of the System Open
Market Account reported on recent developments in foreign exchange markets. There were no open market operations in foreign currencies for the
System's account in the period since the
previous meeting. The Manager also reported on developments in domestic financial markets and on System open
market transactions in government securities and federal agency obligations
during the period since the previous
meeting. By unanimous vote, the Committee ratified these transactions.
The information reviewed at the
meeting suggested that the growth of
economic activity in the second quarter
slowed from its rapid pace in the first
quarter. Residential investment contracted as activity in the housing market
continued to cool. Consumer spending
and business investment decelerated
after posting substantial increases in the
first quarter. The demand for labor moderated, with hiring in recent months below the pace of earlier this year. Consumer price inflation remained elevated
in July, reflecting further increases in
energy prices and shelter costs.
Nonfarm payrolls increased in June
and July, but more slowly than in the
first quarter. The moderation in hiring
was most pronounced in retail trade but
was also evident in construction and
non-business services. Establishments in
professional and business services continued to add jobs at roughly the same
pace as that of earlier in the year. Average hours of production or nonsupervisory workers on private nonfarm payrolls edged up. The unemployment rate
rose to 4.8 percent in July, above its
average over the first half of the year.
Industrial production picked up in
June. For the second quarter as a whole,
it grew at a robust rate that was faster
than its first-quarter pace. Gains in
manufacturing production were widespread across industries. The mining
sector, which includes oil and natural
gas extraction, expanded solidly in June,
although average growth in the second
quarter was below that of the first quarter, in part because the recovery from
the disruptions caused by last year's
hurricanes neared completion. Utilities
output grew strongly in the second
quarter. The rate of capacity utilization
in the manufacturing sector stepped up
in June and remained above its long-run
average.
The growth of consumer spending
slowed considerably in the second quarter after the surge in purchases around
the turn of the year. Spending on goods
Minutes of FOMC Meetings, August
excluding motor vehicles posted a modest increase in June after remaining flat,
on average, over the previous four
months. Although nominal wages and
salaries rose briskly in the first half of
the year, gains in real disposable income
were held down by rising consumer
prices. While past gains in household
wealth, particularly from home prices,
supported consumer spending, higher
interest rates and energy prices were
likely a restraining influence. Indicators
of consumer sentiment for July were
mixed.
Residential construction activity contracted in the second quarter. Singlefamily starts declined in June to a level
well below the average of the previous
twelve months. Construction in the multifamily sector remained steady, with
starts in June well within the typical
range seen since 1995. Sales of both
new and existing single-family homes
slowed in June and were significantly
below their peaks of the summer of
2005. Available measures of house
prices indicated that price increases had
moderated over the past four quarters.
After surging in the first quarter, real
spending on equipment and software
edged down in the second quarter. The
decline was accounted for primarily by
a drop in expenditures on communications and transportation equipment.
Spending on high-tech equipment and
software declined as well. The construction of nonresidential buildings moved
up at a solid pace over the first half of
the year, although activity remained well
short of its previous peak in mid-2000.
Outlays on drilling and mining structures continued to climb in response to
high energy prices, and spending on office construction edged up as vacancy
rates continued to trend down. Overall,
economic fundamentals and business
sentiment continued to support increased investment.
199
The book value of manufacturing and
trade inventories excluding motor vehicles rose in May, and real nonfarm
inventories excluding motor vehicles
appeared to be slightly higher in the
second quarter than earlier in the year.
The ratio of book-value inventories to
sales edged down in May in both the
trade and manufacturing sectors after
having remained relatively steady over
the previous three months. In the manufacturing sector, however, inventories
ticked up again in June. In general,
inventories appeared to be well aligned
with demand, and business surveys suggested that firms were comfortable with
the level of inventories.
The U.S. international trade deficit
widened in May, reflecting a sharp
increase in imports that more than offset
a sizable gain in exports. Import growth
was heavily concentrated in oil, reflecting both higher prices and quantities;
other categories of imports fell on balance. Exports rose across almost all major product categories; the largest gains
were in consumer goods and capital
goods, especially aircraft. Expansion of
economic activity in the advanced foreign economies appeared to continue in
the second quarter at a pace roughly
comparable to that of the first quarter,
on net. Incoming data for the second
quarter pointed to a pickup in economic
growth in the euro area and Japan but
indicated that growth slowed somewhat
in Canada. Recent economic indicators
from the developing economies were
mixed but, in general, suggested some
moderation in growth from the rapid
first-quarter pace.
Headline inflation continued to move
up, on balance, in recent months, and
consumer prices increased at a faster
pace in the second quarter than over the
previous twelve months. Consumer
energy prices, while declining slightly
in June, surged during the second quar-
200 93rd Annual Report, 2006
ter, on net. Core consumer prices also
continued to rise, boosted by an acceleration in shelter costs, particularly
those for owner-occupied residences,
and some pass-through of energy cost
increases. Higher oil prices showed
through in producer prices for a variety
of energy-intensive intermediate goods.
Rising import prices, higher domestic
rates of capacity utilization, and strong
global demand for materials were factors underlying an acceleration in core
prices for intermediate materials. The
price of crude oil increased further over
the intermeeting period, and strong
weather-related demand caused the price
of natural gas to rise considerably. The
employment cost index rose somewhat
faster in the second quarter than over the
preceding three months, but the twelvemonth change was less than that of a
year ago. Survey measures of households' inflation expectations in June and
July reversed their increases in April
and May.
At its June meeting, the Federal Open
Market Committee (FOMC) decided to
raise its target for the federal funds rate
25 basis points, to 5lA percent. The
Committee's accompanying statement
indicated that economic growth had
been moderating from its quite strong
pace earlier in the year, partly reflecting
a gradual cooling of the housing market
and the lagged effects of increases in
interest rates and energy prices. Readings on core inflation had been elevated
in recent months, but ongoing productivity gains had held down the rise in
unit labor costs, and inflation expectations remained contained. However,
high levels of resource utilization and
the high prices for energy and other
commodities had the potential to sustain
inflation pressures. Although the moderation in the growth of aggregate demand would help limit inflation pressures over time, the Committee judged
that some inflation risks remained. The
extent and timing of any additional firming would depend on the evolution of
the economic outlook as implied by incoming information.
Investors anticipated the FOMC's decision at its June meeting to raise the
federal funds rate 25 basis points, but
near-term policy expectations edged
lower, apparently in response to the accompanying statement. Subsequently,
data releases on real activity that were
weaker than expected, the Chairman's
testimony on the semiannual Monetary
Policy Report, and the release of the
June FOMC minutes all led investors to
revise down their expectations for the
future path of the federal funds rate.
Yields on nominal Treasury securities
fell in line with policy expectations over
the intermeeting period. Yields on
inflation-indexed Treasury securities
declined a bit more than those on comparable nominal Treasury securities,
leaving inflation compensation up
slightly, albeit within recent ranges.
Spreads of yields on corporate bonds
over those on comparable-maturity
Treasury securities were about unchanged, while those on speculativegrade bonds widened. Major stock price
indexes rose modestly. The foreign
exchange value of the dollar against
other major currencies fell, on net, over
the intermeeting period.
Debt of the domestic nonfinancial
sectors was estimated to have decelerated in the second quarter after a robust
first-quarter increase. Business-sector
debt increased briskly, as the expansion
of business loans remained robust. In
the household sector, mortgage debt decelerated from the first quarter's rapid
pace in response to higher mortgage
rates and slower house-price appreciation. M2 growth dropped in the second
quarter and remained modest in July,
consistent with moderating growth of
Minutes of FOMC Meetings, August
nominal income and rising opportunity
cost.
The staff forecast prepared for this
meeting indicated that real GDP growth
would slow in the second half of 2006
and 2007, and to a lower rate than had
been anticipated in the prior forecast.
The marking down of the outlook was
largely attributable to the annual revision of the national income and product
accounts, which involved downward revisions to actual GDP growth in prior
years and prompted reductions in the
staffs estimate of potential output. The
slowdown in the housing market, the
effects of higher energy prices on household purchasing power, the waning impetus of household wealth effects on
consumer spending, and the effects of
past policy tightening were expected to
hold economic growth below potential
over the next six quarters. Core consumer price inflation was projected to
drop back somewhat later this year and
next, mainly as the effects of higher
energy and import prices abated.
In their discussion of the economic
situation and outlook, meeting participants noted that the slowing of GDP
growth in the second quarter was generally in line with expectations, reflecting
the continued cooling of the housing
market, the restraining influence on demand of higher energy prices, and the
lagged effects of past increases in interest rates. Going forward, output was
expected to advance at a pace at or
slightly below the economy's potential
rate of growth, but several participants
noted that the annual revision to the
national income and product accounts
suggested this growth rate likely was
lower than previously believed. Incoming information with regard to inflation
had not been encouraging. Still, most
participants thought that, with energy
prices possibly leveling out, aggregate
demand moderating, and long-term in
201
flation expectations contained, core PCE
inflation likely would decline gradually
from its recent elevated level, though
the upside risks to inflation were
significant.
In their discussion of the major sectors of the economy, participants noted
that residential construction activity had
continued to recede over the past few
months and cited the housing sector as a
downside risk to the outlook for growth.
The rate of new home sale cancellations,
which was identified as an important
leading indicator by some contacts in
the construction industry, had spiked
higher. Single-family housing starts and
permits continued to fall, and inventories of unsold housing appeared to
have risen significantly, pointing to continued slowing in this sector. Some participants observed that the slowing
seemed to be orderly thus far, but it was
also noted that in some areas of the
country housing construction had experienced a relatively sharp fall. In general, participants expressed considerable
uncertainty regarding prospects for the
housing sector.
Meeting participants noted that the
continued increases in energy prices and
borrowing costs appeared to have restrained consumer spending growth in
recent months. Contacts in the retail sector generally reported a continued slowing of growth in sales, although the
situation differed somewhat by region
and type of good or service. Reliable,
comprehensive data were not yet available on recent house price movements,
but the rate of appreciation appeared to
be moderating and was likely to slow
further in coming months. The slower
pace of increase in housing wealth
would restrain consumption growth,
though by how much was uncertain.
However, the financial condition of
households, as judged by indicators such
as bankruptcy filings and loan delin-
202 93rd Annual Report, 2006
quencies, appeared to remain solid.
Overall, consumption spending seemed
likely to expand at a moderate pace in
coming quarters.
Although business fixed investment
in the second quarter was a little lower
than had been expected, participants
noted that this development appeared
mainly to reflect the timing of purchases, particularly of transportation
equipment, and not weakness in the
underlying trend. Some participants
noted that nonresidential construction
had continued to strengthen, offsetting
some of the contraction in residential
construction. Looking forward, strong
business balance sheets and high profitability were seen as supporting continued growth in expenditures on software
and equipment. However, it was noted
that if the reported slowing of increases
in retail sales continued, businesses
might trim capital spending plans.
With regard to the federal sector,
spending related to last year's hurricanes appeared likely to abate, and federal expenditures overall would probably be providing less impetus to
aggregate demand going forward. Federal receipts had been increasing rapidly, a development that reflected
continued strong growth in labor and
non-labor income.
Some participants noted that global
demand remained strong, potentially
adding to worldwide pressures on
resources. Increased geopolitical risks,
particularly related to developments in
the Middle East, continued to put pressure on energy prices, and the prices of
many other commodities also had
firmed over the intermeeting period.
Central banks had been raising interest
rates globally, however, and this was
viewed as a factor that should help to
restrain global inflation pressures. But it
was also noted that the recent decline in
the foreign exchange value of the dollar
could lead to a weakening of import
competition in the form of increases in
the prices of tradable goods in the
United States.
As at the June meeting, all participants expressed concern about continued elevated readings on core inflation
and inflation risks going forward. Several participants took note of the revisions to historical data that painted a
more worrisome picture of cost trends;
measures of unit labor costs had been
marked up, reflecting upward revisions
to labor compensation and downward
revisions to labor productivity. Core
PCE inflation now appeared to have
been running at or above a 2 percent
annual rate for more than two years,
with prices accelerating over the first
half of 2006. Many participants noted
that the extent to which the increase in
core inflation so far this year reflected
transitory or persistent influences remained unclear. The recent pickup in
price increases appeared to be broadbased, and a number of business contacts reported greater ability to pass
through higher costs. However, some
types of price pressures were not likely
to continue to increase. The recent acceleration in shelter costs, which contributed substantially to the increase in
core inflation this year, could prove
short-lived. Moreover, while energy
prices had risen further in the intermeeting period, energy prices could well
level out in coming quarters. Also, the
anticipated moderation in aggregate demand implied that pressures on resource
utilization likely would not increase and
could abate to a degree going forward.
Finally, inflation expectations appeared
to have remained contained despite adverse news about prices. In light of these
factors, most participants expressed the
view that core inflation was likely to
decline gradually over the next several
Minutes of FOMC Meetings, August
quarters, although appreciable upside
risks remained.
In the Committee's discussion of
monetary policy for the intermeeting
period, nearly all members favored
keeping the target federal funds rate at
5lA percent at this meeting. In view of
the elevated readings on costs and
prices, many members thought that the
decision to keep policy unchanged at
this meeting was a close call and noted
that additional firming could well be
needed. But with economic growth having moderated some, most members anticipated that inflation pressures quite
possibly would ease gradually over
coming quarters and the current stance
of policy could well prove to be consistent with satisfactory economic performance. Under these circumstances,
keeping policy unchanged at this meeting would allow the Committee to accumulate more information before judging
whether additional firming would be
necessary to foster the attainment of
price stability over time. The full effect
of previous increases in interest rates on
activity and prices probably had not yet
been felt, and a pause was viewed as
appropriate to limit the risks of tightening too much. Following seventeen consecutive policy firming actions, members generally saw limited risk in
deferring further policy tightening that
might prove necessary, as long as inflation expectations remained contained.
All members agreed that the statement to be released after the meeting
should convey that inflation risks
remained dominant and that consequently keeping policy unchanged at
this meeting did not necessarily mark
the end of the tightening cycle. They
concurred that an indication that economic growth had moderated was appropriate, and a consensus favored citing the same reasons for that moderation
as in the June statement. Members also
203
agreed that the statement should both
mention factors contributing to the
likely moderation of inflation pressures
over time and reiterate the forces that
were seen as having the potential to
sustain inflation pressures.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with maintaining the federal
funds rate at an average of around
5lA percent.
The vote encompassed approval of
the text below for inclusion in the statement to be released at 2:15 p.m.:
The Committee judges that some inflation
risks remain. The extent and timing of any
additional firming that may be needed to
address theseriskswill depend on the evolution of the outlook for both inflation and
economic growth, as implied by incoming
information.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Guynn,
Kohn, Kroszner, Ms. Pianalto, Mr.
Warsh, and Ms. Yellen. Votes against
this action: Mr. Lacker.
Mr. Lacker dissented because he believed that further tightening was needed
to bring inflation down more rapidly
than would be the case if the policy rate
were kept unchanged. The inflation outlook had deteriorated in the intermeeting period; the recent surge in core inflation had persisted and appeared to be
broad-based, while the revision of the
national income and product accounts
indicated a recent upswing in compensation and unit labor costs. Although real
204 93rd Annual Report, 2006
growth was likely to be somewhat lower
in coming quarters, in his view it was
unlikely to moderate by enough to bring
core inflation down. He noted, moreover, that real short-term interest rates
had fallen in the intermeeting period and
were still low relative to rates typically
associated with sustained expansions.
The Committee then turned to a discussion of the goals and principles that
should guide the review of its approaches to policy communications that
it had recently undertaken. Participants
agreed that communication was important for democratic accountability and
could promote the effectiveness of policy. Although considerable strides had
been made in FOMC communications
over the past ten years or so, participants generally thought that further
advances were possible. In that regard,
consideration of how the Committee expressed both its economic objectives and
its assessments of expected progress toward those objectives was likely to be
particularly important. Conveying the
degree of uncertainty and conditionality
about Committee expectations of future
developments was seen as a major challenge. It was recognized that communications should support appropriate decisionmaking, including respect for the
diversity of views that contributed to
good decisions. Participants agreed to
continue the Committee's review of
communications issues at the FOMC
meeting in October.
The meeting adjourned at 3:05 p.m.
Notation Vote
By notation vote completed on July 19,
2006, the Committee unanimously approved the minutes of the FOMC meeting held on June 28-29, 2006.
Vincent R. Reinhart
Secretary
Meeting Held on
September 20, 2006
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, September 20, 2006 at
8:30 a.m.
Present:
Mr. Bernanke, Chairman
Mr. Geithner, Vice Chairman
Ms. Bies
Mr. Guynn
Mr. Kohn
Mr. Kroszner
Mr. Lacker
Mr. Mishkin
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Ms. dimming, Mr. Hoenig, Ms. Minehan, and Messrs. Moskow and
Poole, Alternate Members of the
Federal Open Market Committee
Messrs. Fisher, Plosser, and Stern,
Presidents of the Federal Reserve
Banks of Dallas, Philadelphia, and
Minneapolis, respectively
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Mr. Baxter, Deputy General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Kamin,
Madigan, Sniderman, Struckmeyer, Tracy, Weinberg, and Wilcox, Associate Economists Mr.
Kos, Manager, System Open Market Account
Messrs. English and Slifman, Associate
Directors, Divisions of Monetary
Affairs and Research and Statistics, respectively, Board of
Governors
Mr. Reifschneider, Deputy Associate
Director, Division of Research and
Statistics, Board of Governors
Minutes of FOMC Meetings, September 205
Mr. Oliner, Senior Adviser, Division of
Research and Statistics, Board of
Governors
The information reviewed at the
meeting suggested that economic activity continued to decelerate in recent
Mr. Gross, Special Assistant to the months. Consumer and business spendBoard, Office of Board Members, ing held up well, and payroll employBoard of Governors
ment continued to rise moderately in
Mr. Small, Project Manager, Division July and August. However, a contracof Monetary Affairs, Board of tion in homebuilding was damping the
Governors
economic expansion. Core consumer
price
inflation eased somewhat but
Mr. Durham, Section Chief, Division
nonetheless
remained higher than it was
of Monetary Affairs, Board of
in 2005. Total consumer price inflation
Governors
moderated in August, reflecting a subMr. Luecke, Senior Financial Analyst, stantial slowing of the increase in energy
Division of Monetary Affairs,
prices.
Board of Governors
Nonfarm payrolls rose in August at a
Ms. Low, Open Market Secretariat Spe- pace similar to that recorded over the
cialist, Division of Monetary
previous four months. Employment
Affairs, Board of Governors
gains were widespread in the service
Mr. Lyon, First Vice President, Federal sector, and the construction industry also
Reserve Bank of Minneapolis
added jobs, particularly in nonresidenMessrs. Fuhrer and Rosenblum, Execu- tial building. However, employment in
tive Vice Presidents, Federal retail trade and manufacturing fell again
Reserve Banks of Boston and Dal- in August. Average hours of production
las, respectively
or nonsupervisory workers edged lower.
Mr. Evans, Ms. Mester, Messrs. Rasche, The unemployment rate ticked back
Rolnick, Rudebusch, and Sellon, down to 4.7 percent in August, but it
Senior Vice Presidents, Federal remained within the narrow band that
Reserve Banks of Chicago, Phila- prevailed since the beginning of the
delphia, St. Louis, Minneapolis, year.
San Francisco, and Kansas City,
Industrial production rose in July but
respectively
edged down in August. Manufacturing
Ms. Mosser, Vice President, Federal output was unchanged in August, as a
Reserve Bank of New York
small increase in the production of
The Manager of the System Open motor vehicles and parts was offset by a
Market Account reported on recent de- slight net decline in other sectors. Outvelopments in foreign exchange mar- put of construction supplies, for examkets. There were no open market opera- ple, dropped a little. In the hightions in foreign currencies for the technology sector, the production of
System's account in the period since the computers rose tepidly through the sumprevious meeting. The Manager also re- mer, while output of communications
ported on developments in domestic equipment turned down in August after
financial markets and on System open increasing markedly during the first half
market transactions in government secu- of the year. Semiconductor production
rities and federal agency obligations remained sluggish through August.
during the period since the previous
Consumer spending appeared to be
meeting. By unanimous vote, the Com- rising at a moderate pace in recent
months. Spending on cars and light
mittee ratified these transactions.
206 93rd Annual Report, 2006
trucks increased somewhat in July after
a lackluster pace in the second quarter
but apparently weakened in August.
Consumer spending on goods excluding
motor vehicles increased modestly during the four months ending in July. Despite the sharp net increase in energy
prices, real disposable income rose further, with solid gains in June and July.
Increases in household wealth earlier in
the year continued to boost consumer
spending. However, consumer borrowing costs had risen since the beginning
of the year with the increase in shortterm interest rates. Recent readings on
consumer sentiment were mixed. The
personal saving rate fell further in July.
Residential construction activity continued to contract in recent months.
Single-family starts fell further in July
and August to a level well below the
peak in the third quarter of 2005. Construction in the multifamily sector also
fell back. Sales of both new and existing
single-family homes fell in July and
were significantly below the peaks of
last summer. A range of indicators suggested that housing market activity was
likely to slow further in the near term.
Pending home sales dropped noticeably
in July, and mortgage rates had
increased since the beginning of the
year. Available measures suggested that
prices of existing homes increased
through the second quarter at a much
lower rate than the one observed during
the same period last year.
After strong increases in the first half
of 2006, real spending on equipment
and software remained robust into the
summer against a backdrop of rising
business output, plentiful corporate cash
reserves, positive sentiment among executives, and falling relative prices for
high-tech equipment. Orders and shipments of communications equipment
leveled off in recent months after climbing earlier this year. Real computer
spending remained sluggish in July.
Business purchases of light vehicles
picked up in August after a weak performance in July, and sales of medium and
heavy trucks remained brisk. Available
data indicated that aircraft purchases
remained flat. Real spending on equipment outside the high-tech and transportation sectors appeared to be increasing
moderately in the current quarter.
Book-value data for the manufacturing and trade sectors suggested that
inventory accumulation slowed only
modestly in July from a brisk pace in the
second quarter. Outside the motor vehicle sector, inventories appeared to be
well aligned with demand, and surveys
indicated that firms continued to be generally comfortable with their level of
inventories.
Both imports and exports increased in
the second quarter, but imports increased
and exports decreased in July, widening
the U.S. trade deficit. The growth of
imports was heavily concentrated in oil,
reflecting higher petroleum prices, and
in non-oil industrial supplies and capital
goods. Imports of services fell slightly.
Exports of capital goods and industrial
supplies declined after considerable
gains in June, but exports of telecommunications equipment and automotive
products were strong. Exports of services were unchanged in July.
Economic activity in the advanced
foreign economies decelerated in the
second quarter but remained strong. A
fall in net exports held back expansion
in Japan and Canada, while strong
domestic demand boosted growth in the
United Kingdom and the euro area. Incoming data suggested that overall GDP
growth in these countries for the current
quarter was dropping a bit from the
second-quarter pace. Recent economic
indicators from the emerging-market
economies generally pointed to robust,
but moderating, growth.
Minutes of FOMC Meetings, September 207
The overall price index for personal
consumption expenditures rose relatively steeply in July and was estimated
to have increased further in August,
bringing the advance over the twelvemonth period above the year-earlier rise.
After July, though, crude oil and gasoline prices dropped back significantly,
and with inventories of natural gas
remaining near seasonal highs, natural
gas prices fell from their spike earlier
this summer. Core consumer prices
increased at a somewhat more subdued
pace over July and August, but despite
the recent moderation, the twelve-month
change in core prices remained above
the increase over the comparable period
twelve months earlier. The producer
price index for core intermediate materials rose significantly in July and August.
Substantial upward revisions to wages
and salaries boosted compensation per
hour in the first quarter. The increase
likely owed in part to the exercise of
stock options and cash bonuses; other
data that did not include such forms of
compensation pointed to more moderate
increases. Hourly compensation rose
further in the second quarter and recorded an increase of about 13A percent
from four quarters earlier. After more
favorable readings in June and July, survey measures of households' inflation
expectations turned back up in August,
but preliminary September readings suggested a decline.
At its August meeting, the Federal
Open Market Committee (FOMC)
decided to maintain its target for the
federal funds rate at 5V4 percent. The
Committee's accompanying statement
indicated that economic growth had
moderated from its quite strong pace
earlier in the year, partly reflecting a
gradual cooling of the housing market
and the lagged effects of increases in
interest rates and energy prices. Readings on core inflation had been elevated
in recent months, and the high levels of
resource utilization and of the prices of
energy and other commodities had the
potential to sustain inflation pressures.
However, inflation pressures seemed
likely to moderate over time, reflecting
contained inflation expectations and the
cumulative effects of monetary policy
actions, as well as reduced impetus from
higher energy and materials costs. Nonetheless, the Committee judged that some
inflation risks remained. The extent and
timing of any additional firming that
may be needed to address these risks
would depend on the evolution of the
outlook for both inflation and economic
growth, as implied by incoming
information.
Investors had largely anticipated the
FOMC's decision at its August meeting
to maintain the federal funds rate at its
current level, and short-term rates
dropped only a bit in response. Subsequently, data on inflation that were
weaker than expected, substantial
declines in oil prices, and the release of
the minutes of the August FOMC meeting led investors to revise down their
expectations for the future path of the
federal funds rate. Over the intermeeting
period, yields on short- and intermediate-term nominal Treasury securities fell, while yields on inflationindexed
Treasury
securities
of
comparable maturity increased somewhat, pushing inflation compensation
considerably lower at those horizons.
Nominal forward rates further out the
yield curve fell about the same amount
as real forward rates, implying little
change in far-forward inflation compensation. Spreads of yields on investmentand speculative-grade corporate bonds
over those on Treasury securities were
about unchanged. Major stock price indexes posted solid gains. The foreign
exchange value of the dollar against
other major currencies was little
208 93rd Annual Report, 2006
changed, on net, over the intermeeting
period.
Debt of the domestic nonfinancial
sectors in the third quarter was estimated to be rising at about the same
pace as in second quarter. Businesssector debt was increasing briskly, as the
expansion of business loans remained
robust. In the household sector, debt
expanded in the second quarter at a rate
slightly below that in the first quarter, as
mortgage debt decelerated somewhat.
M2 growth remained modest in August,
consistent with moderating growth of
nominal income and lagged increases in
opportunity cost.
The staff forecast prepared for this
meeting indicated that real GDP growth
would continue to slow into the second
half of 2006 before strengthening gradually thereafter. By 2008, output was projected to be expanding at a pace about
equal to the staffs forecast of potential
output growth. The staff, however, had
again reduced its projection for potential
GDP growth, and the projected slow
pace of growth over the next several
quarters was thus consistent with an
opening of only a small gap in resource
utilization. In the near term, the cooling
of the housing market and lower motor
vehicle production were expected to
hold growth back. At the same time,
though, significantly lower energy
prices, sustained increases in labor
income, and favorable labor market conditions were anticipated to support
expansion through the end of the year.
Further ahead, the lagged effects of the
previous tightening of monetary policy
and waning stimulus from household
wealth and fiscal policy were anticipated to restrain growth, but the drag
from the downturn in residential construction was expected to abate. Core
consumer price inflation was projected
to drop back somewhat later this year
and next, reflecting the emergence of
slack in the economy and lower energy
costs.
In their discussion of the economic
situation and outlook, meeting participants noted that the pace of the expansion appeared to be continuing to moderate in the third quarter. In particular,
activity in the housing market seemed to
be cooling considerably, which would
contribute to relatively subdued growth
over the balance of the year. Growth
was likely to strengthen next year as the
housing correction abated, with activity
also encouraged by the recent decline in
energy prices and still-supportive financial conditions. In the view of many
participants, economic expansion would
probably track close to the rate of
growth of the economy's potential next
year and in 2008. Many participants also
noted that core inflation had been running at an undesirably high rate.
Although most participants expected
core inflation to decline gradually, substantial uncertainty attended this outlook.
In their discussion of major sectors of
the economy, meeting participants focused especially on developments in the
housing market. Although the situation
varied somewhat across the nation,
housing activity was continuing to contract in most regions. Home sales had
slowed considerably, and anecdotal reports suggested that more buyers were
canceling contracts for purchases. Participants noted that inventories of unsold homes had climbed sharply in many
areas and that builders were taking a
number of measures to reduce inventories. Both permits for new construction and housing starts had declined significantly. Available measures of home
prices suggested that appreciation had
slowed considerably but prices in most
areas were not falling, although some
sellers were reported to be providing
Minutes of FOMC Meetings, September 209
various inducements to potential purchasers that reduced effective prices.
Thus far, the drop in housing market
activity appeared not to have spilled
over significantly to other sectors of the
economy. Indeed, consumer expenditures appeared to have been expanding
moderately over the previous few
months, buoyed by increases in employment, personal income, and household
wealth. Contacts in some Districts reported that retail sales had picked up a
little most recently. Meeting participants
noted that consumer spending going forward would be supported by the higher
levels of personal income indicated by
recent revisions to the national income
and product accounts, by further gains
in employment, and by the decline in
consumer energy prices over recent
months. However, considerable uncertainty was expressed regarding the ultimate extent of the downturn in the housing sector and the degree to which the
slowing in housing activity and the deceleration in home prices would affect
consumption and other expenditures going forward.
Business investment spending generally was seen as expanding at a reasonably good pace. Meeting participants
noted broad strength in manufacturing
of capital goods. Nonresidential
construction activity continued to
strengthen, and in the process was absorbing some of the resources that were
no longer employed in homebuilding.
Although some survey evidence suggested that some firms were trimming
capital spending plans, participants reported that their business contacts generally were quite positive about the economic outlook and the strength of
demand for their products. In this environment, investment spending would
likely continue to be supported by
expansion of overall output, strong balance sheets and profits, and the ready
availability of funding from financial
markets and institutions.
Participants noted that the financial
condition of federal and state governments continued to improve. Inflows of
tax revenues remained strong, consistent
with expanding personal incomes, sales,
and business profits.
Economic activity abroad appeared to
be slowing a little from the unusually
rapid rate of the first half of the year, but
still expanding at a reasonably good
pace overall. Foreign economic growth
was expected to continue, albeit perhaps
at a somewhat slower pace than expected by some outside forecasters, contributing to increases in U.S. exports.
Participants took note of the jump in
labor compensation in the first half of
the year, but commented that the
increase likely reflected in part the exercise of stock options. Nonetheless, some
participants viewed the recent increase
in overall compensation as pointing to
upside risks to inflation. Participants reported steady gains in employment in
various regions, roughly in line with
expansion of the labor force. Many business contacts continued to experience
shortages of labor and accelerating
wages, particularly for certain types of
professionals and skilled workers and,
in some areas, unskilled workers.
One participant highlighted that, in
the staff forecast, labor force growth
would begin to slow over the next few
years as more members of the babyboom generation retired. Even if
resource utilization rates were unchanged, slower growth of the labor
force would mean that increases in employment would be significantly lower,
on average, than those registered in
recent years. In that case, the slower
growth of the labor force and employment implied that the expansion of potential GDP could be somewhat lower
than it had been earlier this decade.
210 93rd Annual Report, 2006
Some participants commented, however,
that they viewed potential output
growth, as well as expansion of actual
output, as likely to remain solid over the
next several years.
Many meeting participants emphasized that they continued to be quite
concerned about the outlook for inflation. Recent rates of core inflation, if
they persisted, were seen as higher than
consistent with price stability, and participants underscored the importance of
ensuring a moderation in inflation. To
be sure, very recent data on inflation
suggested some improvement from the
situation in the late spring, partly reflecting slower increases in owners' equivalent rent. Also, the considerably lower
level of energy prices of recent weeks, if
sustained, would help reduce overall inflation and damp increases in core
prices. Moreover, businesses would
meet more resistance to attempts to pass
through cost increases in the less robust
economic circumstances that were likely
to prevail at least for a time. However,
energy prices remained quite sensitive
to a wide range of forces, including
geopolitical developments, and might
well rebound. To date, the available evidence indicated that inflation expectations remained contained—indeed, expectations of price increases for the next
few years had fallen some as energy
prices declined. Nonetheless, several
participants worried that inflation expectations could rise and the Federal Reserve's willingness to carry through on
its intention to seek price stability could
be called into question if cost and price
pressures mounted or even if there was
no moderation in core inflation. Looking forward, most participants thought
that the most likely outcome was a reduction in inflation pressures, but the
anticipated decline was only gradual and
the uncertainties around that forecast
were skewed toward higher rather than
lower inflation rates.
In the Committee's discussion of
monetary policy for the intermeeting
period, nearly all members favored
keeping the target federal funds rate at
5lA percent at this meeting. Members
generally expected economic activity to
expand at a pace below the rate of
growth of potential output in the near
term before strengthening some over
time. Moreover, given the uncertainties
in forecasting, significantly more sluggish performance than anticipated could
not be entirely ruled out. Although the
uncertainties were substantial, core inflation seemed most likely to ebb gradually from its elevated level, in part owing to the waning effects of past
increases in energy prices. The anticipated expansion of economic activity at
a pace slightly below the rate of growth
of the economy's potential would likely
also play a role by easing pressures on
resources. Members noted that certain
developments of late—appreciable declines in energy prices, some softer indicators of economic activity, and slightly
lower readings on core inflation—
pointed to a modestly better inflation
outlook and hence made the policy decision today somewhat less difficult than
it was in August, when it was seen as a
particularly close call.
In view of the most recent information on the economy, members agreed
that it was appropriate for the postmeeting statement to characterize economic growth as apparently continuing
to moderate. However, in view of stillhigh energy and other commodity prices
and elevated rates of resource utilization
as well as recent indications of a possible acceleration in labor costs, members continued to see a substantial risk
that inflation would not decline as anticipated by the Committee. Consequently, the Committee agreed that the
Minutes of FOMC Meetings, October 211
statement should again cite such risks to
inflation and explicitly reference the
possibility of additional policy firming.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with maintaining the federal funds rate at an average of around
5VA percent.
The meeting adjourned at 1:20 p.m.
Notation Vote
By notation vote completed on August
28, 2006, the Committee unanimously
approved the minutes of the FOMC
meeting held on August 8, 2006.
Vincent R. Reinhart
Secretary
Meeting Held on
October 24-25, 2006
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, October 24, 2006 at 2:00
p.m. and continued on Wednesday,
October 25, 2006 at 9:00 a.m.
The vote encompassed approval of
the text below for inclusion in the statement to be released at 2:15 p.m.:
Nonetheless, the Committee judges that Present:
some inflation risks remain. The extent and
Mr. Bernanke, Chairman
timing of any additional firming that may be
Mr. Geithner, Vice Chairman
needed to address theseriskswill depend on
Ms. Bies
the evolution of the outlook for both inflaMr. Kohn
tion and economic growth, as implied by
Mr. Kroszner
incoming information.
Mr. Lacker
Mr. Mishkin
Votes for this action: Messrs. Bernanke
Ms. Pianalto
and Geithner, Ms. Bies, Messrs. Guynn,
Mr. Warsh
Kohn, Kroszner, and Mishkin, Ms. PiMs. Yellen
analto, Mr. Warsh, and Ms. Yellen.
Votes against this action: Mr. Lacker.
Mr. Hoenig, Ms. Minehan, and Messrs.
Mr. Lacker dissented because he believed that further tightening was needed
to bring inflation down more rapidly
than would be the case if the policy rate
were kept unchanged. Recent data indicated that inflation remained above levels consistent with price stability. Moreover, the upswing in compensation and
unit labor costs in the first half of the
year indicated that inflation risks were
tilted to the upside. Although real
growth was likely to be moderate in
coming quarters, in his view it was unlikely to be slow enough to bring core
inflation down.
Moskow and Poole, Alternate
Members of the Federal Open
Market Committee
Messrs. Fisher, Plosser, and Stern,
Presidents of the Federal Reserve
Banks of Dallas, Philadelphia, and
Minneapolis, respectively
Mr. Barron, First Vice President, Federal Reserve Bank of Atlanta
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
212 93rd Annual Report, 2006
Messrs. Connors, Eisenbeis, Judd, Kamin, Madigan, Sniderman, Struckmeyer, and Wilcox, Associate
Economists
Ms. Mucciolo and Mr. Todd, Vice
Presidents, Federal Reserve Banks
of New York and Minneapolis, respectively
Mr. Kos, Manager, System Open Market Account
Ms. McConnell, Assistant Vice President, Federal Reserve Bank of
New York
Messrs. English and Slifman, Associate
Directors, Divisions of Monetary
Affairs and Research and Statistics, respectively, Board of Governors
Messrs. Gagnon and Wascher, Deputy
Associate Directors, Divisions of
International Finance and Research and Statistics, respectively,
Board of Governors
Messrs. Dale and Oliner, Senior Advisers, Divisions of Monetary Affairs
and Research and Statistics, respectively, Board of Governors
Mr. Gross, Special Assistant to the
Board, Office of Board Members,
Board of Governors
Mr. Small, Project Manager, Division
of Monetary Affairs, Board of
Governors.
Ms. Weinbach, Senior Economist, Division of Monetary Affairs, Board of
Governors
Messrs. Kumasaka7 and Luecke,8
Senior Financial Analysts, Division of Monetary Affairs, Board of
Governors
Ms. Low, Open Market Secretariat Specialist, Division of Monetary
Affairs, Board of Governors
Messrs. Fuhrer and Rosenblum, Executive Vice Presidents, Federal
Reserve Banks of Boston and Dallas, respectively
Mr. Evans, Ms. Mester, and Messrs.
Rasche and Sellon, Senior Vice
Presidents, Federal Reserve Banks
of Chicago, Philadelphia, St.
Louis, and Kansas City, respectively
7. Attended Tuesday's session only.
8. Attended Wednesday's session only.
Mr. Hetzel, Senior Economist, Federal
Reserve Bank of Richmond
The manager of the System Open
Market Account (SOMA) reported on
recent developments in foreign exchange markets. There were no open
market operations in foreign currencies
for the System's account in the period
since the previous meeting. The Manager also reported on developments in
domestic financial markets and on
System open market transactions in
government securities and federal
agency obligations during the period
since the previous meeting. By
unanimous vote, the Committee ratified
these transactions.
The Manager also discussed with the
Committee the results of a recent review
of the management of the domestic security holdings of the SOMA. The Manager noted that in 2000, in response to
reduced issuance of Treasury securities,
limits were adopted on the SOMA's
holdings of individual Treasury bonds,
notes, and bills that ranged between
15 percent and 35 percent of amounts
outstanding. In recent years, those limits
had created occasional operational
complications for the Trading Desk.
Meanwhile, circumstances in the Treasury securities market had changed considerably, and the Manager noted that he
intended to revert to the previous practice of applying a single 35 percent limit
across all issues.
The Chairman noted that the President had recently signed the Financial
Services Regulatory Relief Act of 2006,
which among its provisions gave the
Minutes of FOMC Meetings, October 213
Federal Reserve discretion, beginning
October 2011, both to pay interest on
reserve balances and to reduce further or
eliminate reserve requirements. The Act
potentially has important implications
for many aspects of the Federal Reserve's operations and the Chairman
asked Vincent Reinhart, Director of the
Division of Monetary Affairs, to form a
committee of Federal Reserve System
staff to consider these issues.
The information reviewed at the
October meeting suggested that economic activity increased at a slow pace
in the third quarter. The contraction in
home construction remained a significant drag on economic activity, and
steep reductions in motor vehicle assemblies further weighed on growth in the
third quarter. Nonetheless, consumer
spending and business investment continued to hold up well. Payroll employment extended its moderate expansion,
on average, through September. Sharp
declines in energy prices reduced total
consumer price inflation in September,
but the twelve-month change in core
prices remained elevated relative to
year-earlier readings.
Nonfarm payrolls rose modestly in
September after a larger increase in
August, with some of the variation apparently a result of seasonal factors. In
September, job increases in the serviceproducing sectors were fairly widespread and were again led by the healthcare industry. The construction sector
also added jobs; the lift came from gains
associated with nonresidential building
that more than offset further losses in
the residential sector. Job cutbacks in
the retail trade and manufacturing sectors continued. Aggregate hours of private production or nonsupervisory
workers again edged lower. The unemployment rate ticked down to 4.6 percent in August.
After having been flat in August,
industrial production declined in September, reflecting a sizable weatherrelated decrease in the output of utilities
and a fairly broad-based reduction in
manufacturing output. These declines
were partially offset by a rise in output
in the mining sector that was led by
gains in crude oil extraction and in
mined construction supplies, such as
stone, sand, and gravel. The output of
motor vehicles and parts fell in September, as automakers continued to trim
production of light trucks in response to
bloated inventories. Output growth in
the high-technology sector softened a
bit in September relative to the summer
months, reflecting a smaller rise in the
production of semiconductors. Computer production continued to increase
at a tepid rate, while output of communications equipment turned up noticeably after a decline in August. For the
third quarter as a whole, growth in
industrial production moderated a bit
relative to the first half of the year;
stronger output in the high-technology
sector and a pickup in the production of
business equipment partially offset a
steep contraction in the output of motor
vehicles and parts and a slowdown in
mining output.
Real consumer spending appeared to
regain some steam in September after a
lackluster August. Although nominal retail sales fell noticeably in September,
the steep drop in gasoline prices more
than accounted for the decline. Excluding sales at gasoline stations, the step-up
in consumer spending was the result of
faster sales of motor vehicles and broadbased strength in outlays for other categories of goods, particularly apparel.
Real disposable income rose moderately
in both July and August; the pace was
somewhat above its second-quarter
average. Consumer spending continued
to draw support from the lagged effects
214 93rd Annual Report, 2006
of the increases in household wealth
over the past two years. But interest
rates on some types of household loans,
both short- and long-term, had risen this
year, on balance. The latest readings on
consumer sentiment had been positive,
perhaps reflecting the recent declines in
oil prices. The personal saving rate
edged up in August after a dip in July.
Residential construction activity
remained weak. Single-family starts
ticked up in September, but new permit
issuance slid further to its lowest level
in nearly five years. Construction in the
multifamily sector continued to fluctuate within the range that has prevailed
for several years. Sales of new singlefamily homes edged up in August, while
sales of existing homes held steady.
Pending home sales, which rose somewhat in August after a noticeable drop
in July, and the decline in mortgage
rates since July likely indicated some
support for housing demand in the near
term. Still, the overhang of unsold
homes remained historically high, and
price appreciation of existing homes
continued to slow through the second
quarter.
Real spending on equipment and software increased at a solid pace during the
summer as the fundamental influences
on such spending remained favorable
for the most part. In particular, although
business output had recently been rising
at a slower rate, corporate financial
reserves remained plentiful and the cost
of high-tech capital goods continued to
fall. In the high-tech sector, real outlays
on communications equipment likely
stabilized in August after having surged
earlier this year, and the available data
suggested that real computer spending
picked up in the third quarter. In the
transportation sector, business purchases
of motor vehicles were brisk of late; the
Environmental Protection Agency's
regulations on truck emissions that are
scheduled to take effect in 2007 likely
pulled forward some spending on medium and heavy trucks. Outlays on aircraft appeared to have risen somewhat
in the third quarter from their extremely
low second-quarter level. Real spending
on equipment other than high-tech and
transportation items seemed to have retained considerable momentum in the
third quarter. Activity in the nonresidential construction sector continued to
strengthen in August.
Book-value data on manufacturing
and trade inventories, which were available through August, suggested that the
rate of stockbuilding remained substantial in the third quarter. A major exception was the motor vehicle sector, where
the cutbacks in assemblies probably
began to reduce the inventory overhang
in that sector. Outside of the motor vehicle sector, inventories generally
appeared to be well aligned with demand. Although survey data in September showed a noticeable rise in the share
of firms that viewed their inventories as
being too high, a large majority remained comfortable with their level.
The U.S. international trade deficit
widened to another record in August,
reflecting a surge in imports that more
than offset a sizable jump in exports.
The sharp increase in imports was
driven importantly by oil and natural
gas, but imports of capital goods and
non-oil industrial supplies, particularly
metals, also exhibited large gains. Imports of services fell back slightly. The
increase in exports was led by capital
goods, with aircraft, computers, semiconductors, and other machinery all
climbing briskly. Exports of industrial
supplies and consumer goods also rose
strongly, while exports of services
expanded modestly.
Economic activity in the foreign
industrial economies continued to expand at a relatively solid pace in the
Minutes of FOMC Meetings, October 215
third quarter. Investment spending
boosted the expansion in Japan. In the
euro area, data on industrial production
and retail sales were consistent with robust growth in real activity. Mixed indicators in Canada and the United Kingdom suggested that output growth in
those countries remained around recent
rates. Incoming data across the
emerging-market economies continued
to point to moderating, but solid, growth
in economic activity in the third quarter.
Core prices for personal consumption
expenditures were expected to have
risen in September at the same pace as
in July and August, leaving the change
over the twelve months ending in September a bit higher than the year-earlier
period. Increases in shelter costs, which
accounted for a significant proportion of
the pickup in core inflation over the past
year, had slowed considerably in recent
months but remained well above the
rates that prevailed from 2003 to 2005.
The price index for total personal consumption expenditures was estimated to
have fallen markedly in September because of the steep decline in gasoline
prices, bringing its twelve-month increase to a two-and-one-half-year low.
Retail gasoline prices fell especially rapidly in September as crude oil prices
declined and as the historically high
level of gasoline inventories likely led
to a sharp narrowing of margins between
retail gasoline prices and crude oil
prices. The producer price index for core
intermediate materials rose only slightly
in September; the increase was well below its average monthly advance over
the preceding twelve months, reflecting
a drop in prices of some chemicals that
have a high energy content. Average
hourly earnings increased moderately in
both August and September after a
larger gain in July. Survey measures of
households' year-ahead inflation expectations eased substantially in early Octo
ber with the sharp drop in energy prices.
Respondents' longer-term inflation expectations changed little, remaining well
within the narrow range reported over
the past year.
