The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
Stability in a Crisis... President’s Message n last year’s annual report, I said we cannot take prosperity for granted. On September 11, 2001, this statement gained new meaning. As unimaginable events unfolded before our eyes, we trusted in the organizational design of the Federal Reserve System and the effectiveness of our crisis management plans. The Fed’s actions following the attacks illustrate just how this structure responds to a national need. Now, more than ever before, the Fed is looked upon as a bastion of stability. Reflecting on 2001, we see a year of progress and of challenges for the Federal Reserve Bank of Philadelphia. Our progress was evident in the expansion of the Bank’s role in both our Third District communities and in the Federal Reserve System. Among our challenges were those shared by all — an economic slowdown and a national crisis. But above all, we remain committed to the long-term health of our region’s and nation’s economies. In this year’s annual report, we share insights from the various Philadelphia Fed people who, in the aftermath of September 11, were instrumental in our ability to maintain “Stability in a Crisis.” Dr. Anthony M. Santomero President coordinate efforts to ensure financial stability. Throughout the crisis, Fed operations continued. Employees at the Philadelphia Fed did a tremendous job in responding to a national tragedy. The dedication of Philadelphia Fed employees allowed us to remain open and operating in the aftermath of the attacks and ensured that the payments system was functional throughout the crisis. I commend all our Bank employees for their hard work and long hours during this especially troubling time for our nation. Strategic Goals – 2002 and Beyond Looking beyond the literal interpretation of our roles, we must strive to build our capabilities and achieve our goals. Doing so demands vision. At the Federal Reserve Bank of Philadelphia, our vision is to be known as an Federal Reserve Bank of Philadelphia/2001 Role of the Fed & Crisis Management The Federal Reserve’s mission is to provide money and credit conditions that foster maximum sustainable economic and job growth in an environment of price stability. This mission is achieved through three important and intertwined functions: conducting the nation’s monetary policy, supervising and regulating banking operations, and providing and maintaining an effective and efficient payments system. One issue, however, remains paramount — maintaining public confidence in the nation’s financial and economic system. This was never more evident than on September 11. Our response was a coordinated effort across all three of our areas of responsibility. From keeping the payments system operating, to providing access to credit, to implementing monetary policy, the Fed proved vital in upholding the integrity of our financial system. We were able to simultaneously feel the pulse of financial activity across the country, operate in multiple locations, and 1 Federal Reserve Bank of Philadelphia/2001 2 important center of central bank knowledge and capability. on Credit, Reserves, and Risk Management) office, which Our strategy for 2002 and beyond is to be a high quality oversees discount window operating procedures on a Sysprovider of central bank knowledge and services with tem-wide basis. We have also earned a central role in the emphasis on efficiency, innovation, and strong financial Fed’s technology initiatives through our Groupware Leadcontrols. ership Center. This office coordinates desktop standards for To achieve our goals, we must expand our knowlthe entire System. edge of the broader financial services industry. Barriers into The Philadelphia Fed held its inaugural Policy Fothis industry have been eliminated for many nonbank and rum last fall. This effort brought together a group of highly bank participants. With the emergence of new entrants, new respected academics, policymakers, and market economists vehicles for retail payments have for a discussion of current macroOur vision is to be emerged as well. The Payment economic research and its impliCards Center was created to adbroadly recognized as cations for monetary policy. The dress these issues and serve as a event, which garnered extensive an important center of source of knowledge and expertise media coverage, was considered a on this important segment of the central bank know- tremendous success. financial system. Established in As the leader in check ledge and capability. early 2001, the Center provides processing, the Philadelphia Fed meaningful insights into the industry through an agenda of actively seeks innovative solutions for improving its busiresearch and analysis, forums, and conferences that will enness. Our initiatives have included the development of check courage a dialogue incorporating industry, academic, and imaging to enhance the efficiency of the payments system, public-sector perspectives. as well as a pilot program of sophisticated techniques to We must also continue to expand our outreach to combat check fraud. Philadelphia also helps manage fedacademia, the financial services industry, and the community. eral check payments. We are currently developing and manThis will be accomplished through monetary policy research, aging checkbook software applications for the federal govincreased regional involvement, and Community and ernment. In addition, we serve as a primary collection point Consumer Affairs initiatives. Working with partners, we for U.S. Treasury checks. already have implemented a successful