At its September meeting, the Federal
Open Market Committee (FOMC)
decided to maintain its target for the
federal funds rate at 5lA percent. The
Committee's accompanying statement
indicated that the moderation in economic growth had appeared to be continuing, partly reflecting a cooling of the
housing market. Readings on core inflation had been elevated, and the high
levels of resource utilization and of the
prices of energy and other commodities
had the potential to sustain inflation
pressures. However, inflation pressures
seemed likely to moderate over time,
reflecting reduced impetus from energy
prices, contained inflation expectations,
and the cumulative effects of monetary
policy actions and other factors restraining aggregate demand. Nonetheless, the
Committee judged that some inflation
risks remained. The extent and timing of
any additional firming that may be
needed to address these risks would depend on the evolution of the outlook for
both inflation and economic growth, as
implied by incoming information.
The FOMC's decision at its September meeting to leave the target federal
funds rate unchanged had been largely
anticipated by investors, and policy expectations for mid-2007 and beyond
rose only slightly. Investors subsequently revised down their expectations
for the future path of the federal funds
rate in light of some data releases that
indicated weaker-than-expected economic activity. However, those declines
were then rolled back in the wake of
speeches by FOMC members, the release of the minutes of the September
FOMC meeting, and stronger-thanexpected economic data. Over the inter-
216 93rd Annual Report, 2006
meeting period, yields on nominal and
inflation-indexed Treasury coupon securities rose somewhat, on net. Inflation
compensation for 2007 declined modestly, perhaps reflecting the further drop
in spot energy prices, but was largely
unchanged at longer maturities. Spreads
of investment-grade corporate bond
yields over those on comparablematurity Treasury securities held steady,
while those on speculative-grade corporate bonds narrowed a little. Broad
equity indexes rose noticeably. The
trade-weighted index of the foreign
exchange value of the dollar versus major currencies rose somewhat on balance, and the gains were spread evenly
against most currencies.
Debt of the domestic nonfinancial
sectors in the third quarter was estimated to be expanding at around its
second-quarter pace. Business debt rose
more moderately as bank lending to
businesses slowed. In particular, bank
lending to finance commercial real estate activity waned in August and September, while commercial and industrial
loans, which had been expanding briskly
for many months, slowed sharply in
September. In the household sector, the
further slowing of the rate of increase of
house prices appeared to have continued
to weigh on the expansion of mortgage
debt in the third quarter. M2 grew
slowly in the third quarter, exhibiting
the lagged effects of earlier increases in
opportunity costs and the slow rise in
nominal spending.
The staff forecast prepared for this
meeting indicated that growth of real
GDP had slowed further in the third
quarter, reflecting both a significant drag
from the continuing contraction in residential construction and a steep decline
in motor vehicle assemblies. Looking
ahead, a gradual reduction in the restraining effects of the contraction in
residential investment and further solid
gains in consumer and business spending were expected to lead to a pickup in
GDP growth through 2007 and into
2008. These gains in spending were
likely to be supported by past declines
in energy prices and continued gains in
payroll employment and labor income.
Real GDP was expected to rise at a
somewhat slower rate over the next two
years than in 2006 in part as a result of
less impetus from household wealth,
interest rates, and fiscal policy. The
projected increase in real output over
the next year or so was a little below the
staff's estimate of potential output
growth, leading to a lessening in pressures on resource utilization. Core inflation was anticipated to edge down in
2007 and 2008 relative to the second
half of this year because of the
diminishing impetus from the prices of
energy and other commodities and
because of the modest easing in
resource utilization.
In their discussion of the economic
situation and outlook, meeting participants noted that incoming data over the
relatively brief intermeeting period had
come in broadly as anticipated. The
most recent indicators suggested that
economic growth had probably slowed
more sharply in the third quarter than
had been expected at the time of the
September meeting, but that appeared to
largely reflect the impact of temporary
influences. Participants continued to
expect the economy to expand at a rate
close to or a little below the economy's
long-run sustainable pace over coming
quarters. The ongoing adjustment in the
housing market was likely to depress
real activity in the near term, but this
effect was expected to wane gradually;
private final domestic purchases had
held up well in recent months and
looked set to expand at a reasonably
good pace. Although recent monthly inflation readings indicated some slowing
Minutes of FOMC Meetings, October 217
of core inflation from the very rapid previous years. Meeting participants
rates of spring and early summer, many judged that consumer expenditures goparticipants noted that current rates of ing forward were likely to expand at a
core inflation remained undesirably steady pace a little below the growth in
high. Most participants expected core disposable income, supported by favorinflation to moderate gradually, but they able financial conditions, continued
were quite uncertain as to the likely increases in employment and income,
pace and extent of that moderation.
and the recent decline in energy prices.
In their discussion of the major sec- Nonetheless, many participants extors of the economy, participants noted pressed concern that ongoing developthat housing activity was likely to ments in the housing market could have
remain a substantial drag on economic a more pronounced impact on consumer
growth over the next few quarters. Many and other spending, especially if house
participants drew some comfort from prices declined significantly.
the most recent data, which suggested
Investment spending also appeared to
that the correction in the housing market be holding up well. Meeting participants
was likely to be no more severe than reported that their business contacts
they had previously expected and that were generally optimistic and perceived
the risk of an even larger contraction in the economic outlook as relatively
this sector had ebbed. But further adjust- favorable. Several participants noted
ment in the housing market appeared that growth in nonresidential construclikely. Single-family housing permits tion remained robust and was absorbing
continued to fall and inventories of un- some of the resources displaced from
sold homes remained at historically high the residential sector. The strength of
levels. Contacts in the building sector corporate balance sheets and profits was
suggested that construction firms were seen as likely to help maintain a solid
attempting to reduce their backlogs of profile for investment spending over the
unsold homes, both by cutting back next year or so, despite some restraint
sharply on new construction and by of- from the slower growth in final sales.
fering substantial price incentives. Sev- However, one participant observed that
eral meeting participants noted the con- the uncertainty concerning the possible
siderable strain on some small- and severity of the current slowing in ecomedium-sized residential construction nomic growth could lead some busifirms.
nesses to delay investment plans.
To date, weakness in the housing marIn contrast to the steady expansion of
ket and the associated downshift in consumer and business investment
house price appreciation did not seem to spending in recent months, several other
be spilling over into consumer spending, components of output and demand
which appeared to have grown at a appeared to have been somewhat weaker
steady pace in recent months. Retail ac- than expected. In particular, apparently
tivity in most Districts had been rela- uncomfortably high levels of inventories
tively robust and contacts in the retail within the auto sector had prompted a
sector were generally upbeat about the sharp reduction in light vehicle producoutlook. Several participants noted, tion in the third quarter. Federal expenhowever, that contacts within the trans- ditures had been held down by surprisportation sector had reported that activ- ingly weak defense outlays. And strong
ity in anticipation of the holiday shop- growth in imports in July and August,
ping season appeared to be softer than in driven in part by a surge in oil imports,
218 93 rd Annual Report, 2006
suggested that net exports probably
posed an arithmetic drag on economic
growth in the third quarter. However,
participants judged that the recent weakness in these components largely reflected temporary influences and was
not likely to depress the pace of economic expansion going forward. That
said, one participant did note the possibility that the recent decline in oil prices
may in part stem from weakness in global demand.
Both data and reports from businesses
indicated that the labor market remained
tight. Employment had continued to rise
at a steady pace, and participants reported that many of their contacts were
increasingly concerned about the difficulty of recruiting suitably qualified
workers. Shortages were most pronounced for certain types of professional and skilled workers. These reports of shortages and the associated
wage pressures had not unambiguously
shown through in the aggregate compensation data, which were giving contradictory signals about whether compensation increases were picking up.
However, the possibility that the tightness of the labor market could lead to a
sustained increase in wage pressure was
viewed by participants as an upside risk
to costs and their expectations of a
gradual decline in inflation. It was
noted, though, that continuing high
profit margins provided some scope for
increased labor costs to be absorbed
without necessarily leading to elevated
price pressures.
All meeting participants expressed
concern about the outlook for inflation.
Most participants expected core inflation to edge lower, in part as the effects
of the run-up in energy prices in recent
years waned. And shelter costs were not
expected to add materially to inflation
going forward. Moreover, moderate
growth in aggregate demand and the
associated modest easing of pressures
on resource utilization should also contribute slightly to the slowing in core
inflation. Recent changes in core prices
ha*; declined slightly from earlier in the
year. Nonetheless, nearly all participants
viewed the current rates of core inflation
as uncomfortably high and stressed the
importance of further moderation. The
available measures suggested that
medium- and long-term inflation expectations remained around the levels seen
for the past several years, although in
the view of some participants these expectations were probably higher than
would be consistent with their assessment of long-run price stability. Participants were concerned that inflation expectations could begin to drift upwards
if core inflation remained elevated for a
protracted period. Any such rise in inflation expectations and associated upward
pressure on inflation itself would likely
prove costly to reverse. Although some
participants noted that the recent slowing in core inflation had helped to allay
their fears of a further sustained increase
in inflation, all participants emphasized
that the risks around the desired downward path to inflation remained to the
upside.
In the Committee's discussion of
monetary policy for the intermeeting
period, nearly all members favored
keeping the target federal funds rate at
5lA percent at this meeting. The Committee's view of the outlook for economic growth and inflation had changed
little since the previous meeting. Nearly
all members expected that the economy
would expand close to or a little below
its potential growth rate and that inflation would ebb gradually from its elevated levels. Although substantial uncertainty continued to attend that
outlook, most members judged that the
downside risks to economic activity had
diminished a little, and likewise, some
Minutes of FOMC Meetings, October 219
members felt that the upside risks to
inflation had declined, albeit only
slightly. All members agreed that the
risks to achieving the anticipated reduction in inflation remained of greatest
concern. Members noted that a significant amount of data would be published
before the next Committee meeting in
December, giving the Committee ample
scope to refine its assessment of the
economic outlook before judging
whether any additional firming was
needed to address those risks.
Members agreed that the statement to
be released after the meeting should
continue to convey that inflation risks
remained the dominant concern and that
additional policy firming was possible.
The Committee concurred that the statement should mention both that economic
growth had slowed over the course of
the year and that, going forward, the
economy seemed likely to expand at a
moderate pace. With energy prices well
off the highs reached earlier in the year,
members felt that it was no longer appropriate to note that the high level of
energy prices had the potential to sustain inflation pressures.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with maintaining the federal
funds rate at an average of around
5lA percent.
The vote encompassed approval of
the text below for inclusion in the statement to be released at 2:15 p.m.:
Nonetheless, the Committee judges that
some inflation risks remain. The extent and
timing of any additional firming that may be
needed to address these risks will depend on
the evolution of the outlook for both inflation and economic growth, as implied by
incoming information.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Kohn,
Kroszner, and Mishkin, Ms. Pianalto,
Messrs. Poole and Warsh, and
Ms. Yellen. Votes against this action:
Mr. Lacker
Mr. Lacker dissented because he believed that further tightening was needed
to help ensure that core inflation
declines to an acceptable rate in coming
quarters.
The Committee then continued its discussion of communication issues and
considered the advantages and disadvantages of quantifying an inflation objective. Participants stressed that any such
step had to be consistent with the statutory objectives for monetary policy. In
that regard, it was noted that over time
price stability is a prerequisite for maximum employment and moderate longterm interest rates. However, the possible specification of a numerical price
objective raised a number of complex
and interrelated issues that required considerable further discussion. The Committee reached no decisions on these
issues at this meeting, and participants
agreed to continue the Committee's
review of communication issues at its
meeting in January 2007.
The meeting adjourned at 1:30 p.m.
Notation Vote
By notation vote completed on October 10, 2006, the Committee unanimously approved the minutes of the
FOMC meeting held on September 20,
2006.
Vincent R. Reinhart
Secretary
220 93rd Annual Report, 2006
Meeting Held on
December 12, 2006
Messrs. Clouse and English, Associate
Directors, Division of Monetary
Affairs, Board of Governors
A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, December 12, 2006 at
8:30 a.m.
Ms. Liang and Mr. Slifman, Associate
Directors, Division of Research
and Statistics, Board of Governors
Present:
Mr. Bernanke, Chairman
Mr. Geithner, Vice Chairman
Ms. Bies
Mr. Kohn
Mr. Kroszner
Mr. Lacker
Mr. Mishkin
Ms. Pianalto
Mr. Warsh
Ms. Yellen
Ms. Cumming, Mr. Hoenig, Ms. Minehan, and Messrs. Moskow and
Poole, Alternate Members of the
Federal Open Market Committee
Messrs. Fisher, Plosser, and Stern,
Presidents of the Federal Reserve
Banks of Dallas, Philadelphia, and
Minneapolis, respectively
Mr. Barron, First Vice President, Federal Reserve Bank of Atlanta
Mr. Reinhart, Secretary and Economist
Ms. Danker, Deputy Secretary
Ms. Smith, Assistant Secretary
Mr. Skidmore, Assistant Secretary
Mr. Alvarez, General Counsel
Mr. Baxter, Deputy General Counsel
Ms. Johnson, Economist
Mr. Stockton, Economist
Messrs. Connors, Eisenbeis, Kamin,
Madigan, Sniderman, Struckmeyer, Weinberg, and Wilcox,
Associate Economists
Mr. Kos, Manager, System Open Market Account
Messrs. Gagnon and Wascher, Deputy
Associate Directors, Divisions of
International Finance and Research and Statistics, respectively,
Board of Governors
Mr. Dale, Senior Adviser, Division
of Monetary Affairs, Board of
Governors
Mr. Gross, Special Assistant to the
Board, Office of Board Members,
Board of Governors
Mr. Luecke, Senior Financial Analyst,
Division of Monetary Affairs,
Board of Governors
Mr. Driscoll, Economist, Division of
Monetary Affairs, Board of
Governors
Ms. Low, Open Market Secretariat Specialist, Division of Monetary
Affairs, Board of Governors
Mr. Rasdall, First Vice President, Federal Reserve Bank of Kansas City
Mr. Rosenblum, Executive Vice President, Federal Reserve Bank of
Dallas
Mr. Hakkio, Mses. Mester and Perelmuter, and Messrs. Rasche,
Rolnick, and Williams, Senior
Vice Presidents, Federal Reserve
Banks of Kansas City, Philadelphia, New York, St. Louis, Minneapolis, and San Francisco, respectively
Messrs. Kahn and Sullivan, Vice Presidents, Federal Reserve Banks of
New York and Chicago, respectively
Mr. Olivei, Senior Economist, Federal
Reserve Bank of Boston
The Manager of the System Open
Market Account (SOMA) reported on
recent developments in foreign ex-
Minutes of FOMC Meetings, December 221
change markets. There were no open
market operations in foreign currencies
for the System's account in the period
since the previous meeting. The Manager also reported on developments in
domestic financial markets and on
System open market transactions in
government securities and federal
agency obligations during the period
since the previous meeting. By unanimous vote, the Committee ratified these
transactions.
The information reviewed at the
December meeting suggested that economic activity was increasing at a subdued rate during the second half of the
year. The contraction in homebuilding
was continuing to restrain overall activity, and a step-down in motor vehicle
output held down industrial production.
In contrast, consumer spending and
business investment were increasing at a
moderate rate, and payroll employment
expanded solidly through November.
Additional sharp declines in energy
prices reduced total consumer price inflation in October, but the twelve-month
change in core prices remained above its
year-earlier level.
Indicators from the labor market were
generally strong through November.
Nonfarm payrolls increased at a solid
pace, while revisions to previous estimates showed a larger gain, on balance,
over the preceding two months. Employment in manufacturing and construction industries fell in November,
but hiring continued to be brisk in the
professional and nonbusiness service
industries. Aggregate weekly hours of
private production or nonsupervisory
workers edged up. The unemployment
rate had fallen to 4.4 percent in October
but ticked back up to 4.5 percent in
November, remaining below the average
of 4.7 percent during the first three quarters of the year.
Industrial production (IP) declined in
September but rose slightly in October.
In October, total industrial production
was boosted by a weather-related rebound in electricity generation, while
output in the mining sector posted a
sizable gain as crude oil extraction in
Alaska returned to full production following pipeline repairs. Manufacturing
output fell in both months, partly because of cutbacks in motor vehicle production as vehicle makers pared elevated inventories in light trucks.
Although less pronounced than in the
motor vehicle sector, the recent softness
in factory output was also apparent in a
number of other sectors. A notable exception was production in high-tech
industries, which posted another solid
increase in October, reflecting a pickup
in computer output and a rise in semiconductor production attributable to the
rollout of a new generation of microprocessors.
The National Income and Product
Accounts for the third quarter incorporated an estimate by the Bureau of Economic Analysis (BEA) that gross output
of new motor vehicles increased at a
rapid pace in the third quarter, a sharp
contrast to a drop in the IP index for
motor vehicles (including parts production) for that same period. Much of that
difference could be attributed to the
BEA's method of inferring motor vehicle output from separate data on sales,
net international trade, and changes in
inventories rather than measuring output
directly using data on production. In
addition, a large drop in the producer
price index for light trucks in the third
quarter resulted in a jump in the BEA's
implied unit values of light trucks in
inventory. In the staffs view, these measurement issues likely caused an overstatement of the rate of increase in real
GDP in the third quarter, and the gradual
unwinding of those effects would prob-
222 93rd Annual Report, 2006
ably lead to an understatement of real
GDP growth over the next several
quarters.
Real consumer spending increased
strongly in October after a more modest
gain in September. Although purchases
of motor vehicles weakened in October,
outlays on a broad range of other categories of goods, including gasoline,
food, and apparel, rose briskly. Spurred
by sharp declines in consumer energy
prices, real disposable income also
increased rapidly in September and
October. Despite the further deceleration in house prices, the ratio of household wealth to disposable income
remained well above its historical average, buoyed by robust gains in the stock
market. Readings on consumer sentiment edged down in November and
early December but stayed above levels
seen in the summer.
Residential construction activity continued to be very weak. Single-family
housing starts dropped substantially in
October after a slight increase in September, while new permit issuance fell
to nearly its lowest level in the past ten
years. Construction in the much-smaller
multifamily sector continued to fluctuate within a range that had prevailed for
the past several years. Inventories of
unsold homes remained high in October
but were a bit lower than those in preceding months. Sales of new and existing homes showed tentative signs of
stabilizing, although at levels well below their mid-2005 peaks. Price appreciation of existing homes continued to
slow in the third quarter, and some price
measures showed outright declines.
Real spending on equipment and software continued to increase at a solid
pace in the third quarter, supported by
strong corporate cash positions and a
low cost of capital. Early indicators for
the fourth quarter, including survey
measures of business conditions, sug
gested a slowdown in spending, in part
reflecting the deceleration in business
output. Business purchases of motor
vehicles were likely to continue to be
boosted by an increase in spending in
advance of the upcoming change in
regulations on truck engines from the
Environmental Protection Agency.
Although spending on high-tech capital
goods and software expanded at a robust
pace in the third quarter, data on new
orders and shipments in October pointed
to more moderate growth in the fourth
quarter. Growth of nonresidential construction spending appeared to have
slowed from a rapid rate earlier in the
year, responding in part to still-high vacancy rates in the office and industrial
categories. The number of natural gas
and petroleum drilling rigs in operation
had moved down, on balance, since September in response to the moderation in
energy prices.
Unit stocks of light motor vehicles
dropped in the third quarter. Outside the
motor vehicle sector, real nonfarm
inventories edged up, and the ratio of
book-value inventories to sales for both
the manufacturing and trade sectors rose
in September to levels last seen in mid2005. Inventory imbalances appeared
more widespread than a few months
earlier, although business surveys
through November indicated that a large
majority of firms perceived that their
customers' inventories remained at comfortable levels.
The U.S. international trade deficit
declined in September from a record
level in August. The narrowing primarily reflected a sharp falloff in the value
of imported oil, although non-oil imports, including industrial supplies, capital goods, and automotive products, also
declined. Export growth in September
was led by aircraft and industrial supplies, while exports of automotive products, consumer goods, and semiconduc-
Minutes of FOMC Meetings, December 223
tors fell. The trade deficit shrank a bit
further in October.
Economic activity in the advanced
foreign economies rose at a moderate
rate in the third quarter. The expansion
in real activity in the euro area, although
slower than the staff had expected, was
supported by strong domestic demand.
Canada's real GDP growth was dragged
down by weakness in inventories and
government spending, while slumping
private consumption weighed on growth
in Japan. The U.K. economy, buoyed by
strong investment, continued to expand
solidly. Recent economic indicators for
the developing economies were somewhat mixed but suggested generally
brisk growth in the third quarter.
The overall price index for personal
consumption expenditures fell in September and October, reflecting sharp
declines in energy prices in both
months; the declines left the change in
that index over the twelve months ending in October substantially lower than
over the preceding twelve-month period.
In contrast, the change in the core price
index for personal consumption expenditures over the twelve months ending
in October was still somewhat higher
than it was a year earlier, largely reflecting an acceleration in shelter costs over
that period. The producer price index for
core intermediate materials was flat in
October. Increases in average hourly
earnings had been moderate in recent
months, and compensation per hour in
the nonfarm business sector appeared to
have risen at a subdued rate in the third
quarter. The estimated increase in hourly
compensation for the second quarter had
been revised down substantially; hourly
compensation was now estimated to
have declined in the second quarter following the sharp gain recorded in the
first quarter. This uneven pattern suggested that the surge in hourly compensation in the first quarter had largely
been driven by transitory factors. Hourly
compensation of private industry workers, as measured by the employment
cost index, increased at a somewhat
faster rate in the three months ending in
September than it had in preceding
quarters.
At its October meeting, the Federal
Open Market Committee (FOMC) decided to maintain its target for the federal funds rate at 5lA percent. The Committee's
accompanying
statement
indicated that economic growth had
slowed over the course of the year,
partly reflecting a cooling of the housing market. Going forward, the economy seemed likely to expand at a moderate pace. Readings on core inflation
had been elevated, and the high level of
resource utilization had the potential to
sustain inflation pressures. However, inflation pressures seemed likely to moderate over time, reflecting reduced impetus from energy prices, contained
inflation expectations, and the cumulative effects of monetary policy actions
and other factors restraining aggregate
demand. Nonetheless, the Committee
judged that some inflation risks
remained. The extent and timing of any
additional firming that might be needed
to address these risks would depend on
the evolution of the outlook for both
inflation and economic growth, as implied by incoming information.
Investors had largely anticipated the
FOMC's decision at its October meeting
to leave the target federal funds rate
unchanged and to make only modest
changes in the accompanying policy
statement. As a result, the announcement of the decision elicited little market reaction, as did the subsequent publication of the minutes of the meeting.
However, somewhat weaker-than-anticipated economic data over the intermeeting period apparently led to some softening of investors' perception of the
224 93rd Annual Report, 2006
economic outlook. As a result, the likely
pace and extent of policy easing
expected by investors increased, and
yields on nominal and inflation-indexed
Treasury coupon securities fell. Inflation compensation measures were little
changed. Spreads of investment-grade
corporate bond yields over those of
comparable-maturity Treasury securities
remained about unchanged, while those
on speculative-grade corporate bonds
rose a bit. Broad equity indexes showed
solid gains. The foreign exchange value
of the dollar against other major currencies fell, on net, over the intermeeting
period, with pronounced declines
against the euro and sterling.
Debt of the domestic nonfinancial
sectors in the third quarter expanded at
around its second-quarter pace. Business debt rose slightly more slowly than
in the second quarter, in part reflecting
reduced borrowing in the bond and commercial paper markets. In the household
sector, mortgage debt increased at its
lowest pace since the late 1990s, reflecting the continued deceleration in house
prices. M2 rose more strongly in October and November than it had in preceding months.
The staff forecast prepared for this
meeting indicated that growth in economic activity had slowed to a pace
below that of the economy's long-run
potential in the second half of 2006,
partly as a result of the ongoing adjustment of the housing sector. The rate of
increase in real GDP was expected to
pick up gradually as the drag from the
contraction in residential construction
diminished, returning towards the end
of 2007 to a rate close to the staff's
estimate of potential output growth.
Core inflation was anticipated to edge
down in 2007 and 2008 in response to a
waning of the effects of higher energy
and import prices, a step-down in rent
increases, and the emergence of a small
amount of slack in the economy.
In their discussion of the economic
situation and outlook, meeting participants noted that their assessments of the
medium-term prospects for economic
growth and inflation were little changed
from the previous meeting. Incoming
indicators of near-term activity had been
mixed, with some spending and production data pointing to a more subdued
picture than that suggested by the stillsolid labor market data. Many participants judged that economic activity in
the second half of this year was probably a touch softer than had been
expected at the time of the October
meeting. But looking over the next year
or so, participants continued to expect
the economy to expand at a rate close to
or a little below the economy's long-run
sustainable pace. The ongoing adjustment of the housing market was likely
to damp economic growth in the near
term, but this effect was expected to
dissipate, and spending in other categories looked set to expand at a reasonably
good pace. Although readings on core
inflation had improved modestly since
the spring, price pressures were not yet
viewed as convincingly on a downward
trend. Most participants expected core
inflation to moderate slowly over time,
but stressed that the risks to the inflation
outlook remained to the upside.
In their discussion of the major sectors of the economy, participants noted
that developments in the housing market
continued to weigh heavily on economic
activity. Housing starts and permits for
new construction had dropped sharply
in October, and contacts in the building
sector reported that construction firms
were continuing to cancel options on
land purchases. However, there were
some indications that home sales might
be starting to stabilize, aided by a
marked slowing in the rate of increase
Minutes of FOMC Meetings, December 225
of house prices and a decline in mortgage rates in recent months. Several participants also noted that a range of nonprice incentives and concessions were
being offered by construction firms to
bolster sales. But even if home purchases had begun to level off, residential
investment was likely to fall further in
coming quarters as homebuilders sought
to reduce their backlogs of unsold
homes.
Thus far, the adjustment of activity
and prices in the housing market did not
appear to have spilled over significantly
to consumer spending, which had
expanded at a steady pace in recent
months, buoyed by continued gains in
employment and by a decline in energy
prices. Retailers in most Districts
expected good sales over the holiday
season, although some contacts at package delivery and trucking firms reported
that activity was less busy than usual for
this time of year. Participants noted the
downward revision to the BEA's estimate of personal income in the second
quarter of this year, but nonetheless continued to anticipate consumer expenditures to expand at a steady pace going
forward. Growth in consumer spending
was expected to be supported by favorable financial conditions and solid gains
in income from employment, outweighing any damping effect of sluggish
increases in housing wealth. Still, considerable uncertainty regarding the ultimate extent of the housing market correction meant that spillovers to
consumption could become more evident, especially if house prices were to
decline significantly.
Business investment appeared to have
decelerated recently, and surveys and
orders data pointed to a relatively slow
rise in equipment and software spending
over the next few quarters. Incoming
data on construction activity and employment also suggested that, following
very rapid growth earlier in the year,
increases in nonresidential construction
spending could be moderating considerably. However, the weaker cast of some
of these data contrasted with the sense
of optimism among business contacts.
Moreover, several participants noted that
contacts within the construction sector
had reported that commercial real estate
activity remained robust, encouraged by
lower vacancy rates, some firming in
rents, and accommodative financial conditions. Looking further ahead, meeting
participants expected investment to
expand at a solid pace, supported by
strong corporate balance sheets and
profits and by the ready availability of
funding from financial markets and institutions, factors that were expected to
be offset only partially by restraint from
slower growth in final sales.
Recent data suggested that aggregate
demand in the rest of the world was
likely to continue to expand at a somewhat faster rate than in the United
States. Participants noted that the
strength of global demand and the recent
decline in the foreign exchange value of
the dollar should help to support
increases in U.S. exports.
The slowing in the pace of economic
expansion in recent quarters evidenced
by the business spending data was also
apparent in measures of industrial production. Much of the slowing in production had been concentrated in the motor
vehicle sector—as producers had cut assemblies in order to reduce high inventory levels—and in construction-related
sectors. But, more recently, inventories
had increased in a number of other sectors, and manufacturing production had
been trimmed in response. Further adjustments remained possible, suggesting
an additional source of downside risk to
economic growth in the near term. In
contrast, indicators of activity in the ser-
226 93rd Annual Report, 2006
vices sector implied continued brisk
growth.
Participants noted that recent indicators provided mixed signals about the
strength of near-term activity. Solid
gains in employment over recent quarters stood in contrast to the softer pace
of economic expansion suggested by the
spending and production data. That difference most likely reflected lags
between movements in activity and employment, implying that growth in employment would probably slow over the
next quarter or so. Participants suggested that other forces might be at work
as well. The growth of structural labor
productivity could be weaker than currently thought, helping to reconcile the
steady growth in employment with more
subdued advances in spending and output. Moreover, the recent pace of activity may have been stronger than that
indicated by the spending and production data. With regard to this possibility,
it was noted that gross domestic income
had grown substantially more quickly
than measured GDP over the past year.
Incoming data and reports from businesses suggested that the labor market
remained tight. The unemployment rate
had moved slightly lower on balance
over recent months, and many business
contacts reported difficulties in recruiting suitably qualified workers, especially for certain types of professional
and skilled positions. The downward revision to the estimated increases in labor
compensation and unit labor costs earlier in the year had eased some participants' concerns about the extent of the
pressures on labor resources. Nonetheless, the possibility that the tightness of
the labor market could lead to sustained
upward pressure on nominal labor costs
was viewed as an upside risk to the
expected moderation in inflation.
All meeting participants remained
concerned about the outlook for infla
tion. Although readings on core inflation had improved modestly since the
spring, nearly all participants viewed
core inflation as uncomfortably high and
stressed the importance of further moderation. Participants expected core inflation to edge lower over time, in part as
the pass-through of higher prices for
energy and other commodities ran its
course and as the moderate growth in
aggregate demand likely led to a modest
easing of pressures on resources. Some
participants also highlighted the impact
that movements in the prices of individual components of the price index,
such as owners' equivalent rent and
medical costs, could have on near-term
readings on core inflation. More generally, participants stressed there was considerable uncertainty as to the probable
pace and extent of the moderation in
core inflation and that the risks around
this desired downward path remained to
the upside. Moreover, participants expressed concern that a failure of inflation to moderate as expected could entail significant costs if an upward drift in
inflation expectations ensued.
In the Committee's discussion of
monetary policy for the intermeeting
period, nearly all members favored
keeping the target federal funds rate at
5lA percent at this meeting. The outlook
for economic growth and inflation was
thought to have changed relatively little
since the previous meeting. Nearly all
members felt that maintaining the current target for now was most likely to
foster moderate economic growth and a
gradual ebbing of core inflation from its
elevated levels. Several members judged
that the subdued tone of some incoming
indicators meant that the downside risks
to economic growth in the near term had
increased a little and become a bit more
broadly based than previously thought.
Nonetheless, all members agreed that
the risk that inflation would fail to mod-
Minutes of FOMC Meetings, December 227
erate as desired remained the predominant concern.
In light of the data received over the
intermeeting period, members felt that
the statement should characterize the
cooling in the housing market as substantial and should note that recent indicators had been mixed. The Committee
thought that the statement should reiterate that the economy seemed likely to
expand at a moderate pace, while also
recognizing the possibility that measured GDP growth could be somewhat
uneven in coming quarters. Members
agreed that the statement should continue to convey that inflation risks
remained of greatest concern and that
additional policy firming was possible.
One member did not favor language that
referenced only the possibility of additional policy firming and believed that,
although the risks to inflation remained
the predominant concern, the statement
should emphasize that policy could be
adjusted in either direction depending
on the evolution of the outlook for inflation and economic growth.
At the conclusion of the discussion,
the Committee voted to authorize and
direct the Federal Reserve Bank of New
York, until it was instructed otherwise,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. To further its longrun objectives, the Committee in the immediate future seeks conditions in reserve
markets consistent with maintaining the federal funds rate at an average of around
5V* percent.
The vote encompassed approval of
the text below for inclusion in the statement to be released at 2:15 p.m.:
Nonetheless, the Committee judges that
some inflation risks remain. The extent and
timing of any additional finning that may be
needed to address these risks will depend on
the evolution of the outlook for both inflation and economic growth, as implied by
incoming information.
Votes for this action: Messrs. Bernanke
and Geithner, Ms. Bies, Messrs. Kohn,
Kroszner, and Mishkin, Ms. Pianalto,
Messrs. Poole and Warsh, and Ms.
Yellen. Votes against this action:
Mr. Lacker
Mr. Lacker dissented because he believed that further tightening was needed
to help ensure that core inflation
declines to an acceptable rate in coming
quarters.
Meeting participants briefly reviewed
some issues regarding communications
and the next steps in their continuing
discussion of the topic. At the next
FOMC meeting, confirmed for January 30-31, 2007, the Committee intended to consider the role that economic projections and forecasts can play
in communicating information.
The meeting adjourned at 1:35 p.m.
Notation Vote
By notation vote completed on November 14, 2006, the Committee unanimously approved the minutes of the
FOMC meeting held on October 24-25,
2006.
Vincent R. Reinhart
Secretary
229
Litigation
During 2006, the Board of Governors tember 11, 2006, the court of appeals
was a party in two lawsuits or appeals affirmed in part and reversed in part the
filed that year and was a party in five ruling of the district court, and reother cases pending from previous years, manded the case. 463 F.3d 239.
for a total of seven cases; in 2005, the
Price v. Bernanke, No. 05-5361 (D.C.
Board had been a party in a total of Circuit, filed September 29, 2005), was
thirteen cases. As of December 31, an appeal of an order of the district court
2006, five cases were pending.
(No. 04-CV-0973, 374 F. Supp. 2d 177)
Price v. Bernanke, No. 06-1569 dismissing an employment discrimina(D.D.C., filed September 8, 2006), is an tion action. On December 15, 2006, the
court of appeals affirmed the district
employment discrimination action.
Texas State Bank v. United States, No. court's dismissal. 470 F.3d 384.
05-1168 (U.S. Supreme Court, filed
Barnes v. Greenspan, No. 04-CVMarch 10, 2006), was an appeal of a 1989 (CKK) (D.D.C., filed November
decision of the Court of Appeals for the 15, 2004), is a case under the Age DisFederal Circuit dismissing an action crimination in Employment Act.
challenging on constitutional grounds
Jones v. Greenspan, No. 04-CV-1696
the failure to pay interest on reserve (RMU) (D.D.C., filed October 4, 2004),
accounts held at Federal Reserve Banks. is an employment discrimination action.
On June 19, 2006, the Supreme Court On December 13,2005, the district court
denied certiorari. 126 S. Ct. 2889.
granted in part and denied in part the
Inner City Press/Community on the Board's motion to dismiss and for sumMove v. Board of Governors, No. 05- mary judgment. 402 F. Supp. 2d 294.
Artis v. Greenspan, No. 01-0400
6162 (Second Circuit, filed November
21, 2005), is an appeal of the district (D.D.C., filed February 22, 2001), is an
court's order (No. 04-CV-8337, 380 F. employment discrimination action. An
Supp. 2d 211 (S.D.N.Y. 2005)) granting identical action, No. 99-2073 (EGS)
in part and denying in part the Board's (D.D.C., filed August 3,1999), was conmotion for summary judgment in a Free- solidated with this action on August 15,
•
dom of Information Act case. On Sep- 2001.
Federal Reserve System
Organization
Federal Reserve System Organization 233
Board of Governors
December 31, 2006
Members
Term expires
January 31,
BEN S. BERNANKE, Chairman1
2020
DONALD L. KOHN, Vice Chairman1 .. 2016
STEPHEN H. MEYER, Assistant General
Counsel
PATRICIA A. ROBINSON, Assistant General
Counsel
CARY K. WILLIAMS, Assistant General
Counsel
SUSAN S. BIES
KEVIN M. WARSH
2012
2018
RANDALL S. KROSZNER
2008
OFFICE OF THE SECRETARY
FREDERIC S. MISHKIN
2014
JENNIFER J. JOHNSON, Secretary
ROBERT DEV. FRIERSON, Deputy Secretary
Officers
MARGARET M. SHANKS, Associate
Secretary
OFFICE OF BOARD MEMBERS
MICHELLE A. SMITH, Director
WINTHROP P. HAMBLEY, Assistant to the
Board and Director for Congressional
Liaison
ROSANNA PIANALTO-CAMERON, Assistant to
the Board for Public Information
DAVID W. SKIDMORE, Assistant to the
Board
LARICKE D. BLANCHARD, Special Assistant
to the Board for Congressional Liaison
BRIAN J. GROSS, Special Assistant to the
Board for Congressional Liaison
ROBERT M. PRIBBLE, Special Assistant to
the Board for Congressional Liaison
LEGAL DIVISION
SCOTT G. ALVAREZ, General Counsel
RICHARD M. ASHTON, Deputy General
Counsel
KATHLEEN M. O'DAY, Deputy General
Counsel
STEPHANIE MARTIN, Associate General
Counsel
ANN MISBACK, Associate General Counsel
KATHERINE H. WHEATLEY, Associate
General Counsel
KIERAN J. FALLON, Assistant General
Counsel
1. The designations as Chairman and Vice
Chairman expire on January 31, 2010, and June
22, 2010, respectively, unless the service of these
members of the Board terminates sooner.
DIVISION OF
INTERNATIONAL FINANCE
KAREN H. JOHNSON, Director
THOMAS A. CONNORS, Senior Associate
Director
RICHARD T. FREEMAN, Associate Director
STEVEN B. KAMIN, Associate Director
DALE W. HENDERSON, Senior Adviser
JOSEPH E. GAGNON, Deputy Associate
Director
MICHAEL P. LEAHY, Deputy Associate
Director
D. NATHAN SHEETS, Deputy Associate
Director
RALPH W. TRYON, Deputy Associate
Director
JON W. FAUST, Assistant Director
TREVOR A. REEVE, Assistant Director
JOHN ROGERS, Assistant Director
DIVISION OF MONETARY AFFAIRS
VINCENT R. REINHART, Director
BRIAN F. MADIGAN, Deputy Director
JAMES A. CLOUSE, Associate Director
DEBORAH J. DANKER, Associate Director
WILLIAM B. ENGLISH, Associate Director
ATHANASIOS ORPHANIDES, Senior Adviser
CHERYL L. EDWARDS, Deputy Associate
Director
ANDREW T. LEVIN, Assistant Director
WILLIAM NELSON, Assistant Director
JONATHAN H. WRIGHT, Assistant Director
234 93rd Annual Report, 2006
Board of Governors—Continued
DIVISION OF RESEARCH
AND STATISTICS
NORAH M. BARGER, Associate Director
BETSY CROSS, Associate Director
DAVID J. STOCKTON, Director
GERALD A. EDWARDS, JR., Associate
PATRICK M. PARKINSON, Deputy Director
DAVID W. WILCOX, Deputy Director
MYRON L. KWAST, Senior Associate
Director
J. NELLIE LIANG, Associate Director
LAWRENCE SLIFMAN, Associate Director
CHARLES S. STRUCKMEYER, Associate
Director
ALICE PATRICIA WHITE, Associate Director
GLENN B. CANNER, Senior Adviser
DAVID S. JONES, Senior Adviser
STEPHEN D. OLINER, Senior Adviser
S. WAYNE PASSMORE, Deputy Associate
Director
DAVID L. REIFSCHNEIDER, Deputy
Associate Director
JANICE SHACK-MARQUEZ, Deputy
Associate Director
WILLIAM L. WASCHER III, Deputy
Associate Director
JOYCE K. ZICKLER, Deputy Associate
Director
MICHAEL S. CRINGOLI, Assistant Director
and Chief
MICHAEL S. GIBSON, Assistant Director
and Chief
DIANA HANCOCK, Assistant Director
and Chief
ROBIN A. PRAGER, Assistant Director
and Chief
DOUGLAS W. ELMENDORF, Assistant
Director
DANIEL E. SICHEL, Assistant Director
MARY M. WEST, Assistant Director
Director
CHARLES H. HOLM, Associate Director
JACK P. JENNINGS II, Associate Director
ROBIN L. LUMSDAINE, Associate Director
PETER J. PURCELL, Associate Director and
Chief Technology Officer
WILLIAM G. SPANIEL, Associate Director
MOLLY S. WASSOM, Associate Director
DAVID M. WRIGHT, Associate Director
BARBARA J. BOUCHARD, Deputy Associate
Director
JAMES A. EMBERSIT, Deputy Associate
Director
JON D. GREENLEE, Deputy Associate
Director
ARTHUR W. LINDO, Deputy Associate
Director
WILLIAM C. SCHNEIDER, JR., Deputy
Associate Director
ROBERT T. ASHMAN, Assistant Director
KEVIN M. BERTSCH, Assistant Director
STACY LEE COLEMAN, Assistant Director
ROBERT T. MAAS, Assistant Director
NINA A. NICHOLS, Assistant Director
DANA E. PAYNE, Assistant Director
NANCY J. PERKINS, Assistant Director
SABETH I. SIDDIQUE, Assistant Director
DIVISION OF CONSUMER
AND COMMUNITY AFFAIRS
SANDRA F. BRAUNSTEIN, Director
GLENN E. LONEY, Deputy Director
LEONARD CHANIN, Associate Director
ADRIENNE D. HURT, Associate Counsel
and Adviser
DIVISION OF BANKING SUPERVISION
AND REGULATION
MARY T. JOHNSEN, Associate Director
TONDA E. PRICE, Associate Director
ROGER T. COLE, Acting Director
STEVEN M. ROBERTS, Senior Adviser
MARYANN F. HUNTER, Adviser
WILLIAM F. TREACY, Adviser
SARKIS YOGHOURTDJIAN, Adviser
DEBORAH P. BAILEY, Associate Director
TIMOTHY R. BURNISTON, Assistant Director
SUZANNE G. KILLIAN, Assistant Director
SHEILA F. MAITH, Assistant Director
JAMES A. MICHAELS, Assistant Director
Federal Reserve System Organization 235
Board of Governors—Continued
DIVISION OF
RESERVE B A N K OPERATIONS
AND PAYMENT SYSTEMS
LOUISE L. ROSEMAN, Director
JEFFREY C. MARQUARDT, Deputy Director
PAUL W. BETTGE, Senior Associate
Director
KENNETH D. BUCKLEY, Associate Director
DOROTHY LACHAPELLE, Associate Director
JACK K. WALTON II, Associate Director
JEFF J. STEHM, Deputy Associate Director
GREGORY L. EVANS, Assistant Director
LISA HOSKINS, Assistant Director
MICHAEL J. LAMBERT, Assistant Director
DIVISION OF
INFORMATION TECHNOLOGY
MARIANNE M. EMERSON, Director
MAUREEN T. HANNAN, Deputy Director
TILLENA G. CLARK, Assistant Director
GEARY L. CUNNINGHAM, Assistant
Director
WAYNE A. EDMONDSON, Assistant Director
Po KYUNG KIM, Assistant Director
SUSAN F. MARYCZ, Assistant Director
SHARON L. MOWRY, Assistant Director
RAYMOND ROMERO, Assistant Director
JILL R. ROSEN, Assistant Director
OFFICE OF INSPECTOR GENERAL
OFFICE OF STAFF DIRECTOR
FOR MANAGEMENT
STEPHEN R. MALPHRUS, Staff Director for
Management
SHEILA CLARK, Equal Employment
Opportunity Programs Director
LYNN S. FOX, Senior Adviser
BARRY R. SNYDER, Inspector General
ANTHONY J. CASTALDO, Assistant Inspector
General
ELIZABETH A. COLEMAN, Assistant
Inspector General
LAURENCE A. FROEHLICH, Assistant
Inspector General
WILLIAM L. MITCHELL, Assistant Inspector
MANAGEMENT DIVISION
H. FAY PETERS, Director
DARRELL R. PAULEY, Deputy Director
STEPHEN J. CLARK, Senior Associate
Director
TODD A. GLISSMAN, Senior Associate
Director
MARSHA W. REIDHILL, Senior Associate
Director
BILLY J. SAULS, Senior Associate Director
DONALD A. SPICER, Senior Associate
Director
CHRISTINE M. FIELDS, Associate Director
JAMES R. RIESZ, Deputy Associate Director
KEITH F. BATES, Assistant Director
ELAINE M. BOUTILIER, Assistant Director
TARA C. TINSLEY JONES, Assistant Director
CHARLES F. O'MALLEY, Assistant Director
General
236 93rd Annual Report, 2006
Federal Open Market Committee
December 31,2006
Members
Officers
BEN S. BERNANKE, Chairman, Board of
Governors
VINCENT R. REINHART, Secretary and
TIMOTHY F. GEITHNER, Vice Chairman,
DEBORAH J. DANKER, Deputy Secretary
MICHELLE A. SMITH, Assistant Secretary
DAVID W. SKIDMORE, Assistant Secretary
SCOTT G. ALVAREZ, General Counsel
THOMAS C. BAXTER, JR., Deputy General
President, Federal Reserve Bank of
New York
SUSAN SCHMIDT BIES, Board of Governors
DONALD L. KOHN, Board of Governors
RANDALL S. KROSZNER, Board of
Governors
JEFFREY M. LACKER, President, Federal
Reserve Bank of Richmond
FREDERIC S. MISHKIN, Board of Governors
SANDRA PIANALTO, President, Federal
Reserve Bank of Cleveland
KEVIN M. WARSH, Board of Governors
JANET L. YELLEN, President, Federal
Reserve Bank of San Francisco
Alternate Members
CHRISTINE M. CUMMING, First Vice
President, Federal Reserve Bank of
New York
THOMAS M. HOENIG, President, Federal
Reserve Bank of Kansas City
CATHY E. MINEHAN, President, Federal
Reserve Bank of Boston
MICHAEL H. MOSKOW, President, Federal
Reserve Bank of Chicago
WILLIAM POOLE, President, Federal
Reserve Bank of St. Louis
Economist
Counsel
KAREN H. JOHNSON, Economist
DAVID J. STOCKTON, Economist
THOMAS A. CONNORS, Associate Economist
ROBERT A. EISENBEIS, Associate Economist
JOHN P. JUDD, Associate Economist
STEPHEN B. KAMIN, Associate Economist
BRIAN F. MADIGAN, Associate Economist
MARK S. SNIDERMAN, Associate Economist
CHARLES S. STRUCKMEYER, Associate
Economist
JOSEPH S. TRACY, Associate Economist
JOHN A. WEINBERG, Associate Economist
DAVID W. WILCOX, Associate Economist
DINO Kos, Manager, System Open Market
Account
During 2006 the Federal Open Market Committee held eight regularly scheduled meetings (see "Minutes of Federal Open Market
Committee Meetings" in this volume).