pilot financial literacy program in a Delaware high school. Next, we plan to expand The Road to Recovery financial literacy throughout the region. Looking forward, I see 2002 as a turnaround year Furthering our outreach efforts in 2001, our Bank for the economy. Thanks to the progress we have made in had the privilege of hosting on separate occasions Chairman recent years, the Greater Philadelphia region will recover Alan Greenspan and Vice Chairman Roger Ferguson from along with the nation. As I reported to you a year ago, acthe Board of Governors to speak to business leaders in our tivity in our region has continued to expand in such key District. Another notable visitor to speak at our Bank was sectors as business services, construction, and tourism. We Lawrence Lindsey, President Bush’s Assistant for Economic also continue to build on our reputation as a center for pharPolicy, who offered insight on the effects of Bush’s tax cuts maceutical research and production, health care, and higher on the economy. education. In both our region and the nation, we hope to The Philadelphia Reserve Bank is committed to see a healthy pace of sustained growth by year-end 2002. enhancing its role as a prominent System leader. As a firstBut first, our challenge is to manage the current period of tier Bank in terms of quality, efficiency, and controls, Philaeconomic weakness with an eye to the future. Our flexible delphia is poised to be an integral part of the leadership markets, entrepreneurial spirit, well-educated work force, process. In 2001, we acquired the SCRRM (Subcommittee and major advances in information technology provide a sound foundation for the long-term growth of productivity, employment, and standards of living. While consumer and business behavior will significantly affect the progress of our economy in the near-term, the longer-term prospects for the U.S. economy remain sound. Board of Directors The thoughtful insights provided by our Board of Directors allowed us to accomplish a great deal in 2001, and we are truly grateful for their valuable contributions. I am pleased to report that Charisse R. Lillie, partner at Ballard Spahr Andrews & Ingersoll, has been re-appointed chairman of the Board of Directors, and Glenn A. Schaeffer, president of the Pennsylvania Building and Construction Trades Council, has been re-appointed deputy chairman. We offer our sincere thanks to those who completed their terms of service on our Board of Directors: Rufus Fulton, chairman, president, and CEO of Fulton Financial Corporation, and Howard Cosgrove, chairman and CEO of Conectiv. Mr. Fulton has been appointed to represent the Third District on the Federal Advisory Council during 2002. We look forward to the insight and guidance of our newest Board members: Walter E. Daller, Jr., chairman, president, and CEO of Harleysville National Corporation, and P. Coleman Townsend, Jr., chairman and CEO of Townsends, Inc. Some Closing Thoughts Philadelphia’s role in the monetary policy decisionmaking process became more pronounced in 2002, as our Bank now votes on the Federal Open Market Committee (FOMC). The FOMC consists of 12 Federal Reserve Bank presidents and the seven members of the Board of Governors and sets the course for monetary policy. While all Fed presidents attend and contribute to the discussions, only five vote. This is done on a rotating schedule of one-year terms. Last year was a testament to the Philadelphia Fed’s strength and dedication to progress. Going forward, we continue to expand our efforts to provide the Third District community with the most up-to-date economic information and research. As a responsible steward of the District’s economic health, we maintain our focus on helping our region to grow and prosper. Now, we move forward — confident that our region’s economy, like our nation’s, is enormously resilient. Anthony M. Santomero President April 2002 3 Main Roles of the Federal Reserve Supervising and Regulating Banking Operations • Promotes the safety and soundness of District financial institutions • Examines and supervises financial institutions in our geographic District • Coordinates across Districts to also oversee all subsidiaries and parent holding companies • Provides liquidity through discount window operations Maintaining an Effective Payments System • Effective operation of U.S. payments system essential to a healthy economy • Largest component of Fed operations • Central to people’s ability to make payments quickly and easily • Philadelphia is largest check processing site in System, with an average of 5 million checks a night Federal Reserve Bank of Philadelphia/2001 Conducting Monetary Policy • Is the role most visible to the general public • Refers to the Fed controlling money supply, regulating economy, and controlling inflation • Set with consideration for current national economic conditions; not determined by fixed ideology • Requires constant vigilance so economy flourishes and growth is sustained 3 Stability in a Crisis... Overall Perspective A key element in the Federal Reserve’s mission is to main- system has been disrupted. The Fed achieves this ambitious tain the stability of the financial system and contain any goal through a concerted effort among its Reserve Banks systemic risk that may arise in financial markets. In and the Board of Governors. The Districts comprise a nationwide network of both central- times of economic crisis, ized and decentralized operations, the strength of the financial system depends upon the effective response The Fed is a 24-hour-a- through which sophisticated link- of