Federal Reserve System Organization 237
Federal Advisory Council
December 31, 2006
Members
District 10—DAVID C. BOYLES, Chairman,
District 1—JAMES C. SMITH, Chairman and
Chief Executive Officer, Webster Bank,
N.A. and Webster Financial Corporation,
Waterbury, Conn.
District 2—THOMAS A. RENYI, Chairman
and Chief Executive Officer, The Bank of
New York, New York, N.Y.
District 3—TED T. CECALA Chairman and
Chief Executive Officer, Wilmington Trust
Company, Wilmington, Del.
District
4—GEORGE
A.
SCHAEFER, JR.,
President and Chief Executive Officer,
Fifth Third Bancorp, Cincinnati, Ohio.
District 5—G. KENNEDY THOMPSON, Chair-
man, President, and Chief Executive Officer, Wachovia Corporation, Charlotte,
N.C.
District 6—FRED L. GREEN III, Vice Chair-
man, Synovus Financial Corporation,
Columbus, Ga.
District 7—DENNIS J. KUESTER, Chairman
and Chief Executive Officer, Marshall &
Ilsley Corporation, Milwaukee, Wis.
District 8—J. KENNETH GLASS, Chairman,
President, and Chief Executive Officer,
First Horizon National Corporation,
Memphis, Tenn.
District 9—LYLE R. KNIGHT, President and
Chief Executive Officer, First Interstate
BancSystem, Inc., Billings, Mont.
Guaranty Bank and Trust Company,
Denver, Colo.
District 11—JAMES GOUDGE, Chairman and
Chief Executive Officer, Broadway Bank,
San Antonio, Tex.
District
12—RICHARD
M.
KOVACEVICH,
Chairman, President, and Chief Executive
Officer, Wells Fargo and Company, San
Francisco, Calif.
Officers
THOMAS A. RENYI, President
DENNIS J. KUESTER, Vice President
JAMES E. ANNABLE, Secretary
The Federal Advisory Council, which is a
statutory body established under the Federal
Reserve Act, consults with, and advises, the
Board of Governors on all matters within the
Board's jurisdiction. It is composed of one
representative from each Federal Reserve
District, chosen by the Reserve Bank in that
District. The Federal Reserve Act requires
the council to meet in Washington, D.C., at
least four times a year. In 2006, it met on
February 9-10, May 11-12, September 7-8,
and November 30-December 1. The council
met with the Board on February 10, May 12,
September 8, and December 1, 2006.
238
93rd Annual Report, 2006
Consumer Advisory Council
December 31,2006
Members
STELLA ADAMS, Executive Director, North
Carolina Fair Housing Center, Durham,
N.C.
DENNIS L. ALGIERE, Senior Vice President,
The Washington Trust Company,
Westerly, R.L
FAITH L. ANDERSON, Vice President—Legal
Compliance and General Counsel,
American Airlines Federal Credit Union,
Fort Worth, Tex.
DOROTHY BRIDGES, Chief Executive Officer
and President, Franklin National Bank of
Minneapolis, Minneapolis, Minn.
TONY T. BROWN, President and Chief
Executive Officer, Uptown Consortium,
Inc., Cincinnati, Ohio
SHEILA CANAVAN, Consumer Attorney, Law
Office of Sheila Canavan, Moab, Utah
CAROLYN CARTER, Attorney, National Con-
sumer Law Center, Boston, Mass.
MICHAEL COOK, Vice President, Wal-Mart
Stores, Inc., Bentonville, Ark.
DONALD S. CURRIE, Executive Director,
Community Development Corporation of
Brownsville, Brownsville, Tex.
ANNE DIEDRICK, Senior Vice President,
JPMorgan Chase Bank, New York, N.Y.
HATTIE B. DORSEY, President and Chief
Executive Officer, Atlanta Neighborhood
Development Partnership, Atlanta, Ga.
KURT EGGERT, Professor of Law and Direc-
tor of Clinical Legal Education, Chapman
University School of Law, Orange, Calif.
DEBORAH
HICKOK,
Vice
President,
MoneyGram Payment Systems, Inc.,
Ooltewah, Tenn.
SARAH LUDWIG, Director, Neighborhood
Economic Development
Advocacy
Project, New York, N.Y.
MARK K. METZ, Senior Vice President and
Deputy General Counsel, Wachovia
Corporation, Charlotte, N.C.
BRUCE B. MORGAN, Chairman, President,
and Chief Executive Officer, Valley State
Bank, Roeland Park, Kans.
LANCE MORGAN, President, Ho-Chunk,
Winnebago Tribe of
Digitized forIncorporated,
FRASER
Nebraska, Winnebago, Neb.
JOSHUA PEIREZ, Senior Vice President and
Associate General Counsel, MasterCard
International, Purchase, N.Y.
ANNA MCDONALD RENTSCHLER, BSA Offi-
cer, Central Bancompany, Jefferson City,
Mo.
FAITH ARNOLD SCHWARTZ, Senior
Vice
President, Enterprise Risk Management
and Public Affairs, Option One Mortgage
Corporation, Washington, D.C.
MARY JANE SEEBACH, Managing Director,
Public Affairs, Countrywide Financial
Corporation, Calabasas, Calif.
EDWARD SIVAK, Director of Policy and
Evaluation, Enterprise Corporation of the
Delta, Jackson, Miss.
PAUL J. SPRINGMAN, Chief Marketing Officer, Equifax, Atlanta, Ga.
FORREST F. STANLEY, Senior Vice President
and Deputy General Counsel, KeyBank
National Association, Cleveland, Ohio
ANSELMO VILLARREAL, Executive Director,
LaCasa de Esperanza, Inc., Waukesha, Wis.
ALAN WHITE, Supervising Attorney, Com-
munity Legal Services, Philadelphia, Pa.
MARVA E. WILLIAMS, Senior Vice President,
Woodstock Institute, Chicago, 111.
Officers
LORI SWANSON, Chair, Solicitor General,
Office of the Minnesota Attorney General, St. Paul, Minn.
LISA SODEIKA, Vice Chair, Executive Vice
President—Corporate Affairs, HSBC
North America Holdings, Inc., Prospect
Heights, 111.
The Consumer Advisory Council—a statutory body established pursuant to the 1976
amendments to the Equal Credit Opportunity
Act—advises the Board of Governors on
consumer financial services. Its members,
who are appointed by the Board, are academics, state and local government officials,
and representatives of the financial services
industry and of consumer and community
interests. In 2006, the council met with members of the Board on March 30, June 22, and
October 26.
Federal Reserve System Organization 239
Thrift Institutions Advisory Council
December 31, 2006
STEVEN SWIONTEK, Chairman, President,
Members
FRANK E. BERRISH, President and Chief
Executive Officer, Visions Federal Credit
Union, Endicott, N.Y.
CRAIG G. BLUNDEN, Chairman, President,
and Chief Executive Officer, Provident
Savings Bank, FSB, Riverside, Calif.
ALEXANDER R.M. BOYLE, Vice Chairman,
Chevy Chase Bank, Bethesda, Md.
and Chief Executive Officer, Gate City
Bank, Fargo, N.D.
DAVID RUSSELL TAYLOR, President
and
Chief Executive Officer, Rahway Savings
Institution, Rahway, N.J.
ROY M. WHITEHEAD, President and Chief
Executive Officer, Washington Federal
Savings, Seattle, Wash.
JEFFREY H. FARVER, President and Chief
Executive Officer, San Antonio Federal
Credit Union, San Antonio, Tex.
A. THOMAS HOOD, President and Chief
Executive Officer, First Federal Savings
and Loan Association, Charleston, S.C.
KENNETH
KORANDA,
President,
Mid
America Bank, Downers Grove, 111.
ARKADI KUHLMANN, Chairman, President,
and Chief Executive Officer, ING
DIRECT USA, Wilmington, Del.
DAVID E. POULSEN, President and Chief
Executive Officer, American Express
Centurion Bank, Salt Lake City, Utah
GEORGE JEFFREY RECORDS, JR., Chairman
and Chief Executive Officer, MidFirst
Bank, Oklahoma City, Okla.
Officers
ROY M. WHITEHEAD, President
DAVID RUSSELL TAYLOR, Vice President
The Thrift Institutions Advisory Council was
established by the Board of Governors to
consult with, and advise, the Board on issues
pertaining to the thrift industry and on other
matters within the Board's jurisdiction. Its
members, who are appointed by the Board,
represent credit unions, savings and loan
associations, and savings banks. In 2006, the
council met with the Board on March 3,
July 7, and December 8.
240 93rd Annual Report, 2006
Federal Reserve Banks and Branches
December 31,2006
Officers
Chairman1
Deputy Chairman
President
First Vice President
BOSTON2
Blenda J. Wilson
Lisa M. Lynch
Cathy E. Minehan
Paul M. Connolly
NEWYORK2
John E. Sexton
Jerry I. Speyer
Timothy F. Geithner
Christine M.
Cumming
Buffalo
Alphonso O'NeilWhite
PHILADELPHIA
Doris M. Damm
William F. Hecht
Charles I. Plosser
William H. Stone, Jr.
CLEVELAND2
Charles E. Bunch
Tanny B. Crane
James M. Anderson
Roy W. Haley
Sandra Pianalto
R. Chris Moore
Thomas J. Mackell, Jr.
Theresa M. Stone
William C. Handorf
JimLowry
Jeffrey M. Lacker
Sarah G. Green
David M. Ratcliffe
V. Larkin Martin
W. Miller Welborn
Linda H. Sherrer
Brian E. Keeley
David Williams II
Ben Tom Roberts
Vacant
Patrick K. Barron3
Miles D. White
John A. Canning, Jr.
Roger A Crecc
Michael H. Moskow
Gordon Werkema
William Poole
David A. Sapenaro
Little Rock
Louisville
Walter L. Metcalfe, Jr.
Irl F. Engelhardt
Sonja Yates Hubbard
John L. Huber
Memphis
Russell Gwatney
MINNEAPOLIS
Frank L. Sims
James J. Hynes
Dean Folkvord
BANK or Branch
Cincinnati
Pittsburgh
RICHMOND
Baltimore
Charlotte
ATLANTA
Birmingham
Jacksonville
Miami
Nashville
New Orleans
CHICAGO2
Detroit
ST. LOUIS
Helena
Officer
in charge of Branch
Kausar Hamdani
Barbara B. Henshaw
Robert B. Schaub
David Beck
Jeffrey S. Kane
Lee C. Jones
Christopher L. Oakley
Juan del Busto
Melvyn K. Purcell
Robert J. Musso
Glenn Hansen
Robert A. Hopkins
Maria Gerwing
Hampton
Martha Perine Beard
Gary H. Stern
James M. Lyon
Samuel H. Gane
Federal Reserve System Organization 241
Officers—Continued
BANK or Branch
KANSAS CITY
Denver
Oklahoma City
Omaha
DALLAS
El Paso
Houston
San Antonio
,
SAN FRANCISCO 2
Los Angeles
Portland
Salt Lake City
Seattle
Chairman1
Deputy Chairman
President
First Vice President
Robert A. Funk
Lu M. Cordova
Thomas Williams
Richard K. Ratcliffe
James A. Timmerman
Thomas M. Hoenig
Richard K. Rasdall, Jr.
Ray L. Hunt
Anthony R. Chase
Ron C. Helm
Lupe Fraga
Elizabeth Chu Richter
Richard W Fisher
Helen E. Holcomb
David K.Y. Tang
T. Gary Rogers
James L. Sanford
James H. Rudd
William C. Glynn
Mic R. Dinsmore
Janet L. Yellen
John F. Moore
1. The chairman of a Federal Reserve Bank serves, by
statute, as Federal Reserve agent.
2. Additional offices of these Banks are located at
Windsor Locks, Connecticut; Utica at Oriskany, New
Officer
in charge of Branch
Michael Orlando
Chad Wilkerson
Jason Henderson
Robert W Gilmer
Robert Smith III
D. Karen Diaz
Mark L. Mullinix
Mary E. Lee
Andrea P. Wolcott
Mark A. Gould
York; East Rutherford, New Jersey; Des Moines, Iowa;
Midway at Bedford Park, Illinois; and Phoenix, Arizona.
3. Served as acting president as of October 1, 2006,
following the retirement of Jack Guynn.
Conference of Chairmen
Conference of Presidents
The chairmen of the Federal Reserve Banks
are organized into the Conference of Chairmen, which meets to consider matters of
common interest and to consult with and
advise the Board of Governors. Such meetings, also attended by the deputy chairmen,
were held in Washington, D.C., on May 31
and June 1, and on November 29 and 30,
2006.
The members of the executive committee of the Conference of Chairmen during 2006 were John E. Sexton, chair; Charles
E. Bunch, vice chair; and Robert A. Funk,
member.
On November 30, the conference elected
its executive committee for 2007, naming
Robert A. Funk as chair; V. Larkin Martin as
vice chair; and Miles D. White as the third
member.
The presidents of the Federal Reserve
Banks are organized into the Conference
of Presidents, which meets periodically to
consider matters of common interest and
to consult with and advise the Board of
Governors.
Cathy E. Minehan, president of the Federal Reserve Bank of Boston, served as chair
of the conference in 2006, and Sandra
Pianalto, president of the Federal Reserve
Bank of Cleveland, served as vice chair.
Jacqueline P. Palladino, of the Federal
Reserve Bank of Boston, served as secretary,
and Gregory L. Stefani, of the Federal
Reserve Bank of Cleveland, served as assistant secretary.
On November 1, 2006, the conference
elected Sandra Pianalto as chair for 2007-08
and Jeffrey M. Lacker, president of the Federal Reserve Bank of Richmond, as vice
chair.
242 93rd Annual Report, 2006
Conference of
First Vice Presidents
The Conference of First Vice Presidents of
the Federal Reserve Banks was organized in
1969 to meet periodically for the consideration of operations and other matters.
Helen E. Holcomb, first vice president of
the Federal Reserve Bank of Dallas, served
as chair of the conference in 2006, and James
M. Lyon, first vice president of the Federal
Reserve Bank of Minneapolis, served as vice
chair. Harvey R. Mitchell, of the Federal
Reserve Bank of Dallas, served as secretary,
and Sheryl Britsch, of the Federal Reserve
Bank of Minneapolis, served as assistant
secretary.
Directors
Each Federal Reserve Bank has a ninemember board: three Class A and three
Class B directors, who are elected by the
stockholding member banks, and three
Class C directors, who are appointed by the
Board of Governors.
Class A directors represent the stockholding member banks in each Federal Reserve
District. Class B and Class C directors represent the public and are chosen with due, but
not exclusive, consideration to the interests
of agriculture, commerce, industry, services,
labor, and consumers; they may not be offi-
cers, directors, or employees of any bank or
bank holding company. In addition, Class C
directors may not be stockholders of any
bank or bank holding company.
For the election of Class A and Class B
directors, the member banks of each Federal Reserve District are classified into
three groups. Each group, which comprises
banks with similar capitalization, elects one
Class A director and one Class B director.
Annually, the Board of Governors designates
one of the Class C directors as chair of
the board and Federal Reserve agent of
each District Bank, and it designates another
Class C director as deputy chair.
Federal Reserve Branches have either five
or seven directors, a majority of whom are
appointed by the parent Federal Reserve
Bank; the others are appointed by the Board
of Governors. One of the directors appointed
by the Board is designated annually as chair
of the board of that Branch in a manner
prescribed by the parent Federal Reserve
Bank.
The chairs and deputy chairs of the
Reserve Bank boards of directors, and the
chairs of the Branches, are listed in the preceding table, titled "Officers." The directors
of the Banks and Branches are listed in the
following table. For each director, the class
of directorship, the director's principal organizational affiliation, and the date the director's term expires are shown.
Federal Reserve System Organization 243
Directors
BANK or BRANCH, Category
Name
Title
Term expires
Dec. 31
DISTRICT 1—BOSTON
RESERVE BANK
Class A
Peter A. Blyberg
Ronald E. Logue
Kathleen C. Marcum
Class B
KirkRPond
Robert K. Kraft
Michael T. Wedge
Class C
Lisa M. Lynch
Samuel O. Thier, M.D
Blenda J. Wilson
President and Chief Executive Officer,
Union Trust Company, Ellsworth, Maine
Chairman and Chief Executive Officer,
State Street Corporation, Boston, Massachusetts
President and Chief Executive Officer, Millbury
National Bank, Millbury, Massachusetts
2006
Former President, Chief Executive Officer,
and Chairman, Fairchild Semiconductor International,
South Portland, Maine
Chairman and Chief Executive Officer,
The Kraft Group, Foxborough, Massachusetts
Former President and Chief Executive Officer,
BJ's Wholesale Club, Inc., Natick, Massachusetts
2006
William L. Clayton Professor of International
Economic Affairs, The Fletcher School of Law
and Diplomacy, Tufts University, Medford,
Massachusetts
Professor of Medicine and Professor of Health Care
Policy-Harvard Medical School, Massachusetts
General Hospital, Boston, Massachusetts
Former President and Chief Executive Officer,
Nellie Mae Education Foundation,
Quincy, Massachusetts
2006
2007
2008
2007
2008
2007
2008
DISTRICT 2—NEW YORK
RESERVE BANK
Class A
Sanford I. Weill
Jill M. Considine
Charles V. Wait
Class B
Indra K. Nooyi
Richard S. Fuld, Jr.
Jeffrey R. Immelt
Chairman Emeritus, Citigroup Inc., New York,
New York
Chairman, The Depository Trust Company,
New York, New York
President, Chief Executive Officer, and Chairman,
The Adirondack Trust Company,
Saratoga Springs, New York
President and Chief Executive Officer,
PepsiCo, Inc., Purchase, New York
Chairman and Chief Executive Officer,
Lehman Brothers, New York, New York
Chairman and Chief Executive Officer,
General Electric Company, Fairfield, Connecticut
2006
2007
2008
2006
2007
2008
244 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Class C
Jerry I. Speyer
John E. Sexton
Denis M. Hughes
1111C
President and Chief Executive Officer, Tishman Speyer,
New York, New York
President, New York University, New York, New York
President, New York State AFL-CIO, New York,
New York
Term expires
Dec. 31
2006
2007
2008
BUFFALO BRANCH
Appointed by the
Federal Reserve Bank
Maureen Torrey Marshall .. Vice President, Torrey Farms, Inc., Elba, New York
President and Chief Executive Officer,
Peter G. Humphrey
Financial Institutions, Inc. and Five Star Bank,
Warsaw, New York
Vacancy
Regional Director-Region 9, United Auto Workers,
Joseph J. Ashton
Amherst, New York
Appointed by the
Board of Governors
Alphonso O'Neil-White . . . . President and Chief Executive Officer,
HealthNow New York Inc., Buffalo, New York
President and Chief Executive Officer,
James P. Laurito
Rochester Gas and Electric Corporation and New
York State Electric and Gas Corporation, Rochester,
New York
2006
2006
2007
2008
2006
2007
2008
Vacancy
DISTRICT 3—PHILADELPHIA
RESERVE B A N K
Class A
Eugene W. Rogers
Wayne R. Weidner
John G. Gerlach
Director and Chief Executive Officer, Newfield
National Bank, Newfield, New Jersey
Chairman, National Penn Bancshares, Inc.,
Boyertown, Pennsylvania
President and Chief Executive Officer, Pocono
Community Bank, Stroudsburg, Pennsylvania
Class B
Garry L. Maddox
President and Chief Executive Officer, A. Pomerantz &
Company, Philadelphia, Pennsylvania
P. Coleman Townsend, Jr. .. Chairman and Chief Executive Officer, Townsends,
Inc., Wilmington, Delaware
Vacancy
Class C
William F. Hecht
Doris M. Damm
Charles P. Pizzi
Retired Chairman, President, and Chief Executive
Officer, PPL Corporation, Allentown, Pennsylvania
President and Chief Executive Officer, ACCU Staffing
Services, Cherry Hill, New Jersey
President and Chief Executive Officer, Tasty
Baking Company, Philadelphia, Pennsylvania
2006
2007
2008
2006
2007
2008
2006
2007
2008
Federal Reserve System Organization 245
BANK or BRANCH, Category
Name
Title
Term expires
Dec. 31
DISTRICT 4—CLEVELAND
RESERVE BANK
Class A
Stephen P. Wilson
Henry L. Meyer, III
Bick Weissenrieder
Class B
V. Ann Hailey
Les C. Vinney
Edwin J. Rigaud
Class C
Tanny B. Crane
Charles E. Bunch
Alfred M. Rankin, Jr.
Chairman, President and Chief Executive Officer,
Lebanon Citizens National Bank, Lebanon, Ohio
Chairman and Chief Executive Officer,
KeyCorp, Cleveland, Ohio
Chairman and Chief Executive Officer,
Hocking Valley Bank, Athens, Ohio
2006
Executive Vice President, Corporate Development,
Limited Brands, Columbus, Ohio
President and Chief Executive Officer,
STERIS Corporation, Mentor, Ohio
President and Chief Executive Officer,
Enova Partners, LLC, Cincinnati, Ohio
2006
President and Chief Executive Officer, Crane Group
Company, Columbus, Ohio
Chairman and Chief Executive Officer,
PPG Industries, Inc., Pittsburgh, Pennsylvania
Chairman, President and Chief Executive Officer,
NACCO Industries, Inc., Cleveland, Ohio
2006
President and Chief Executive Officer, Great Lakes
Bankers Bank, Gahanna, Ohio
President, Czar Coal Corporation, Lovely, Kentucky
Managing Partner, Global Lead Management
Consulting, Cincinnati, Ohio
President, Lexington Market, JPMorgan Chase Bank,
NA, Lexington, Kentucky
2006
Retired President, Ashland Inc. Foundation,
Covington, Kentucky
Senior Vice President, Western and Southern Financial
Group, Cincinnati, Ohio
President and Chief Executive Officer, Cincinnati
Children's Hospital Medical Center, Cincinnati, Ohio
2006
Executive Vice President, WesBanco Bank, Inc.,
Wheeling, West Virginia
2006
2007
2008
2007
2008
2007
2008
CINCINNATI BRANCH
Appointed by the
Federal Reserve Bank
Charlotte W. Martin
James H. Booth
Janet B. Reid
Glenn D. Leveridge
Appointed by the
Board of Governors
Charles Whitehead
Herbert R. Brown
James M. Anderson
2007
2008
2008
2007
2008
PITTSBURGH BRANCH
Appointed by the
Federal Reserve Bank
Kristine N. Molnar
246 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Michael J. Hagan
Sunil T. Wadhwani
Georgiana N. Riley
Appointed by the
Board of Governors
James I. Mitnick
Robert O. Agbede
RoyW.Haley
Titip
Term expires
Dec. 31
President and Chief Executive Officer,
Iron and Glass Bank, Pittsburgh, Pennsylvania
Chief Executive Officer and Co-founder,
iGATE Corporation, Pittsburgh, Pennsylvania
President and Chief Executive Officer,
TIGG Corporation, Bridgeville, Pennsylvania
2007
Senior Vice President, Turner Construction Company,
Pittsburgh, Pennsylvania
President and Chief Executive Officer, ATS-Chester
Engineers, Inc., Pittsburgh, Pennsylvania
Chairman and Chief Executive Officer, WESCO
International, Inc., Pittsburgh, Pennsylvania
2006
2008
2008
2007
2008
DISTRICT 5—RICHMOND
RESERVE BANK
Class A
Ernest J. Sewell
Kathleen Walsh Carr
Hunter R. Hollar
Class B
Kenneth R. Sparks
Harry M. Lightsey, III
Dana S. Boole
Class C
Lemuel E. Lewis
Theresa M. Stone
Thomas J. Mackell, Jr.
Senior Advisor, FNB Southeast, Greensboro,
North Carolina
President, Cardinal Bank Washington, Washington,
D.C.
President and Chief Executive Officer, Sandy Spring
Bancorp, Sandy Spring Bank, Olney, Maryland
2006
President and Chief Executive Officer,
Ken Sparks Associates LLC, White Stone, Virginia
State President-South Carolina, BellSouth,
Columbia, South Carolina
President and Chief Executive Officer,
Community Affordable Housing Equity Corporation,
Raleigh, North Carolina
2006
Director, Landmark Communications, Inc.,
Norfolk, Virginia
President (Retired), Lincoln Financial Media,
Greensboro, North Carolina
Warrenton, Virginia
2006
President, Environmental Reclamation Company,
Baltimore, Maryland
Chairman and President, Community Bank
of Tri-County, Waldorf, Maryland
President and Chief Executive Officer,
SunTrust Bank, Maryland, Baltimore, Maryland
2006
2007
2008
2007
2008
2007
2008
BALTIMORE BRANCH
Appointed by the
Federal Reserve Bank
Kenneth C. Lundeen
Michael L. Middleton
Donald P. Hutchinson
2006
2007
Federal Reserve System Organization 247
BANK or BRANCH, Category
Name
Biana J. Arentz
Appointed by the
Board of Governors
William C. Handorf
William R. Roberts
Cynthia Collins Allner
Titl*»
1 lllc
Term expires
Dec. 31
President and Chief Executive Officer,
Hemingway's Inc., Stevensville, Maryland
2008
Professor of Finance, George Washington University,
Washington, D.C.
President, Verizon Maryland Inc., Baltimore, Maryland
Principal, Miles & Stockbridge P C , Baltimore,
Maryland
2006
Chairman and President, FNB Corp. and First National
Bank and Trust Company, Asheboro, North Carolina
Chief Risk Officer, Wachovia Corporation, Charlotte,
North Carolina
President and Chief Executive Officer, First South
Bancorp, Inc., First South Bank,
Spartanburg, South Carolina
President and Chief Executive Officer, North Carolina
Mutual Life Insurance Company,
Durham, North Carolina
2006
2007
2008
CHARLOTTE BRANCH
Appointed by the
Federal Reserve Bank
Michael C. Miller
Donald K. Truslow
Barry L. Slider
James H. Speed, Jr.
Appointed by the
Board of Governors
Jim Lowry
Anthony J. DiGiorgio
Linda L. Dolny
Automotive Consultant, High Point,
North Carolina
President, Winthrop University, Rock Hill,
South Carolina
President, PML Associates, Inc., Greenwood,
South Carolina
2006
2007
2008
2006
2007
2008
DISTRICT 6—ATLANTA
RESERVE BANK
Class A
William G. Smith, Jr.
James F. Beall
L. Phillip Humann
Class B
Teri G. Fontenot
Lee M. Thomas
Egbert L.J. Perry
Chairman, President, and Chief Executive Officer,
Capital City Bank Group, Inc., Tallahassee, Florida
Chairman, President, and Chief Executive Officer,
Farmers & Merchants Bank, Centre, Alabama
Chairman and Chief Executive Officer, SunTrust
Banks, Inc., Atlanta, Georgia
2006
President and Chief Executive Officer,
Woman's Hospital, Baton Rouge, Louisiana
Past President and Chief Operating Officer,
Georgia-Pacific Corporation, Atlanta, Georgia
Chairman and Chief Executive Officer,
The Integral Group, LLC, Atlanta, Georgia
2006
2007
2008
2007
2008
248 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Class C
D. Scott Davis
David M. Ratcliffe
V. Larkin Martin
1 lllc
Term expires
Dec. 31
Chief Financial Officer and Vice Chairman, United
Parcel Service, Atlanta, Georgia
Chairman, President, and Chief Executive Officer,
Southern Company, Atlanta, Georgia
Managing Partner, Martin Farm, Courtland, Alabama
2006
Business Manager, International Union of Operating
Engineers-Local 312, Birmingham, Alabama
Managing Partner, Lewis Properties, LLC and
Anderson Investments, LLC, Huntsville, Alabama
Monroeville President, BankTrust,
Monroeville, Alabama
Chairman and Chief Executive Officer, Alabama
National Bancorporation, Birmingham, Alabama
2006
President, Welborn and Associates, Inc.,
Lookout Mountain, Tennessee
President, Ram Tool and Supply Company, Inc.,
Birmingham, Alabama
Chairman of the Board, HOME Place Farms, Inc.,
Prattville, Alabama
2006
President and Chief Executive Officer,
MacDill Federal Credit Union, Tampa, Florida
President, E.T. Consultants, Winter Park, Florida
President, Amelia Island Plantation Company,
Amelia Island, Florida
President and Chief Executive Officer,
First Commercial Bank of Florida,
Orlando, Florida
2006
President and Chief Executive Officer,
Prudential Network Realty, Jacksonville, Florida
President and Chief Executive Officer,
Landrum Human Resource Companies, Inc.,
Pensacola, Florida
President and Founder, US-Africa Free Enterprise
Education Foundation, Tampa, Florida
2006
2007
2008
BIRMINGHAM BRANCH
Appointed by the
Federal Reserve Bank
Samuel F. Dodson
Bobby A. Bradley
John B. Barnett III
John H. Holcomb III
Appointed by the
Board of Governors
W. Miller Welborn
Maryam B. Head
James H. Sanford
2006
2007
2008
2007
2008
JACKSONVILLE BRANCH
Appointed by the
Federal Reserve Bank
Robert L. Fisher
Ellen S.Titen
Jack B. Healan, Jr.
Alan Rowe
Appointed by the
Board of Governors
Linda H. Sherrer
H. Britt Landrum, Jr
Fassil Gabremariam
2006
2007
2008
2007
2008
Federal Reserve System Organization 249
BANK or BRANCH, Category
Name
Titlp
11UC
Term expires
Dec. 31
MIAMI BRANCH
Appointed by the
Federal Reserve Bank
Miriam Lopez
Dennis S. Hudson III
Francis V. Gudorf
Thomas H. Shea
Appointed by the
Board of Governors
Brian E. Keeley
Gay Rebel Thompson
Edwin A. Jones, Jr.
Chairman and Chief Executive Officer,
TransAtlantic Bank, Miami, Florida
Chairman and Chief Executive Officer, Seacoast
Banking Corporation of Florida, Stuart, Florida
President/Executive Director, Jubilee Community
Development Corporation, Miami, Florida
Regional Chief Executive Officer-Florida/Caribbean,
Right Management, Fort Lauderdale, Florida
2006
President and Chief Executive Officer,
Baptist Health South Florida, Coral Gables, Florida
President and Chief Executive Officer,
Cement Industries, Inc., Fort Myers, Florida
President, Angus Investments, Inc.,
Port St. Lucie, Florida
2006
President and Chief Executive Officer,
Standard Candy Company, Inc., Nashville, Tennessee
Senior Vice President, North American Manufacturing
and Supply Chain Management, Nissan North
America, Inc., Smyrna, Tennessee
President and Chief Executive Officer, Pinnacle
Financial Partners, Nashville, Tennessee
Chairman, First National Bank, Oneida, Tennessee
2006
Vice Chancellor and General Counsel,
Vanderbilt University, Nashville, Tennessee
President and Chief Executive Officer,
St. Mary's Health System, Knoxville, Tennessee
President and Chief Executive Officer, The Sage Group,
Brentwood, Tennessee
2006
2007
2008
2008
2007
2008
NASHVILLE BRANCH
Appointed by the
Federal Reserve Bank
James W. Spradley, Jr.
Daniel A. Gaudette
M. Terry Turner
Michael B. Swain
Appointed by the
Board of Governors
David Williams II
Debra K. London
Richard Q. Ford
2006
2007
2008
2007
2008
NEW ORLEANS BRANCH
Appointed by the
Federal Reserve Bank
Lawrence E. Kurzius
Christel C. Slaughter
David E. Johnson
J. Herbert Boydstun
President, U.S. Consumer Foods, McCormick &
Company, Incorporated, Baltimore, Maryland
Partner, SSA Consultants, LLC, Baton Rouge, Louisianai
Chairman and Chief Executive Officer, The First
Bancshares, Inc., and The First, A National Banking
Association, Hattiesburg, Mississippi
President and Chief Executive Officer,
Capital One, N.A., New Orleans, Louisiana
2006
2006
2007
2008
250 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Appointed by the
Board of Governors
Ben Tom Roberts
Dave Dennis
EarlL. Shipp
Title
President, Roberts Brothers Commercial and Property
Management, Inc., Realtors, Mobile, Alabama
President and Chief Executive Officer,
Specialty Contractors & Associates, Inc.,
Gulfport, Mississippi
President—Dow India, Middle East and Africa,
Global Vice President for Oxides and Glycols,
The Dow Chemical Company, Dubai,
United Arab Emirates
Term expires
Dec. 31
2006
2007
2008
DISTRICT 7—CHICAGO
RESERVE BANK
Class A
Michael L. Kubacki
JeffPlagge
William A. Osborn
Class B
Mark T. Gaffhey
Vacancy
Valerie B. Jarrett
Class C
W. James Farrell
Miles D. White
John A. Canning, Jr.
Chairman, President, and Chief Executive Officer,
Lakeland Financial Corporation,
Warsaw, Indiana
Chairman, Chief Executive Officer, and President,
Midwest Heritage Bank, Clive, Iowa
Chairman and Chief Executive Officer, Northern Trust
Corporation and The Northern Trust Company,
Chicago, Illinois
2006
President, Michigan AFL-CIO, Lansing, Michigan
2006
2007
2008
Managing Director and Executive Vice President,
The Habitat Company, Chicago, Illinois
2007
2008
Retired Chairman and Chief Executive Officer,
Illinois Tool Works, Inc., Glen view, Illinois
Chairman and Chief Executive Officer, Abbott,
Abbott Park, Illinois
Chairman and Chief Executive Officer,
Madison Dearborn Partners, LLC, Chicago, Illinois
2006
Chairman, President, and Chief Executive Officer,
Comerica Incorporated, Detroit, Michigan
President and Chief Executive Officer,
Independent Bank Corporation, Ionia, Michigan
Chief Executive Officer, ER-One, Inc.,
Livonia, Michigan
Director of Housing & Community Development,
Kent County Community Development Department
& Housing Commission, Grand Rapids, Michigan
2006
2007
2008
DETROIT BRANCH
Appointed by the
Federal Reserve Bank
Ralph W. Babb, Jr.
Michael M. Magee, Jr.
Tommi A. White
Linda S. Likely
2007
2008
2008
Federal Reserve System Organization 251
BANK or BRANCH, Category
Name
Title
Appointed by the
Board of Governors
Roger A. Cregg
Executive Vice President and Chief Financial Officer,
Pulte Homes, Inc., Bloomfield Hills, Michigan
President, Wayne State University, Detroit, Michigan
Irvin D. Reid
Timothy M. Manganello ... Chairman and Chief Executive Officer, BorgWarner
Incorporated, Auburn Hills, Michigan
Term expires
Dec. 31
2006
2007
2008
DISTRICT 8—ST. LOUIS
RESERVE BANK
Class A
David R. Pirsein
Lewis F. Mallory, Jr.
J. Thomas May
Class B
A. Rogers Yarnell, II
Paul T. Combs
Jay Fitzsimmons
Class C
Walter L. Metcalfe, Jr.
Irl F. Engelhardt
Cynthia J. Brinkley
President and Chief Executive Officer, First National
Bank in Pinckneyville, Pinckneyville, Illinois
Chairman and Chief Executive Officer,
Cadence Financial Corporation, Starkville,
Mississippi
Chairman and Chief Executive Officer,
Simmons First National Corporation, Pine Bluff,
Arkansas
2006
President, Yarnell Ice Cream Company, Inc.,
Searcy, Arkansas
President, Baker Implement Company,
Kennett, Missouri
Sr. Vice President of Finance and Treasurer,
Wal-Mart Stores, Inc., Bentonville, Arkansas
2006
Partner, Bryan Cave LLP, St. Louis, Missouri
Chairman, Peabody Energy, St. Louis, Missouri
President, AT&T Missouri, St. Louis, Missouri
2006
2007
2008
Retired Regional President, U.S. Bank,
North Little Rock, Arkansas
Executive Director, The Downtown Partnership,
Little Rock, Arkansas
Chairman, Arkansas Best Corporation,
Fort Smith, Arkansas
President and Chief Executive Officer, Southern
Bancorp, Arkadelphia, Arkansas
2006
Chief Executive Officer, Arkansas Capital Corporation,
Little Rock, Arkansas
2006
2007
2008
2007
2008
LITTLE ROCK BRANCH
Appointed by the
Federal Reserve Bank
Raymond E. Skelton
Sharon Priest
Robert A. Young III
Phillip N. Baldwin
Appointed by the
Board of Governors
C.Sam Walls
2007
2008
2008
252 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
1111C
Term expires
Dec. 31
Chief Executive Officer, E-Z Mart Stores, Inc.,
Texarkana, Texas
Partner, Pender & McCastlain, P.A., Little Rock,
Arkansas
2007
Chairman, President, and Chief Executive Officer,
The Peoples Bank, Marion, Kentucky
Chairman and Chief Executive Officer, Republic
Bank & Trust Company, Louisville, Kentucky
Chief Executive Officer, Ephraim McDowell Health,
Danville, Kentucky
President, Wabash Plastics, Inc., Evansville, Indiana
2006
President and Chief Executive Officer, Geo. Pfau's
Sons Company, Inc., Jeffersonville, Indiana
President, Western Kentucky University,
Bowling Green, Kentucky
President and Chief Executive Officer,
Louisville Water Company, Louisville, Kentucky
2006
David P. Rumbarger, Jr. . . . . President and Chief Executive Officer, Community
2006
Sonja Yates Hubbard
Cal McCastlain
2008
LOUISVILLE BRANCH
Appointed by the
Federal Reserve Bank
Gordon B. Guess
Steven E. Trager
L. Clark Taylor, Jr.
JohnC. Schroeder
Appointed by the
Board of Governors
Norman E. Pfau, Jr.
Gary A. Ransdell
John L. Huber
2007
2008
2008
2007
2008
MEMPHIS BRANCH
Appointed by the
Federal Reserve Bank
Thomas G. Miller
Levon Mathews
Hunter Simmons
Appointed by the
Board of Governors
Russell Gwatney
Charles S. Blatteis
Meredith B. Allen
Development Foundation, Tupelo, Mississippi
President, Southern Hardware Company, Inc.,
West Helena, Arkansas
President, Regions Bank, Memphis, Tennessee
President and Chief Executive Officer,
First South Bank, Jackson, Tennessee
President, Gwatney Companies, Memphis, Tennessee
Member (Partner), The Bogatin Law Firm, PLC,
Memphis, Tennessee
Vice President, Marketing, Staple Cotton Cooperative
Association, Greenwood, Mississippi
2007
2008
2008
2006
2007
2008
DISTRICT 9—MINNEAPOLIS
RESERVE BANK
Class A
Douglas C. Morrison
John H. Hoeven, Jr.
Peter J. Haddeland
Chief Financial Officer, Citibank (South Dakota) N.A.,
Sioux Falls, South Dakota
Chairman, First Western Bank & Trust,
Minot, North Dakota
President and Chief Executive Officer,
First National Bank, Mahnomen, Minnesota
2006
2007
2008
Federal Reserve System Organization 253
BANK or BRANCH, Category
Name
Class B
D. Greg Heineman
Todd L. Johnson
Randy Peterson
Class C
James J. Hynes
Frank L. Sims
John W. Marvin
1111C
Term expires
Dec. 31
Chairman, Williams Insurance Agency,
Sioux Falls, South Dakota
President and Chief Executive Officer, Reuben
Johnson & Son, Inc. & Affiliated Companies,
Superior, Wisconsin
Facility Director, Lake Superior State University,
Sault Ste. Marie, Michigan
2006
Executive Administrator, Twin City Pipe Trades
Service Association, St. Paul, Minnesota
Corporate Vice President, Transportation, Cargill, Inc.,
Wayzata, Minnesota
Chairman and Chief Executive Officer, Marvin
Windows and Doors, Warroad, Minnesota
2006
Retired Dean and Director, Museum of the Rockies,
Bozeman, Montana
Regional President and Chief Executive Officer,
Wells Fargo Bank Montana, N.A., Billings, Montana
President and Chief Executive Officer, 1st Bank,
Sidney, Montana
2006
President and Chief Executive Officer, Wheat Montana
Farms and Bakery, Three Forks, Montana
President, Washington Corporations, Missoula,
Montana
2006
2007
2008
2007
2008
HELENA BRANCH
Appointed by the
Federal Reserve Bank
Marilyn F. Wessel
JoyN.Ott
John L. Franklin
Appointed by the
Board of Governors
Dean Folkvord
Lawrence R. Simkins
2006
2008
2008
DISTRICT 10—KANSAS CITY
RESERVE BANK
Class A
Mark W. Schifferdecker . . . . President and Chief Executive Officer, Girard National
Robert C. Fricke
Rick L. Smalley
Class B
Kevin K. Nunnink
Frank Moore
Dan L. Dillingham
Bank, Girard, Kansas
President and Chief Executive Officer, Farmers &
Merchants National Bank, Ashland, Nebraska
Chief Executive Officer, Dickinson Financial
Corporation, Kansas City, Missouri
Chairman, Integra Realty Resources, Westwood, Kansas
President, Spearhead Ranch Company,
Douglas, Wyoming
Chief Executive Officer, Dillingham Insurance,
Enid, Oklahoma
2006
2007
2008
2006
2007
2008
254 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Class C
Robert A. Funk
Terry L. Moore
Lu M. Cordova
1 lUC
Term expires
Dec. 31
Chairman and Chief Executive Officer,
Express Personnel Services, Oklahoma City,
Oklahoma
President, Omaha Federation of Labor,
Omaha, Nebraska
Chief Executive Officer, Corlund Industries;
Chairman, CTEK Angels, Boulder, Colorado
2006
President and Chief Executive Officer,
Unicover Corporation, Cheyenne, Wyoming
Real Estate Broker/Owner, Pearson Real Estate
Co., Inc., Buffalo, Wyoming
President and Chief Executive Officer,
First State Bancorporation,
Albuquerque, New Mexico
President and Chief Executive Officer, Vectra Bank
Colorado, Denver, Colorado
2006
President and Chief Executive Officer,
Williams Group LLC, Golden, Colorado
President and Chief Executive Officer,
Schloss Engineered Equipment, Inc.,
Aurora, Colorado
President, Mercy Loan Fund, Denver, Colorado
2006
Board Vice-Chairman, President and Chief Operating
Officer, LSB Industries, Inc., Oklahoma City,
Oklahoma
President, Chief Operating Officer, and Director,
The F&M Bank & Trust Company, Tulsa, Oklahoma
President and Chief Executive Officer, Arkansas
Valley State Bank, Broken Arrow, Oklahoma
Executive Director, State Hispanic Chamber of
Commerce, Oklahoma City, Oklahoma
2006
Chairman, Ratcliffe's Inc., Weatherford, Oklahoma
President, Agee Energy, LLC,
Oklahoma City, Oklahoma
President and Chief Operating Officer,
The Samuel Roberts Noble Foundation, Inc.,
Ardmore, Oklahoma
2006
2007
2007
2008
DENVER BRANCH
Appointed by the
Federal Reserve Bank
James A. Helzer
John D. Pearson
Michael R. Stanford
Bruce K. Alexander
Appointed by the
Board of Governors
Thomas Williams
Kristy A. Schloss
Diane Leavesley
2006
2007
2008
2007
2008
OKLAHOMA CITY BRANCH
Appointed by the
Federal Reserve Bank
Barry H. Golsen
Robert R. Gilbert, III
Terry M. Almon
Fred M.Ramos
Appointed by the
Board of Governors
Richard K. Ratcliffe
Steven C. Agee
Michael A. Cawley
2007
2007
2008
2008
Federal Reserve System Organization 255
BANK or BRANCH, Category
Name
Titlp
1111C
Term expires
Dec. 31
OMAHA BRANCH
Appointed by the
Federal Reserve Bank
Rodrigo Lopez
President and Chief Executive Officer, AmeriSphere
Multifamily Finance, LLC, Omaha, Nebraska
Chairman, FirsTier Bank, Kimball, Nebraska
Michael J. Nelson
Cynthia Hardin Milligan ... Dean-College of Business Administration,
University of Nebraska-Lincoln, Lincoln, Nebraska
President and Chief Executive Officer,
Mark A. Sutko
Platte Valley State Bank, Kearney, Nebraska
Appointed by the
Board of Governors
Charles R. Hermes
Lyn Wallin Ziegenbein
James A. Timmerman
President, Dutton-Lainson Company,
Hastings, Nebraska
Executive Director, Peter Kiewit Foundation,
Omaha, Nebraska
Chief Financial Officer, Timmerman
and Sons Feeding Company,
Springfield, Nebraska
2006
2006
2007
2008
2006
2007
2008
DISTRICT 11—DALLAS
RESERVE BANK
Class A
Matthew T. Doyle
David S. Barnard
Richard W. Evans, Jr.
Class B
Judy Ley Allen
Robert A. Estrada
James B. Bexley
Class C
Anthony R. Chase
Ray L. Hunt
James T. Hackett
Vice Chairman and Chief Executive Officer,
Texas First Bank, Texas City, Texas
Chairman and Chief Executive Officer, The
National Banks of Central Texas, Gatesville, Texas
Chairman and Chief Executive Officer,
Cullen/Frost Bankers, Inc., San Antonio, Texas
2006
Partner, Allen Investments, Inc., Houston, Texas
Chairman, Estrada Hinojosa & Company, Inc.,
Dallas, Texas
Associate Professor, Finance, Sam Houston
State University, Huntsville, Texas
2006
2007
Chairman and Chief Executive Officer, ChaseCom, LP,
Houston, Texas
Chairman, President, and Chief Executive Officer,
Hunt Consolidated, Inc., Dallas, Texas
Chairman, President, and Chief Executive Officer,
Anadarko Petroleum Corporation, Houston, Texas
2006
Chairman, President, and Chief Executive Officer,
Helen of Troy Limited, El Paso, Texas
2006
2007
2008
2008
2007
2008
EL PASO BRANCH
Appointed by the
Federal Reserve Bank
Gerald J. Rubin
256 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
F.James Volk
Pete Cook
Fred J.Loya
Appointed by the
Board of Governors
William V. Flores
Cecilia Ochoa Levine
Ron C. Helm
Titlp
1111C
Term expires
Dec. 31
Regional President, State National Bank, El Paso, Texas
President and Chief Executive Officer, First National
Bank of Alamogordo, Alamogordo, New Mexico
Chairman, Fred Loya Insurance, El Paso, Texas
2007
2008
Provost, New Mexico State University,
Las Cruces, New Mexico
President, MFI International Mfg., LLC,
El Paso, Texas
Owner, Helm Land and Cattle Company,
Van Horn, Texas
2006
Chairman and Chief Executive Officer,
The First National Bank of Bryan, Bryan, Texas
Managing Director, RBC Capital Markets,
Houston, Texas
Chairman, President, and Chief Executive Officer,
DX Service Company, Inc., Houston, Texas
President and Chief Executive Officer, Baylor College
of Medicine, Houston, Texas
2006
Chairman, Tanox, Inc., Houston, Texas
President and Chief Executive Officer,
El Paso Corporation, Houston, Texas
Chairman and Chief Executive Officer, Tejas Office
Products, Inc., Houston, Texas
2006
2007
Founder and President, SRV Holdings, Austin, Texas
Chairman and Chief Executive Officer,
Karta Technologies Inc., San Antonio, Texas
Chairman and Chief Executive Officer, Valley
International Cold Storage, Inc., Harlingen, Texas
Vice President, Southern Distributing,
Lorado, Texas
2006
2007
President, Southwest Research Institute,
San Antonio, Texas
President, The University of Texas at San Antonio,
San Antonio, Texas
Chairman and Chief Executive Officer,
Richter Architects, Corpus Christi, Texas
2006
2008
2007
2008
HOUSTON BRANCH
Appointed by the
Federal Reserve Bank
Timothy N. Bryan
Jodie L. Jiles
S. Reed Morian
Peter G. Traber, M.D.
Appointed by the
Board of Governors
Nancy T. Chang
Douglas L. Foshee
Lupe Fraga
2007
2008
2008
2008
SAN ANTONIO BRANCH
Appointed by the
Federal Reserve Bank
Steven R. Vandegrift
G.P. Singh
Matt F. Gorges
Guillermo F. Trevino
Appointed by the
Board of Governors
J.Dan Bates
Ricardo Romo
Elizabeth Chu Richter
2008
2008
2007
2008
Federal Reserve System Organization 257
BANK or BRANCH, Category
Name
Titip
llllC
Term expires
Dec. 31
DISTRICT 12—SAN FRANCISCO
RESERVE BANK
Class A
Kenneth P. Wilcox
Richard W. Decker, Jr.
Candace Hunter Wiest
Class B
Barbara L. Wilson
Jack McNally
Karla S. Chambers
Class C
T.Gary Rogers
David K.Y. Tang
Charles H. Smith
President and Chief Executive Officer, Silicon
Valley Bank, Santa Clara, California
Chairman and Co-Founder, Belvedere Capital
Partners LLC, San Francisco, California
President and Chief Executive Officer, West Valley
National Bank, Avondale, Arizona
2006
2007
2008
Consultant; and Regional Vice President (Retired),
Qwest Corporation, Boise, Idaho
Principal, JKM Consulting, Sacramento, California
Vice President and Co-Owner, Stahlbush Island Farms,
Inc., Corvallis, Oregon
2006
Chairman and Chief Executive Officer,
Dreyer's Grand Ice Cream, Inc., Oakland, California
Partner, Preston Gates & Ellis LLP, Seattle, Washington
Former President and Chief Executive Officer,
AT&T West, San Ramon, California
2006
President and Chief Executive Officer,
Citizens Business Bank, Ontario, California
President and Chief Executive Officer,
Frieda's, Inc., Los Alamitos, California
Chairman, President and Chief Executive Officer,
East West Bank, Pasadena, California
Managing Partner, Thomas & Mack Co.,
Las Vegas, Nevada
2006
Chief Executive Officer, Anita Santiago Advertising,
Santa Monica, California
Corporate Vice President and Treasurer, Northrop
Grumman Corporation, Los Angeles, California
President, Community Foundation Land Trust,
California Community Foundation, Los Angeles,
California
2006
2007
2008
2007
2008
Los ANGELES BRANCH
Appointed by the
Federal Reserve Bank
D.Linn Wiley
Karen B. Caplan
Dominic Ng
Peter M. Thomas
Appointed by the
Board of Governors
Anita Santiago
James L. Sanford
AnnE. Sewill
2006
2007
2008
2007
2008
PORTLAND BRANCH
Appointed by the
Federal Reserve Bank
Robert D. Sznewajs
Alan V. Johnson
President and Chief Executive Officer,
West Coast Bancorp, Lake Oswego, Oregon
Regional President, Wells Fargo Bank, Portland,
Oregon
2006
2007
258 93rd Annual Report, 2006
Directors—Continued
BANK or BRANCH, Category
Name
Title
William D. Thorndike, Jr. .. Chairman and President, Medford Fabrication,
Medford, Oregon
President, Don Pancho Authentic Mexican Foods, Inc.,
George J. Puentes
Salem, Oregon
Appointed by the
Board of Governors
David Y. Chen
James H. Rudd
Peter O. Kohler, M.D
Term expires
Dec. 31
2008
2008
Partner, OVP Venture Partners, Portland, Oregon
Chief Executive Officer and Principal, Ferguson
Wellman Capital Management, Inc., Portland,
Oregon
President, Oregon Health & Science University,
Portland, Oregon
2006
2007
Vice President, Strategic Initiatives, Uniprise,
UnitedHealth Group, Salt Lake City, Utah
President, Farmers & Merchants Bank, A Bank of the
Cascades Company, Boise, Idaho
President and Chief Executive Officer, Zions Bank,
Salt Lake City, Utah
President and Chief Executive Officer,
United Way of Salt Lake, Salt Lake City, Utah
2006
President, Intermountain Industries, Inc., Boise, Idaho
Chairman of the Board, Merrimack Pharmaceuticals,
Inc., Salt Lake City, Utah
Chief Executive Officer, Ivory Homes, Ltd.,
Salt Lake City, Utah
2006
2007
2008
SALT LAKE CITY BRANCH
Appointed by the
Federal Reserve Bank
Annette K. Herman
Michael M. Mooney
A. Scott Anderson
Deborah Bayle Nielsen
Appointed by the
Board of Governors
William C. Glynn
Gary L. Crocker
Clark D. Ivory
2007
2008
2008
2008
SEATTLE BRANCH
Appointed by the
Federal Reserve Bank
Helvi K. Sandvik
President, NANA Development Corporation,
Anchorage, Alaska
Blake W. Nordstrom
President, Nordstrom, Inc., Seattle, Washington
Kenneth M. Kirkpatrick .... President, Washington State, U.S. Bank,
Seattle, Washington
President and Chief Executive Officer, Targeted
H. Stewart Parker
Genetics Corporation, Seattle, Washington
Appointed by the
Board of Governors
David W. Wyckoff
Mic R. Dinsmore
James R. Gill
Chairman and Chief Executive Officer,
Wyckoff Farms, Inc., Grandview, Washington
Chief Executive Officer, Port of Seattle,
Seattle, Washington
President, Pacific Northwest Title Holding Company,
Seattle, Washington
2006
2007
2008
2008
2006
2007
2008
Members of the Board of Governors, 1913-2006 259
Members of the Board of Governors, 1913-2006
Appointed Members
Name
Charles S. Hamlin
Paul M. Warburg
Frederic A. Delano
W.P.G. Harding
Adolph C. Miller
Albert Strauss
Henry A. Moehlenpah
Edmund Platt
David C. Wills
John R. Mitchell
Milo D. Campbell
Daniel R. Crissinger
George R. James
Edward H. Cunningham
Roy A. Young
Eugene Meyer
Wayland W Magee
Eugene R. Black
M.S. Szymczak
J.J. Thomas
Marriner S. Eccles
Joseph A. Broderick
John K. McKee
Ronald Ransom
Ralph W. Morrison
Chester C. Davis
Ernest G. Draper
Rudolph M. Evans
James K. Vardaman, Jr.
Lawrence Clayton
Thomas B. McCabe
Edward L. Norton
Oliver S. Powell
Wm. McC. Martin, Jr.
A.L. Mills, Jr.
J.L. Robertson
C. Canby Balderston
Paul E. Miller
Federal Reserve
District
Date initially took
oath of office
Other dates1
Aug. 10, 1914 Reappointed in 1916 and 1926. Served
until Feb. 3, 1936.2
New York
Aug. 10, 1914 Term expired Aug. 9, 1918.
Chicago
Aug. 10, 1914 Resigned July 21, 1918.
Aug. 10, 1914 Term expired Aug. 9, 1922.
Atlanta
San Francisco Aug. 10, 1914 Reappointed in 1924. Reappointed in
1934 from the Richmond District.
Served until Feb. 3, 1936.2
New York
Oct. 26, 1918 Resigned Mar. 15, 1920.
Nov. 10, 1919 Term expired Aug. 9, 1920.
Chicago
New York
June 8, 1920 Reappointed in 1928. Resigned Sept. 14,
1930.
Cleveland
Sept. 29, 1920 Term expired Mar. 4, 1921.
Minneapolis
May 12, 1921 Resigned May 12, 1923.
Mar. 14, 1923 Died Mar. 22, 1923.
Chicago
Cleveland
May 1, 1923 Resigned Sept. 15, 1927.
St. Louis
May 14, 1923 Reappointed in 1931. Served until Feb. 3,
1936.3
Chicago
May 14, 1923 Died Nov. 28, 1930.
Minneapolis
Oct. 4, 1927 Resigned Aug. 31, 1930.
New York
Sept. 16, 1930 Resigned May 10, 1933.
Kansas City
May 18, 1931 Term expired Jan. 24, 1933.
Atlanta
May 19, 1933 Resigned Aug. 15, 1934.
Chicago
June 14, 1933 Reappointed in 1936 and 1948. Resigned
May 31, 1961.
Kansas City
June 14, 1933 Served until Feb. 10, 1936.2
San Francisco Nov. 15, 1934 Reappointed in 1936, 1940, and 1944.
Resigned July 14, 1951.
New York
Feb. 3, 1936
Resigned Sept. 30, 1937.
Cleveland
Feb. 3, 1936 Served until Apr. 4, 1946.2
Feb. 3, 1936 Reappointed in 1942. Died Dec. 2, 1947.
Atlanta
Dallas
Feb. 10, 1936 Resigned July 9, 1936.
Richmond
June 25, 1936 Reappointed in 1940. Resigned Apr. 15,
1941.
New York
Mar. 30, 1938 Served until Sept. 1, 1950.2
Mar. 14, 1942 Served until Aug. 13, 1954.2
Richmond
Apr. 4, 1946 Resigned Nov. 30, 1958.
St. Louis
Boston
Feb. 14, 1947 Died Dec. 4, 1949.
Philadelphia
Apr. 15, 1948 Resigned Mar. 31, 1951.
Atlanta
Sept. 1, 1950 Resigned Jan. 31, 1952.
Minneapolis
Sept. 1, 1950 Resigned June 30, 1952.
New York
Apr. 2, 1951 Reappointed in 1956. Term expired
Jan. 31, 1970.
San Francisco Feb. 18, 1952 Reappointed in 1958. Resigned Feb. 28,
1965.
Kansas City
Feb. 18, 1952 Reappointed in 1964. Resigned Apr. 30,
1973.
Philadelphia
Aug. 12, 1954 Served through Feb. 28, 1966.
Minneapolis
Aug. 13, 1954 Died Oct. 21, 1954.
Boston
260 93rd Annual Report, 2006
Appointed Members—Continued
Name
Federal Reserve Date initially took
District
oath of office
Other dates1
Chas. N. Shepardson
G.H. King, Jr.
Dallas
Atlanta
Mar. 17, 1955
Mar. 25, 1959
George W. Mitchell
Chicago
Aug. 31, 1961
J. Dewey Daane
Sherman J. Maisel
Andrew F. Brimmer
William W. Shenill
Richmond
San Francisco
Philadelphia
Dallas
Nov. 29, 1963
Apr. 30, 1965
Mar. 9, 1966
May 1, 1967
Arthur F. Burns
New York
Jan. 31, 1970
John E. Sheehan
Jeffrey M. Bucher
Robert C. Holland
Henry C. Wallich
Philip E. Coldwell
Philip C. Jackson, Jr.
J. Charles Partee
Stephen S. Gardner
David M. Lilly
G. William Miller
Nancy H. Teeters
Emmett J. Rice
Frederick H. Schultz
Paul A. Volcker
Lyle E. Gramley
Preston Martin
Martha R. Seger
Wayne D. Angell
Manuel H. Johnson
H. Robert Heller
Edward W. Kelley, Jr.
Alan Greenspan
John P. LaWare
David W. Mullins, Jr.
Lawrence B. Lindsey
Susan M. Phillips
Alan S. Blinder
Janet L. Yellen
Laurence H. Meyer
Alice M. Rivlin
Roger W. Ferguson, Jr.
Edward M. Gramlich
Susan S. Bies
Mark W.Olson
Ben S. Bernanke
Donald L. Kohn
Ben. S. Bernanke
Kevin M. Warsh
Randall S. Kroszner
Frederic S. Mishkin
St. Louis
San Francisco
Kansas City
Boston
Dallas
Atlanta
Richmond
Philadelphia
Minneapolis
San Francisco
Chicago
New York
Atlanta
Philadelphia
Kansas City
San Francisco
Chicago
Kansas City
Richmond
San Francisco
Dallas
New York
Boston
St. Louis
Richmond
Chicago
Philadelphia
San Francisco
St. Louis
Philadelphia
Boston
Richmond
Chicago
Minneapolis
Atlanta
Kansas City
Atlanta
New York
Richmond
Boston
Jan. 4, 1972
June 5, 1972
June 11, 1973
Mar. 8, 1974
Oct. 29, 1974
July 14, 1975
Jan. 5, 1976
Feb. 13, 1976
June 1, 1976
Mar. 8, 1978
Sept. 18,1978
June 20, 1979
July 27, 1979
Aug. 6, 1979
May 28, 1980
Mar. 31, 1982
July 2, 1984
Feb. 7, 1986
Feb. 7, 1986
Aug. 19, 1986
May 26, 1987
Aug. 11, 1987
Aug. 15,1988
May 21, 1990
Nov. 26, 1991
Dec. 2, 1991
June 27, 1994
Aug. 12, 1994
June 24, 1996
June 25, 1996
Nov. 5, 1997
Nov. 5, 1997
Dec. 7, 2001
Dec. 7, 2001
Resigned June 20, 2006.
Aug. 5, 2002 Resigned June 21, 2005.
Aug. 5, 2002
Feb. 1, 2006
Feb. 22, 2006
Feb. 27, 2006
Seot. 5, 2006
Retired Apr. 30, 1967.
Reappointed in 1960. Resigned Sept. 18,
1963.
Reappointed in 1962. Served until
Feb. 13, 1976.2
Served until Mar. 8, 1974.2
Served through May 31, 1972.
Resigned Aug. 31, 1974.
Reappointed in 1968. Resigned Nov. 15,
1971.
Term began Feb. 1, 1970. Resigned
Mar. 31, 1978.
Resigned June 1, 1975.
Resigned Jan. 2, 1976.
Resigned May 15, 1976.
Resigned Dec. 15, 1986.
Served through Feb. 29, 1980.
Resigned Nov. 17, 1978.
Served until Feb. 7, 1986.2
Died Nov. 19, 1978.
Resigned Feb. 24, 1978.
Resigned Aug. 6, 1979.
Served through June 27, 1984.
Resigned Dec. 31, 1986.
Served through Feb. 11, 1982.
Resigned Aug. 11, 1987.
Resigned Sept. 1, 1985.
Resigned Apr. 30, 1986.
Resigned Mar. 11, 1991.
Served through Feb. 9, 1994.
Resigned Aug. 3, 1990.
Resigned July 31, 1989.
Resigned Dec. 31, 2001.
Resigned Jan. 31,2006.
Resigned Apr. 30, 1995.
Resigned Feb. 14, 1994.
Resigned Feb. 5, 1997.
Served through June 30, 1998.
Term expired Jan. 31, 1996.
Resigned Feb. 17, 1997.
Term expired Jan. 31, 2002.
Resigned July 16, 1999.
Resigned Apr. 28, 2006.
Resigned Aug. 31, 2005.
Members of the Board of Governors, 1913-2006
261
Appointed Members—-Continued
Name
Term
Chairmen3
Charles S. Hamlin
W.RG. Harding
Daniel R. Crissinger
Roy A. Young
Eugene Meyer
Eugene R. Black
Marriner S. Eccles
Thomas B. McCabe
Wm. McC. Martin, Jr.
Arthur F. Burns
G. William Miller
Paul A. Volcker
Alan Greenspan
Aug. 10, 1914-Aug. 9, 1916
Aug. 10, 1916-Aug. 9, 1922
May 1, 1923-Sept. 15, 1927
Oct. 4, 1927-Aug. 31, 1930
Sept. 16, 1930-May 10, 1933
May 19, 1933-Aug. 15, 1934
Nov. 15, 1934-Jan. 31, 19484
Apr. 15, 1948-Mar. 31, 1951
Apr. 2, 1951-Jan. 31, 1970
Feb. 1, 1970-Jan. 31, 1978
Mar. 8, 1978-Aug. 6, 1979
Aug. 6, 1979-Aug. 11, 1987
Aug. 11, 1987-Jan. 31, 20065
Vice Chairmen3
Frederic A. Delano
Paul M. Warburg
Albert Strauss
Edmund Platt
JJ. Thomas
Ronald Ransom
C. Canby Balderston
J.L. Robertson
George W. Mitchell
Stephen S. Gardner
Frederick H. Schultz
Preston Martin
Manuel H. Johnson
David W. Mullins, Jr.
Alan S. Blinder
Alice M. Rivlin
Roger W. Ferguson, Jr.
Aug. 10, 1914-Aug. 9, 1916
Aug. 10, 1916-Aug. 9, 1918
Oct. 26, 1918-Mar. 15, 1920
July 23, 1920-Sept. 14, 1930
Aug. 21, 1934-Feb. 10, 1936
Aug. 6, 1936-Dec. 2, 1947
Mar. 11, 1955-Feb. 28, 1966
Mar. 1, 1966-Apr. 30, 1973
May 1, 1973-Feb. 13, 1976
Feb. 13, 1976-Nov. 19, 1978
July 27, 1979-Feb. 11,1982
Mar. 31, 1982-Apr. 30, 1986
Aug. 4, 1986-Aug. 3, 1990
July 24, 1991-Feb. 14, 1994
June 27, 1994-Jan. 31, 1996
June 25, 1996-July 16, 1999
Oct. 5, 1999-Apr. 28, 2006
NOTE: Under the original Federal Reserve Act, the
Federal Reserve Board was composed of five appointed
members, the Secretary of the Treasury (ex officio chairman of the Board), and the Comptroller of the Currency.
The original term of office was ten years; the five original
appointed members had terms of two, four, six, eight, and
ten years. In 1922 the number of appointed members was
increased to six, and in 1933 the term of office was raised
to twelve years. The Banking Act of 1935 changed the
name to the Board of Governors of the Federal Reserve
System and provided that the Board be composed of
seven appointed members; that the Secretary of the Treasury and the Comptroller of the Currency continue to
serve until Feb. 1, 1936; that the appointed members in
office on Aug. 23, 1935, continue to serve until Feb. 1,
1936, or until their successors were appointed and had
qualified; and that thereafter the terms of members be
fourteen years and that the designation of Chairman and
Vice Chairman of the Board be for four years.
1. Date following "Resigned" and "Retired" denotes
final day of service.
2. Successor took office on this date.
3. Before Aug. 23, 1935, Chairmen and Vice Chairmen were designated Governor and Vice Governor.
4. Served as Chairman Pro Tempore from Feb. 3,
1948, to Apr. 15, 1948.
5. Served as Chairman Pro Tempore from March 3,
1996, to June 20, 1996.
262 93rd Annual Report, 2006
Ex Officio Members
Name
Term
Secretaries of the Treasury
W.G. McAdoo
Carter Glass
David F. Houston
Andrew W. Mellon
Ogden L. Mills
William H.Woodin
Henry Morgenthau, Jr.
Dec. 23, 1913-Dec. 15,1918
Dec. 16, 1918-Feb. 1, 1920
Feb. 2, 1920-Mar. 3,1921
Mar. 4, 1921-Feb. 12, 1932
Feb. 12,1932-Mar. 4,1933
Mar. 4, 1933-Dec. 31,1933
Jan. 1,1934-Feb. 1,1936
Comptrollers of the Currency
John Skelton Williams
Daniel R. Crissinger
Henry M. Dawes
Joseph W. Mclntosh
J.W Pole
J.F.T. O'Connor
Feb. 2, 1914-Mar. 2, 1921
Mar. 17,1921-Apr. 30, 1923
May 1, 1923-Dec. 17, 1924
Dec. 20, 1924-Nov. 20, 1928
Nov. 21, 1928-Sept. 20, 1932
M a y l l , 1933-Feb. 1,1936
Statistical Tables
264
93rd Annual Report, 2006
1. Federal Reserve Open Market Transactions, 2006
Millions of dollars
Jan.
Feb.
1,563
0
67,302
67,302
0
Others within 1 year
Gross purchases
Gross sales
Maturity shifts
Exchanges
Redemptions
Mar.
Apr.
1,308
0
68,077
68,077
0
1,228
0
79,509
79,509
0
0
0
64,886
64,886
0
0
0
13,599
-13,594
1,321
1,200
0
11,858
-10,989
0
0
0
8,000
-8,334
0
0
0
0
-834
0
1 to 5 years
Gross purchases
Gross sales
Maturity shifts
Exchanges
2,809
0
-13,599
11,830
2,498
0
-4,775
9,306
2,136
0
-4,500
8,334
1,096
0
0
834
5 to 10 years
Gross purchases
Gross sales
Maturity shifts
Exchanges
1,505
0
0
0
25
0
-5,205
841
174
0
-3,500
0
0
0
0
0
More than 10 years
Gross purchases
Gross sales
Maturity shifts
Exchanges
205
0
0
1,765
924
0
-1,878
841
90
0
0
0
0
0
0
0
All maturities
Gross purchases
Gross sales
Redemptions
6,082
0
1,321
5,955
0
0
3,628
0
0
1,096
0
0
4,761
5,955
3,628
1,096
Type of security and transaction
U.S. TREASURY SECURITIES 1
Outright transactions2
Treasury bills
Gross purchases
Gross sales
Exchanges
For new bills
Redemptions
Net change in U.S. Treasury securities ...
For notes see end of table.
Statistical Tables 265
1.—Continued
May
June
July
Aug.
Sept.
Oct.
Nov.
Dec.
Total
0
0
75,196
75,196
0
0
0
95,728
95,728
0
1,649
0
70,972
70,972
0
0
0
90,885
90,885
0
0
0
72,636
72,636
0
0
0
65,400
65,400
0
0
0
85,342
85,342
0
0
0
69,275
69,275
0
5,748
0
905,208
905,208
0
1,375
0
24,441
-15,746
1,217
0
0
6,667
-7,997
0
0
0
6,614
-10,078
3,931
415
0
20,379
-13,535
0
0
0
6,861
0
0
1,757
0
7,427
-16,498
3,749
220
0
14,046
-15,441
335
0
0
0
0
0
4,967
0
119,892
-113,046
10,553
2,317
0
-21,298
13,452
2,650
0
-3,167
7,997
549
0
-3,784
7,254
1,454
0
-13,673
10,421
1,320
0
-6,861
0
1,395
0
-5,246
15,086
3,151
0
-11,009
13,147
4,979
0
0
0
26,354
0
-87,912
97,661
101
0
949
2,294
1,080
0
-3,500
0
0
0
-2,830
1,588
0
0
-5,149
1,557
548
0
0
0
33
0
-2,181
1,412
411
0
2,073
2,294
445
0
0
0
4,322
0
-19,343
9,986
0
0
^,092
0
0
0
0
0
0
0
0
1,235
0
0
-1,557
1,557
228
0
0
0
0
0
0
0
780
0
-5,110
0
1,072
0
0
0
3,299
0
-12,637
5,398
3,793
0
1,217
3,730
0
0
2,198
0
3,931
1,869
0
0
2,096
0
0
3,185
0
3,749
4,562
0
335
6,496
0
0
44,690
0
10,553
2,576
3,730
-1,733
1,869
2,096
-564
4,227
6,496
34,137
266
93rd Annual Report, 2006
1. Federal Reserve Open Market Transactions, 2006—Continued
Millions of dollars
Type of security and transaction
Jan.
Feb.
Mar.
Apr.
F E D E R A L A G E N C Y OBLIGATIONS
Outright transactions2
Gross purchases
Gross sales
Redemptions
0
0
0
0
0
0
0
0
0
0
0
0
Repurchase agreements 3
Gross purchases
Gross sales
185,750
206,750
157,000
151,250
204,250
209,000
163,750
166,250
Reverse repurchase agreements4
Gross purchases
Gross sales
504,837
498,351
445,563
446,346
558,568
560,306
488,091
485,659
-14,514
4,967
-6,488
-68
-9,752
10,922
-2,860
1,028
Net change in federal agency obligations
TEMPORARY TRANSACTIONS
Net change in temporary transactions
Total net change in System Open Market Account
NOTE: Sales, redemptions, and negative figures reduce
holdings of the System Open Market Account; all other
figures increase such holdings. Components may not sum
to totals because of rounding.
1. Transactions exclude changes in compensation for
the effects of inflation on the principal of inflationindexed securities. Transactions include the rollover of
inflation compensation into new securities.
2. Excludes the effect of temporary transactions—
repurchase agreements, matched sale-purchase agreements (MSPs), and reverse repurchase agreements
(RRPs).
3. Cash value of agreements, which are collateralized
by U.S. government and federal agency securities.
4. Cash value of agreements, which are collateralized
by U.S. Treasury securities.
Statistical Tables 267
1.—Continued
May
Nov.
Oct.
Sept.
Aug.
July
June
Total
Dec.
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
200,750
194,250
182,000
181,500
177,000
178,000
178,000
178,000
128,000
136,750
178,000
169,750
194,500
186,500
176,500
173,500
2,125,500
2,131,500
531,844
532,338
567,926
572,488
584,190
584,959
642,084
640,413
554,480
557,372
649,172
651,821
665,558
662,802
586,711
585,277
6,779,024
6,778,132
6,006
-4,061
-1,769
1,671
-11,643
5,601
10,756
4,434
-5,108
8,582
-331
-3302
3,540
-9,547
5,037
14,983
10,930
29,030
268
93rd Annual Report, 2006
2. Federal Reserve Bank Holdings of U.S. Treasury and Federal Agency Securities,
December 31, 2004-2006
Millions of dollars
December 31
Change
Description
2006
2005
2004
2005 to
2006
2004 to
2005
778,915
744,215
717,819'
34,700
26,396'
U.S. TREASURY SECURITIES
Held outright1
By remaining maturity
Bills
1-90 days
91 days to 1 year
Notes and bonds
1 year or less
More than 1 year through 5 years
More than 5 years through 10 years
More than 10 years
193,034
83,985
187,370
83,900
179,748
83,222
5,664
85
7,622
678
129,594
224,177
67,645
80,479
128,287r
210,745r
56,699r
77,215r
116,443
208,269
54,372
75,765
1,307
13,432
10,946
3,264
ll,844r
2,476*
2,327r
1,450*
By type
Bills
Notes
Bonds
277,019
402,367
99,528
271,270
380,118
92,827
262,970
360,832r
94,017r
5,749
22,249
6,701
8,300
19,286'
-1,190*
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
40,750
46,750
33,000*
-6,000
13,75(r~
Matched sale-purchase agreements
Foreign official and international accounts
Dealers
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
Reverse repurchase agreements3
Foreign official and international accounts
Dealers
29,615
29,615
0
30,505
30,505
0
30,783'
3O,783r
0
-890
-890
0
-278*
-278 r
0
FEDERAL AGENCY SECURITIES
Held outright1
By remaining maturity
1 year or less
More than 1 year through 5 years
More than 5 years through 10 years
More than 10 years
By issuer
Federal National Mortgage Association
TEMPORARY TRANSACTIONS
Repurchase agreements2
NOTE: Components may not sum to totals because of
rounding.
1. Excludes the effect of temporary transactions—
repurchase agreements, matched sale-purchase agreements (MSPs), and reverse repurchase agreements
(RRPs).
2. Cash value of agreements, which are collateralized
by U.S. government and federal agency securities.
3. Cash value of agreements, which are collateralized
by U.S. Treasury securities.
r. Revised.
Statistical Tables 269
3. Federal Reserve Bank Interest Rates on Loans to Depository Institutions,
December 31, 2006
Reserve Bank
All Federal Reserve Banks
Primary credit1
Secondary credit2
Seasonal credit3
6.25
6.75
5.30
NOTE: For details on rate changes over the course of
2006, see the section on discount rates in the chapter
"Record of Policy Actions of the Board of Governors."
1. Primary credit is available for very short terms as
a backup source of liquidity to depository institutions that
are in generally sound financial condition in the judgment
of the lending Federal Reserve Bank.
2. Secondary credit is available in appropriate circumstances to depository institutions that do not qualify for
primary credit.
3. Seasonal credit is available to help relatively small
depository institutions meet regular seasonal needs for
funds that arise from a clear pattern of intra-yearly movements in their deposits and loans. The discount rate on
seasonal credit takes into account rates charged by market
sources of funds and is reestablished on the first business
day of each two-week reserve maintenance period.
270
93rd Annual Report, 2006
4. Reserve Requirements of Depository Institutions, December 31, 2006
Requirements
Type of deposit
Percentage of deposits
Effective date
0
3
10
12-21-06
12-21-06
12-21-06
Nonpersonal time deposits
0
12-27-90
Eurocurrency liabilities
0
12-27-90
Net transaction accounts1
$0 million-$8.5 million2
More than $8.5 million-$45.8 million3
More than $45.8 million
NOTE: Required reserves must be held in the form of
vault cash and, if vault cash is insufficient, also in the
form of a deposit with a Federal Reserve Bank. An
institution that is a member of the Federal Reserve System must hold that deposit directly with a Reserve Bank;
an institution that is not a member of the System can
maintain that deposit directly with a Reserve Bank or
with another institution in a pass-through relationship.
Reserve requirements are imposed on commercial banks,
savings banks, savings and loan associations, credit
unions, U.S. branches and agencies of foreign banks,
Edge corporations, and agreement corporations.
1. Total transaction accounts consists of demand
deposits, automatic transfer service (ATS) accounts,
NOW accounts, share draft accounts, telephone or preauthorized transfer accounts, ineligible banker's acceptances, and affiliate-issued obligations maturing in seven
days or less. Net transaction accounts are total transaction
accounts less amounts due from other depository institutions and less cash items in the process of collection.
For a more detailed description of these deposit types,
see Form FR 2900 at www.federalreserve.gov/boarddocs/
reportforms/.
2. The amount of net transaction accounts subject to a
reserve requirement ratio of 0 percent (the "exemption
amount") is adjusted each year by statute. The exemption
amount is adjusted upward by 80 percent of the previous
year's (June 30 to June 30) rate of increase in total
reservable liabilities at all depository institutions.
No adjustment is made in the event of a decrease in such
liabilities.
3. The amount of net transaction accounts subject to a
reserve requirement ratio of 3 percent is the "low reserve
tranche." By statute, the upper limit of the low reserve
tranche is adjusted each year by 80 percent of the previous year's (June 30 to June 30) rate of increase or
decrease in net transaction accounts held by all depository
institutions.
Statistical Tables 271
5. Banking Offices and Banks Affiliated with Bank Holding Companies (BHCs) in the
United States, December 31, 2005 and 2006
Commercial banks *
Type of office
Member
Total
Total
Nonmember
Total
National
Statechartered
savings
banks
State
All banking offices
BANKS
Number, Dec. 31, 2005 ..
7,853
7,484
2,696
1,794
902
4,788
369
190
187
41
24
17
146
3
-290
-284
-132
-92
-40
-152
-6
-21
-18
-8
-7
-1
-10
-3
Changes during 2006
New banks
Banks converted
into branches
Ceased banking
operation2
Other3
Net change
0
-1
-4
-23
19
3
1
-121
-116
-103
-98
-5
-13
-5
Number, Dec. 31,2006 ..
7,732
7368
2,593
1,696
897
4,775
364
77,830
74,681
53,122
39,155
13,967
21,559
3,149
BRANCHES AND
ADDITIONAL OFFICES
Number, Dec. 31, 2005 ..
Changes during 2006
New branches
Branches converted
from banks
Discontinued2
Other3
Net change
2,765
2,694
2,071
1,546
525
623
71
290
-2,009
0
1,046
287
-1,832
53
1,202
131
-1,645
259
816
94
-1,417
286
509
37
-228
-27
307
156
-187
-206
386
3
-177
-53
-156
Number, Dec. 31, 2006 ..
78,876
75,883
53,938
39,664
14,274
21,945
2,993
Banks affiliated with BHCs
BANKS
Number, Dec. 31, 2005 ..
6,265
6,143
2,336
1,540
796
3,807
122
Changes during 2006
BHC-affiliated
new banks
Banks converted
into branches
Ceased banking
operation2
Other3
Net change
183
174
58
38
20
116
9
-244
-239
-112
-76
-36
-127
-5
-18
0
-79
-17
0
-82
-7
0
-61
-6
-18
-62
-1
18
1
-10
0
-21
-1
0
3
Number, Dec. 31,2006 ..
6,186
6,061
2,275
1,478
797
3,786
125
NOTE: Includes banking offices and BHCs in U.S.
territories and possessions.
1. For purposes of this table, banks are entities that are
defined as banks in the Bank Holding Company Act, as
amended, which is implemented by Federal Reserve
Regulation Y. Generally, a bank is any institution that
accepts demand deposits and is engaged in the business
of making commercial loans or any institution that is
defined as an insured bank in section 3(h) of the FDIC
Act. Covers entities in the United States and its territories
and possessions (affiliated insular areas).
2. Institutions that no longer meet the Regulation Y
definition of bank.
3. Interclass changes and sales of branches.
272
93rd Annual Report, 2006
6A. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items,
Year-End 1984-2006 and Month-End 2006
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding
Period
Securities
held
outright1
Repurchase
agreements2
Loans
Float
Other
Federal
Reserve
assets
Gold
stock
Total
Special
drawing
rights
certificate
account
Treasury
currency
outstanding3
1984
167,612
2,015
3,577
833
12,347
186,384
11,096
4,618
16,418
1985
1986
1987
1988
1989
186,025
205,454
226,459
240,628
233,300
5,223
16,005
4,961
6,861
2,117
3,060
1,565
3,815
2,170
481
988
1,261
811
1,286
1,093
15,302
17,475
15,837
18,803
39,631
210,598
241,760
251,883
269,748
276,622
11,090
11,084
11,078
11,060
11,059
4,718
5,018
5,018
5,018
8,518
17,075
17,567
18,177
18,799
19,628
1990
1991
1992
1993
1994
241,431
272,531
300,423
336,654
368,156
18,354
15,898
8,094
13,212
10,590
190
218
675
94
223
2,566
1,026
3,350
963
740
39,880
34,524
30,278
33,394
33,441
302,421
324,197
342,820
384,317
413,150
11,058
11,059
11,056
11,053
11,051
10,018
10,018
8,018
8,018
8,018
20,402
21,014
21,447
22,095
22,994
1995
1996
1997
1998
1999
380,831
393,132
431,420
452,478
478,144
13,862
21,583
23,840
30,376
140,640
135
85
2,035
17
233
231
5,297
561
1,009
407
33,483
32,222
32,044
37,692
34,799
428,543
452,319
489,901
521,573
654,223
11,050
11,048
11,047
11,046
11,048
10,168
9,718
9,200
9,200
6,200
24,003
24,966
25,543
26,270
28,013
2000
2001
2002
2003
2004
511,833
551,685
629,416
666,665
717,819
43,375
50,250
39,500
43,750
33,000
110
34
40
62
43
795
698
832
211
927
36,896
36,885
38,574
40,214
42,161
593,009
639,552
708,363
750,901
793,950
11,046
11,045
11,043
11,043
11,045
2,200
2,200
2,200
2,200
2,200
31,643
33,017
34,597
35,475
36,434
2005
2006
744,215
778,915
46,750
40,750
72
67
891
-326
39,319
39,885
831,247
859,290
11,043
11,041
2,200
2,200
36,540*
38,233
For notes see end of table.
Statistical Tables 273
6 A.—Continued
Factors absorbing reserve funds
Currency
in
circulation
Reverse
repurchase
agreements4
183,796
Treasury
cash
holdings5
Deposits with Federal Reserve Banks,
other than reserve balances
Required
clearing
balances
Other
Federal
Reserve
liabilities
and
capital
Reserve
balances
with
Federal
Reserve
Banks 6
Treasury
Foreign
513
5,316
253
867
1,126
5,952
20,693
1,041
1,490
1,812
1,687
1,605
1,618
5,940
6,088
7,129
7,683
8,486
27,141
46,295
40,097
37,742
36,713
1,960
3,946
5,897
6,332
4,196
8,147
8,113
7,984
9,292
11,959
36,698
25,467
26,182
28,619
26,593
5,167
6,601
6,679
6,781
7,482
12,342
13,829
15,500
16,354
17,256
24,444
17,923
24,159
19,525
16,545
6,332
8,525
10,534r
ll,829 r
9,963
17,962
17,083
18,977
19,793
26,378
12,713
8,953
12,007r
11,229'
14,080
8,650*
6,842
30,466
36,231
10,393r
11,857
Other
197,488
211,995
230,205
247,649
260,456
0
0
0
0
0
550
447
454
395
450
9,351
7,588
5,313
8,656
6,217
480
287
244
347
589
286,963
307,756
334,701
365,271
403,843
0
0
0
0
0
561
636
508
377
335
8,960
17,697
7,492
14,809
7,161
369
968
206
386
250
424,244
450,648
482,327
517,484
628,359
0
0
0
0
0
270
249
225
85
109
5,979
7,742
5,444
6,086
28,402
386
167
457
167
71
593,694
643,301
687,518
724,194
754,877
0
0
5,149
6,645
4,420
5,723
5,912
216
61
136
162
80
1,382
21,091
25,652
30,783
450
425
367
321
270
794,014r
820,204
30,505
29,615
202
252
4,573
4,708
83
98
2,144
917
1,027
548
1,298
242
1,706
372
397
876
932
892
900
1,605
1,261
820
1,152
717
1,285
958
274 93rd Annual Report, 2006
6A. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items,
Year-End 1984-2006 and Month-End 2006—Continued
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding
Gold
stock
Special
drawing
rights
certificate
account
Treasury
currency
outstanding3
11,044
11,044
11,043
11,041
11,041
11,041
11,041
11,041
11,041
11,041
11,041
11,041
2,200
2,200
2,200
2,200
2,200
2,200
2,200
2,200
2,200
2,200
2,200
2,200
36,539
37,813
37,879
37,936
37,980
37,990
38,026
38,025
38,084
38,133
38,177
38,233
Period
2006
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Securities
held
outright1
Repurchase
agreements2
Loans
Float
Other
Federal
Reserve
assets
748,824
754,676
758,542
759,690
762,411
766,364
764,811
766,739
768,924
768,493
772,604
778,915
25,750
31,500
26,750
24,250
30,750
31,250
30,250
30,250
21,500
29,750
37,750
40,750
40
38
566
138
207
291
361
349
322
157
102
67
1,796
1,466
-836
-1,084
1,028
-1,032
48
-606
-1,104
2,604
-411
-326
40,285
37,675
39,046
41,283
39,151
40,133
41,103
38,436
40,063
40,672
37,409
39,885
Total
816,694
825,355
824,068
824,277
833,547
837,005
836,574
835,168
829,705
841,677
847,455
859,290
Statistical Tables 275
6A.—Continued
Factors absorbing reserve funds
Currency
in
circulation
782,356
789,289
788,769
790,794
799,103
797,157
792,624
797,545
790,582
796,047
806,375
820,204
Reverse
repurchase
agreements4
24,019
24,802
26,540
24,108
24,603
29,164
29,933
28,263
31,155
33,805
31,049
29,615
Treasury
cash
holdings5
216
185
209
182
196
174
148
171
150
179
164
252
Deposits with Federal Reserve Banks,
other than reserve balances
Treasury
Foreign
Other
5,606
5,024
5,455
4,784
2,637
5,525
4,546
4,907
5,451
5,617
4,373
4,708
83
82
84
86
86
142
88
89
98
104
90
98
281
279
217
278
242
226
320
259
236
344
278
958
NOTE: Components may not sum to totals because of
rounding.
1. Includes U.S. Treasury and federal agency securities. U.S. Treasury securities include securities lent to
dealers, which are fully coUateralized by other U.S. Treasury securities. Federal agency securities are included at
face value.
2. Cash value of agreements, which are coUateralized
by U.S. Treasury and federal agency securities.
3. Includes currency and coin (other than gold) issued
directly by the Treasury. The largest components are
Required
clearing
balances
Other
Federal
Reserve
liabilities
and
capital
8,710
8,015
7,731
6,696
7,580
7,162
7,028
6,791
6,987
6,933
6,832
6,842
31,667
32,510
32,894
33,807
34,508
34,886
35,688
35,677
36,027
36,955
36,163
36,231
Reserve
balances
with
Federal
Reserve
Banks6
13,540
16,226
13,291
14,718
15,815
13,801
17,466
12,734
10,343
13,067
13,549
11,857
fractional and dollar coins. For details see "U.S. Currency
and Coin Outstanding and in Circulation," Treasury Bulletin.
4. Cash value of agreements, which are coUateralized
by U.S. Treasury securities.
5. Coin and paper currency held by the Treasury, as
well as any gold in excess of the gold certificates issued
to the Reserve Bank.
6. Excludes required clearing balances and adjustments to compensate for float.
r. Revised.
276
93rd Annual Report, 2006
6B. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items,
Year-End 1918-1983
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding
Securities
held
outright1
Repurchase
agreements 2
Gold
stock 6
Special
drawing
rights
certificate
account
Treasury
currency
outstanding7
All
other 4
Other
Federal
Reserve
assets 5
199
201
294
575
0
0
2,498
3,292
2,873
2,707
1,795
1,707
119
40
78
27
52
262
146
273
355
390
0
0
0
0
0
3,355
1,563
1,405
1,238
1,302
2,639
3,373
3,642
3,957
4,212
1,709
1,842
1,958
2,009
2,025
Loans
Float 3
Total
239
300
0
0
287
234
436
80
536
0
0
0
54
4
1,766
2,215
2,687
1,144
618
723
320
3
57
31
23
643
637
582
1,056
632
63
45
63
24
34
378
384
393
500
405
0
0
0
0
0
1,459
1,381
1,655
1,809
1,583
4,112
4,205
4,092
3,854
3,997
1,977
1,991
2,006
2,012
2,022
686
775
1,851
2,435
2,430
43
42
4
2
0
251
638
235
98
7
21
20
14
15
5
372
378
41
137
21
0
0
0
0
0
1,373
1,853
2,145
2,688
2,463
4,306
4,173
4,226
4,036
8,238
2,027
2,035
2,204
2,303
2,511
2,430
2,430
2,564
2,564
2,484
1
0
0
0
0
5
3
10
4
7
12
39
19
17
91
38
28
19
16
11
0
0
0
0
0
2,486
2,500
2,612
2,601
2,593
10,125
11,258
12,760
14,512
17,644
2,476
2,532
2,637
2,798
2,963
2,184
2,254
6,189
11,543
18,846
0
0
0
0
0
3
3
6
5
80
94
471
681
815
10
14
10
4
0
0
0
0
0
2,274
2,361
6,679
12,239
19,745
21,995
22,737
22,726
21,938
20,619
3,087
3,247
3,648
4,094
4,131
24,252
23,350
22,559
23,333
18,885
0
0
0
0
0
249
163
85
223
78
578
580
535
541
534
2
1
1
1
2
0
0
0
0
0
15,091
24,093
23,181
24,097
19,499
20,065
20,529
22,754
24,244
24,427
4,339
4,562
4,562
4,589
4,598
20,725
23,605
24,034
25,318
24,888
53
196
663
598
44
67
19
156
28
143
1,368
1,184
967
935
3
5
4
2
1
0
0
0
0
0
22,216
25,009
25,825
26,880
25,885
22,706
22,695
23,187
22,030
21,713
4,636
4,709
4,812
4,894
4,985
24,391
24,610
23,719
26,252
26,607
394
305
519
95
41
108
50
55
64
458
1,585
1,665
1,424
1,296
1,590
29
70
66
49
75
0
0
0
0
0
26,507
26,699
25,784
27,755
28,771
21,690
21,949
22,781
20,534
19,456
5,008
5,066
5,146
5,234
5,311
367
312
560
197
For notes see end of table.
Statistical Tables 277
6B.—Continued
Factors absorbing reserve funds
Currency
in
circulation
Deposits with
Federal Reserve Banks,
other than reserve balances
Treasury
cash
holdings8
Treasury
Foreign
Other
Member bank
reserves9
Other
Required
Federal
clearing
Reserve
balances
accounts5
Federal
Reserve
liabilities
and
capital5
With
Federal
Reserve
Banks
Currency
and
coin10
51
68
0
1,884
2,161
0
99
0
14
59
0
0
0
0
0
2,256
2.250
2,424
2,430
2,428
-44
-56
63
-41
-73
2,471
1,961
2,509
2,729
4,096
0
0
0
0
0
2,375
1,994
1,933
1,870
2,282
96
-33
576
859
1,814
0
0
0
0
0
5,587
6,606
7,027
8,724
11,653
0
0
0
0
0
2,743
4,622
5,815
5,519
6,444
2,844
1,984
1,212
3,205
5,209
0
0
0
0
0
0
0
0
0
0
4,026
12,450
13,117
12,886
14,373
0
0
0
0
0
7,411
9,365
11,129
11,650
12,748
6,615
3,085
1,988
1,236
1,625
495
607
563
590
106
0
0
0
0
0
0
0
0
0
0
15,915
16,139
17,899
20,479
16,568
0
0
0
0
0
14,457
15,577
16,400
19,277
15,550
1,458
565
363
455
493
441
714
746
111
839
907
0
0
0
0
0
0
0
0
0
0
17,681
20,056
19,950
20,160
18,876
0
0
0
0
0
16,509
19,667
20,520
19,397
18,618
1,172
554
426
246
391
694
925
901
998
0
0
0
0
0
0
0
0
0
0
19,005
19,059
19,034
18,504
18,174
0
0
0
0
310
18,903
19,089
19,091
18,574
18,619
102
-30
-57
-70
288
385
51
51
96
73
25
28
118
208
0
0
0
0
1,636
1,890
0
0
5,325
4,403
4,530
4,757
4,760
218
214
225
213
211
57
96
11
38
51
5
12
3
4
19
18
15
26
19
20
298
285
276
275
258
0
0
0
0
0
0
0
0
0
0
1,781
1,753
1,934
1,898
2,220
0
0
0
0
0
4,817
4,808
4,716
4,686
4,578
203
201
208
202
216
16
17
18
23
29
8
46
5
6
6
21
19
21
21
24
272
293
301
348
393
0
0
0
0
0
0
0
0
0
0
2,212
2,194
2,487
2,389
2,355
4,603
5,360
5,388
5,519
5,536
211
222
272
284
3,029
19
54
8
3
121
6
79
19
4
20
22
31
24
128
169
375
354
355
360
241
0
0
0
0
0
0
0
0
0
0
5,882
6,543
6,550
6,856
7,598
2,566
2,376
3,619
2,706
2,409
544
244
142
923
634
29
99
172
199
397
226
160
235
242
256
253
261
263
260
251
0
0
0
0
0
8,732
11,160
15,410
20,499
25,307
2,213
2,215
2,193
2,303
2,375
368
867
799
579
440
1,133
1,360
1,204
599
586
485
356
394
284
291
256
339
402
28,515
28,952
28,868
28,224
27,600
2,287
2,272
1,336
1,325
1,312
977
393
870
821
862
508
392
642
767
446
314
569
547
750
27,741
29,206
30,433
30,781
30,509
1,293
1,270
1,270
761
796
668
247
389
346
563
895
526
550
423
490
31,158
31,790
31,834
32,193
32,591
767
775
761
683
391
394
441
481
358
504
402
322
356
111
345
1,123
Excess 1 1 ' 1 2
1,585
1,822
4,951
5,091
774
793
Required11
1,122
841
1,654
0
562
1,499
1,202
1,018
389
-570
763
258
-135
278
93rd Annual Report, 2006
6B. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items,
Year-End 1918-1983—Continued
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding
Period
Other
Federal
Reserve
assets 5
Gold
stock 6
Special
drawing
rights
certificate
account
Treasury
currency
outstanding 7
Securities
held
outright1
Repurchase
agreements 2
Loans
Float 3
All
other 4
1960
1961
1962
1963
1964
26,984
30,478
28,722
33,582
36,506
400
159
342
11
538
33
130
38
63
186
1,847
2,300
2,903
2,600
2,606
74
51
110
162
94
0
0
0
0
0
29,338
31,362
33,871
36,418
39,930
17,767
16,889
15,978
15,513
15,388
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
5,398
5,585
5,567
5,578
5,405
1965
1966
1967
1968
1969
40,478
43,655
48,980
52,937
57,154
290
661
170
0
0
137
173
141
186
183
2,248
2,495
2,576
3,443
3,440
187
193
164
58
64
0
0
0
0
2,743
43,340
47,177
52,031
56,624
64,584
13,733
13,159
11,982
10,367
10,367
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
5,575
6,317
6,784
6,795
6,852
1970
1971
1972
1973
1974
62,142
69,481
71,119
80,395
84,760
0
1,323
111
100
954
335
39
1,981
1,258
299
4,261
4,343
3,974
3,099
2,001
57
261
106
68
999
1,123
1,068
1,260
1,152
3,195
67,918
76,515
78,551
86,072
92,208
10,732
10,132
10,410
11,567
11,652
400
400
400
400
400
7,147
7,710
8,313
8,716
9,253
1975
1976
1977
1978
1979
92,789
100,062
108,922
117,374
124,507
1,335
4,031
2,352
1,217
1,660
211
25
265
1,174
1,454
3,688
2,601
3,810
6,432
6,767
1,126
991
954
587
704
3,312
3,182
2,442
4,543
5,613
102,461
110,892
118,745
131,327
140,705
11,599
11,598
11,718
11,671
11,172
500
1,200
1,250
1,300
1,800
10,218
10,810
11,331
11,831
13,083
1980
1981
1982
1983
128,038
136,863
144,544
159,203
2,554
3,485
4,293
1,592
1,809
1,601
717
918
4,467
1,762
2,735
1,605
776
195
1,480
418
8,739
9,230
9,890
8,728
146,383
153,136
63,659
172,464
11,160
11,151
11,148
11,121
2,518
3,318
4,618
4,618
13,427
13,687
13,786
15,732
N O T E : For a description of figures and discussion of
their significance, see Banking and Monetary Statistics,
1941-1970 (Board of Governors of the Federal Reserve
System, 1976), pp. 507-23.
Components may not sum to totals because of
rounding.
1. In 1969 and thereafter, includes securities loaned—
fully guaranteed by U.S. government securities pledged
with Federal Reserve Banks—and excludes securities
sold and scheduled to be bought back under matched
sale-purchase transactions. On September 29, 1971, and
thereafter, includes federal agency issues bought outright.
2. On December 1, 1966, and thereafter, includes
federal agency obligations held under repurchase
agreements.
3. In 1960 and thereafter, figures reflect a minor
change in concept; see Federal Reserve Bulletin, vol. 47
(February 1961), p. 164.
Total
4. Principally acceptances and, until August 21, 1959,
industrial loans, the authority for which expired on that
date.
5. For the period before April 16, 1969, includes the
total of Federal Reserve capital paid in, surplus, other
capital accounts, and other liabilities and accrued dividends, less the sum of bank premises and other assets,
and is reported as "Other Federal Reserve accounts";
thereafter, "Other Federal Reserve assets" and "Other
Federal Reserve liabilities and capital" are shown
separately.
6. Before January 30, 1934, includes gold held in
Federal Reserve Banks and in circulation.
7. Includes currency and coin (other than gold) issued
directly by the Treasury. The largest components are
fractional and dollar coins. For details see "U.S. Currency
and Coin Outstanding and in Circulation," Treasury Bulletin.
Statistical Tables 279
6B.—Continued
Factors absorbing reserve funds
Currency
in
circulation
32,869
33,918
35,338
37,692
39,619
Deposits with
Federal Reserve Banks,
other than reserve balances
Treasury
cash
holdings8
Treasury
Foreign
Other
377
422
380
361
612
485
465
597
880
820
217
279
247
171
229
533
320
393
291
321
760
668
416
355
588
563
747
807
1,233
Member bank
reserves9
Other
Federal
Other
Required
Reserve
Federal
clearing
liabilities
Reserve
balances
and
accounts5
capital5
With
Federal
Reserve
Banks
Currency
and
coin10
Required11
Excess 11 - 12
0
0
0
0
0
0
0
0
0
0
17,081
17,387
17,454
17,049
18,086
2,544
2,544
3,262
4,099
4,151
18,988
18,988
20,071
20,677
21,663
637
96
645
471
574
0
0
0
0
0
0
0
0
0
0
1,919
18,447
19,779
21,092
21,818
22,085
4,163
4,310
4,631
4,921
5,187
22,848
24,321
25,905
27,439
28,173
-238
-232
-182
-700
-901
0
0
0
0
0
1,986
2,131
2,143
2,669
2,935
24,150
27,788
25,647
27,060
25,843
5,423
5,743
6,216
6,781
7,370
30,033
32,496
32,044
35,268
37,011
-460
1,035
9812
-1,360
-3,798
941
1,044
1,007
1,065
1,036
211
1,176
1,344
1,123
695
596
1,312
150
174
135
216
134
57,903
61,068
66,516
72,497
79,743
431
460
345
317
185
1,156
2,020
1,855
2,542
2,113
148
294
325
251
418
1,419 13
1,275 1 3
0
0
0
0
0
86,547
93,717
103,811
114,645
125,600
483
460
392
240
494
7,285
10,393
7,114
4,196
4,075
353
352
379
368
429
1,090
1,357
1,187
1,256
1,412
0
0
0
0
0
0
0
0
0
0
2,968
3,063
3,292
4,275
4,957
26,052
25,158
26,870
31,152
29,792
8,036
8,628
9,421
10,538
11,429
35,197
35,461
37,615
42,694
44,217
-1,10314
-1,535
-1,265
-893
-2,835
136,829
144,774
154,908
171,935
441
443
429
479
3,062
4,301
5,033
3,661
411
505
328
191
617
781
0
0
0
0
0
117
436
4,671
5,261
4,990
5,392
27,456
25,111
26,053
20,413
13,654
15,576
16,666
17,821
40,558
42,145
41,391
39,179
675
-1,442
1,328
-945
42,056
44,663
47,226
50,961
53,950
703
999
840
1,033
851
-147
-773
-1,353
8. Coin and paper currency held by the Treasury, as
well as any gold in excess of the gold certificates issued
to the Reserve Bank.
9. In November 1979 and thereafter, includes reserves
of member banks, Edge Act corporations, and U.S. agencies and branches of foreign banks. On November 13,
1980, and thereafter, includes reserves of all depository
institutions.
10. Between December 1, 1959, and November 23,
1960, part was allowed as reserves; thereafter, all was
allowed.
11. Estimated through 1958. Before 1929, data were
available only on call dates (in 1920 and 1922 the call
date was December 29). Since September 12, 1968, the
amount has been based on close-of-business figures for
the reserve period two weeks before the report date.
12. For the week ending November 15, 1972, and
thereafter, includes $450 million of reserve deficiencies
on which Federal Reserve Banks are allowed to waive
penalties for a transition period in connection with bank
adaptation to Regulation J as amended, effective November 9,1972. Allowable deficiencies are as follows (beginning with first statement week of quarter, in millions):
1,013
1973—Ql, $279; Q2, $172; Q3, $112; Q4, $84;
1974—Ql, $67; Q2, $58. The transition period ended
with the second quarter of 1974.
13. For the period before July 1973, includes certain
deposits of domestic nonmember banks and foreignowned banking institutions held with member banks and
redeposited in full with Federal Reserve Banks in connection with voluntary participation by nonmember institutions in the Federal Reserve System program of credit
restraint.
As of December 12, 1974, the amount of voluntary
nonmember bank and foreign-agency and branch deposits
at Federal Reserve Banks that are associated with
marginal reserves is no longer reported. However, two
amounts are reported: (1) deposits voluntarily held as
reserves by agencies and branches of foreign banks operating in the United States and (2) Eurodollar liabilities.
14. Adjusted to include waivers of penalties for reserve
deficiencies, in accordance with change in Board policy,
effective November 19, 1975.
. . . Not applicable.
280 93rd Annual Report, 2006
7. Principal Assets and Liabilities of Insured Commercial Banks, by Class of Bank,
June 30, 2006 and 2005
Millions of dollars, except as noted
Member banks
Item
Total
Total
National
State
Nonmember
banks
2006
ASSETS
Loans and investments
Loans, gross
Net
Investments
U.S. Treasury and federal agency
securities
Other
Cash assets, total
6,782,584
5,177,276
5,175,292
1,605,308
5,298,487
4,018,755
4,017,598
1,279,731
4,224,793
3,218,246
3,217,313
1,006,547
1,073,694
800,509
800,285
273,184
1,484,097
1,158,520
1,157,693
325,576
285,687
1,319,621
277,134
162,185
1,117,546
219,429
102,455
904,092
182,292
59,730
213,454
37,137
123,502
202,075
57,704
5,255,716
88,201
679,778
4,487,738
949,489
3,987,644
74,038
485,240
3,428,366
760,868
3,185,042
60,177
386,663
2,738,202
624,281
802,603
13,861
98,577
690,164
136,587
1,268,072
14,163
194,538
1,059,372
188,621
7,453
2,672
1,776
896
4,781
LIABILITIES
Deposits, total
Interbank
Other transaction
Other nontransaction
Equity capital
Number of banks
2005
ASSETS
Loans and investments ..
.oans.
Net
Investments
U.S. Treasury and federal agency
securities
Other
Cash assets, total
6,253,909
4,713,929
4,712,060
1,539,980
4,891,946
3,690,671
3,689,551
1,201,275
3,885,394
2,955,356
2,954,491
930,038
1,006,552
735,315
735,060
271,238
1,361,963
1,023,258
1,022,510
338,705
300,837
1,239,144
262,672
182,559
1,018,717
209,055
120,732
809,306
172,007
61,827
209,411
37,048
118,278
220,427
53,618
4,844,523
80,546
702,873
4,061,104
872,023
3,691,818
66,730
504,424
3,120,664
700,699
2,941,861
55,023
396,555
2,490,283
570,770
749,958
11,707
107,869
630,381
129,929
1,152,704
13,816
198,449
940,440
171,324
7,527
2,762
1,862
900
4,765
LIABILITIES
Deposits, total
Interbank
Other transaction
Other nontransaction
Equity capital
Number of banks
NOTE: Includes U.S.-insured commercial banks located
in the United States but not U.S.-insured commercial
banks operating in U.S. territories or possessions. Data
are domestic assets and liabilities (except for those components reported on a consolidated basis only). Components may not sum to totals because of rounding.
Statistical Tables 281
8. Initial Margin Requirements under Regulations T, U, and X
Percent of market value
Effective date
1934, Oct. 1 .
1936, Feb. 1 .
Apr. 1 .
1937, Nov. 1 .
1945, Feb. 5 .
July 5 .
1946, Jan. 21 .
1947, Feb. 1 .
1949, Mar. 3 .
1951, Jan. 17 .
1953, Feb. 20
1955, Jan. 4 ..
Apr. 23
1958, Jan. 16 .
Aug. 5 .
Oct. 16
1960, July 28
1962, July 10
1963, Nov. 6 .
1968, Mar. 11
June 8 .
1970, May 6 .
1971, Dec. 6 .
1972, Nov. 24
1974, Jan. 3 ..
Margin
stocks
25^5
25-55
55
40
50
75
100
75
50
75
50
60
70
50
70
90
70
50
70
70
80
65
55
65
50
NOTE: These regulations, adopted by the Board of
Governors pursuant to the Securities Exchange Act of
1934, limit the amount of credit that may be extended for
the purpose of purchasing or carrying "margin securities" (as defined in the regulations) when the loan is
coUateralized by such securities. The margin requirement,
expressed as a percentage, is the difference between the
market value of the securities being purchased or carried
(100 percent) and the maximum loan value of the
Convertible
bonds
Short sales,
T only1
50
60
50
50
50
50
50
50
75
100
75
50
75
50
60
70
50
70
90
70
50
70
70
80
65
55
65
50
collateral as prescribed by the Board. Regulation T was
adopted effective October 1, 1934; Regulation U, effective May 1, 1936; and Regulation X, effective November
1, 1971. The former Regulation G, which was adopted
effective March 11,1968, was merged into Regulation U,
effective April 1, 1998.
1. From October 1, 1934, to October 31, 1937, the
requirement was the margin "customarily required" by
brokers and dealers.
282
93rd Annual Report, 2006
9. Statement of Condition of the Federal Reserve Banks, by Bank,
December 31, 2006 and 2005
Millions of dollars
Total
Boston
Item
2006
2006
2005
2005
11,037
2,200
801
11,039
2,200
686
486
115
27
67
72
10
40,750
46,750
0
778,915
0
819,731
4,276
1,953
744,215
0
791,036
6,834
1,827
37,169
0
37,178
97
117
38,076
0
38,078
368
112
20,482
18,015
0
878,494
18,928
18,579
0
851,130
491
782
124
39,416
2,405
792
-3,268
39,143
958,680
175,661
783,019
29,615
906,511
148,152
758,359
30,505
39,020
3,020
36,000
1,413
38,971
4,424
34,548
1,561
18,699
4,708
98
1,496
25,002
4,602
5,608
847,846
19,043
4,573
83
2,168
25,867
5,943
4,019
824,693
549
0
1
42
592
352
267
38,624
622
0
5
1,068
1,695
488
218
38^10
15,324
13,536
396
317
15,324
878,494
12,901
851,130
396
39,416
317
39,143
958,680
175,661
783,019
906,511
148,152
758359
11,037
2,200
0
769,782
783,019
11,039
2,200
0
745,120
ASSETS
Gold certificate account
Special drawing rights certificate account
Coin
Loans
To depository institutions
Securities purchased under agreements
to resell (triparty)
U.S. Treasury securities
Bought outright1
Held under repurchase agreements
Total loans and securities
Items in process of collection
Bank premises
Other assets
Denominated in foreign currencies2
Other 3
Interdistrict settlement account
Total assets
:
510
115
31
LIABILITIES
Federal Reserve notes outstanding (issued to Bank) ..
Less: Notes held by Federal Reserve Bank
Federal Reserve notes, net
Securities sold under agreements to repurchase
Deposits
Depository institutions
U.S. Treasury, general account
Foreign, official accounts
Other 4
Total deposits
Deferred credit items
Other liabilities and accrued dividends5
Total liabilities
CAPITAL ACCOUNTS
Capital paid in
Surplus (including accumulated other
comprehensive income)
Total liabilities and capital accounts
FEDERAL RESERVE NOTE STATEMENT
Federal Reserve notes outstanding
Less: Held by Banks not subject to collateralization
Collateralized Federal Reserve notes
Collateral for Federal Reserve notes
Gold certificate account
Special drawing rights certificate account
Other eligible assets
U.S. Treasury and federal agency securities
Total collateral
For notes see end of table.
758359
Statistical Tables 283
9.—Continued
New York
2006
Philadelphia
2005
2006
Cleveland
2005
2006
Richmond
2005
2006
2005
463
83
53
432
83
34
446
104
73
453
104
55
853
147
78
836
147
66
295,107
0
341,857
625
207
33,817
0
33,817
649
58
26,401
0
26,401
586
53
33,633
0
33,633
451
158
31,439
0
31,439
820
158
64,704
0
64,704
237
170
56,796
0
56,797
225
153
5,707
7,099
-29,471
317,724
5,514
8,740
-45,332
316,889
1,152
1,055
836
38,166
473
672
6,148
34,883
1,569
759
-2,264
34,929
1,712
718
833
36,293
5,625
1,502
4,858
78,174
3,454
1,341
8,521
71^40
341,947
56,821
285,126
10,961
327,194
43,521
283,673
12,096
38,658
6,957
31,700
1,286
37,426
6,130
31,296
1,082
36,516
6,709
29,807
1,279
36,539
5,081
31,457
1,289
75,090
11,394
63,695
2,460
69,647
11,887
57,759
2,328
6,609
4,708
69
821
12,207
111
1,864
310,270
6,389
4,573
55
523
11,539
797
1,414
309,519
584
0
2
1
587
718
255
34,547
485
0
1
4
490
363
164
33395
954
0
3
32
990
405
275
32,756
658
0
4
82
743
581
196
34,266
2,748
0
11
121
2,880
384
569
69,987
3,182
0
7
146
3,336
509
359
64,291
3,727
3,685
1,810
744
1,087
1,013
4,093
3,942
3,727
317,724
3,685
316,889
1,810
38,166
744
34,883
1,087
34,929
1,013
36,293
4,093
78,174
3,307
71,540
4,139
874
47
4,357
874
47
40,750
46,750
288,297
0
329,047
70
212
284
93rd Annual Report, 2006
9. Statement of Condition of the Federal Reserve Banks, by Bank,
December 31, 2006 and 2005—Continued
Millions of dollars
Chicago
Atlanta
Item
2006
2005
2006
2005
ASSETS
Gold certificate account
Special drawing rights certificate account
Coin
Loans
To depository institutions
Securities purchased under agreements
to resell (triparty)
U.S. Treasury securities
Bought outright1
Held under repurchase agreements
Total loans and securities
Items in process of collection
Bank premises
Other assets
Denominated in foreign currencies2
Other 3
Interdistrict settlement account
Total assets
1,023
166
93
945
166
89
947
212
100
928
212
76
24
27
67,020
0
67,047
414
211
65,208
0
65,211
324
232
57,576
0
57,583
1,281
232
71,520
0
71,544
241
206
1,382
1,430
12,404
82,264
830
1,276
10,086
72,489
1,357
1,481
-3,742
72346
1,228
1,386
1,908
73,408
98,175
23,938
74,237
2,479
84,653
19,039
65,614
2,360
79,818
14,202
65,616
2,719
76,740
10,216
66,524
2,747
1,980
0
3
63
2,046
473
476
79,711
1,626
0
2
13
1,641
1,591
0
3
72
1,665
763
326
70,704
1,395
0
3
105
1,503
276
515
70,630
349
371
71,656
1,276
892
858
876
1,276
82,264
892
72,489
858
72346
876
73,408
LIABILITIES
Federal Reserve notes outstanding (issued to Banks)
Less: Notes held by Federal Reserve Banks
Federal Reserve notes, net
Securities sold under repurchase agreements
Deposits
Depository institutions
U.S. Treasury, general account
Foreign, official accounts
Other 4
Total deposits
Deferred credit items
Other liabilities and accrued dividends5
Total liabilities
CAPITAL ACCOUNTS
Capital paid in
Surplus (including accumulated other
comprehensive income)
Total liabilities and capital accounts
NOTE: Components may not sum to totals because of
rounding.
1. Includes securities loaned—fully guaranteed by U.S.
Treasury securities pledged with Federal Reserve Banks—
and excludes securities purchased under agreements to
resell.
2. Valued daily at market exchange rates.
3. The System total includes depository institution overdrafts of $2 million for 2006 and 2005.
Statistical Tables 285
9.—Continued
Minneapolis
St. Louis
2006
2005
2006
2005
2006
San Francisco
Dallas
Kansas City
2005
2006
2005
2005
2006
328
71
39
327
71
43
211
30
31
212
30
22
324
66
62
318
66
61
575
98
81
549
98
68
1,242
234
117
1,172
234
94
0
0
22
16
7
11
0
3
1
5
0
0
0
0
0
0
0
0
0
0
24,747
0
24,747
196
80
23,094
0
23,094
217
70
15,835
0
15,857
219
116
15,543
0
15,560
339
119
22,808
0
22,815
560
159
21,050
0
21,060
591
84
34,957
0
34,957
348
260
36,654
0
36,657
535
261
86,218
0
86,219
884
185
75,459
0
75,464
834
165
223
552
1,807
28,045
379
524
2,010
26,735
380
348
-237
16,955
409
338
38
17,067
271
480
4,734
29,469
246
441
2,422
25,290
236
751
3,537
40,844
217
786
-2,693
36,477
2,089
1,777
7,414
100,160
2,062
1,563
19,327
100,916
29,169
3,175
25,994
941
28,096
3,494
24,602
947
17,442
2,549
14,893
602
17,854
2,789
15,065
637
30,770
3,717
27,053
867
27,832
5,016
22,816
863
57,150
19,391
37,759
1,329
50,474
17,163
33,311
1,502
114,925
23,787
91,138
3,278
111,084
19,391
91,694
3,093
434
0
0
24
458
103
217
27,713
482
0
108
591
151
156
26,447
455
0
1
18
474
288
147
16,404
388
0
1
25
414
353
107
16,576
546
0
1
32
579
435
183
29,117
655
0
1
22
678
457
128
24,941
705
0
0
37
742
306
284
40,420
811
0
0
31
843
303
212
36,172
1,741
0
4
200
1,946
749
556
97,667
2,154
0
4
74
2,232
830
369
98,218
166
144
276
245
176
175
212
153
1,247
1,349
166
28,045
144
26,735
276
16,955
245
17,067
176
29,469
175
25,290
212
40,844
153
36,477
1,247
100,160
1,349
100,916
4. Includes international organization deposits of
$144 million for 2006 and $125 million for 2005.
5. Includes exchange-translation account reflecting the
monthly revaluation at market exchange rates of foreign
exchange commitments.
. . . Not applicable.
286
93rd Annual Report, 2006
10. Income and Expenses of the Federal Reserve Banks, by Bank, 2006
Thousands of dollars
Item
Total
Boston
New York
Philadelphia
Cleveland
12,038
36,452,265
368,905
908,363
551
1,712,534
12,756
0
1,597
14,520,198
103,272
65,846
14
1,454,413
19,564
0
478
1,511,710
28,793
0
572,329
96,527
38,410,427
46,466
2,395
1,774,702
37,091
61,125
14,789,129
32,272
1,918
1,508,181
67,696
2,278
1,610,954
1,407,617
427,673
76^44
19,968
286,428
81,799
67,218
22,285
86,172
25,881
65,601
114,852
67,247
142,574
1,071
2,860
2,988
4,174
57,394
9,949
8,717
18,653
374
1,422
2,356
8,775
534
4,713
4,482
23,215
costs
Communications
Materials and supplies
94,173
39,339
55,909
1,596
2,036
3,532
3,489
3,193
8,945
1,815
513
3,762
5,904
717
5,255
Building expenses
Taxes on real estate
Property depreciation
Utilities
Rent
Other
33,260
94,732
38,389
42,392
34,195
4,572
5,884
3,653
1,261
1,277
4,841
17,604
7,444
16,021
6,661
1,551
4,056
2,787
371
1,775
1,886
7,570
2,550
598
3,177
Equipment
Purchases
Rentals
Depreciation
Repairs and maintenance
30,100
4,160
96,727
85,982
2,484
266
4,737
5,023
5,507
1,873
8,600
9,559
1,023
350
5,115
4,693
1,537
233
5,749
6,316
276,389
12,765
80,953
12,508
23,233
572,329
79,957
-92,292
-21,075
0
23,526
-13,459
-1,270
29,073
57,522
-11,060
-9,580
0
11,633
-2,409
-315
0
13,559
-3,112
0
3,690,228
-426,384
3,263,844
165,488
-23,368
142,120
703,586
-85,297
618,289
151,657
-30,547
121,110
220,173
-59,375
160,798
CURRENT INCOME
Loans
U.S. Treasury securities
Foreign currencies
Priced services
Compensation received for
services provided1
Other
Total
CURRENT EXPENSES
Salaries and other personnel
expenses
Retirement and other benefits
Net periodic pension benefit
expense2
Fees
Travel
Software expenses
Earnings credit costs
Compensation paid for
services costs incurred1
Other
Recoveries
Expenses capitalized3
Total
Reimbursements
Net expenses
For notes see end of table.
Statistical Tables 287
10.—Continued
Dallas
San Francisco
1,159
1,021,749
4,866
0
164
1,621,236
4,254
0
506
3,810,619
37,893
0
74,126
910
805,632
70,644
1,266
1,099,685
59,750
1,944
1,687,348
59,024
6,472
3,914,513
73,743
22,130
74,153
23,075
91,041
22,588
83,001
28,771
139,904
42,494
402
5,974
6,851
3,641
626
9,225
3,591
7,625
720
1,553
3,042
3,230
762
4,189
4,871
4,220
475
3,688
3,911
4,780
1,187
3,897
8,728
7,518
57,295
1,648
6,709
3,954
1,427
4,467
2,357
1,279
2,669
2,860
1,036
2,440
2,053
1,081
2,962
3,810
1,514
4,558
5,706
1,655
4,714
2,232
8,496
3,621
14,272
3,399
3,197
9,130
3,806
622
3,925
3,507
11,083
2,456
2,423
4,568
518
5,150
1,734
1,708
1,005
3,153
4,679
1,894
251
1,472
1,206
4,166
794
3,653
485
3,366
8,527
4,358
159
4,016
3,230
8,388
3,291
1,053
2,434
6,457
286
35,919
18,944
2,455
393
8,747
10,670
1,874
300
4,430
7,009
1,449
182
3,325
2,990
1,730
22
2,759
2,470
2,538
42
4,893
3,212
1,292
53
5,090
5,601
1,754
160
7,364
9,495
52,610
0
17,434
543,255
26,003
0
5,100
0
5,329
0
8,173
0
6,080
0
26,199
0
-256,628
-29,564
-3,041
19,562
-3,985
0
42,951
-8,758
-456
75,530
-1,867
-2,372
22,613
-1,056
-384
17,538
-3,866
-652
36,101
-7,025
-705
16,050
-6,131
-2,301
268,368
-28,208
240,159
876,298
-14,613
861,685
265,759
-4,646
261,113
217,697
-115,598
102,100
157,042
-26,347
130,694
175,949
-10,472
165,476
201,422
-13,686
187,736
286,791
-14,226
272364
Richmond
Atlanta
Chicago
St. Louis
412
2,861,861
97,807
0
431
2,888,396
23,987
787,847
3,031
3,216,671
24,389
54,670
1,112
1,111,823
4,364
0
2382
721,055
6,959
0
44,012
7,665
3,011,757
469
4,474
3,705,604
58,784
4,488
3,362,033
21,996
1,593
1,140,888
191,575
64,130
129,149
41,586
108,688
32,966
760
59,317
9,829
53,282
1,295
8,064
7,882
3,460
3,334
23,241
5,897
Minneapolis Kansas City
288
93rd Annual Report, 2006
10. Income and Expenses of the Federal Reserve Banks, by Bank, 2006—Continued
Thousands of dollars
Item
Total
Boston
New York
Philadelphia
Cleveland
35,146,583
1,632,582
14,170,841
1,387,071
1,450,157
1,185,560
7,286
1,192,847
31,981
7
31,989
330,788
23
330,811
65,609
2
65,610
91,326
0
91,326
-1,342,144
-9,550
-1,351,694
-65,129
0
-65,129
-505,075
0
-505,075
-55,771
0
-55,771
-57,659
0
-57,659
-158,847
-33,141
-174,264
9,840
33,667
-2
0
1
-3
0
301,014
491,962
7,379
31,062
81,676
106,608
21,904
29,515
22,535
23,255
34,194,762
1,560,999
13,808,291
1,345,494
1,438,034
PROFIT AND LOSS
Current net income
Additions to and deductions
from (-) current net income4
Profits on foreign exchange
transactions
Other additions
Total additions
Interest expense on reverse repurchase agreements
Other deductions
Total deductions
Net addition to or
deduction from (-)
current net income
Cost of unreimbursed Treasury
services
Assessments by Board
Board expenditures5
Cost of currency
Net income before payment to
U.S. Treasury
Dividends paid
Payments to U.S. Treasury
(interest on Federal
Reserve notes)
871,255
21,592
221,339
80,190
63,285
29,051,678
1,453,044
11,977^85
175,737
1,279,262
Transferred to/from surplus
Adjustments to surplus6
4,271,828
-1,848,716
86,363
-7,094
1,609,367
-1,567,462
1,089,567
-23,790
95,487
-22,222
Surplus, January 1
Surplus, December 31
12,901,176
15,324,288
316,824
396,093
3,685,179
3,727,084
744,048
1,809,826
1,013,470
1,086,735
NOTE: Components may not sum to totals because of
rounding.
1. During 2005, the Federal Reserve Bank of Atlanta
was assigned the overall responsibility for managing the
Reserve Banks' provision of check services and recognizes total System check revenue on its Statements of
Income. In 2006, this policy was extended to ACH services managed by the Federal Reserve Bank of Atlanta,
as well as to Fedwire funds transfer and securitites transfer services, which are managed by the Federal Reserve
Bank of New York. The Federal Reserve Bank of Atlanta
and the Federal Reserve Bank of New York compensate
the other Reserve Banks for the costs incurred in providing these services.
2. Reflects the effect of Financial Accounting Standards Board Statement of Financial Accounting Standards No. 87, Employers' Accounting for Pensions (SEAS
87). The System Retirement Plan for employees is recorded on behalf of the System on the books of the
Federal Reserve Bank of New York, resulting in an
increase in expenses of $53,150 thousand. The expenses
related to the Retirement Benefit Equalization Plan and
the Supplemental Employee Retirement Plan are recorded
by each Federal Reserve Bank.
3. Includes expenses for labor and materials capitalized and depreciated or amortized as charges to activities
in the periods benefited.
4. Includes reimbursement from the U.S. Treasury for
uncut sheets of Federal Reserve notes, gains and losses on
the sale of Reserve Bank buildings, counterfeit currency
that is not charged back to the depositing institution, and
stale Reserve Bank checks that are written off.
5. For additional details, see the chapter "Board of
Governors Financial Statements."
6. The implementation of FAS 158 in 2006 required an
adjustment in the amount of $1,848,716 thousand to
accumulated other comprehensive income, which is reported as a component of surplus.
Statistical Tables 289
10.—Continued
Richmond
Atlanta
Chicago
St. Louis
2,771,597
2,843,919
3,100,920
1,038,788
674,938
322,377
3
322,380
79,152
20
79,172
78,502
44
78,546
13,225
0
13,225
-109,366
0
-109,367
-110,361
0
-110,361
-122,680
-610
-123,289
213,013
-31,189
0
Dallas
San Francisco
934,209
1,499,612
3,641,949
22,097
0
22,097
15,658
1,291
16,949
13,679
0
13,679
121,167
5,896
127,063
^2,409
-555
^2,964
-27,460
0
-27,460
-38,987
-8,386
-47,372
-61,610
0
-61,610
-145,636
0
-145,636
-44,743
-29,738
-5,363
-30,424
-47,931
-18,573
0
0
0
0
0
0
0
80,873
40,241
20,742
65,067
19,585
51,165
3,254
17,276
5,427
12,383
3,874
17,174
3,688
24,924
30,075
73,291
2,863,497
2,726,921
2,985,426
988,520
651,765
882,737
1,423,068
3,520,010
240,681
64,625
52,280
9,205
15,064
10,502
11,959
80,533
1,764,199
2,251,659
2,910,601
935,913
594,235
864,852
1,323,733
3,520,859
858,617
-72,769
410,636
-26,515
22,546
^0,756
43,402
-21,196
42,466
-12,026
7,382
-5,795
87,377
-28,263
-81,382
-20,829
3,307,452
4,093,301
892,166
1,276,288
876,301
858,091
144,000
166,206
245,322
275,762
174,757
176,344
152,628
211,742
1,349,029
1,246,817
Minneapolis Kansas City
290 93rd Annual Report, 2006
11. Income and Expenses of the Federal Reserve Banks, 1914-2006
Thousands of dollars
Federal Reserve Bank
and period
Current
income
Net
expenses
Net additions
or
deductions (-)1
Assessments by
Board of Governors
Board
expenditures
Costs
of currency
All Banks
1914-15 .
1916
1917
1918
1919
2,173
5,218
16,128
67,584
102,381
2,018
2,082
4,922
10,577
18,745
6
-193
-1,387
-3,909
-4,673
302
192
238
383
595
1920
1921
1922
1923
1924
1925
1926
1927
1928
1929
181,297
122,866
50,499
50,709
38,340
41,801
47,600
43,024
64,053
70,955
27,549
33,722
28,837
29,062
27,768
26,819
24,914
24,894
25,401
25,810
-3,744
-6,315
-4,442
-8,233
-6,191
-4,823
-3,638
-2,457
-5,026
-4,862
710
741
723
703
663
709
722
779
698
782
1,714
1,845
806
3,099
1930
1931
1932
1933
1934
1935
1936
1937
1938
1939
36,424
29,701
50,019
49,487
48,903
42,752
37,901
41,233
36,261
38,501
25,358
24,843
24,457
25,918
26,844
28,695
26,016
25,295
25,557
25,669
-93
311
-1,413
-12,307
-4,430
-1,737
486
-1,631
2,232
2,390
810
719
729
800
1,372
1,406
1,680
1,748
1,725
1,621
2,176
1,479
1,106
2,505
1,026
1,477
2,178
1,757
1,630
1,356
1940
1941
1942
1943
1944
1945
1946
1947
1948
1949
43,538
41,380
52,663
69,306
104,392
142,210
150,385
158,656
304,161
316,537
25,951
28,536
32,051
35,794
39,659
41,666
50,493
58,191
64,280
67,931
11,488
721
-1,568
23,768
3,222
-830
-626
1,973
-34,318
-12,122
1,704
1,840
1,746
2,416
2,296
2,341
2,260
2,640
3,244
3,243
1,511
2,588
4,826
5,336
7,220
4,710
4,482
4,562
5,186
6,304
1950
1951
1952
1953
1954
1955
1956
1957
1958
1959
275,839
394,656
456,060
513,037
438,486
412,488
595,649
763,348
742,068
886,226
69,822
83,793
92,051
98,493
99,068
101,159
110,240
117,932
125,831
131,848
36,294
-2,128
1,584
-1,059
-134
-265
-23
-7,141
124
98,247
3,434
4,095
4,122
4,100
4,175
4,194
5,340
7,508
5,917
6,471
7,316
7,581
8,521
10,922
6,490
4,707
5,603
6,374
5,973
6,384
For notes see end of table.
Statistical Tables 291
11.—Continued
Payments to U.S. Treasury
Dividends
paid
Statutory
transfers2
Interest on
Federal Reserve
notes
Transferred
to surplus
(section 13b)
to surplus
(section 7)
217
1,743
6,804
5,541
5,012
2,704
1,134
48334
70,652
5,654
6,120
6,307
6,553
6,682
6,916
7,329
7,755
8,458
9,584
60,725
59,974
10,851
3,613
114
59
818
250
2,585
4,283
82,916
15,993
-660
2,546
-3,078
2,474
8,464
5,044
21,079
22,536
10,269
10,030
9,282
8,874
8,782
8,505
7,830
7,941
8,019
8,110
17
-2,298
-7,058
11,021
-917
6,510
607
353
2,616
1,862
4,534
1,134
8,215
8,430
8,669
8,911
9,500
10,183
10,962
11,523
11,920
12,329
13,083
13,865
14,682
15,558
16,442
17,712
18,905
20,081
21,197
22,722
2,bii
' 298
227
177
120
25
^60
28
103
67
-419
-426
82
141
198
245
327
248
67
36
-54
-4
50
135
201
262
28
87
75,284
166,690
193,146
196,629
254,874
291,935
342,568
276,289
251,741
401,556
542,708
524,059
910,650
17,617
571
3,554
40,327
48,410
81,970
81,467
8,366
18,523
21,462
21,849
28,321
46,334
40,337
35,888
32,710
53,983
61,604
59,215
-93,601
292
93rd Annual Report, 2006
11. Income and Expenses of the Federal Reserve Banks, 1914-2006—Continued
Thousands of dollars
Federal Reserve Bank
and period
Current
income
Net
expenses
Net additions
or
deductions (-) 1
Assessments by
Board of Governors
Board
expenditures
Costs
of currency
1960
1961
1962
1963
1964
1965
1966
1967
1968
1969
1,103,385
941,648
1,048,508
1,151,120
1,343,747
1,559,484
1,908,500
2,190,404
2,764,446
3,373,361
139,894
148,254
161,451
169,638
171,511
172,111
178,212
190,561
207,678
237,828
13,875
3,482
-56
615
726
1,022
996
2,094
8,520
-558
6,534
6,265
6,655
7,573
8,655
8,576
9,022
10,770
14,198
15,020
7,455
6,756
8,030
10,063
17,230
23,603
20,167
18,790
20,474
22,126
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
3,877,218
3,723,370
3,792,335
5,016,769
6,280,091
6,257,937
6,623,220
6,891,317
8,455,309
10,310,148
276,572
319,608
347,917
416,879
476,235
514,359
558,129
568,851
592,558
625,168
11,442
94,266
-49,616
-80,653
-78,487
-202,370
7,311
-177,033
-633,123
-151,148
21,228
32,634
35,234
44,412
41,117
33,577
41,828
47,366
53,322
50,530
23,574
24,943
31,455
33,826
30,190
37,130
48,819
55,008
60,059
68,391
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
12,802,319
15,508,350
16,517,385
16,068,362
18,068,821
18,131,983
17,464,528
17,633,012
19,526,431
22,249,276
718,033
814,190
926,034
1,023,678
1,102,444
1,127,744
1,156,868
1,146,911
1,205,960
1,332,161
-115,386
-372,879
-68,833
-400,366
^12,943
1,301,624
1,975,893
1,796,594
-516,910
1,254,613
62,231
63,163
61,813
71,551
82,116
77,378
97,338
81,870
84,411
89,580
73,124
82,924
98,441
152,135
162,606
173,739
180,780
170,675
164,245
175,044
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
23,476,604
22,553,002
20,235,028
18,914,251
20,910,742
25,395,148
25,164,303
26,917,213
28,149,477
29,346,836
1,349,726
1,429,322
1,474,531
1,657,800
1,795,328
1,818,416
1,947,861
1,976,453
1,833,436
1,852,162
2,099,328
405,729
-987,788
-230,268
2,363,862
857,788
-1,676,716
-2,611,570
1,906,037
-533,557
103,752
109,631
128,955
140,466
146,866
161,348
162,642
174,407
178,009
213,790
193,007
261,316
295,401
355,947
368,187
370,203
402,517
364,454
408,544
484,959
2000
2001
2002
2003
2004
2005
2006
33,963,992
31,870,721
26,760,113
23,792,725
23,539,942
30,729,357
38,410,427
1,971,688
2,084,708
2,227,078
2,462,658
2,238,705
2,889,544
3,263,844
-1,500,027
-1,117,435
2,149,328
2,481,127
917,870
-3,576,903
-158,846
188,067
295,056
205,111
297,020
272,331
265,742
301,014
435,838
338,537
429,568
508,144
503,784
477,087
491,962
710,889,641
53,347,257
4,041,796
4,704,801
8,832,012
Total, 1914-2006
Statistical Tables 293
11.—Continued
Payments to U.S. Treasury
Dividends
paid
Statutory
transfers 2
Interest on
Federal Reserve
notes
Transferred
to surplus
(section 13b)
Tran QffrrpH
to surplus
(section 7)
23,948
25,570
27,412
28,912
30,782
32,352
33,696
35,027
36,959
39,237
896,816
687,393
799,366
879,685
1,582,119
1,296,810
1,649,455
1,907,498
2,463,629
3,019,161
42,613
70,892
45,538
55,864
-465,823
27,054
18,944
29,851
30,027
39,432
41,137
43,488
46,184
49,140
52,580
54,610
57,351
60,182
63,280
67,194
3,493,571
3,356,560
3,231,268
4,340,680
5,549,999
5,382,064
5,870,463
5,937,148
7,005,779
9,278,576
32,580
40,403
50,661
51,178
51,483
33,828
53,940
45,728
47,268
69,141
70,355
74,574
79,352
85,152
92,620
103,029
109,588
117,499
125,616
129,885
11,706,370
14,023,723
15,204,591
14,228,816
16,054,095
17,796,464
17,803,895
17,738,880
17,364,319
21,646,417
56,821
76,897
78,320
106,663
161,996
155,253
91,954
173,771
64,971
130,802
140,758
152,553
171,763
195,422
212,090
230,527
255,884
299,652
343,014
373,579
23,608,398
20,777,552
16,774,477
15,986,765
20,470,011
23,389,367
14,565,624
0
8,774,994
25,409,736
180,292
228,356
402,114
347,583
282,122
283,075
635,343
831,705
731,575
479,053
25,343,892
27,089,222
24,495,490
22,021,528
18,078,003
21,467,545
29,051,678
4,114,865
517,580
1,068,598
466,796
2,782,587
1,271,672
4,271,828
5,51*7,716
20,658,972
17,785,942
409,614
428,183
483,596
517,705
582,402
780,863
871,255
8,738,777
44,113,958
573,927,960
-4
2U66,6763
294 93rd Annual Report, 2006
11. Income and Expenses of the Federal Reserve Banks, 1914-2006—Continued
Thousands of dollars
Federal Reserve Bank
and period
Current
income
Aggregate for each Bank,
1914-2006
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
37,823,486
249,731,575
26,369,964
42,583,372
54,923,061
40,448,737
85,257,610
24,240,701
12,223,622
25,486,625
32,411,865
79,389,024
Total
710,889,641
Net
expenses
3,416,852
8,384,9314
2,776,143
3,269,494
4,585,203
6,527,615
6,465,618
2,597,202
2,549,119
3,401,053
3,448,353
5,925,674
53,347,257
NOTE: Components may not sum to totals because of
rounding.
1. For 1987 and subsequent years, includes the cost of
services provided to the Treasury by Federal Reserve
Banks for which reimbursement was not received.
Net additions
or
deductions (-) 1
Assessments by
Board of Governors
Board
expenditures
Costs
of currency
-48,223
833,624
112,671
297,125
691,529
290,459
613,784
42,722
129,352
103,704
338,948
636,099
207,260
1,168,193
198,455
342,922
669,078
350,725
525,507
115,126
140,300
146,764
218,444
622,028
518,973
2,781,090
375,069
512,316
725,744
659,959
1,005,353
321,728
156,232
321,689
437,554
1,016,305
4,041,796
4,704,801
8,832,012
2. Represents transfers made as a franchise tax from
1917 through 1932; transfers made under section 13b of
the Federal Reserve Act from 1935 through 1947; and
transfers made under section 7 of the Federal Reserve Act
for 1996 and 1997.
Statistical Tables 295
11.—Continued
Payments to U.S. Treasury
Dividends
Transferred
to surplus
(section 13b)
Transferred
to surplus
(section 7)
30,051,671
212,590,458
19,437,229
33,884,049
39,972,837
28,273,211
71,087,653
18,917,298
8,400,348
19,924,327
26,405,056
64,983,822
135
-433
291
-10
-72
5
12
-27
65
-9
55
-17
590,222
6,157,793
1,975,729
1,395,195
5,173,944
1,596,946
1,276,762
289,952
433,854
298,763
379,737
1,697,779
573,927,960
-4
Statutory
transfers2
Interest on
Federal Reserve
notes
410,646
2,176,006
407,602
649,488
1,403,928
617,505
916,679
208,306
256,828
248,040
350,811
1,092,938
2,579,504
17,307,161
1,312,118
2,827,043
3,083,928
2,713,230
4,593,811
1,833,837
416,227
1,249,703
1,510,802
4,686,594
8,738,777
44,113,958
3. The $21,266,676 thousand transferred to surplus
was reduced by direct charges of $500 thousand for
charge-off on Bank premises (1927), $139,300 thousand
for contributions to capital of the Federal Deposit Insurance Corporation (1934), $4 thousand net upon elimination of section 13b surplus (1958), and $106,000 thousand (1996), $107,000 thousand (1997), and
$3,752,000 thousand (2000) transferred to the Treasury as
statutorily required; and was increased by transfer of
$11,131 thousand from reserves for contingencies (1955).
21,266,6763
The implementation of FAS 158 in 2006 required an
adjustment to accumulated other comprehensive income
of $1,848,716 thousand, which is reported as a component of surplus, leaving a balance of $15,324,288 thousand on December 31, 2006.
4. This amount is reduced by $2,717,806 thousand
for expenses of the System Retirement Plan. See note 2,
table 10.
. . . Not applicable.
296 93rd Annual Report, 2006
12. Operations in Principal Departments of the Federal Reserve Banks, 2003-2006
Operation
2006
Millions of pieces
Currency processed
Currency destroyed
Coin received
Checks handled
U.S. government checks
Postal money orders
All other
Securities transfers1
Funds transfers
Automated clearinghouse transactions
Commercial
Government
Millions of dollars
Currency processed
Currency destroyed
Coin received
Checks handled
U.S. government checks
Postal money orders
Mother
Securities transfers1
Funds transfers2
Automated clearinghouse transactions
Commercial
Government
2004
2003
37,694
6,766
59,705
36,463
6,551
56,080
36,242
6,748
55,655
34,832
7,375
48,138
192
171
10,983
22
134
215
176
12,195
22
132
234
187
13,904
20
125
267
198
15,806
20
123
8,231
992
7,339
964
6,486
941
5,588
914
664,592
84,742
5,779
639,832
83,187
5,412
625,127
90,943
5,403
584,915
101,338
4,879
231,314
28,066
13,628,348
377,258,592
572,645,790
250,865
28,395
14,379,874
368,896,819
518,546,733
277,649
29,045
14,287,740
313,425,252
478,946,947
308,055
29,197
15,431,625
267,644,194
447,341,692
13,124,434
3,474,364
12,801,914
3,156,556
12,543,907
2,913,189
13,951,600
2,810,283
1. The title of this category has changed from previous
years, but the composition of the category is the same;
therefore, the data here are comparable with data reported
in previous years.
2005
2. Amounts in bold are restatements.
Statistical Tables 297
13. Number and Annual Salaries of Officers and Employees of the Federal Reserve Banks,
December 31, 2006
President1
Federal Reserve
Bank (including
Branches)
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco . . .
Federal Reserve
Information
Technology .
Employees
Total
Number
Salary
(dollars)2
Number
374,100
381,000
276,500
281,400
276,500
Vacant3
374,100
311,000
374,100
340,600
276,500
326,900
62
279
56
60
72
78
86
75
43
73
53
75
10,567,765
54,289,191
8,595,200
9,200,500
10,764,700
12,948,880
13,118,406
10,910,680
6,422,280
11,504,000
8,337,504
13,691,634
837
2,454
982
1,491
1,681
1,912
1,310
954
1,155
1,218
1,219
1,656
70
54
34
34
40
40
59
58
101
19
18
28
57,522,048
198,746,036
53,274,392
72,454,563
95,642,478
106,293,498
84,242,032
53,627,203
62,186,058
67,284,920
65,143,411
111,625,788
970
2,791
1,073
1,586
1,794
2,031
1,456
1,088
1,300
1,311
1,291
1,760
68,463,913
254,007,727
62,146,092
81,936,463
106,683,678
119,242,378
97,734,538
64,848,883
68,982,438
79,129,520
73,757,415
125,644,322
39
5,947,200
719
6
59,314,205
764
65,261,405
8
1,618,400
33
0
2,669,126
41
4,287,526
1,059
177,916,340
17,621
561
1,090,025,758
19,256
1,272,126,298
Office of
Employee
Benefits . . . .
Total
Other officers
3,592,700
Salaries
(dollars)2
1. Under current policies, the appointment salaries of
Federal Reserve Bank presidents are normally 85 percent
of the salary-range midpoint (an 85 compa-ratio), with
the exception of the New York Reserve Bank president,
whose appointment salary normally is set at a 95 comparatio. The Board has discretion to approve a higher
starting salary if requested by a Reserve Bank's board of
directors.
On January 1 each year, all presidents receive salary
increases equal to the percentage increase in the midpoint
of their respective salary ranges. In addition, on every
third-year anniversary of his or her initial appointment
(through year 9), each president receives a salary increase
that results in a compa-ratio as follows: year 3,95 (for the
New York Bank, 105); year 6, 105 (New York, 115);
year 9, 115 (New York, 125).
Fulltime
Parttime
Salaries
(dollars)2
Number
Salaries
(dollars)2
There continue to be tiered salary ranges for Reserve
Bank officers, including presidents, reflecting differences
in the costs of labor in the head-office cities. The Board
reviews Reserve Bank officer salary ranges and Reserve
Bank placement in the salary tiers annually. In 2006, New
York and San Francisco were in tier 1, which had a
midpoint for presidents' salaries of $362,900. Boston,
Philadelphia, Richmond, Atlanta, Chicago, Minneapolis,
and Dallas were in tier 2, which had a midpoint for
presidents' salaries of $325,300. Cleveland, St. Louis,
and Kansas City were in tier 3, which had a midpoint for
presidents' salaries of $296,200.
2. Annualized salary liability based on salaries in effect
on December 31, 2006.
3. Atlanta president retired in October 2006.
. . . Not applicable.
298
93rd Annual Report, 2006
14. Acquisition Costs and Net Book Value of the Premises of the Federal Reserve Banks
and Branches, December 31, 2006
Thousands of dollars
Acquisition costs
Federal Reserve
Bank or
Branch
Land
Buildings
(including
vaults)1
Building machinery and
equipment
Total2
Net
book
value
BOSTON
27,293
127,979
28,019
183,290
117,283
NEW YORK
20,103
0
254,486
0
66,929
0
341,517
0
211,798
0
2,779
84,976
13,545
101,300
57,782
Buffalo
PHILADELPHIA .
Other
real
estate 3
CLEVELAND
Cincinnati
Pittsburgh
RICHMOND
Baltimore
Charlotte
4,219
2,593
1,739
124,865
32,466
19,488
25,386
11,624
14,503
154,470
46,683
35,730
112,851
24,993
20,349
22,649
6,482
3,130
107,558
29,566
31,498
38,279
5,828
6,847
168,486
41,876
41,475
118,391
24,081
27,295
ATLANTA
Birmingham
Jacksonville
Miami
Nashville
New Orleans
22,735
5,347
1,730
4,254
603
3,785
149,625
11,744
20,987
22,143
5,690
8,827
16,367
1,525
3,810
4,869
3,532
5,231
188,727
18,616
26,527
31,266
9,825
17,843
166,998
12,323
16,960
20,746
4,843
9,924
CHICAGO
Detroit
4,512
9,980
165,149
72,293
20,268
10,690
189,929
92,962
115,789
90,657
ST. LOUIS
Little Rock
Louisville
Memphis
8,392
0
0
2,472
73,386
0
0
14,127
12,578
0
0
5,164
94,356
0
0
21,763
65,315
0
0
14,975
MINNEAPOLIS ..
Helena
15,666
2,890
104,652
9,716
13,834
943
134,153
13,549
106,397
9,587
KANSAS CITY ..
Denver
Oklahoma City
Omaha
29,460
3,511
0
3,559
114,121
9,167
108
7,374
0
4,502
0
1,726
143,580
17,179
108
12,658
143,580
8,525
108
6,390
DALLAS
El Paso
Houston
San Antonio
35,638
262
23,754
826
111,106
3,584
101,555
7,917
23,715
1,553
8,088
2,674
170,459
5,400
133,397
11,418
123,479
1,616
129,024
6,335
SAN FRANCISCO
Los Angeles
Portland
Salt Lake City
Seattle
20,129
6,306
0
1,294
8,191
96,419
71,935
0
4,680
37,798
22,370
13,009
0
1,385
4,545
138,919
91,250
0
7,360
50,534
80,904
57,911
0
3,083
42,639
13
30632
2,0364)85
393340
2,736,606
1,952,930
11372
Total
NOTE: Components may not sum to totals because of
rounding.
1. Includes expenditures for construction at some
offices, pending allocation to appropriate accounts.
2. Excludes charge-offs of $17,699 thousand before
1952.
48
4,106
1
7,204
3. Covers acquisitions for banking-house purposes and
Bank premises formerly occupied and being held pending
sale.
. . . Not applicable.
Federal Reserve System Audits
301
Audits of the Federal Reserve System
The Board of Governors, the Federal
Reserve Banks, and the Federal Reserve
System as a whole are all subject to
several levels of audit and review. The
Board's financial statements, and its
compliance with laws and regulations
affecting those statements, are audited
annually by an outside auditor retained
by the Board's Office of Inspector General. The Office of Inspector General
also conducts audits, reviews, and investigations relating to the Board's programs and operations as well as to Board
functions delegated to the Reserve
Banks.
The Reserve Banks' financial statements are audited annually by an independent outside auditor retained by the
Board of Governors. In addition, the
Reserve Banks are subject to annual
examination by the Board. As discussed
in the chapter "Federal Reserve Banks,"
the Board's examination includes a wide
range of ongoing oversight activities
conducted on and off site by staff of the
Board's Division of Reserve Bank Operations and Payment Systems.
Federal Reserve operations are also
subject to review by the Government
Accountability Office.
•
303
Board of Governors Financial Statements
The financial statements of the Board for 2006 and 2005 were audited
by KPMG LLP, independent auditors.
KPMGLLP
2001 M Street, NW
Washington, DC 20036
Independent Auditors' Report
To the Board of Governors of the Federal Reserve System:
We have audited the accompanying balance sheets of the Board of Governors of the Federal Reserve
System (the Board) as of December 31, 2006 and 2005, and the related statements of revenues and
expenses and changes in cumulative results of operations, and cash flows (hereinafter referred to as
"financial statements") for the years then ended. These financial statements are the responsibility of the
Board's management. Our responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of
America and the standards applicable to financial audits contained in Government Auditing Standards,
issued by the Comptroller General of the United States. Those standards require that we plan and perform
the audits to obtain reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing
an opinion on the effectiveness of the Board's internal control over financial reporting. Accordingly, we
express no such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the
financial position of the Board of Governors of the Federal Reserve System, as of December 31, 2006 and
2005, and the results of its operations, and its cash flows, for the years then ended, in conformity with U.S.
generally accepted accounting principles.
As discussed in Note 3 to the financial statements, in 2006, the Board adopted the provisions of the
Financial Accounting Standard Board Statement No. 158, Employers' Accounting for Defined Benefit
Pension and Other Postretirement Plans.
In accordance with Government Auditing Standards, we have also issued our reports dated April 17, 2007,
on our consideration of the Board's internal control over financial reporting and our tests of its compliance
with certain provisions of laws, regulations, contracts, and other matters. The purpose of those reports is to
describe the scope of our testing of internal control over financial reporting and compliance and the results
of that testing, and not to provide an opinion on the internal control over financial reporting or on
compliance. Those reports are an integral part of an audit performed in accordance with Government
Auditing Standards and should be read in conjunction with this report in assessing the results of our audits.
April 17,2007
304 93rd Annual Report, 2006
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
BALANCE SHEETS
As of December 31,
2006
2005
ASSETS
CURRENT ASSETS
Cash
Accounts receivable
Prepaid expenses and other assets
$ 60,030,706
2,625,907
4,260,507
$ 45,970,435
3,081,520
2,992,412
66,917,120
52,044,367
151,205,386
151,205,386
155,441,553
155,441,553
$218,122,506
$207,485,920
$ 10,950,470
5,421,666
16,334,512
327,663
366,304
$ 16,906,350
4,860,572
15,456,484
270,167
783,711
33,400,615
38,277,284
108,755
1,354,662
8,111,829
6,515,301
406,188
813,497
6,237,290
5,111,365
Total long-term liabilities
16,090,547
12,568,340
Total liabilities
49,491,162
50,845,624
33,844,168
(14,325,986)
150,768,968
(1,655,806)
14,037,250
(12,162,152)
154,765,198
__i^____
168,631,344
156,640,296
$218,122,506
$207,485,920
Total current assets
NONCURRENT ASSETS
Property and equipment, net (Note 4)
Total noncurrent assets
Total assets
LIABILITIES AND CUMULATIVE RESULTS OF OPERATIONS
CURRENT LIABILITIES
Accounts payable and accrued liabilities
Accrued payroll and related taxes
Accrued annual leave
Capital lease payable (current portion)
Unearned revenues and other liabilities
Total current liabilities
LONG-TERM LIABILITIES
Capital lease payable (non-current portion)
Accumulated retirement benefit obligation (Note 5)
Accumulated postretirement benefit obligation (Note 6)
Accumulated postemployment benefit obligation (Note 7)
CUMULATIVE RESULTS OF OPERATIONS
Working capital
Unfunded long-term liabilities
Net investment in property and equipment
Accumulated other comprehensive income (loss) (Note 8)
Total cumulative results of operations
Total liabilities and cumulative results of operations
See accompanying notes to financial statements.
Board of Governors Financial Statements 305
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
STATEMENTS OF REVENUES AND EXPENSES
AND CHANGES IN CUMULATIVE RESULTS OF OPERATIONS
For the years ended December 31,
2006
2005
BOARD OPERATING REVENUES
Assessments levied on Federal Reserve Banks for Board
operating expenses and capital expenditures
Other revenues (Note 9)
$301,013,500
8,508,949
$265,742,100
8,520,342
309,522,449
274,262,442
182,239,595
35,853,297
23,944,564
13,058,667
9,185,840
8,820,503
6,637,765
4,560,368
2,634,459
1,505,470
7,435,067
174,523,825
31,847,951
24,695,564
12,954,506
9,065,329
7,613,280
6,052,617
7,169,829
3,361,179
1,973,594
7,486,158
295,875,595
286,743,832
Total operating revenues
BOARD OPERATING EXPENSES
Salaries
Retirement and insurance
Contractual services and professional fees
Depreciation, amortization, and net losses on disposals
Utilities
Travel
Software
Postage and supplies
Repairs and maintenance
Printing and binding
Other expenses (Note 9)
Total operating expenses
RESULTS OF OPERATIONS
13,646,854
(12,481,390)
491,962,202
477,087,471
491,962,202
477,087,471
0
0
ISSUANCE AND REDEMPTION OF FEDERAL RESERVE NOTES
Assessments levied on Federal Reserve Banks
for currency costs
Expenses for currency printing, issuance,
retirement, and shipping
CURRENCY ASSESSMENTS OVER (UNDER) EXPENSES
TOTAL RESULTS OF OPERATIONS
CUMULATIVE RESULTS OF OPERATIONS, Beginning of year
13,646,854
(12,481,390)
156,640,296
169,121,686
OTHER COMPREHENSIVE INCOME
Adjustment to initially apply FASB Statement No. 158 (Note 8)
(1,655,806)
Total Other Compehensive Income
CUMULATIVE RESULTS OF OPERATIONS, End of year
...
(1,655,806)
$168,631,344
See accompanying notes to financial statements.
$156,640,296
306
93rd Annual Report, 2006
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
STATEMENTS OF CASH FLOWS
For the years ended December 31,
2006
2005
CASH FLOWS FROM OPERATING ACTIVITIES
RESULTS OF OPERATIONS
$13,646,854
$(12,481,390)
13,058,667
12,954,506
Adjustments to reconcile results of operations
to net cash provided by (used in) operating activities:
Depreciation and net losses on disposals
Increase in assets:
Accounts receivable, and prepaid expenses and other assets
(812,482)
(362,385)
Increase (decrease) in liabilities:
Accounts payable and accrued liabilities
Accrued payroll and related taxes
Accrued annual leave
Unearned revenues and other liabilities
Accumulated retirement benefit obligation
Accumulated postretirement benefit obligation
Accumulated postemployment benefit obligation
Accumulated other comprehensive income
(5,955,880)
561,094
878,028
(417,407)
541,165
1,874,539
1,403,936
(1,655,806)
3,014,489
308,533
1,260,574
316,047
219,328
447,724
(197,200)
_ i ^ _ _
Net cash provided by operating activities
23,122,708
5,480,226
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from disposals
Capital expenditures
Net cash used in investing activities
7,212
(8,829,712)
2,850
(19,370,223)
(8,822,500)
(19,367,373)
(239,937)
(249,710)
(239,937)
(249,710)
CASH FLOWS FROM FINANCING ACTIVITIES
Capital lease payments
Net cash used in financing activities
NET INCREASE (DECREASE) IN CASH
14,060,271
(14,136,857)
CASH BALANCE, Beginning of year
45,970,435
60,107,292
$60,030,706
$ 45,970,435
CASH BALANCE, End of year
See accompanying notes to financial statements.
Board of Governors Financial Statements 307
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
NOTES TO FINANCIAL STATEMENTS
AS OF AND FOR THE YEARS ENDED
DECEMBER 31, 2006 AND 2005
(1) STRUCTURE
The Federal Reserve System was established by Congress in 1913 and consists of the Board of Governors
(Board), the Federal Open Market Committee, the twelve
regional Federal Reserve Banks, the Federal Advisory
Council, and the private commercial banks that are members of the System. The Board, unlike the Reserve Banks,
was established as a federal government agency and is
supported by Washington DC based staff numbering approximately 1,800, as it carries out its responsibilities in
conjunction with other components of the Federal Reserve System.
The Board is required by the Federal Reserve Act to
report its operations to the Speaker of the House of
Representatives. The Act also requires the Board, each
year, to order a financial audit of each Federal Reserve
Bank and to publish each week a statement of the financial condition of each such Reserve Bank and a consolidated statement for all of the Reserve Banks. Accordingly, the Board believes that the best financial disclosure
consistent with law is achieved by issuing separate financial statements for the Board and for the Reserve Banks.
Therefore, the accompanying financial statements include
only the results of operations and activities of the Board.
Combined financial statements for the Federal Reserve
Banks are included in the Board's annual report to the
Speaker of the House of Representatives.
(2) OPERATIONS AND SERVICES
The Board's responsibilities require thorough analysis
of domestic and international financial and economic
developments. The Board carries out those responsibilities in conjunction with other components of the Federal
Reserve System. The Board also supervises and regulates
the operations of the Federal Reserve Banks, exercises
broad responsibility in the nation's payments system, and
administers most of the nation's laws regarding consumer
credit protection. Policy regarding open market operations is established by the Federal Open Market Committee. However, the Board has sole authority over changes
in reserve requirements, and it must approve any change
in the discount rate initiated by a Federal Reserve Bank.
The Board also plays a major role in the supervision
and regulation of the U.S. banking system. It has supervisory responsibilities for state-chartered banks that are
members of the Federal Reserve System, bank holding
companies, foreign activities of member banks, and U.S.
activities of foreign banks.
(3) SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting—The financial statements have
been prepared on the accrual basis of accounting.
Revenues—Assessments for operating expenses and
additions to property are based on expected cash needs.
Issuance and Redemption of Federal Reserve Notes—
The Board incurs expenses and assesses the Federal
Reserve Banks for currency printing, issuance, retirement, and shipping of Federal Reserve Notes. These
assessments and expenses are separately reported in the
statements of revenues and expenses because they are
passed through the Board account and are not Board
operating transactions.
Property, Equipment, and Software—The Board's
property, buildings, equipment, and software are stated at
cost less accumulated depreciation and amortization. Depreciation and amortization is calculated on a straight-line
basis over the estimated useful lives of the assets, which
range from 3 to 10 years for furniture and equipment,
10 to 50 years for building equipment and structures, and
2 to 10 years for software. Upon the sale or other disposition of a depreciable asset, the cost and related accumulated depreciation or amortization are removed from the
accounts and any gain or loss is recognized.
Art Collections—The Board has collections of works
of art, historical treasures, and similar assets. These collections are maintained and held for public exhibition in
furtherance of public service. Proceeds from any sales of
collections are used to acquire other items for collections.
As permitted by Statement of Financial Accounting Standards Number 116, Accounting for Contributions Received and Contributions Made, the cost of collections
purchased by the Board is charged to expense in the year
purchased and donated collection items are not recorded.
The value of the Board's collections has not been
determined.
Estimates—The preparation of financial statements in
conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from
those estimates.
Reclassifications—Certain 2005 amounts have been
reclassified to conform with the 2006 presentation.
Implementation of FASB Statement No. 158, Employers' Accounting for Defined Benefit Pension and Other
Postretirement Plans—The Board initially applied the
provisions of FASB Statement No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans, at December 31, 2006. This accounting
standard requires recognition of the overfunded or underfunded status of a defined benefit postretirement plan in
the Balance Sheets, and recognition of changes in the
funded status in the years in which the changes occur
through comprehensive income. The transition rules for
implementing the standard require applying the provisions as of the end of the year of initial implementation
with no retrospective application.
308 93rd Annual Report, 2006
(4) PROPERTY AND EQUIPMENT
(5) ACCUMULATED RETIREMENT BENEFITS
The following is a summary of the components of the
Board's property and equipment, at cost, net of accumulated depreciation and amortization.
The following information provides disclosure requirements contained in Statement of Financial Accounting
Standards No. 132, Employers' Disclosures about Pensions and Other Postretirement Benefits.
Substantially all of the Board's employees participate
in the Retirement Plan for Employees of the Federal
Reserve System (System Plan). The System Plan is a
multi-employer plan which covers employees of the
Federal Reserve Banks, the Board, and the Office of
Employee Benefits. No separate accounting is maintained
of assets contributed by the participating employers. The
Federal Reserve Bank of New York acts as a sponsor of
the System Plan, and the costs associated with the Plan
are not redistributed to other participating employers.
Employees of the Board who became employed prior
to 1984 are covered by a contributory defined benefits
program under the System Plan. Employees of the Board
who became employed after 1983 are covered by a
non-contributory defined benefits program under the System Plan. Contributions to the System Plan are actuarially
determined and funded by participating employers. Based
on actuarial calculations, it was determined that employer
funding contributions were not required for the years
2006 and 2005, and the Board was not assessed a contribution for these years. Because the plan is part of a
multi-employer plan, information as to vested and nonvested benefits, as well as plan assets, as it relates solely
to the Board, is not readily available.
Effective January 1, 1996, Board employees covered
under the System Plan are also covered under a Benefits
Equalization Plan (BEP). Benefits paid under the BEP are
limited to those benefits that cannot be paid from the
System Plan due to limitations imposed by Sections 401(a)(17), 415(b), and 415(e) of the Internal Revenue Code of 1986. Activity for the BEP for 2006 and
2005 is summarized in the following table:
As of December 31,
Land
Buildings and
improvements . . .
Furniture and
equipment
Software in use
Software in process . . .
Construction in
process
Less accumulated
depreciation and
amortization
Property and
equipment, n e t . .
2006
$ 18,640,314
2005
$ 18,640,314
147,504,169
135,152,735
47,271,434
13,681,508
941,912
39,926,270
12,415,000
575,050
360,966
228,400,304
13,928,149
220,637,518
(77,194,918)
(65,195,965)
$151,205,386
$155,441,553
Furniture and equipment includes $1,230,000 each year
for capitalized leases as of December 31, 2006 and 2005.
Accumulated depreciation includes $867,000 and
$612,000 for capitalized leases as of December 31, 2006
and 2005, respectively. The Board paid interest related to
these capital leases in the amount of $54,000 and $83,000
for 2006 and 2005, respectively.
Construction in process includes costs incurred in 2006
and 2005 for long-term security projects and building
enhancements.
The future minimum lease payments required under
the capital leases and the present value of the net minimum lease payments as of December 31, 2006, are as
follows:
Year
ending
December 31 Amount
2007
2008
2009
Total minimum lease
payments
Less: Amount representing
maintenance included
in total amounts above..
Net minimum lease
payments
Less: Amount representing
interest
Present value of net
minimum lease
payments
Less: Current maturities
of capital lease
obligations
Long-term capital lease
obligations
$ 463,491
138,279
601,770
(130,540)
471,230
(34,812)
436,418
(327,663)
$ 108,755
2006
2005
Change in projected
benefit obligation
Benefit obligation at
beginning of year .. $ 536,339
Service cost
185,483
Interest cost
45,004
Plan participants'
contributions
0
Plan amendments
0
Actuarial (gain)/loss . . . .
596,114
Benefitspaid
(8,278)
Benefit obligation at
endofyear
$1,354,662
Change in plan assets
Fair value of plan assets
at beginning
of year
$
Actual return on plan
assets
Employer contributions..
Plan participants'
contributions
Benefits paid
Fair value of plan assets
at end of year
$
0
$
0
0
168,027
(1,814)
$ 536,339
$
0
8,278
0
0
1,814
0
(8,278)
0
140,953
193,209
35,964
0
(1,814)
$
0
Board of Governors Financial Statements 309
2006
Reconciliation of funded
status at end of year
Funded status
Unrecognized net
actuarial (gain)/
loss
Unrecognized prior
service cost
Unrecognized net
transition
obligation
Prepaid/(Accrued)
pension cost
Amounts recognized in
the financial statements
consist of
Prepaid benefit cost
Accrued benefit
liability
Intangible asset
Accumulated other
comprehensive
income
Net amount
recognized
Information for pension
plans with an
accumulated benefit
obligation in excess of
plan asset:
Projected benefit
obligation
Accumulated benefit
obligation
2006
2005
$(1,354,662)
$(536,339)
580,386
(15,728)
(247,417)
(261,430)
0
0
$(1,021,693)
$ (813,497)
$
$
0
(332,969)
$(1,354,662)
0
(813,497)
0
(1,021,693)
0
0
$ (813,497)
Weighted-average
assumptions used to
determine net periodic
benefit cost for years
ended December 31
Discount rate
Rate of compensation
increase
2005
5.75%
5.75%
4.50%
4.25%
A relatively small number of Board employees participate in the Civil Service Retirement System (CSRS) or
the Federal Employees' Retirement System (FERS).
These defined benefit plans are administered by the U.S.
Office of Personnel Management, which determines the
required employer contribution levels. The Board's contributions to these plans totaled $334,000 and $324,000 in
2006 and 2005, respectively. The Board has no liability
for future payments to retirees under these programs and
is not accountable for the assets of the plans.
Employees of the Board may also participate in the
Federal Reserve System's Thrift Plan. Board contributions to members' accounts are based upon a fixed
percentage of each member's basic contribution
and were $8,964,000 and $8,617,000 in 2006 and 2005,
respectively.
(6) ACCUMULATED POSTRETIREMENT BENEFITS
$ 1,354,662
$ 536,339
$
$ 278,252
546,854
Weighted-average
assumptions used to
determine benefit
obligation as of
December 31
Discount rate
Rate of compensation
increase
2006
5.75%
5.75%
4.50%
4.50%
Components of net
periodic benefit cost
Service cost—benefits
earned during the
$ 185,483
period
Interest cost on
projected benefit
45,004
obligation
Expected return
on plan assets
0
Amortization of
prior service cost ..
(14,013)
Amortization of
(gains)/losses
0
Amortization of initial
(asset)/obligation ..
0
Net periodic benefit
cost (credit)
$ 216,474
Additional information:
Increase in minimum
liability included in
other comprehensive
income
$
The following information provides disclosure requirements contained in Statement of Financial Accounting
Standards No. 106, Employers' Accounting for Postretirement Benefits Other Than Pensions.
The Board provides certain life insurance programs for
its active employees and retirees. Activity for 2006 and
2005 is summarized in the following table:
0
$
193,209
35,964
0
(14,013)
5,982
0
$
$
221,142
0
Change in benefit
obligation
Benefit obligation at
beginning of year .. $ 8,273,831
Service cost
230,567
Interest cost
470,256
Plan participants'
contributions
0
Plan amendments
0
Actuarial (gain)/loss . . . .
(603,500)
Benefits paid
(259,325)
Benefit obligation
atendofyear
$8,111,829
Change in plan assets
Fair value of plan
assets at beginning
of year
$
0
Actual return on
plan assets
0
Employer contribution ..
259,325
Plan participants'
contributions
0
Benefits paid
(259,325)
Fair value of plan
assets at end
of year
$
0
2005
$ 8,404,551
217,421
437,320
0
(196,970)
(304,006)
(284,485)
$ 8,273,831
$
0
0
284,485
0
(284,485)
$
0
310 93rd Annual Report, 2006
Reconciliation of
funded status
at end of year
Benefit obligations
Unrecognized net
actuarial
(gain)/loss
Unrecognized prior
service cost
Amount recognized
at end of year
Amounts recognized in
the financial statements
consist of:
Liability
Accrued benefit cost
Accumulated other
comprehensive
income
2005
$(8,111,829)
$(8,273,832)
0
Expected benefit
payments:
2007
2008
2009
2010
2011
2012-2016
(109,378)
$(8,111,829)
$(6,237,290)
$(8,111,829)
0
$
0
(6,237,290)
0
0
$(6,237,290)
(7) ACCUMULATED POSTEMPLOYMENT BENEFIT PLAN
The following information provides disclosure requirements contained in Statement of Financial Accounting
Standards No. 112, Employers' Accounting for Postemployment Benefits.
The Board provides certain postemployment benefits
to eligible former or inactive employees and their dependents during the period subsequent to employment but
prior to retirement. Costs were projected using the same
discount rates as were used for projecting postretirement
costs. The accrued postemployment benefit costs recognized by the Board for the years ended December 31,
2006 and 2005, were $1,963,000 and $155,800,
respectively.
(8) ACCUMULATED OTHER COMPREHENSIVE INCOME
Following is a reconciliation of beginning and ending
balances of accumulated other comprehensive income.
$1,422,398
$
0
0
0
0
$
0
$
0
274,901
$ 274,901
$ 296,030
$ 325,793
$ 350,050
$ 364,265
$ 2,132,108
The liability and costs for the postretirement benefit
plan were determined using discount rates of 5.75 percent
as of December 31, 2006 and 2005. Unrecognized losses
of $2,145,920 as of December 31, 2005 result from
changes in the discount rate used to measure the liabilities. The assumed salary trend rate for measuring the
increase in postretirement benefits related to life insurance was an average of 4.50 percent.
The above accumulated postretirement benefit obligation is related to the Board-sponsored life insurance programs. The Board has no liability for future payments to
employees who continue coverage under the federally
sponsored life and health programs upon retiring. Contri-
Amount related
Amount related to postretirement
to defined benefit benefits other
than pensions
retirement plans
0
(99,560)
$1,322,838
Expected cashflows
Expected employer
contributions:
2007
2,145,920
0
Net amount recognized.. $(8,111,829)
Amounts recognized in
accumulated other
comprehensive income
consist of:
Net actuarial loss/
(gain)
Prior service cost/
(credit)
Transition obligation/
(asset)
Deferred curtailment
(gain)/loss
butions for active employees participating in federally
sponsored health programs totaled $9,607,000 and
$8,933,000 in 2006 and 2005, respectively.
2006
Balance
January 1,
2006
Adjustment to
initially apply
Statement
No. 158
Balance
December 31,
2006
$(1,021,693)
$(6,788,992)
(332,969)
(1,322,837)
$(1,354,662)
$(8,111,829)
Total accumulated
other comprehensive income (loss)
Balance
January 1,
2006
Adjustment to
initially apply
Statement
No. 158
Balance
December 31,
2006
$(7,810,685)
(1,655,806)
$(9,466,491)
Additional detail regarding the classification of accumulated other comprehensive income is included in
note 6.
(9) OTHER REVENUES AND OTHER EXPENSES
The following are summaries of the components of
Other Revenues and Other Expenses.
Board of Governors Financial Statements 311
For the years ended
December 31,
2006
2005
Other revenues
Data processing
revenue
Rent
Subscription
revenue
Reimbursable
services to
other agencies . . .
conferences
Miscellaneous
Total other
revenues
Other expenses
Tuition, registration,
and membership
fees
Contingency
operations
Public transportation
subsidy
Subsidies and
contributions
Meals and
representation ...
Equipment and
facilities rental...
Administrative
law judges
Security
investigations
Former employee
related
payments
Miscellaneous
Total other
expenses
$4,180,692
2,450,576
$3,788,217
2,433,833
716,294
782,743
599,827
664,755
0
561,560
250,650
600,144
$8,508,949
$8,520,342
$2,676,871
$2,573,028
1,087,429
956,476
988,950
872,467
706,497
656,150
529,557
518,640
393,122
336,342
105,587
268,228
236,448
184,880
19,296
691,309
319,461
800,486
$7,435,067
$7,486,158
(10) COMMITMENTS AND CONTINGENCIES
Leases
The Board has entered into several operating leases to
secure office, training, and warehouse space for remaining periods ranging from one to four years. Minimum
annual payments under the operating leases having an
initial or remaining noncancelable lease term in excess of
one year at December 31, 2006, are as follows:
2007
2008
2009
2010
2011
$
176,807
183,880
191,235
198,884
84,218
$
835,024
Rental expenses under the operating leases were
$193,000 in 2006 and $157,000 in 2005.
Commitments
The Board has entered into an agreement with the
Federal Deposit Insurance Corporation and the Office of
the Comptroller of the Currency, through the Federal
Financial Institutions Examination Council (the "Council") to fund a portion of enhancements and maintenance
fees for a central data repository project through 2013.
Estimated Board expense to support this effort is $7.5 million.
Litigation
The Board is subject to contingent liabilities which
include litigation cases. These contingent liabilities arise
in the normal course of operations and their ultimate
disposition is unknown. Based on information currently
available to management, it is management's opinion that
the expected outcome of these matters, individually or in
the aggregate, will not have a materially adverse effect on
the financial statements. Management believes the Board
has substantial defenses and that the likelihood of an
adverse judgement is remote.
One action currently pending in U.S. District Court for
the District of Columbia alleges discrimination on behalf
of a class of African American secretaries at the Board
under Title VII of the Civil Rights Act of 1964, as
amended. On January 31, 2007, the action was dismissed
for failure to exhaust administrative remedies. The plaintiffs have moved to alter or amend judgment on this
ruling; that motion is pending. Should the case be reinstated either as a result of the pending motion or following appeal, the Board believes it has substantial defenses
and intends to defend the case vigorously.
Four additional actions are pending in the United States
District Court for the District of Columbia under Title VII
of the Civil Rights Act of 1964, as amended and/or the
Age Discrimination in Employment Act. All four are
believed to be without merit and are being vigorously
contested.
Five additional matters alleging employment discrimination are currently pending administrative resolution.
One case is related to, and likely will be joined with, a
case currently pending in district court. In that and another case there has not yet been an investigative report.
Therefore, management is unable at this time to determine the potential for a materially adverse effect on the
financial statements. Management believes that the likelihood of an unfavorable outcome in the remaining three
cases is remote.
(11) FEDERAL FINANCIAL INSTITUTIONS
EXAMINATION COUNCIL
The Board is one of the five member agencies of
the Council, and currently performs certain management
functions for the Council. The five agencies which are
represented on the Council are the Board, Federal Deposit
Insurance Corporation, National Credit Union Administration, Office of the Comptroller of the Currency, and
Office of Thrift Supervision. The Board's financial statements do not include financial data for the Council.
Activity related to the Board and Council for 2006 and
2005 is summarized in the following table:
312 93rd Annual Report, 2006
2006
Board paid to the
Council:
Assessments for
operating expenses
of the Council
Central Data
Repository
Uniform Bank
Performance
Report
Total Board
paid to the
Council
Council paid to the
Board:
Data processing
related services . . . .
Administrative
services
Total Council
paid to the
Board
Accounts receivable
due from the
Council
Accounts payable
due to the
Council
$
109,760
2005
$
83,811
740,003
1,096,062
204,617
202,666
$1,054,380
$1,382,539
$3,429,499
$3,572,816
183,000
175,000
$3,612,499
$3,747,816
$ 395,551
$ 277,589
$
$ 104,864
54,870
2006
Board paid to the
Reserve Banks:
Assessments for
employee benefits ..
Data processing and
communication
Contingency site
Total Board paid
to the Reserve
Banks
Reserve Banks paid
to the Board:
Assessments for
currency costs
Assessments for
operating expenses
of the Board
Data processing
Total Reserve Banks
paid to the
Board
Accounts receivable
due from Federal
Reserve Banks
Accounts payable
due to Federal
Reserve Banks
(13)
(12)
FEDERAL RESERVE BANKS
The Board performs certain functions for the Reserve
Banks in conjunction with its responsibilities for the
Federal Reserve System, and the Federal Reserve Banks
provide certain administrative functions to the Board.
Activity related to the Board and Reserve Banks for 2006
and 2005 is summarized in the following table:
$
2005
2,380,474 $ 2,072,595
2,161,298
1,087,429
$
2,106,850
956,476
5,629,201 $ 5,135,921
$491,962,202 $477,087,471
301,013,500
731,999
265,742,100
516,433
$793,707,701 $743,346,004
$
854,142 $
145,142
$
12,417 $
0
NONCASH FINANCING ACTIVITIES
In 2005, the Board billed a federal government agency
$1,096,557 for rent and leasehold improvements. In 2006,
the federal government agency provided equipment, software, and services valued at $392,301 to the Board and
paid the balance of $704,256 in 2006. In 2006, the Board
billed the same agency $143,772 for rent, and the agency
provided telecommunication equipment and services valued at $124,720 to the Board and paid the balance of
$19,052 in 2006.
Board of Governors Financial Statements 313
KPMGLLP
2001 M Street NW
Washington, DC 20036
Independent Auditors' Report on Internal Control over Financial Reporting
To the Board of Governors of the Federal Reserve System:
We have audited the balance sheets of the Board of Governors of the Federal Reserve System (the Board)
as of December 31, 2006 and 2005, and the related statements of revenues and expenses and changes in
cumulative results of operations, and cash flows (hereinafter referred to as "financial statements") for the
years then ended, and have issued our report thereon dated April 17,2007.
We conducted our audits in accordance with auditing standards generally accepted in the United States of
America and the standards applicable to financial audits contained in Government Auditing Standards,
issued by the Comptroller General of the United States. Those standards require that we plan and perform
the audits to obtain reasonable assurance about whether the financial statements are free of material
misstatement.
The management of the Board is responsible for establishing and maintaining effective internal control. In
planning and performing our 2006 audit, we considered the Board's internal control over financial
reporting as a basis for designing our auditing procedures for the purpose of expressing our opinion on the
financial statements. We limited our internal control testing to those controls necessary to achieve the
objectives described in Government Auditing Standards. The objective of our audit was not to express an
opinion on the effectiveness of the Board's internal control over financial reporting. Accordingly, we do
not express an opinion on the effectiveness of the Board's internal control over financial reporting.
A control deficiency exists when the design or operation of a control does not allow management or
employees, in the normal course of performing their assigned functions, to prevent or detect misstatements
on a timely basis. A significant deficiency is a control deficiency, or combination of control deficiencies,
that adversely affects the Board's ability to initiate, authorize, record, process, or report financial data
reliably in accordance with generally accepted accounting principles such that there is more than a remote
likelihood that a misstatement of the Board's financial statements that is more than inconsequential will not
be prevented or detected by the entity's internal control.
A material weakness is a significant deficiency, or combination of significant deficiencies, that results in
more than a remote likelihood that a material misstatement of the financial statements will not be prevented
or detected by the Board's internal control.
Our consideration of internal control over financial reporting was for the limited purpose described in the
third paragraph above and would not necessarily identify all deficiencies in internal control that might be
significant deficiencies or material weaknesses.
In our 2006 audit, we noted a matter described in Exhibit I involving internal control over financial
reporting that we consider to be a significant deficiency. We believe that this significant deficiency is not a
material weakness. Exhibit II presents the status of the prior year finding.
314 93rd Annual Report, 2006
The Board's response to the findings identified in our audit is presented in the Exhibit I. We did not audit
the Board's response and, accordingly, we express no opinion on it
We noted certain additional matters that we have reported to the management of the Board in a separate
letter dated April 17,2007.
This report is intended solely for the information and use of the Board's management, the Office of
Inspector General, the U.S. Government Accountability Office, and the U.S. Congress and is not intended
to be and should not be used by anyone other than these specified parties.
April 17,2007
Board of Governors Financial Statements 315
Exhibit I
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
Significant Deficiency
December 31, 2006
Improvement is needed in Internal Controls over Financial Reporting
Recording Accounts Payable, Accrued Liabilities, and Prepaid Expenses
Management is responsible for developing
and maintaining effective internal controls to
provide reasonable assurance that the Board
has the ability to initiate, authorize, record,
process, and report financial data reliably in
accordance with generally accepted accounting principles. Internal controls help ensure
that reliable and timely information is obtained, maintained, reported, and used for
decision making.
Appropriate internal controls should be
integrated into each policy and procedure
established by the Board to direct and guide
its operations. Monitoring the effectiveness
of internal controls should occur in the normal course of business throughout the year.
Periodic reviews, reconciliations, or comparisons of data should be included as part of
staffs regularly assigned duties. In addition,
periodic assessments should be integrated
into management's continuous monitoring of
internal controls to help provide assurance
that weaknesses in the design or operation of
internal control, which could adversely affect the Board's ability to meet its financial
reporting objectives, are prevented or detected in a timely manner.
Board management is committed to improving its internal control environment as
demonstrated by its ability to resolve prior
year findings.
The following paragraphs discuss weaknesses noted in the Board's internal control
over financial reporting that could adversely
affect the Board's ability to produce accurate
and timely financial statements. None of
these deficiencies individually would be considered a significant deficiency. However,
the combination of these deficiencies is considered to be a significant deficiency.
During 2006, the Management Division
identified and processed transactions and
journal entries to reclassify/and or correct
several transactions that were initially coded
to a different general ledger account or recorded in a different accounting period. We
noted that the original transactions were initially reviewed and approved by a supervisor,
and all the required changes were not identified during this initial review as follows.
• Two disbursements totaling $11,230, of the
115 disbursement transactions tested totaling $18,473,927, were initially recorded in
different general ledger accounts or were
2007 transactions that were recorded as
2006 transactions. One transaction for
$5,980 was identified and adjusted during
management's review prior to year end,
and one transaction for $5,250 was corrected as a post closing entry.
• Two accounts payable transactions totaling
$45,709, of the 21 accounts payable invoices tested totaling $2,969,595, were received in 2006 for services to be provided
in 2007. These were initially recorded as
accounts payable in 2006. Both transactions were corrected as a post closing entry.
• One prepaid expense totaling $11,927, of
the 19 prepaid expenses tested totaling
$1,758,579, was a 2007 invoice that was
paid in 2006 and was initially recorded as
2006 expense. This was subsequently identified and adjusted during management's
review prior to year end.
We commend the Board for identifying most
of these entries prior to year end. However,
the Board should strengthen its procedures
for posting and reviewing all entries to ensure initial posting to the proper accounts and
accounting period.
316 93rd Annual Report, 2006
Posting Accrued Annual Leave
We noted that the annual leave accrual was
overstated by $301,600 at December 31,
2006, because the annual leave report did not
reflect the proper year end information for all
employees. The Board subsequently recorded
a post closing entry to reflect the appropriate
amounts.
Billing of Accounts Receivable
We noted that the Board did not record a
year-end receivable from the Bank for International Settlements (BIS) for $157,317 representing services performed in 2006. Although the invoice for the 2006 services was
not finalized, recorded, and submitted until
2007, this amount should have been recorded
as a receivable at December 31, 2006. As a
result of our audit, the Board recorded a post
closing entry for this amount.
Monitoring Miscellaneous Receivables
During our audit, we noted that the Board
does not have specific policies and procedures for monitoring miscellaneous receivables related to relocation expenses to determine if amounts are considered collectible
and appropriately recorded. As a result of our
audit, the Board recorded post closing entries
to write off three accounts receivables
amounting to $105,599 for relocation expenses that were not considered collectible.
Recording Property Transactions
During our audit of property and equipment,
we noted that the Board inappropriately processed property and equipment additions and
adjustments as follows.
• Two assets purchased for $113,016 in 2006
were recorded at an acquisition value of
$109,259. As a result, the asset was overstated by $3,757.
• Three assets valued at $329,375 were put
into service with the incorrect in-service
dates. As a result, the 2006 depreciation
expense was overstated by $25,700.
• One asset was placed in service on March
1, 2006 for $811,756, but did not have any
depreciation recorded in 2006. As a result,
the Board's depreciation expense was understated by $20,294.
• Three adjustments related to 22 assets acquired via trade-in were overstated on the
depreciation schedule in 2005. As a result,
depreciation for 2005 was overstated by
$27,294 and correspondingly understated
by the same amount in 2006.
During our physical inspection test work of
property and equipment, we noted that one of
the 22 items inspected, valued at $76,744,
was included on the asset listing for the
Board's contingency site, although it was
physically located in the Board's Washington, DC, facility. Our inspection also found
that the asset tag number for one item valued
at $7,042 was not identified in the Board's
financial system.
Recording Financial Statement Disclosures
During our audit, we noted instances where
the Board needs to improve its preparation
and review process for the financial statements as follows.
• Assets traded in for other assets were incorrectly recorded as Proceeds from Disposals
and Capital Expenditures in the Statement
of Cash Flows. The entries, totaling
$159,519, represent non-cash transactions
and should not have been included in the
Proceeds from Disposals or the Capital
Expenditures sections of the Statement of
Cash Flows.
• In Footnote 4, Property and Equipment,
Construction in Process was initially reported as zero, and in the corresponding
roll-forward schedule, the balance was
$360,966.
• In Footnote 7, Accumulated Postemployment Benefit Plan, the Board initially understated the accrued postemployment benefits costs for FY2006. The Board
originally reported $1,828,000. However,
this amount did not reflect the external
actuary's revised calculation, which resulted in an upward adjustment of
$134,000.
The Board subsequently made all necessary
adjustments in the financial statements.
Recommendations
To strengthen internal controls over financial
reporting, we recommend that the Board:
Board of Governors Financial Statements 317
Strengthen the control process over the
initial input and review of disbursement
transactions to ensure that they are properly coded and recorded in the general
ledger. We also recommend that management conduct periodic training for all relevant personnel, including end users, to
help ensure the proper use of general ledger accounts.
Enhance the process for determining the
accrued annual leave to ensure that the
reports generated include the appropriate
amounts as of the end of the reporting
period. The process should include matching a selection of employees' leave balances and other information included in the
report to data in the Board's Human Resources system.
Implement policies and procedures that require the calculation and reconciliation of
amounts due from BIS on a regular basis.
Once amounts due are determined, the applicable adjustments should be promptly
recorded in the general ledger.
Enhance its policies and procedures to include a documented periodic review and
analysis of all accounts receivables, to determine if an allowance is required or if the
amounts should be written off. Further, management should also review the accounting
treatment required for all transactions.
Strengthen its policies and procedures to
improve communication between the divisions and the accounting staff to ensure the
appropriate accounting entries for property
transactions are recorded timely in the general ledger. The communications should
include, but not be limited to: when the
asset was placed in service, the cost of the
asset, the asset's location and tag number,
and any additional information necessary
for the accounting division to make the
appropriate entries. The Board should also
enhance its review and approval procedures over property transactions to ensure
that the appropriate entries have been
recorded.
• Strengthen its process over the preparation
and review of the financial statements to
ensure information is accurately reported.
Management's Response
KPMG offers six recommendations aimed at
strengthening the Board's internal controls
over financial reporting. In its discussion of
these recommendations and the supporting
audit findings, KPMG does not consider any
individual finding to be a significant deficiency. In combination, however, KPMG
concludes that the audit findings represent a
significant deficiency. While management
does not concur with this conclusion, we do
agree that KPMG's recommendations will
strengthen the Board's system of internal
controls, and we will implement the recommended actions.
318
93 rd Annual Report, 2006
Exhibit II
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
STATUS OF PRIOR YEAR REPORTABLE CONDITION
December 31, 2006
Reported Issue
Prior Year Recommendation
2006 Status
Improvement is needed in Internal Control over Financial Reporting
Control over accounts
payable and accrued
liabilities
1. Establish policies and procedures for processing year-end accounts payables and accruals to
include the requirements for management to
review and approve all entries and supporting
documents before they are recorded. Management should also perform a review of the yearend accounts payable listings and subsequent
disbursements to ensure that the transactions
reported at year end are appropriately stated.
Further, a reconciliation of the GS A account
should be performed timely, to identify any
discrepancies on the invoices received.
Control of Census Data 2. Confirm the data used by the actuary in the
pension liability calculation prior to recording
the entries in the general ledger.
Significant Deficiency
(see revised comment in
Exhibit I).
Completed.
3. Implement recommendations made by the OIG Substantially resolved.
See revised comment in
in their report titled "Evaluation of Service
the 2006 management
Credit Computations." This would include
performing periodic reconciliations of the cen- letter.
sus data between the Board's system and the
data used by the actuary; reducing or eliminating the number of data transcriptions; requiring
automated verifications for all census data
transmissions; and updating the existing service credit form to clearly document all prior
government service.
Board of Governors Financial Statements 319
KPMGLLP
2001 M Street, NW
Washington, DC 20036
Independent Auditors' Report on Compliance and Other Matters
To the Board of Governors of the Federal Reserve System:
We have audited the balance sheets of the Board of Governors of the Federal Reserve System (the Board)
as of December 31, 2006 and 2005, and the related statements of revenues and expenses and changes in
cumulative results of operations, and cash flows (hereinafter referred to as "financial statements") for the
years then ended, and have issued our report thereon dated April 17,2007.
We conducted our audits in accordance with auditing standards generally accepted in the United States of
America and the standards applicable to financial audits contained in Government Auditing Standards,
issued by the Comptroller General of the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements are free of material
misstatement.
The management of the Board is responsible for complying with laws, regulations, and contracts applicable
to the Board. As part of obtaining reasonable assurance about whether the Board's financial statements are
free of material misstatement, we performed tests of the Board's compliance with certain provisions of
laws, regulations, and contracts, noncompliance with which could have a direct and material effect on the
determination of the financial statement amounts. We limited our tests of compliance to the provisions
described in the preceding sentence, and we did not test compliance with all laws, regulations, and
contracts applicable to the Board. However, providing an opinion on compliance with those provisions was
not an objective of our audit, and accordingly, we do not express such an opinion.
The results of our tests of compliance described in the preceding paragraph, disclosed no instances of
noncompliance or other matters that are required to be reported under Government Auditing Standards.
This report is intended solely for the information and use of the Board's management, the Office of
Inspector General, the U.S. Government Accountability Office, and the U.S. Congress and is not intended
to be and should not be used by anyone other than these specified parties.
April 17,2007
321
Federal Reserve Banks
Combined Financial Statements
The combined financial statements of the Federal Reserve Banks were audited
by PricewaterhouseCoopers LLP, independent auditors, for the years ended
December 31, 2006 and 2005.
i
REPORT OF INDEPENDENT AUDITORS
To the Board of Governors of the Federal Reserve System
and the Board of Directors of the Federal Reserve Banks:
We have audited the accompanying combined statements of condition of the
Federal Reserve Banks (the "Reserve Banks") as of December 31, 2006 and 2005,
and the related combined statements of income and changes in capital for the years
then ended, which have been prepared in conformity with the accounting principles, policies, and practices established by the Board of Governors of the Federal
Reserve System. These combined financial statements are the responsibility of the
Reserve Banks' management. Our responsibility is to express an opinion on these
combined financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the combined
financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As described in Note 3, these combined financial statements were prepared in
conformity with the accounting principles, policies, and practices established by
the Board of Governors of the Federal Reserve System. These principles, policies,
and practices, which were designed to meet the specialized accounting and
reporting needs of the Federal Reserve System, are set forth in the Financial
Accounting Manual for Federal Reserve Banks and constitute a comprehensive
basis of accounting other than accounting principles generally accepted in the
United States of America.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the combined financial position of the Reserve
Banks as of December 31, 2006 and 2005, and the combined results of their
operations for the years then ended, on the basis of accounting described in Note 3.
March 30, 2007
Washington, D.C.
322
93rd Annual Report, 2006
FEDERAL RESERVE BANKS
COMBINED STATEMENTS OF CONDITION
(in millions)
December 31,
ASSETS
Gold certificates
Special drawing rights certificates
Coin
Items in process of collection
Loans to depository institutions
Securities purchased under agreements to resell
U.S. government securities, net
Investments denominated in foreign currencies
Accrued interest receivable
Bank premises and equipment, net
Other assets
Totalassets
2006
2005
$ 11,037
2,200
801
3,486
67
40,750
783,619
20,482
6,761
2,376
1,785
$873,364
$ 11,039
2,200
686
5,930
72
46,750
750,202
18,928
5,874
2,252
3,394
$847,327
$783,019
29,615
$758,359
30,505
18,699
4,708
349
3,813
908
1,314
291
842,716
19,043
4,573
393
5,039
1,784
913
281
820,890
15,324
13,536
15,324
30,648
$873,364
12,901
26,437
$847,327
LIABILITIES AND CAPITAL
LIABILITIES
Federal Reserve notes outstanding, net
Securities sold under agreements to
Deposits
Depository institutions
U.S. Treasury, general account
Other deposits
Deferred credit items
Interest on Federal Reserve notes due to U.S. Treasury
Accrued benefit costs
Other liabilities
Total liabilities
repurchase
CAPITAL
Capital paid-in
Surplus (including accumulated other comprehensive loss
of $1,849 million at December 31, 2006)
Total capital
Total liabilities and capital
The accompanying notes are an integral part of these combined financial statements.
Federal Reserve Banks Combined Financial Statements 323
FEDERAL RESERVE BANKS
COMBINED STATEMENTS OF INCOME
(in millions)
For the years ended
December 31,
Interest income
Interest on U.S. government securities
Interest on investments denominated in foreign currencies
Interest on loans to depository institutions
Total interest income
Interest expense
Interest expense on securities sold under agreements to repurchase
Net interest income
2006
2005
$36,452
369
12
36,833
$28,959
283
7
29,249
1,342
35,491
809
28,440
Other operating income (loss)
Income from services
Reimbursable services to government agencies
Foreign currency gains (losses), net
Other income
Total other operating income (loss)
908
426
1,186
144
2,664
901
396
(2,723)
131
(1,295)
Operating expenses
Salaries and other benefits
Occupancy expense
Equipment expense
Assessments by the Board of Governors
Other expenses
1,880
240
212
793
835
1,709
228
198
743
747
Total operating expenses
3,960
3,625
Net income prior to distribution
$34,195
$23,520
$
$
Distribution of net income
Dividends paid to member banks
Transferred to surplus
Payments to U.S. Treasury as interest on Federal Reserve notes
Total distribution
871
4,272
29,052
$34,195
The accompanying notes are an integral part of these combined financial statements.
781
1,271
21,468
$23,520
324
93rd Annual Report, 2006
FEDERAL RESERVE BANKS
COMBINED STATEMENTS OF CHANGES IN CAPITAL
for the years ended December 31, 2006 and 2005
(in millions)
Surplus
Balance at January 1, 2005
(238 million shares)
Net change in capital stock issued
(32 million shares)
Transferred to surplus
Balance at December 31, 2005
(270 million shares)
Net change in capital stock issued
(36 million shares)
Transferred to surplus
Adjustment to initially apply
FASB Statement No. 158
Balance at December 31, 2006
(306 million shares)
Capital
paid-in
Net
income
retained
Accumulated
other
comprehensive
loss
Total
surplus
Total
capital
$11,914
$11,630
$
$11,630
$23,544
1,271
1,622
1,271
$12,901
$26,437
4,272
1,788
4,272
(1,849)
(1,849)
...
1,622
V,271
$13,536
$12,901
$
...
1,788
4,272
(1,849)
$15,324
$17,173
$
(1,849)
$15,324
$30,648
The accompanying notes are an integral part of these combined financial statements.
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS
(1) STRUCTURE
The twelve Federal Reserve Banks ("Reserve Banks") are
part of the Federal Reserve System ("System") created by
Congress under the Federal Reserve Act of 1913 ("Federal Reserve Act"), which established the central bank of
the United States. The Reserve Banks are chartered by the
federal government and possess a unique set of governmental, corporate, and central bank characteristics.
In accordance with the Federal Reserve Act, supervision and control of each Reserve Bank are exercised by a
board of directors. The Federal Reserve Act specifies the
composition of the board of directors for each of the
Reserve Banks. Each board is composed of nine members
serving three-year terms: three directors, including those
designated as chairman and deputy chairman, are appointed by the Board of Governors of the Federal Reserve
System ("Board of Governors") to represent the public,
and six directors are elected by member banks. Banks that
are members of the System include all national banks and
any state-chartered banks that apply and are approved for
membership in the System. Member banks are divided
into three classes according to size. Member banks in
each class elect one director representing member banks
and one representing the public. In any election of directors, each member bank receives one vote, regardless of
the number of shares of Reserve Bank stock it holds.
The System also consists, in part, of the Board of
Governors and the Federal Open Market Committee
("FOMC"). The Board of Governors, an independent
federal agency, is charged by the Federal Reserve Act
with a number of specific duties, including general supervision over the Reserve Banks. The FOMC is composed
of members of the Board of Governors, the president of
the Federal Reserve Bank of New York ("FRBNY"), and
on a rotating basis four other Reserve Bank presidents.
(2) OPERATIONS AND SERVICES
The Reserve Banks perform a variety of services and
operations. Functions include participation in formulating
and conducting monetary policy; participation in the payments system including large-dollar transfers of funds,
automated clearinghouse ("ACH") operations, and check
collection; distribution of coin and currency; performance
of fiscal agency functions for the U.S. Treasury, certain
federal agencies, and other entities; serving as the federal
government's bank; provision of short-term loans to
depository institutions; service to the consumer and the
community by providing educational materials and information regarding consumer laws; and supervision of bank
holding companies, state member banks, and U.S. offices
of foreign banking organizations. The Reserve Banks also
provide certain services to foreign central banks, governments, and international official institutions.
The FOMC, in the conduct of monetary policy, establishes policy regarding domestic open market operations,
oversees these operations, and annually issues authorizations and directives to the FRBNY for its execution of
transactions. The FRBNY is authorized and directed by
the FOMC to conduct operations in domestic markets,
including the direct purchase and sale of U.S. government
securities, the purchase of securities under agreements to
resell, the sale of securities under agreements to repurchase, and the lending of U.S. government securities. The
FRBNY executes these open market transactions at the
direction of the FOMC and holds the resulting securities,
with the exception of securities purchased under agree-
Federal Reserve Banks Combined Financial Statements 325
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
ments to resell, in the portfolio known as the System
Open Market Account ("SOMA").
In addition to authorizing and directing operations in
the domestic securities market, the FOMC authorizes and
directs the FRBNY to execute operations in foreign markets for major currencies in order to counter disorderly
conditions in exchange markets or to meet other needs
specified by the FOMC in carrying out the System's
central bank responsibilities. The FRBNY is authorized
by the FOMC to hold balances of, and to execute spot and
forward foreign exchange ("FX") and securities contracts
for, nine foreign currencies and to invest such foreign
currency holdings ensuring adequate liquidity is maintained. The FRBNY is authorized and directed by the
FOMC to maintain reciprocal currency arrangements
("FX swaps") with two central banks, and "warehouse"
foreign currencies for the U.S. Treasury and Exchange
Stabilization Fund ("ESF') through the Reserve Banks.
In connection with its foreign currency activities, the
FRBNY may enter into transactions that contain varying
degrees of off-balance-sheet market risk that results from
their future settlement and counter-party credit risk. The
FRBNY controls credit risk by obtaining credit approvals, establishing transaction limits, and performing daily
monitoring procedures.
Although the Reserve Banks are separate legal entities,
in the interests of greater efficiency and effectiveness they
collaborate in the delivery of certain operations and services. The collaboration takes the form of centralized
operations and product or service offices that have responsibility for the delivery of certain services on behalf of the
Reserve Banks. Various operational and management
models are used and are supported by service agreements
between the Reserve Bank providing the service and the
other eleven Reserve Banks. In some cases, costs incurred
by a Reserve Bank for services provided to other Reserve
Banks are not shared; in other cases, the Reserve Banks
are billed for services provided to them by another
Reserve Bank.
During 2005, the Federal Reserve Bank of Atlanta
("FRBA") was assigned the overall responsibility for
managing the Reserve Banks' provision of check services
to depository institutions and, as a result, recognizes total
System check revenue on its Statements of Income. Because the other eleven Reserve Banks incur costs to
provide check services, a policy was adopted by the
Reserve Banks in 2005 that required that the FRBA
compensate the other Reserve Banks for costs incurred to
provide check services. In 2006 this policy was extended
to the ACH services, which are managed by the FRBA, as
well as to Fedwire funds transfer and securities transfer
services, which are managed by the FRBNY. The FRBA
and the FRBNY compensate the other Reserve Banks for
the costs incurred to provide these services.
(3) SIGNIFICANT ACCOUNTING POLICIES
Accounting principles for entities with the unique powers
and responsibilities of the nation's central bank have not
been formulated by various accounting standard-setting
bodies. The Board of Governors has developed specialized accounting principles and practices that it considers
to be appropriate for the nature and function of a central
bank, which differ significantly from those of the private
sector. These accounting principles and practices are
documented in the Financial Accounting Manual for
Federal Reserve Banks ("Financial Accounting Manual"),
which is issued by the Board of Governors. All of the
Reserve Banks are required to adopt and apply accounting policies and practices that are consistent with the
Financial Accounting Manual and the financial statements have been prepared in accordance with the Financial Accounting Manual.
Differences exist between the accounting principles
and practices in the Financial Accounting Manual and
generally accepted accounting principles in the United
States of America ("GAAP"), primarily due to the unique
nature of the Reserve Banks' powers and responsibilities
as part of the nation's central bank. The primary difference is the presentation of all securities holdings at
amortized cost, rather than using the fair value presentation required by GAAP. Amortized cost more appropriately reflects the Reserve Banks' securities holdings given
their unique responsibility to conduct monetary policy.
While the application of current market prices to the
securities holdings may result in values substantially
above or below their carrying values, these unrealized
changes in value would have no direct effect on the
quantity of reserves available to the banking system or on
the prospects for future Reserve Bank earnings or capital.
Both the domestic and foreign components of the SOMA
portfolio may involve transactions that result in gains or
losses when holdings are sold prior to maturity. Decisions
regarding securities and foreign currency transactions,
including their purchase and sale, are motivated by monetary policy objectives rather than profit. Accordingly,
market values, earnings, and any gains or losses resulting
from the sale of such securities and currencies are incidental to the open market operations and do not motivate
these activities or policy decisions.
In addition, the Board of Governors and the Reserve
Banks have elected not to present a Statement of Cash
Rows because the liquidity and cash position of the
Reserve Banks are not a primary concern given their
unique powers and responsibilities. A Statement of Cash
Rows, therefore, would not provide any additional meaningful information. Other information regarding the
Reserve Banks' activities is provided in, or may be
derived from, the Statements of Condition, Income, and
Changes in Capital. There are no other significant differences between the policies outlined in the Financial
Accounting Manual and GAAP.
The preparation of the financial statements in
conformity with the Financial Accounting Manual
requires management to make certain estimates and
assumptions that affect the reported amounts of assets
and liabilities, the disclosure of contingent assets and
liabilities at the date of the financial statements, and the
reported amounts of income and expenses during the
reporting period. Actual results could differ from those
estimates. Certain amounts relating to the prior year have
been reclassified to conform to the current-year presentation. Unique accounts and significant accounting policies
are explained below.
326
93rd Annual Report, 2006
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
(A) Gold and Special Drawing Rights Certificates
The Secretary of the U.S. Treasury is authorized to issue
gold and special drawing rights ("SDR") certificates to
the Reserve Banks.
Payment for the gold certificates by the Reserve Banks
is made by crediting equivalent amounts in dollars into
the account established for the U.S. Treasury. The gold
certificates held by the Reserve Banks are required to be
backed by the gold of the U.S. Treasury. The U.S. Treasury may reacquire the gold certificates at any time and
the Reserve Banks must deliver them to the U.S. Treasury. At such time, the U.S. Treasury's account is charged,
and the Reserve Banks' gold certificate accounts are
reduced. The value of gold for purposes of backing the
gold certificates is set by law at $42 2/9 a fine troy ounce.
The Board of Governors allocates the gold certificates
among Reserve Banks once a year based on the average
Federal Reserve notes outstanding in each Reserve Bank.
SDR certificates are issued by the International Monetary Fund ("Fund") to its members in proportion to each
member's quota in the Fund at the time of issuance. SDR
certificates serve as a supplement to international monetary reserves and may be transferred from one national
monetary authority to another. Under the law providing
for United States participation in the SDR system, the
Secretary of the U.S. Treasury is authorized to issue SDR
certificates, somewhat like gold certificates, to the
Reserve Banks. When SDR certificates are issued to the
Reserve Banks, equivalent amounts in dollars are credited
to the account established for the U.S. Treasury, and the
Reserve Banks' SDR certificate accounts are increased.
The Reserve Banks are required to purchase SDR certificates, at the direction of the U.S. Treasury, for the purpose
of financing SDR acquisitions or for financing exchange
stabilization operations. At the time SDR transactions
occur, the Board of Governors allocates SDR certificate
transactions among Reserve Banks based upon each
Reserve Bank's Federal Reserve notes outstanding at the
end of the preceding year. There were no SDR transactions in 2006 or 2005.
(B) Loans to Depository Institutions
Depository institutions that maintain reservable transaction accounts or nonpersonal time deposits, as defined in
regulations issued by the Board of Governors, have borrowing privileges at the discretion of each of the Reserve
Banks. Borrowers execute certain lending agreements and
deposit sufficient collateral before credit is extended.
Outstanding loans are evaluated for collectibility, and
currently all are considered collectible and fully collateralized. If loans were ever deemed to be uncollectible, an
appropriate reserve would be established. Interest is accrued using the applicable discount rate established at
least every fourteen days by the Board of Directors of the
Reserve Bank, subject to review and determination by the
Board of Governors.
(C) US. Government Securities and Investments
Denominated in Foreign Currencies
U.S. government securities and investments denominated
in foreign currencies comprising the SOMA are recorded
at cost, on a settlement-date basis, and adjusted for amortization of premiums or accretion of discounts on a
straight-line basis. Interest income is accrued on a
straight-line basis. Gains and losses resulting from sales
of securities are determined by specific issues based on
average cost. Foreign-currency-denominated assets are
revalued daily at current foreign currency market
exchange rates in order to report these assets in U.S.
dollars. Realized and unrealized gains and losses on
investments denominated in foreign currencies are reported as "Foreign currency gains (losses), net" in the
Statements of Income.
Activity related to U.S. government securities, including the premiums, discounts, and realized and unrealized
gains and losses, is allocated to each of the Reserve
Banks on a percentage basis derived from an annual
settlement of interdistrict clearings that occurs in April of
each year. The settlement equalizes Reserve Bank gold
certificate holdings to Federal Reserve notes outstanding
in each District. Activity related to investments denominated in foreign currencies is allocated to each Reserve
Bank based on the ratio of each Reserve Bank's capital
and surplus to aggregate capital and surplus at the preceding December 31.
(D) Securities Purchased under Agreements to Resell,
Securities Sold under Agreements to Repurchase,
and Securities Lending
The FRBNY may engage in tri-party purchases of securities under agreements to resell ("tri-party agreements").
Tri-party agreements are conducted with two commercial
custodial banks that manage the clearing and settlement
of collateral. Collateral is held in excess of the contract
amount. Acceptable collateral under tri-party agreements
primarily includes U.S. government securities, passthrough mortgage securities of the Government National
Mortgage Association, Federal Home Loan Mortgage
Corporation, and Federal National Mortgage Association,
STRIP securities of the U.S. Government, and "stripped"
securities of other government agencies. The tri-party
agreements are accounted for as financing transactions,
with the associated interest income accrued over the life
of the agreement.
Securities sold under agreements to repurchase are
accounted for as financing transactions and the associated
interest expense is recognized over the life of the transaction. These transactions are reported in the Statements of
Condition at their contractual amounts and the related
accrued interest payable is reported as a component of
"Other liabilities."
U.S. government securities held in the SOMA are lent
to U.S. government securities dealers in order to facilitate
the effective functioning of the domestic securities market. Securities-lending transactions are fully collateralized by other U.S. government securities and the collateral taken is in excess of the market value of the securities
loaned. The FRBNY charges the dealer a fee for borrowing securities and the fees are reported as a component of
"Other income."
Activity related to securities sold under agreements to
repurchase and securities lending is allocated to each of
the Reserve Banks on a percentage basis derived from the
Federal Reserve Banks Combined Financial Statements 327
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
annual settlement of interdistrict clearings. Securities purchased under agreements to resell are allocated to the
FRBNY and not to the other Reserve Banks.
(E) FX Swap Arrangements and Warehousing Agreements
FX swap arrangements are contractual agreements
between two parties, the FRBNY and an authorized foreign central bank, to exchange specified currencies, at a
specified price, on a specified date. The parties agree to
exchange their currencies up to a pre-arranged maximum
amount and for an agreed-upon period of time (up to
twelve months), at an agreed-upon interest rate. These
arrangements give the FOMC temporary access to the
foreign currencies it may need to intervene to support the
dollar and give the authorized foreign central bank temporary access to dollars it may need to support its own
currency. Drawings under the FX swap arrangements can
be initiated by either party acting as drawer, and must be
agreed to by the drawee party. The FX swap arrangements are structured so that the party initiating the transaction bears the exchange rate risk upon maturity. The
FRBNY will generally invest the foreign currency received under an FX swap arrangement in interest-bearing
instruments.
Warehousing is an arrangement under which the
FOMC agrees to exchange, at the request of the U.S.
Treasury, U.S. dollars for foreign currencies held by the
U.S. Treasury or ESF over a limited period of time. The
purpose of the warehousing facility is to supplement the
U.S. dollar resources of the U.S. Treasury and ESF for
financing purchases of foreign currencies and related
international operations.
FX swap arrangements and warehousing agreements
are revalued daily at current market exchange rates. Activity related to these agreements, with the exception of
the unrealized gains and losses resulting from the daily
revaluation, is allocated to each Reserve Bank based on
the ratio of each Reserve Bank's capital and surplus to
aggregate capital and surplus at the preceding December
31. Unrealized gains and losses resulting from the daily
revaluation are allocated to the FRBNY and not allocated
to the other Reserve Banks.
(F) Bank Premises, Equipment, and Software
Bank premises and equipment are stated at cost less
accumulated depreciation. Depreciation is calculated on a
straight-line basis over the estimated useful lives of the
assets, which range from two to fifty years. Major alterations, renovations, and improvements are capitalized at
cost as additions to the asset accounts and are depreciated
over the remaining useful life of the asset or, if appropriate, over the unique useful life of the alteration, renovation, or improvement. Maintenance, repairs, and minor
replacements are charged to operating expense in the year
incurred.
Costs incurred for software during the application development stage, either developed internally or acquired
for internal use, are capitalized based on the cost of direct
services and materials associated with designing, coding,
installing, or testing software. Capitalized software costs
are amortized on a straight-line basis over the estimated
useful lives of the software applications, which range
from two to five years. Maintenance costs related to
software are charged to expense in the year incurred.
Capitalized assets including software, buildings, leasehold improvements, furniture, and equipment are impaired when events or changes in circumstances indicate
that the carrying amount of assets or asset groups is not
recoverable and significantly exceeds their fair value.
(G) Federal Reserve Notes
Federal Reserve notes are the circulating currency of the
United States. These notes are issued through the various
Federal Reserve agents (the chairman of the board of
directors of each Reserve Bank and their designees) to the
Reserve Banks upon deposit with such agents of specified
classes of collateral, typically U.S. government securities.
These notes are identified as issued to a specific Reserve
Bank. The Federal Reserve Act provides that the collateral tendered by the Reserve Bank to the Federal Reserve
agent must be equal to the sum of the notes applied for by
such Reserve Bank.
Assets eligible to be pledged as collateral include all of
the Reserve Banks' assets. The collateral value is equal to
the book value of the collateral tendered, with the exception of securities, for which the collateral value is equal to
the par value of the securities tendered. The par value of
securities pledged for securities sold under agreements to
repurchase is deducted.
The Board of Governors may, at any time, call upon a
Reserve Bank for additional collateral for the Federal
Reserve notes. To satisfy the obligation to provide sufficient collateral for outstanding Federal Reserve notes, the
Reserve Banks have entered into an agreement that provides for certain assets of the Reserve Banks to be jointly
pledged as collateral for the Federal Reserve notes issued
to all Reserve Banks. In the event that this collateral is
insufficient, the Federal Reserve Act provides that Federal Reserve notes become a first and paramount lien on
all the assets of the Reserve Banks. Finally, Federal
Reserve notes are obligations of the United States and are
backed by the full faith and credit of the United States
government.
"Federal Reserve notes outstanding, net" in the Statements of Condition represents Federal Reserve notes
outstanding, reduced by the currency issued to the
Reserve Banks but not in circulation, of $175,661 million
and $148,152 million at December 31, 2006 and 2005,
respectively.
At December 31, 2006, all Federal Reserve notes were
fully collateralized. All gold certificates, all special drawing right certificates, and $769,782 million of domestic
securities and securities purchased under agreements to
resell were pledged as collateral. At December 31, 2006,
no loans or investments denominated in foreign currencies were pledged as collateral.
(H) Items in Process of Collection and
Deferred Credit Items
"Items in process of collection" in the Statements of
Condition primarily represents amounts attributable to
checks that have been deposited for collection and that, as
of the balance sheet date, have not yet been presented to
328
93rd Annual Report, 2006
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
the paying bank. "Deferred credit items" are the counterpart liability to "items in process of collection," and the
amounts in this account arise from deferring credit for
deposited items until the amounts are collected. The
balances in both accounts can vary significantly.
(I) Capital Paid-in
The Federal Reserve Act requires that each member bank
subscribe to the capital stock of the Reserve Banks in an
amount equal to 6 percent of the capital and surplus of the
member bank. These shares are nonvoting with a par
value of $100 and may not be transferred or hypothecated. As a member bank's capital and surplus changes,
its holdings of Reserve Bank stock must be adjusted.
Currently, only one-half of the subscription is paid-in and
the remainder is subject to call. By law, each Reserve
Bank is required to pay each member bank an annual
dividend of 6 percent on the paid-in capital stock. This
cumulative dividend is paid semiannually. A member
bank is liable for Reserve Bank liabilities up to twice the
par value of stock subscribed by it.
required due to these events exceeded the Bank's earnings in 2005.
(L) Income and Costs Related to U.S. Treasury Services
The Reserve Banks are required by the Federal Reserve
Act to serve as fiscal agents and depositories of the
United States. By statute, the Department of the Treasury
is permitted, but not required, to pay for these services.
(M) Assessments by the Board of Governors
The Board of Governors assesses the Reserve Banks to
fund its operations based on each Reserve Bank's capital
and surplus balances as of December 31 of the previous
year. The Board of Governors also assesses each Reserve
Bank for the expenses incurred for the U.S. Treasury to
issue and retire Federal Reserve notes based on each
Reserve Bank's share of the number of notes comprising
the System's net liability for Federal Reserve notes on
December 31 of the previous year.
(N) Taxes
(J) Surplus
The Board of Governors requires the Reserve Banks to
maintain a surplus equal to the amount of capital paid-in
as of December 31 of each year. This amount is intended
to provide additional capital and reduce the possibility
that the Reserve Banks would be required to call on
member banks for additional capital.
Accumulated other comprehensive income is treated as
a component of surplus in the Statements of Condition
and the Statements of Changes in Capital. The balance of
accumulated other comprehensive income is comprised
of expenses, gains, and losses related to defined benefit
pension plans and other postretirement benefit plans that
under accounting principles are included in comprehensive income but excluded from net income. Additional
information regarding the classifications of accumulated
other comprehensive income is provided in Notes 8, 9,
and 10.
(K) Interest on Federal Reserve Notes
The Board of Governors requires the Reserve Banks to
transfer excess earnings to the U.S. Treasury as interest
on Federal Reserve notes, after providing for the costs of
operations, payment of dividends, and reservation of an
amount necessary to equate surplus with capital paid-in.
This amount is reported as a component of "Payments to
US. Treasury as interest on Federal Reserve notes" in the
Statements of Income and is reported as a liability in the
Statements of Condition. Weekly payments to the U.S.
Treasury may vary significantly.
In the event of losses or an increase in capital paid-in at
a Reserve Bank, payments to the U.S. Treasury are suspended and earnings are retained until the surplus is equal
to the capital paid-in.
In the event of a decrease in capital paid-in, the excess
surplus, after equating capital paid-in and surplus at
December 31, is distributed to the U.S. Treasury in the
following year.
Due to die substantial increase in capital paid-in at one
Reserve Bank, surplus was no'-, equated to capital at
December 31, 2005. The amcw K of additional surplus
The Reserve Banks are exempt from federal, state, and
local taxes, except for taxes on real property and sales
taxes on certain construction projects. Real property taxes
were $33 million and $32 million for the years ended
December 31, 2006 and 2005, respectively, and are reported as a component of "Occupancy expense."
(O) Restructuring Charges
In 2003, the Reserve Banks began the restructuring of
several operations, primarily check, cash, and U.S. Treasury services. The restructuring included streamlining the
management and support structures, reducing staff, decreasing the number of processing locations, and increasing processing capacity in some locations. These restructuring activities continued in 2004 through 2006.
Note 11 describes the restructuring and provides information about the Reserve Banks' costs and liabilities
associated with employee separations and contract terminations. The costs associated with the impairment of
certain of the Reserve Banks' assets are discussed in Note
6. Costs and liabilities associated with enhanced pension
benefits in connection with the restructuring activities for
all of the Reserve Banks are recorded on the books of the
FRBNY as discussed in Note 8. Costs and liabilities
associated with enhanced post-retirement benefits are
discussed in Note 9.
(P) Implementation ofFASB Statement No. 158,
Employers' Accounting for Defined Benefit Pension
and Other Postretirement Plans
The Reserve Banks initially applied the provisions of
FASB Statement No. 158, Employers' Accounting for
Defined Benefit Pension and Other Postretirement Plans,
at December 31, 2006. This accounting standard requires
recognition of the overfunded or underfunded status of a
defined benefit postretirement plan in the Statements of
Condition, and recognition of changes in the funded
status in the years in which the changes occur through
comprehensive income. The transition rules for implementing the standard require applying the provisions as of
Federal Reserve Banks Combined Financial Statements 329
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
the end of the year of initial implementation with no
retrospective application. The incremental effects on the
line items in the Statement of Condition at December 31,
2006, were as follows (in millions):
Other Assets
Total assets
Before
Application of
Statement
158
Adjustments
After
Application of
Statement
158
$ 3,277
$874,856
$ (1,492)
$ (1,492)
$ 1,785
$873,364
Accrued benefit
957
costs
Total liabilities . $842,359
$
357
357
1,314
$842,716
Surplus
17,173
Total capital.... $ 32,497
(1,849)
$(1,849)
15,324
$ 30,648
(4) U.S. GOVERNMENT SECURITIES, SECURITIES
PURCHASED UNDER AGREEMENTS TO RESELL,
SECURITIES SOLD UNDER AGREEMENTS
TO REPURCHASE, AND SECURITIES LENDING
The FRBNY, on behalf of the Reserve Banks, holds
securities bought outright in the SOMA.
Total securities held in the SOMA at December 31,
were as follows (in millions):
2006
2005
Par value
U.S. government
Bills
Notes
Bonds
Total par value
$277,019
402,367
99,528
778,914
$271,270
380,118
92,827
744,215
Unamortized premiums
Unaccreted discounts
Total
8,708
(4,003)
$783,619
8,813
(2,826)
$750,202
At December 31, 2006 and 2005, the fair value of the
U.S. government securities held in the SOMA, excluding
accrued interest, was $795,900 million and $767,472
million, respectively, as determined by reference to
quoted prices for identical securities.
Although the fair value of security holdings can be
substantially greater or less than the carrying value at any
point in time, these unrealized gains or losses have no
effect on the ability of the Reserve Banks, as a central
bank, to meet its financial obligations and responsibilities, and should not be misunderstood as representing a
risk to the Reserve Banks, their shareholders, or the
public. The fair value is presented solely for informational purposes.
The maturity distribution of U.S. government securities
bought outright, securities purchased under agreements to
resell, and securities sold under agreements to repurchase,
that were held in the SOMA at December 31, 2006, was
as follows (in millions):
Securities
purchased
under
U.S.
agreegovernment ments to
securities
resell
(Par
(Contract
value)
amount)
Within 15 days .. . $ 40,588
16 days to 90 days . 180,893
91 days to 1 year . 185,132
Over 1 year to
5 years
. 224,177
Over 5 years to
10years . . . . .
67,645
Over 10 years . . . .
80,479
Total . . . $778,914
Securities
sold
under
agreements to
repurchase
(Contract
amount)
$40,750
$29,615
$40,750
$29,615
At December 31, 2006 and 2005, U.S. government
securities with par values of $6,855 million and $3,776
million, respectively, were loaned from the SOMA.
At December 31, 2006 and 2005, the total contract
amount of securities sold under agreements to repurchase
was $29,615 million and $30,505 million, respectively.
At December 31, 2006 and 2005, securities sold under
agreements to repurchase with a par value of $29,676
million and $30,559 million, respectively, were outstanding. The contract amount for securities sold under agreements to repurchase approximates fair value.
(5) INVESTMENTS DENOMINATED IN
FOREIGN CURRENCIES
The FRBNY, on behalf of the Reserve Banks, holds
foreign currency deposits with foreign central banks and
with the Bank for International Settlements and invests in
foreign government debt instruments. Foreign government debt instruments held include both securities bought
outright and securities purchased under agreements to
resell. These investments are guaranteed as to principal
and interest by the issuing foreign governments.
Total investments denominated in foreign currencies,
including accrued interest, and valued at current foreign
currency market exchange rates at December 31, were as
follows (in millions):
European Union euro
Foreign currency deposits
Securities purchased under
agreements to resell
Government debt instruments
Japanese yen
Foreign currency deposits
Government debt instruments ..
Total
2006
2005
$ 6,242
$ 5,424
2,214
4,074
1,928
3,561
2,601
5,351
2,618
5,397
$20,482
$18,928
At December 31, 2006 and 2005, the fair value of the
total System investments denominated in foreign currencies, including accrued interest, was $20,434 million and
$18,965 million, respectively. The fair value of government debt instruments was determined by reference to
330 93rd Annual Report, 2006
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
quoted prices for identical securities. The cost basis of
foreign currency deposits and securities purchased under
agreements to resell, adjusted for accrued interest, approximates fair value. Similar to the U.S. government
securities discussed in Note 4, unrealized gains or losses
have no effect on the ability of a Reserve Bank, as a
central bank, to meet its financial obligations and responsibilities.
The maturity distribution of investments denominated
in foreign currencies at December 31, 2006, was as
follows (in millions):
European Japanese
euro
yen
Withinl5days
16 days to 90 days
91 days to 1 year
Over 1 year to 5 years
Over 5 years to 10 years
Over 10 years
$4,359
2,378
2,442
3,351
Total
Total
. . .
$2,601
1,208
2,213
1,930
...
. . .
$6,960
3,586
4,655
5,281
...
. . .
$12,530
$7,952
$20,482
At December 31, 2006 and 2005, there were no material open foreign exchange contracts.
At December 31,2006 and 2005, the warehousing facility was $5,000 million, with no balance outstanding.
(6) BANK PREMISES, EQUIPMENT, AND SOFTWARE
A summary of bank premises and equipment at December 31 is as follows (in millions):
2006
2005
Bank premises and
equipment
Land
$ 306
$ 295
Buildings
1,817
1,787
Building machinery and
equipment
393
387
Construction in progress
220
86
Furniture and equipment
1,156
1,162
3,892
3,717
Accumulated depreciation
Subtotal
(1,516)
(1,465)
Bank premises and equipment,
net
$2,376
$2,252
Depreciation expense, for the
year ended
December 31
2005
$12
_(6)
$10
(5)
Leased premises and equipment
under capital leases, net
$_6
$_5
Certain of the Reserve Banks lease space to outside
tenants with remaining lease terms ranging from one to
fourteen years. Rental income from such leases was $25
million and $23 million for the years ended December 31,
2006 and 2005, respectively, and is reported as a component of "Other income." Future minimum lease payments
that the Bank will receive under noncancelable lease
agreements in existence at December 31, 2006, are as
follows (in millions):
2007
2008
2009
2010
2011
Thereafter .
Total
$ 23
23
22
21
18
70
$177
The Reserve Banks have capitalized software assets,
net of amortization, of $155 million and $162 million at
December 31, 2006 and 2005, respectively. Amortization
expense was $66 million and $55 million for the years
ended December 31, 2006 and 2005, respectively. Capitalized software assets are reported as a component of
"Other assets" and the related amortization is reported as
a component of "Other expenses."
Several of the Reserve Banks have impaired assets as a
result of the System's restructuring plan, as discussed in
Note 11. Impaired assets include software, buildings,
leasehold improvements, furniture, and equipment. Asset
impairment losses related to the check and cash restructurings of $15 million and $50 million for the periods
ending December 31, 2006 and 2005, respectively, were
determined using fair values based on quoted market
values or other valuation techniques and are reported as a
component of "Other expenses."
(7) COMMITMENTS AND CONTINGENCIES
$ 186
$ 175
The Federal Reserve Bank of Kansas City (FRBKC) is
constructing a new building to replace its head office.
Approximately $29 million of costs associated with the
acquisition of land and site preparation for the new
building are included in the "Land" account, and approximately $114 million of costs associated with the construction of the new building are included in the "Construction
in progress" account. In July 2005, the FRBKC completed the sale and leaseback of its head office, and will
lease the space from the purchaser until the new building
is completed in 2008.
Bank premises and equipment at December 31 include
the following amounts for leases that have been capitalized (in millions):
2006
Leased premises and equipment
under capital leases
Accumulated depreciation
At December 31,2006, the Reserve Banks were obligated
under noncancelable leases for premises and equipment
with remaining terms ranging from one to approximately
seventeen years. These leases provide for increased rental
payments based upon increases in real estate taxes, operating costs, or selected price indices.
Rental expense under operating leases for certain operating facilities, warehouses, and data processing and office equipment (including taxes, insurance and maintenance when included in rent), net of sublease rentals, was
$31 million and $26 million for the years ended December 31, 2006 and 2005, respectively. Certain of the
Reserve Banks' leases have options to renew.
Future minimum rental payments under noncancelable
operating leases, net of sublease rentals, with remaining
terms of one year or more, at December 31, 2006 are as
follows (in millions):
Federal Reserve Banks Combined Financial Statements 331
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
2007
2008
2009
2010
2011
Thereafter .
Future minimum rental payments
$ 12
9
7
102
$146
At December 31, 2006, the Reserve Banks had other
commitments and long-term obligations extending
through the year 2017 with a remaining amount of $336
million. As of December 31, 2006, commitments of $219
million were recognized. Purchases of $92 million and
$98 million were made against these commitments during
2006 and 2005, respectively. These commitments are for
goods and services to maintain currency machines, for
software licenses and maintenance, for services related to
check processing equipment and transportation, and have
variable and/or fixed components. The variable portion of
the commitments is for additional services above fixed
contractual service limits. The fixed payments for the
next five years under these commitments are as follows
(in millions):
of the System Plan and the costs associated with the Plan
are not redistributed to other participating employers.
Following is a reconciliation of the beginning and
ending balances of the System Plan benefit obligation (in
millions):
2006
2005
Estimated actuarial present value
of projected benefit
obligation at January 1
$4,785
Service cost—benefits earned
during the period
134
Interest cost on projected
benefit obligation
278
Actuarial loss
132
Contributions by plan participants ..
3
Special termination benefits loss . . .
3
Benefits paid
(254)
Plan amendments
66
Estimated actuarial present value
of projected benefit
obligation at December 31 . . . . $5,147
$30
36
32
28
29
The Reserve Banks are involved in certain legal actions
and claims arising in the ordinary course of business.
Although it is difficult to predict the ultimate outcome of
these actions, in management's opinion, based on discussions with counsel, the aforementioned litigation and
claims will be resolved without material adverse effect on
the financial position or results of operations of the
Reserve Banks.
(8) RETIREMENT AND THRIFT PLANS
Retirement Plans
The Reserve Banks currently offer three defined benefit
retirement plans to their employees based on length of
service and level of compensation. Substantially all of the
Reserve Banks', Board of Governors', and the Office of
Employee Benefits of the Federal Reserve System's employees participate in the Retirement Plan for Employees
of the Federal Reserve System ("System Plan"). Employees at certain compensation levels participate in the Benefit Equalization Retirement Plan ("BEP") and certain
Reserve Bank officers participate in the Supplemental
Employee Retirement Plan ("SERP").
The System Plan is a multi-employer plan with contributions funded by participating employers. Participating
employers are the Federal Reserve Banks, the Board of
Governors, and the Office of Employee Benefits of the
Federal Reserve Employee Benefits System. No separate
accounting is maintained of assets contributed by the
participating employers. The FRBNY acts as the sponsor
123
263
125
3
6
(259)
. ..
$4,785
Following is a reconciliation of the beginning and
ending balance of the System Plan assets, the funded
status, and the prepaid pension benefit costs (in millions):
Fixed
commitment
2007
2008
2009
2010
2011
$4,524
2006
2005
Estimated fair value of plan
assets at January 1
$5,868
Actual return on plan assets
713
Contributions by the employer
•••
Contributions by plan participants ..
3
Benefits paid
(254)
$5,887
237
• ••
3
(259)
Estimated fair value of plan
assets at December 31
$6,330
$5,868
$1,183
$1,083
149
1,496
Funded status
Unrecognized prior service cost
Unrecognized net actuarial loss
Prepaid pension benefit costs
Amounts included in accumulated
other comprehensive
loss (in millions)
Prior service cost
Net actuarial loss
Total accumulated other
comprehensive loss
$2,728
(191)
(1,301)
$(1,492)
Prepaid pension benefit costs are reported as "Other
assets" in die Statements of Condition.
The accumulated benefit obligation for the System
Plan, which differs from the estimated actuarial present
value of the projected benefit obligation because it is
based on current rather than future compensation levels,
was $4,522 million and $4,162 million at December 31,
2006 and 2005, respectively.
The weighted-average assumptions used in developing
the projected pension benefit obligation for the System
Plan as of December 31 were as follows:
2006
Discount rate
. . . 6.00%
Rate of compensation increase ... . . . 4.50%
2005
5.75%
4.50%
332 93rd Annual Report, 2006
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
Net periodic benefit expenses are actuarially determined using a January 1 measurement date. The
weighted-average assumptions used in developing net
periodic benefit expenses for the System Plan for the
years at January 1 were as follows:
Discount rate
Expected asset return
Rate of compensation increase
2006
2005
5.75%
8.00%
4.50%
5.75%
8.25%
4.25%
Discount rates reflect yields available on high-quality
corporate bonds that would generate the cash flows necessary to pay the plan's benefits when due. The expected
long-term rate of return on assets was based on a combination of methodologies including the System Plan's
historical returns, surveys of other plans' expected rates
of return, building a projected return for equities and
fixed income investments based on real interest rates,
inflation expectations, equity risk premiums, and, finally,
surveys of expected returns in equity and fixed income
markets.
The components of net periodic pension benefit expense (credit) for the System Plan for the years ended
December 31 are shown below (in millions):
Service cost—benefits earned
during the period
Interest cost on projected
benefit obligation
Amortization of prior service
cost
Amortization of actuarial
2006
2005
$$134
134
$123
278
263
23
24
75
(460)
49
(476)
50
3
(17)
6
Expected return on plan assets
Net periodic pension expense/
(credit)
Special termination benefits losses ..
Total periodic pension expense/
(credit)
Estimated amounts that will be
amortized from accumulated
other comprehensive loss
into net periodic pension
expense in 2007
(in millions):
Prior service cost
Actuarial loss
Total.
$53
$
29
66
$
95
The recognition of special termination benefits losses
is the result of enhanced retirement benefits provided to
employees during the restructuring described in Note 11.
Following is a summary of expected benefit payments
(in millions):
Expected
benefit
payments
2007 .
2008 .
2009 .
2010 .
2011
2012-2016
.. $ 260
..
270
..
281
294
306
1,764
Total
$3,175
The Federal Reserve System's pension plan weightedaverage asset allocations at December 31, by asset category, were as follows:
Equities
Fixed income
Cash
Total
2006
2005
64.3%
34.4%
1.3%
66.2%
31.7%
2.1%
100.0%
100.0%
The System's Committee on Investment Performance
(CIP) contracts with investment managers who are responsible for implementing the System Plan's investment
policies. The managers' performance is measured against
a trailing 36-month benchmark of 60 percent of a market
value weighted index of predominantly large capitalization stocks trading on the New York Stock Exchange, the
American Stock Exchange, and the National Association
of Securities Dealers Automated Quotation National Market System and 40 percent of a broadly diversified
investment-grade fixed income index (rebalanced
monthly). The managers invest plan funds within CIPestablished guidelines for investment in equities and fixed
income instruments. Equity investments can range
between 40 percent and 80 percent of the portfolio.
Investments, however, cannot be concentrated in particular industries and equity securities holdings of any one
company are limited. Fixed income securities must be
investment grade and the effective duration of the fixed
income portfolio must remain within a range of 67 percent and 150 percent of a broadly diversified investmentgrade fixed income index. CIP guidelines prohibit margin, short sale, foreign exchange, and commodities
trading as well as investment in bank, bank holding
company, savings and loan, and government securities
dealers' stocks. In addition, investments in non-dollar
denominated securities are prohibited; however, a small
portion of the portfolio can be invested in American
Depositary Receipts/Shares and foreign-issued dollardenominated fixed income securities.
Contributions to the System Plan may be determined
using different assumptions than those required for financial reporting. The System does not expect to make a cash
contribution to the System Plan during 2007.
Federal Reserve Banks Combined Financial Statements 333
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
The Reserve Banks' projected benefit obligation,
funded status, and net pension expenses for the BEP and
the SERP at December 31, 2006 and 2005, and for the
years then ended, are not material.
Thrift Plan
2006
Fair value of plan assets
at January 1
Contributions by the employer
Contributions by plan participants .
Benefits paid
Fair value of plan assets at
December 31
Employees of the Reserve Banks may also participate in
the defined contribution Thrift Plan for Employees of the
Federal Reserve System ("Thrift Plan"). The Reserve
Banks' Thrift Plan contributions totaled $66 million and
$63 million for the years ended December 31, 2006 and
2005, respectively, and are reported as a component of
"Salaries and other benefits" in the Statements of Income.
The Reserve Banks match employee contributions based
on a specified formula. For the years ended December 31,
2006 and 2005, the Reserve Banks matched 80 percent on
the first 6 percent of employee contributions for employees with less than five years of service and 100 percent on
the first 6 percent of employee contributions for employees with five or more years of service.
Amounts included in accumulated
other comprehensive
loss (in millions):
Prior service cost
Net actuarial loss
Deferred curtailment gain
(9) POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
Total accumulated other
comprehensive loss
Unfunded postretirement benefit
obligation
Unrecognized prior service cost
Unrecognized net actuarial loss
2005
47
13
(60)
$. . .
48
11
(59)
$ • ••
$. . .
$1,164
$947
105
(277)
$775
Accrued postretirement benefit costs.
$
85
(443)
1
$ (357)
AND POSTEMPLOYMENT BENEFITS
Postretirement Benefits Other Than Pensions
In addition to the Reserve Banks' retirement plans, employees who have met certain age and length-of-service
requirements are eligible for both medical benefits and
life insurance coverage during retirement.
The Reserve Banks fund benefits payable under the
medical and life insurance plans as due and, accordingly,
have no plan assets.
Following is a reconciliation of beginning and ending
balances of the benefit obligation (in millions):
Accumulated postretirement benefit
obligation at January 1
Service cost—benefits earned during
the period
Interest cost of accumulated
benefit obligation
Actuarial loss
Contributions by plan participants
Benefits paid
Plan amendments
Accumulated postretirement benefit
obligation at December 31
2006
2005
$ 947
$869
27
32
54
188
13
(60)
(5)
49
45
11
(59)
$1,164
$947
At December 31,2006 and 2005, the weighted-average
discount rate assumptions used in developing the postretirement benefit obligation were 5.75 percent and 5.50
percent, respectively.
Discount rates reflect yields available on high-quality
corporate bonds that would generate the cash flows necessary to pay the plan's benefits when due.
Following is a reconciliation of the beginning and
ending balance of the plan assets, the unfunded postretirement benefit obligation, and the accrued postretirement
benefit costs (in millions):
Accrued postretirement benefit costs are reported as a
component of "Accrued benefit costs" in the Statements
of Condition.
For measurement purposes, the assumed health care
cost trend rates at December 31 are as follows:
Health care cost trend rate
assumed for next year
Rate to which the cost trend rate
is assumed to decline
(the ultimate trend rate)
Year that the rate reaches the
ultimate trend rate
2006
2005
9.00%
9.00%
5.00%
5.00%
2012
2011
Assumed health care cost trend rates have a significant
effect on the amounts reported for health care plans. A
one percentage point change in assumed health care cost
trend rates would have the following effects for the year
ended December 31, 2006 (in millions):
One percentage
point increase
Effect on aggregate
of service and
interest cost
components of
net periodic
postretirement
benefit expense .. .. $ 12
Effect on accumulated
postretirement
benefit obligation .. 128
One percentage
point decrease
$ (10)
(HI)
The following is a summary of the components of net
periodic postretirement benefit expense for the years
ended December 31 (in millions):
334 93rd Annual Report, 2006
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
2006
Service cost—benefits earned during
theperiod
Interest cost on accumulated benefit
obligation
Amortization of prior service cost
Amortization of actuarial loss
$27
54
(23)
__22
2005
$32
49
(21)
_13
Total periodic expense
Curtailment gain
80
^ ^
73
(5)
Net periodic postretirement
benefit expense
$ 80
$ 68
Estimated amounts that will be
amortized from accumulated
other comprehensive loss
into net periodic benefit
expense in 2007
(in millions):
Prior service cost
Actuarial loss
Total
(22)
45
$ 23
Net postretirement benefit expense is actuarially determined using a January 1 measurement date. At January 1,
2006 and 2005, the weighted-average discount rate assumptions used to determine net periodic postretirement
benefit expense were 5.50 percent and 5.75 percent,
respectively.
Net periodic postretirement benefit expense is reported
as a component of "Salaries and other benefits" in the
Statements of Income.
The 2005 service cost contains an adjustment by one
Reserve Bank that resulted from a review of plan terms
and assumptions. A plan amendment that modified the
credited service period eligibility requirements created
curtailment gains in 2005. A deferred curtailment gain,
which was recorded in 2006 as a component of accumulated other comprehensive loss, is expected to be recognized in net income in 2008 when the related employees
terminate employment.
The Medicare Prescription Drug, Improvement and
Modernization Act of 2003 established a prescription
drug benefit under Medicare ("Medicare Part D") and a
federal subsidy to sponsors of retiree health care benefit
plans that provide benefits that are at least actuarially
equivalent to Medicare Part D. The benefits provided
under the Reserve Banks' plan to certain participants are
at least actuarially equivalent to the Medicare Part D
prescription drug benefit. The estimated effects of the
subsidy, retroactive to January 1, 2004, are reflected in
actuarial loss in the accumulated postretirement benefit
obligation and net periodic postretirement benefit
expense.
The Reserve Banks account for the Medicare subsidies
as a reduction to benefits payments. The Reserve Banks
expect to receive approximately $4 million in subsidies in
the year ending December 31, 2007 that relate to benefit
payments made in the year ended December 31, 2006.
Following is a summary of expected postretirement
benefit payment (in millions):
Without
subsidy
2007
2008
2009
2010
2011
2012-2016
Total
With
subsidy
. $ 63
..
68
..
73
..
79
..
84
__476
$ 58
62
68
72
77
430
$843
$767
Postemployment Benefits
The Reserve Banks offer benefits to former or inactive
employees. Postemployment benefit costs are actuarially
determined using a December 31,2006 measurement date
and include the cost of medical and dental insurance,
survivor income, and disability benefits. The accrued
postemployment benefit costs recognized by the Reserve
Banks at December 31,2006 and 2005 were $126 million
and $124 million, respectively. This cost is included as a
component of "Accrued benefit costs" in the Statements
of Condition. Net periodic postemployment benefit expense included in 2006 and 2005 operating expenses was
$20 million and $14 million, respectively, and is recorded
as a component of "Salaries and other benefits" in the
Statements of Income.
(10)
ACCUMULATED OTHER COMPREHENSIVE INCOME
Following is a reconciliation of beginning and ending
balances of accumulated other comprehensive loss:
Amount
Related
to
Defined
Benefit
Retirement
Plans
Balance at
December 31,
2005
Adjustment to
initially apply
FASB Statement
No. 158
Balance at
December 31,
2006
$ ...
Amount
Related
to Postretirement
Benefits
Other
than
Pensions
Total
Accumulated
Other
Comprehensive
Loss
$ ...
(1,492)
(357)
(1,849)
$ (1,492)
$ (357)
$ (1,849)
Additional detail regarding the classification of accumulated other comprehensive income is included in notes
8 and 9.
(11)
BUSINESS RESTRUCTURING CHARGES
In 2003, several Reserve Banks announced plans for
restructuring to streamline operations and reduce costs,
including consolidation of check operations and staff
reductions in various functions of the Bank. In 2004
through 2006, additional consolidation and restructuring
Federal Reserve Banks Combined Financial Statements 335
NOTES TO THE COMBINED FINANCIAL STATEMENTS OF THE FEDERAL RESERVE BANKS—CONTINUED
initiatives wore announced in the check, cash, purchasing,
and Treasury operations. These actions resulted in the
following business restructuring charges (in millions):
Total
CS
Employee separation
Contract termination
$49
1
i
$51
Total
12/31/2006
Accrued
liability
Total
Total
12/31/05 charges
paid
p
Contract
termination
Other
Total
$17
costs
$9
$(12)
Accrued
liability
12/31/06
$14
...
...
...
.__
._;_.
. . .
. . .
$17
$9
$(12)
$14
=
=
=
=
Adjustments to the accrued liability due to changes in
the estimated restructuring costs were offset against total
charges. Without these offsets, total charges would have
been $10 million in 2006.
Employee separation costs are primarily severance
costs related to identified staff reductions of approximately 1,949, including 286 and 292 staff reductions
related to restructuring announced in 2006 and 2005,
respectively. Costs related to staff reductions for the years
e n d e d D e c e m b e r 31
> 2 0 0 6 a n d 2 0 0 5 ^ sported as a
component of "Salaries and other benefits" in the Statements of Income. Contract termination costs include the
charges resulting from terminating existing lease and
other contracts and are shown as a component of "Other
expenses." Other costs include the continuation of a
noncancelable lease agreement and associated facility
maintenance and are shown as a component of "OccuPancy expenses."
Restructuring costs associated with impairment of certain Reserve Bank assets, including software, buildings,
leasehold improvements, furniture, and equipment, are
discussed in Note 6. Costs associated with enhanced
pension benefits for all Reserve Banks are recorded on
the books of the FRBNY as discussed in Note 8. Costs
associated with enhanced postretirement benefits are disclosed in Note 9.
Future costs associated with the announced restructurin
g P l a n s are estimated at $4 million,
The
Reserve Banks anticipate substantially completing
meir
announced plans in 2008.
337
Office ofInspector General Activities
The Board of Governors' Office of Inspector General (OIG) functions in accordance with the Inspector General Act
of 1978, as amended. In addition to
retaining an independent auditor each
year to audit the Board's financial statements, the OIG plans and conducts audits, reviews, and investigations relating
to the Board's programs and operations
and its delegated functions at the Federal Reserve Banks. The OIG also reviews existing and proposed legislation
and regulations for their impact on the
economy and efficiency of the Board's
programs and operations. It recommends
policies, and it supervises and conducts
activities to promote economy and efficiency and to prevent and detect waste,
fraud, and abuse in Board and Boarddelegated programs and operations, as
well as in activities administered or financed by the Board. The OIG keeps
the Congress and the Chairman of the
Board of Governors fully informed
about serious abuses and deficiencies
and about the status of any corrective
actions.
During 2006, the OIG completed
eight audits, reviews, and other assessments and conducted a number of
follow-up reviews to evaluate action
taken on earlier recommendations. The
OIG also closed eight investigations and
performed numerous legislative and
regulatory reviews.
OIG Audits, Reviews, and Assessments Completed during 2006
Report title
External Quality Control Review of the National Science Foundation Inspector General
Audit Organization
Audit of the FFIEC's Financial Statements (Year Ended December 31, 2005)
Inspection of the Board's Security Services Unit
Audit of the Board's Implementation of Electronic Authentication Requirements
Audit of the Board's Financial Statements (Year Ended December 31, 2005)
Audit of the Board's Information Security Program
Security Control Review of the Common Document and Text Repository System
(Internal Report)
Audit of the Board's Payroll Process
Month issued
February
March
March
March
May
September
October
December
338
Government Accountability Office Reviews
Under the Federal Banking Agency
Audit Act (Public Law 95-320), most
Federal Reserve System operations are
under the purview of the Government
Accountability Office (GAO). In 2006,
the GAO completed six reports on selected aspects of Federal Reserve operations (table). In addition, seven projects
concerning the Federal Reserve were in
various stages of completion at year-end
(table). The Federal Reserve also provided information to the GAO during
the year on numerous other GAO
investigations.
The reports are available directly
from the GAO.
Reports Completed during 2006
Report title
Credit Cards: Customized Minimum Payment Disclosure
Would Provide More Information to Consumers, but
Impact Could Vary
Bank Secrecy Act: Opportunities Exist for FinCEN and the
Banking Regulators to Further Strengthen the
Framework for Consistent BSA Oversight
Information Security: Federal Reserve Needs to Address
Treasury Auction Systems
Alternative Mortgage Products: Impact on Defaults Remains
Unclear, but Disclosure of Risks to Borrowers Could
Be Improved
Minority Banks: Regulators Need to Better Assess
Effectiveness of Support Efforts
Credit Cards: Increased Complexity in Rates and Fees Heightens
Need for More Effective Disclosures to Consumers
Report number
Month issued
(2006)
GAO-06-434
April
GAO-06-386
May
GAO-06-659
August
GAO-06-1021
September
GAO-07-6
October
GAO-06-929
October
Projects Active at Year-End 2006
Subject of project
Consolidated supervision of financial institutions
Prompt Corrective Action (PCA) program
Basel H Capital Accord
Financial markets preparedness
Financial regulatory agencies' performance pay systems
Financial regulatory agencies' compensation programs .
Hedge funds and federal regulatory oversight
Month initiated
November 2005
March 2006
March 2006
March 2006
May 2006
May 2006
October 2006
Maps of the
Federal Reserve System
340 93rd Annual Report, 2006
The Federal Reserve System
f
9
MINNEAPOLIS
7
12
•
•
^
SAN FRANCISCO
10
KANSAS CITY •
11 DALLAS
•
n
CLEVELAND
g
ST. LOUIS
8
ALASKA
_
CHICAGO •
BOSTON
• NEW YORK
PSLADELPHIA
4
°
RICHMOND
5
6 •
ATLANTA
M|||;
HAWAII
LEGEND
Both pages
• Federal Reserve Bank city
D Board of Governors of the Federal
Reserve System, Washington, D.C.
Facing page
• Federal Reserve Branch city
— Branch boundary
NOTE
The Federal Reserve officially identifies
Districts by number and by Reserve
Bank city (shown on both pages) and by
letter (shown on the facing page).
In the 12th District, the Seattle
Branch serves Alaska, and the San Francisco Bank serves Hawaii.
The System serves commonwealths
and territories as follows: The New York
Bank serves the Commonwealth of
Puerto Rico and the U.S. Virgin Islands;
the San Francisco Bank serves American Samoa, Guam, and the Commonwealth of the Northern Mariana Islands.
The maps show the boundaries within
the System as of year-end 2006.
Maps of the Federal Reserve System 341
1-A
2-B
3-C
4-D
5-E
Pittsburgh
Balti
PA
Buffalo
•Cincinnati
Mi
*
NJ
NEW YORK
BOSTON
• Charlotte
NY
7-G
6-F
RICHMOND
CLEVELAND
PHILADELPHIA
8-H
N^^^ •Nashville
Birmingham
IL
) IN
Louisville
Detroit*
•—TN
•Memphis
Jacksonville
Little
Rock
New Orleans
Miami
CHICAGO
ATLANTA
ST. LOUIS
9-1
• Helena
MINNEAPOLIS
10-J
12-L
Omaha*
Denver
Oklahoma City
KANSAS CITY
11-K
Salt Lake City
El Paso
San Antonio*1
DALLAS
•Los Angeles
SAN FRANCISCO
Index
345
Index
Accounting policy, 74-75
Accounting Task Force (ATF), 76
Affordable housing, incentives for, 110-11
Agreement corporations, 64, 67-68, 87-88
Allowance for loan and lease losses
(ALLL), 74-75
AmSouth Bancorporation, acquisition, 97
Anti-money laundering
Bank Secrecy Act/Anti-Money
Laundering Examination
Manual, 75
Examinations, 68-69
Applications, notices, and proposals,
84-88, 97
Aspen Institute, 114
Assets and liabilities
Board of Governors, 304
Commercial banks, 280
Federal Reserve Banks, 282-85, 322
Association of Supervisors of Banks of the
Americas (ASBA), 72
Auditors' reports, 303, 313-14, 319, 321
Audits, reviews, and assessments
of Board of Governors, 301, 303-19,
337
of Federal Reserve Banks, 127-28, 301,
321-35, 337
of Federal Reserve System, 301, 337,
338
by Government Accountability Office,
301, 338
Interagency Advisory on the Unsafe and
Unsound Use of Limitation of
Liability Provisions in External
Audit Engagement Letters, 75, 153
by Office of Inspector General, 301,
337
Automated clearinghouse (ACH) services,
Federal Reserve Banks, 121, 125-26,
296
Availability of Funds and Collection of
Checks (Regulation CC), 106-7
Balance sheets
Board of Governors, 304
Federal Reserve priced services, 131
Bank examiner training, 84, 85, 101-2
Bank holding companies
Assets, 65
Banks affiliated with, 271
Capital instruments, 74
Inspections of, 64-65, 66
Number of, 65
Regulatory financial reports, 79-82
Small holding company threshold, 79
Surveillance and off-site monitoring of,
71-72
Bank Holding Companies and Change in
Bank Control (Regulation Y), 152-53
Bank Holding Company Act, 64, 84-86,
142-43
Bank Holding Company Performance
Reports (BHCPRs), 71-72
Banking Organization National Desktop
(BOND), 83
Banking organizations, U.S. (See also Bank
holding companies and Commercial
banks)
Capital standards, 73-74
Examinations and inspections of, 64-67
Foreign operations, 67, 87-88
Number of, 271
Structure, regulation of, 84-88
Bank Merger Act, 64, 86
Bankruptcy Abuse Prevention and
Consumer Protection Act, 148
Bank Secrecy Act/Anti—Money Laundering
Examination Manual, 75
Bank Secrecy Act (BSA)
Automated format for information, 83
Examinations, 68-69
Overview, 75
Basel Committee on Banking Supervision,
72, 75-77
Basel I framework, implementation, 63,
73-74
Basel II framework, implementation, 63,
73-74, 76
BB&T Corporation, acquisition, 97
Board of Governors {See also Federal
Reserve System)
Assets and liabilities, 304
Audits, reviews, and assessments of,
301, 303-19, 337
346 93rd Annual Report, 2006
Board of Governors—Continued
Consumer Advisory Council, 109-11,
238
Decisions, public notice of, 88
Federal Advisory Council, 237
FFffiC activities, 72, 73, 82-83, 84,
100-101, 102, 104-7, 141
Financial statements, 303-19
Goals and objectives, 135-37
Government Performance and Results
Act, 135-37
Income and expenses, 305
Inspector General, Office of, audits,
reviews, and assessments, 301, 337
Litigation, 229
Members and officers, 233-35, 259-62
Mission, 135
Outreach activities, 111, 115-17
Policy actions, 151-56
Strategic plan, performance plan, and
performance report, 135
Thrift Institutions Advisory Council, 239
BOND (Banking Organization National
Desktop), 83
Branches (See Federal Reserve Banks)
Business continuity, 70-71
Business investment, profits, and finance,
13-17, 39, 42-45
Call Reports, 71-72, 82, 143
Capital accounts, Federal Reserve Banks,
282-85, 322
Capital One Financial Corporation,
acquisition, 97
Capital standards, 73-74
Cash flows, Board of Governors, 306
Cash-management services, Federal
Reserve Banks, 126
Central Document and Text Repository
(CDTR), 83
CFED, Federal Reserve partnership with,
113-14
Change in Bank Control Act, 64, 87, 144
Check Clearing for the 21st Century Act
(Check 21), 120
Check collection and processing, Federal
Reserve Banks, 120-21, 296
Collection services for federal government,
Federal Reserve Banks, 125-26
Commercial banks (See also Member
banks and State member banks)
Assets and liabilities, 280
Commercial banks—Continued
Number of, 271
Regulatory financial reports, 82-83
Commercial real estate lending, guidance
on, 78, 80-81, 154
Committee of Sponsoring Organizations of
the Treadway Commission (COSO),
127-28
Community affairs (See Consumer and
community affairs)
Community Affairs Offices (CAOs), 113
Community development corporations
(CDCs), 115
Community development financial
institutions (CDFIs), 114-15
Community economic development,
113-17
Community Reinvestment Act (CRA)
Applications, analysis in relation to, 97
Examinations for compliance with,
96-97
Rules revisions, 91, 92-93, 100
Community Reinvestment (Regulation BB),
153
Complex structured finance transactions
(CSFTs), 78-79, 154
Compliance examinations, 96-97, 100
Condition statements, Federal Reserve
Banks, 282-85, 322
Confidential information protection, 143
Consumer Advisory Council, 109-11, 238
Consumer and community affairs
Community economic development,
113-17
Consumer Advisory Council advice,
109-11
Consumer complaints, 107-9, 111-12
Consumer financial education, 110,
111-13
Consumer information web site, 111
Consumer protection and community
reinvestment laws, 91-96
Financial Services Regulatory Relief Act
provisions, 146
Outreach activities, 111, 115-17
Research on financial information and
disclosures, 112-13
Consumer complaints, 107-09, 111-12
Consumer Credit Protection Act, 98, 107
Consumer information web site, 111
Consumer Leasing (Regulation M), 105
Consumer prices, 3, 24-26, 35, 51-53
Index 347
Consumer protection laws
Agency reports on compliance with,
103-7
Implementation of, 91-96
Supervision for compliance with,
96-103
Consumer reporting agencies, 93, 96
Consumer spending, 10-11, 40-41
Core Principles for banking supervision,
76
Corporate profits, 15-17, 44-45
Credit by Banks and Persons other than
Brokers or Dealers for the Purpose of
Purchasing or Carrying Margin Stock
(Regulation U), 70, 89, 281
Credit risk management, 77-79
Cross-marketing restrictions, 143-44
Currency and coin, 123-24, 272-79, 296
Currency recirculation policy, Federal
Reserve, 154
Currency Transaction Reports, 146
Current account, U.S., 20, 47, 49
Debt
Corporate, 15-17, 44-45
Domestic nonfinancial sectors, 29-30,
55-56
Government, 18-19, 19-20, 46, 47
Household, 13, 42
Debt services for federal government,
Federal Reserve Banks, 125
Depository Institution Management
Interlocks Act, 143
Depository institutions (See also
Commercial banks)
Interest rates on loans by Federal
Reserve Banks, 269
Reserve requirements, 270
Reserves of, 272-79
Depository services to federal government,
Federal Reserve Banks, 124-26
Deposits
Commercial banks, 280
Federal Reserve Banks, 272-79
Directors, Federal Reserve Banks and
Branches, 242, 243-58
Disclosures, research on, 112-13
Discount rates, 155-56, 269
Disposable personal income (DPI), 10-11,
40,42
District of Columbia banks, 144
Dollar exchange rate, 31-32, 36, 57
Earned-income tax credit, 114
ECI (employment cost index), 24, 51
Economic Growth and Regulatory
Paperwork Reduction Act, 79
Economies, foreign, 30-34, 56-59
Economy, U.S.
Business sector, 13-17, 39, 42-45
Debt, domestic nonfinancial sectors,
29-30, 55-56
External sector, 20-22, 47-49
Financial markets, 5-6, 26-30, 53-56
Government sector, 17-20, 4 5 ^ 7
Household sector, 10-13, 40-42
Interest rates, 9, 26-28, 35, 40, 54-55
Labor market, 22-24, 49-51
M2 monetary aggregate, 30, 56
Outlook and projections, 3-5, 6-7,
35-37, 38-39
Prices, 3, 21-22, 24-26, 35-36, 48-49,
51-53
Edge Act corporations, 64, 67-68, 87-88
Education, consumer financial, 110, 111-13
Electronic access to Federal Reserve Bank
services, 126-29
Electronic Check Processing, Treasury
Department program, 126
Electronic Federal Tax Payment System
(EFTPS), 125
Electronic Fund Transfer Act (EFTA), 91,
109
Electronic Fund Transfers (Regulation E),
91, 92, 104-5, 109, 151
Emerging-market economies, 30-31,
33-34, 58-59
Employment, 22-23, 39, 49-50
Employment cost index (ECI), 24, 51
Energy prices, 3, 21-22, 24-26, 35-36,
48-49, 51-53
Enforcement actions
Federal Reserve System, 71, 98-100
Other federal agencies, 103-7
Equal Credit Opportunity Act (ECOA),
98-100, 104
Equal Credit Opportunity (Regulation B),
104
Equal opportunity, rules regarding, 153
Equity markets and prices, 28, 55
Examinations and inspections
Anti-money laundering, 68-69
Bank holding companies, 64-65, 66
Community Reinvestment Act,
compliance with, 96-97
348 93rd Annual Report, 2006
Examinations and inspections—Continued
Consumer protection laws, compliance
with, 97-101
Edge Act and agreement corporations,
64, 67-68
Federal Reserve Banks, 127-28
Fiduciary activities, 69
Financial holding companies, 66-67
Foreign banks, 68
Information technology activities, 69
International banking activities, 67-68
Securities clearing agencies, 69-70
Securities credit lenders, 70
Securities dealers and brokers,
government and municipal, 70
State member banks, 64, 65, 66
Transfer agents, 69-70
Examiners, training, 84, 85, 101-2
Expenses (See Income and expenses)
Exports, 20-21, 47-48
External sector, developments in, 20-22,
47-49
Fair and Accurate Credit Transactions
Act (FACT Act), 93, 96, 110
Fair Credit Reporting Act (FCRA), 91, 93,
96, 100
Fair Housing Act, 98-99, 109
Fair lending laws, compliance with, 98-100
Fair value option, 74, 77
Federal Advisory Council, 237
Federal agency securities and obligations
Commercial bank holdings, 280
Federal Reserve Bank holdings, 129,
130, 268, 272-79
Open market transactions, 264-67
Federal Banking Agency Audit Act, 338
Federal Deposit Insurance Act (FDI Act),
66, 144-45, 148
Federal Deposit Insurance Corporation
Improvement Act, 66
Federal Financial Institutions Examination
Council (FFIEC), 72, 73, 82-83, 84,
100-101, 102, 104-7, 141
Federal funds rate, 5-6, 37-38, 159,
172-73, 180-81, 188-89, 196-97,
203, 210-11, 218-19, 226-27
Federal government
Federal Reserve Bank services to,
124-26
Spending, receipts, and borrowing,
17-19, 45-46
Federal Housing Enterprise Oversight,
Office of (OFHEO), 12, 41
Federal Open Market Committee (FOMC)
Authorizations, 157-58, 159-60, 163-66
Decisionmaking transparency, 38
Domestic policy directives, 159, 173,
181, 189, 196-97, 203, 211, 219,
227
Foreign currency directives and
procedural instructions, 160-61,
166-67
Meetings, minutes of, 157-227
Members, alternate members, and
officers, 236
Notation votes, 173, 181, 189, 197, 204,
211,219,227
System Open Market Account, 128,
157-58, 159-60, 161, 163-64,
165-66, 166-67, 212
Federal Reserve Act, 67, 87, 127
Federal Reserve Banks
Assessments by Board of Governors,
290-95
Assets and liabilities of, 282-85, 322
Audits, reviews, and assessments of,
127-28, 301, 321-35, 337
Automated clearinghouse services, 121,
125-26, 296
Branches of, 240-41, 243-58
Capital accounts, 282-85, 322
Cash-management services, 126
Chairmen, Conference of, 241
Check collection and processing,
120-21, 296
Condition statements, 282-85, 322
Credit outstanding, 272-79
Currency and coin, operations and
developments in, 123-24, 296
Debt services for federal government,
125
Depository services to federal
government, 124-26
Deposits, 272-79
Directors of, 242, 243-58
Discount rates, 155-56, 269
Electronic access to services, 126-29
Examinations of, 127-28
Examiner training, 84, 85, 101-2
FedLine Advantage, 126
FedLine Command, 126-27
FedLine Direct, 126-27
Fedwire Funds Service, 121-22, 126
Index 349
Federal Reserve Banks—Continued
Fedwire Securities Service, 122, 126
Financial statements, combined, 321-35
First Vice Presidents, Conference of, 242
Fiscal agency services, 124-26
Government depository services, 124-26
Income and expenses of, 128-29,
286-89, 290-95, 323
Information technology developments,
127
Interest rates on loans to depository
institutions, 269
National Settlement Service, 121-22,
126
Officers and employees, number and
salaries of, 297
Officers, list of, 240-41
Operations, volume of, 129, 296
Payments services, 125
Payments to U.S. Treasury, 129, 288-89
Premises of, 129-30, 298
Presidents, Conference of, 241
Priced services, 119-22, 131-34
Reserve balances, 272-79
Salaries of officers and employees, 297
Securities and loans, holdings of, 129,
130, 268, 272-79
Statements for priced services, 131-34
Statements of changes in capital, 324
Statements of condition, 282-85, 322
Statements of income, 323
Federal Reserve Board (See Board of
Governors)
Federal Reserve Electronic Tax Application
(FR-ETA), 125-26
Federal Reserve Fiscal Impact Tool (FIT),
115-16
Federal Reserve System (See also Board of
Governors and Federal Reserve
Banks)
Audits, reviews, and assessments, 301,
337, 338
Banking structure, U.S., regulation of,
84-88
Basel Committee activities, 72, 75-77
Consumer protection responsibilities,
91-96
Decisions, public notice of, 88
Enforcement actions, 71 , 98-100
Hurricanes, response to, 77, 98, 101
Information technology developments,
127
Federal Reserve System—Continued
Maps of, 340-41
Membership, 89
Safety and soundness responsibilities,
64-72
Supervisory information technology, 83
Supervisory policy, 73-83
Surveillance and off-site monitoring,
71-72
Technical assistance, 72
Training and staff development, 84, 85,
101-2
Federal sector, developments in, 17-19,
45-46
Federal tax payments, 125-26
FedLine Advantage, 126
FedLine Command, 126-27
FedLine Direct, 126-27
Fedwire Funds Service, 121-22, 126
Fedwire Securities Service, 122, 126
FFIEC (Federal Financial Institutions
Examination Council), 72, 73, 82-83,
84, 100-101, 102, 104-7, 141
Fiduciary activities, supervision of, 69
Finance
Business, 15-17, 44-45
Household, 13, 42
Financial account, U.S., 22, 49
Financial Accounting Standards Board
(FASB), 74
Financial education, consumer, 110,
111-13
Financial holding companies, 64, 65, 66-67
Financial information and disclosures,
research on, 112-13
Financial intermediation, 29-30, 55-56
Financial Literacy and Education
Commission (FLEC), 112
Financial markets, 5-6, 26-30, 53-56
Financial Netting Improvements Act, 148
Financial services, access to, 115
Financial Services Regulatory Relief Act,
30,66,86,87, 112, 139,212-13
Consumer-related provisions, 146
Enforcement-related provisions, 144-46
Monetary policy provisions, 139-40
Studies and reports, 146
Supervisory and regulatory provisions,
140-44
Financial Stability Institute, 72
Financial statements
Board of Governors, 303-19
350 93rd Annual Report, 2006
Financial statements—Continued
Federal Reserve Banks, combined,
321-35
Federal Reserve priced services, 131-34
Fiscal agency services, Federal Reserve
Banks, 124-26
FIT (Federal Reserve Fiscal Impact Tool),
115-16
Float, 122, 272-79
Flood insurance, 100
FOMC (See Federal Open Market
Committee)
Foreign banks, U.S. activities of, 68, 88
Foreign Bank Supervision Enhancement
Act, 88
Foreign currency operations
Authorization for conduct of, 159-60,
165-66
Directives, 160-61, 166-67
Procedural instructions for, 161, 167
Foreign economies, 30-34, 56-59
Foreign operations of U.S. banking
organizations, 67, 87-88
Foreign trade, 20-22, 4 7 ^ 9
GDP (gross domestic product), 7, 9,
17-18, 35, 36, 37, 38, 45
Golden West Financial Corporation,
acquisition, 97
Gold stock, 272-79
Government (See Federal government and
State and local governments)
Government Accountability Office (GAO),
146, 301, 338
Government depository services, Federal
Reserve Banks, 124-26
Government Performance and Results Act
(GPRA), 135-37
Government Securities Act, 70
Government securities dealers and brokers,
examination of, 70
Gramm-Leach-Bliley Act, 63, 66, 79, 86, 146
Home equity lending, 77-78 (See also
Household sector)
Homeland Investment Act (HIA), 22, 49
Home Mortgage Disclosure Act (HMDA),
91, 96, 97, 99-100, 102-3
Home Mortgage Disclosure (Regulation C),
96, 102
Home Ownership and Equity Protection
Act (HOEPA), 91, 96, 110
Household sector, 10-13, 40-42
Housing and Urban Development,
Department of, complaint referrals,
109
Hurricane damage and response, 45-47, 77,
98, 101
Imports, 20-22, 48-49
Income and expenses
Board of Governors, 305
Federal Reserve Banks, 128-29, 286-89,
290-95, 323
Federal Reserve priced services, 132
Industrial economies, 31, 32-33, 56,
57-58
Inflation, 4-5, 24-26, 35, 36, 38-40, 52,
53
Information Security Architecture
Framework (ISAF), 127
Information technology
Federal Reserve examination of, 69
in Federal Reserve operations, 127
supporting Federal Reserve supervision,
83
Inspections (See Examinations and
inspections)
Inspector General, Office of (OIG), 301,
337
Insured commercial banks (See
Commercial banks)
Interagency Working Group for Treasury
Market Surveillance, 28-29
Interest rates (See also Discount rates and
Federal funds rate), 5, 26-28, 35, 40,
54-55, 269
International Accounting Standard (IAS),
39,77
International Accounting Standards Board
(IASB), 76-77
International Banking Act, 64, 88
International banking activities, supervision
of, 67-68, 73, 75-77
International Banking Operations
(Regulation K), 75, 152
International Monetary Fund, index of
global metals prices, 48
International trade, 20-22, 47-49
Investment
Business sector, 13-15, 42-44
Overseas, by U.S. banking organizations,
87-88
Residential, 11-13, 41-42
Index 351
Joint Forum, 76
Labor market, 22-24, 49-51
Large complex banking organizations
(LCBOs), supervision of, 65-66
Legislation, federal, 139-48
Liabilities (See Assets and liabilities)
Litigation involving Board of Governors
Artis, 229
Barnes, 229
Inner City Press/Community on the
Move, 229
Jones, 229
Price, 229
Texas State Bank, 229
Loans, Federal Reserve Bank holdings,
129, 130, 272-79
Loans to Executive Officers, Directors, and
Principal Shareholders of Member
Banks (Regulation O), 152
Local governments, 19-20, 46-47
Maps, Federal Reserve System, 340-41
Margin requirements, 281
Market risk capital rule, 73
Marshall & Ilsley Corporation, acquisition,
97
Member banks (See also State member
banks)
Assets and liabilities, 280
Examination of foreign operations, 67
Number of, 271
Reserves, 277, 279
Members and officers
Board of Governors, 233-35, 259-62
Consumer Advisory Council, 238
Federal Advisory Council, 237
Federal Open Market Committee, 236
Federal Reserve Banks and Branches,
240-41
Thrift Institutions Advisory Council,
239
Membership of State Banking Institutions
in the Federal Reserve System
(Regulation H), 100, 152
Middle East and North Africa Financial
Regulators' Training Initiative, 72
Mid-Session Review, 45
Military Personnel Financial Services
Protection Act, 147-48
Model Tribal Secured Transactions Act
(MTA), 115
Monetary aggregate (M2), 30, 56
Monetary Control Act, 119
Monetary Policy Reports to the Congress
February 2007, 3-34
July 2006, 35-59
Monetary policy (See also Federal Open
Market Committee), 3-6, 35-38
Money-laundering prevention, 68-69
Mortgage interest rates, 12-13, 41
Mortgage products, nontraditional, 78, 91,
93,94-95, 111-12, 154
Municipal securities dealers and brokers,
examination of, 70
MyMoney.gov, 112
National Association of Realtors house
price index, 12, 41
National Association of Securities Dealers,
Inc., 104
National City Corporation, acquisition, 97
National Defense Authorization Act, 147
National Examination Database (NED), 83
National Flood Insurance Act, 100
National Flood Mitigation Fund, 100
National income and product accounts
(NIPA), 11, 17, 19,45-47
National Information Center (NIC), 72, 83
National Information Security Assurance
(NISA), 127
National Settlement Service, 121-22, 126
NeighborWorks America, 116
Nonmember banks
Assets and liabilities, 280
Foreign operations, 67
Number of, 271
North Fork Bancorporation, Inc.,
acquisition, 97
Notes, Federal Reserve (See also Currency
and coin), 282-85
Notice of proposed rulemaking (NPR), 63,
73-74
Office of Federal Housing Enterprise
Oversight (OFHEO), 12, 41
Office of Inspector General (OIG), 301,
337
Oil prices (See Energy prices)
Open market operations
Authorization for conduct of, 157-58,
163-64
Volume of transactions, 264-67
Operation HOPE, 116-17
352 93rd Annual Report, 2006
Operations, volume of, Federal Reserve
Banks, 129, 296
Outreach activities, 111, 115-17
Paper Check Conversion, Treasury
Department program, 126
Pay.gov, 126
Payments services, Federal Reserve Banks,
125
Payments System Risk, Federal Reserve
policy, 29, 122
Payments to U.S. Treasury, Federal Reserve
Banks, 129, 288-89
Payroll card accounts, 92
PCE (personal consumption expenditures),
9, 10, 24-25, 38-39, 51-53
Performance Report Information and
Surveillance Monitoring (PRISM), 72
Policy actions
Board of Governors, 151-56
Federal Open Market Committee,
157-227
Premises, Federal Reserve Banks, 129-30,
298
Presidential $1 Coin Act, 123
Priced services, Federal Reserve Banks,
119-22, 131-34
Prices
Consumer, 3, 24-26, 35, 51-53
Energy, 3, 21-22, 24-26, 35-36, 4 8 ^ 9 ,
51-53
Equity, 28, 55
Exports and imports, 21-22, 48^t9
PricewaterhouseCoopers LLP, 128, 321
Primary credit rate, 155, 269
PRISM (Performance Report Information
and Surveillance Monitoring), 72
Privacy of Consumer Financial Information
(Regulation P), 105
Private-sector adjustment factor (PSAF),
119, 134
Productivity, 23-24, 50-51
Profits, corporate, 15-17, 44-45
Project Management Book of Knowledge,
127
Public notice, Federal Reserve decisions,
88
Real estate
Appraisals, 77
Lending, 78, 80-81, 154
Regions Financial Corporation, acquisition,
97
Regulations
B, Equal Credit Opportunity, 104
C, Home Mortgage Disclosure, 96, 102
D, Reserve Requirements of Depository
Institutions, 151
E, Electronic Fund Transfers, 91, 92,
104-5, 109, 151
H, Membership of State Banking
Institutions in the Federal Reserve
System, 100, 152
K, International Banking Operations, 75,
152
M, Consumer Leasing, 105
O, Loans to Executive Officers,
Directors, and Principal
Shareholders of Member Banks,
152
P, Privacy of Consumer Financial
Information, 105
U, Credit by Banks and Persons other
than Brokers or Dealers for the
Purpose of Purchasing or Carrying
Margin Stock, 70, 89, 281
Y, Bank Holding Companies and Change
in Bank Control, 152-53
Z, Truth in Lending, 96, 105-6, 109-10
AA, Unfair or Deceptive Acts or
Practices, 106
BB, Community Reinvestment, 153
CC, Availability of Funds and Collection
of Checks, 106-7
DD, Truth in Savings, 107
Reports of Condition and Income (Call
Reports), 71-72, 82, 143
Republic Bancshares of Texas, Inc.,
acquisition, 97
Reserve requirements, depository
institutions, 270
Reserve Requirements of Depository
Institutions (Regulation D), 151
Residential investment, 11-13, 41-42
Returned-item fees, 92
Revenue (See Income and expenses)
Riegle Community Development and
Regulatory Improvement Act, 66
Risk-focused supervision, Federal Reserve
System, 65-66
Risk management, 65-66, 77-79, 80-81,
154
Index 353
Salaries, Federal Reserve Bank officers
and employees, 297
Sarbanes-Oxley Act (SOX), 127-28
Secondary and seasonal credit rates, 155,
269
Securities (See also Federal agency
securities and obligations and
Treasury securities)
Banks' activities, 79
Clearing agencies, examination of, 69-70
Credit lenders, examination of, 70
Government and municipal, examination
of dealers and brokers, 70
Transfer agents, 69-70
Securities credit, 70, 89, 281
Securities Exchange Act, 69, 70, 79, 89
SEER (System to Estimate Examination
Ratings), 71
Senior Loan Officer Opinion Survey on
Bank Lending Practices, 16
Small bank holding company threshold, 79
Sound Practices concerning Elevated Risk
Complex Structured Finance
Activities, interagency statement, 154
Special drawing rights certificate account,
272-79
SSIT (See System supervisory information
technology)
Staff development, Federal Reserve, 84, 85,
101-2
State and local governments, 19-20, 46-47
State member banks (See also Member
banks)
Assets and liabilities, 65
Complaints against, 107-9
D.C.-chartered banks, 144
Examinations of, 64, 65, 66
Fair lending violations, 98-99
Financial disclosures, 88-89
Number of, 65, 271
Surveillance and off-site monitoring of,
71-72
Stocks
Margin requirements, 281
Price indexes, 28 55
Supervision and regulation responsibilities,
Federal Reserve System, 63-89,
96-107
Supervision and Regulation Statistical
Assessment of Bank Risk (SR-SABR),
71-72
Surveillance and off-site monitoring,
71-72
Suspicious Activity Reports (SARs), 75
Swaps, 159, 165
System Open Market Account (SOMA)
(See Federal Open Market Committee
and Open market operations)
System supervisory information technology
(SSIT), 83
System to Estimate Examination Ratings
(SEER), 71
Tax collection, electronic, 125-26
Technical assistance to foreign banking
authorities, 72
Technology Project Standards (TPS), 127
Thrift Institutions Advisory Council, 239
Trade, international, 20-22, 47-49
Training and development, Federal Reserve
staff, 84, 85, 101-2
Transfer agents, examination of, 69-70
Treasury, U.S. Department of the
Cash holdings, 272-79
Currency outstanding, 272-79
Paper Check Conversion and Electronic
Check Processing programs, 126
Payments to, by Federal Reserve Banks,
129, 288-89
Services provided to, by Federal Reserve
Banks, 124-26
Treasury securities
Commercial bank holdings, 280
Federal Reserve Bank holdings, 129,
130, 268, 272-79
Open market transactions, 264-67
Treasury Tax and Loan (TT&L) program,
126
Trustmark Corporation, acquisition, 97
Truth in Lending Act (TILA), 109-10, 147
Truth in Lending (Regulation Z), 96,
105-6, 109-10
Truth in Savings (Regulation DD), 107
Unemployment, 7, 22-23, 38, 49-50
Unfair or Deceptive Acts or Practices
(Regulation AA), 106
Uniform Bank Performance Reports, 72
Unlawful Internet Gambling Enforcement
Act, 146-47
Unregulated practices, state member banks,
108-9
354 93rd Annual Report, 2006
Unsafe and Unsound Use of Limitation of
Liability Provisions in External Audit
Engagement Letters, interagency
advisory, 75, 153
0607
Wachovia Corporation, acquisition, 97
West Texas intermediate crude oil prices,
21, 48
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