the Federal Reserve System. In day operation. Times of ages ensure the safety and soundness of the entire system. the following, First Vice President Bill Stone discusses the Bank’s crisis are no exception. “We invest a tremendous amount of resources into our crisis management efforts. contingency planning efforts. These plans are frequently rePreparing for the Unexpected “Federal Reserve Banks respond to a crisis situation exactly the way our original founders had envisioned. assessed to ensure they are current, functional, and effectual. They are then tested and retested to guarantee the continuity of our business. We come to the aid of the country at crucial times and work “Our experienced Philadelphia Fed staff has seen hard to keep the payments system functioning. Prepared- the Bank through financial crises and natural disasters and ness for the unexpected is integral to our role in the economy. is always prepared to take the necessary measures to uphold “The Fed is a 24-hour-a-day operation. Times of our infrastructure and sustain our operations. The near melt- crisis are no exception. As a critical component of the struc- down at Three Mile Island and Hurricane Agnes taught us ture of the U.S. economy, the Fed stands prepared to supply the importance of being prepared to preserve the integrity liquidity and assist banking institutions when the financial of the banking system. Though September 11 was something quite different, the procedures for contingency planning still applied. Our extensive preparation for Y2K also benefited our efforts following the attacks. It was one reason the Federal Reserve was able to act quickly on September 11 – supplying needed funds for liquidity and assisting banking institutions whose ability, or customers’ ability, to Federal Reserve Bank of Philadelphia/2001 send and receive payments had been disrupted. 4 “On the morning of September 11, we had to take immediate action. We knew we had to coordinate efforts across all areas of responsibility. Later in this report, you will learn specifically how each of our major functional areas responded to the crisis. “Our first order of business on September 11 was to keep the payments system operating as close to normal as possible. Cash and currency deliveries continued throughout the day, and special requests from any depository with William H. Stone Jr. First Vice President an unexpected need were handled expeditiously. We accom- of System efforts. We also received frequent bulletins and modated banks by crediting them according to normal sched- intelligence briefings from the FBI to allow us to procure ules despite the fact that the airport shutdown kept us from information in the timeliest manner possible. moving checks by air and adhering to normal clearing sched- “During the crisis, our priority was reassuring the ules. Fedwire – our service that allows for electronic funds public of the soundness of the banking system and provid- transfer – stayed open late into the night. In addition, we ing liquidity where necessary. On September 11, the Board stood ready to hold open the Automated Clearing House, of Governors issued a press release to reassure the financial an electronic system used to process transfers for financial services industry and the public that the Federal Reserve institutions nationwide. was open and operating and that the discount window was “Another important component was ensuring available to meet liquidity needs. In situations arising from banks could meet the credit needs of their customers with- the attacks, we encouraged financial institutions, where ap- out undue concern about liquidity or capital positions. We propriate, to provide their customers reasonable relief, such increased bank reserve positions through both open mar- as waiving late payment fees, During the crisis, our ket operations, which are the extending loan terms, restructuring debt obligations, and primary means of affecting the priority was reassuring easing credit terms. In con- overall supply of reserves, and the public of the sound- junction with other federal the discount window, the Fed’s banking agencies, we also in- lending function. Moreover, we ness of the banking system dicated our willingness to ac- were able to maintain an open and providing liquidity commodate banks if in- dialogue with customers throughout the crisis. While we creased extension of customer where necessary. were working to mitigate con- credit caused a temporary decline in capital ratios. cerns by contacting select District financial institutions, “In anticipation of the potential economic implications of the attacks, the Federal Open Market tomer service area seeking assistance. Our close proximity Committee took prompt action to ease monetary policy. to New York also put us in a supporting role to provide lo- In the three months following September 11, short-term gistical support to the New York Fed. In fact, some New interest rates were cut four times for a total of 175 basis York Fed employees worked out of temporary offices in our points. facility.” “While the Fed’s monetary policy actions were its most publicized responses to the situation, our early actions Controlling the Crisis to keep payments moving and the banking system liquid “While the Federal Reserve Bank of Philadelphia were equally important for maintaining public confidence. did its part to maintain stability in the region’s banking sys- To those who have read economic history, the real story of tem, plans were also unfolding on a national, System-wide the aftermath of September 11 was the ability of the finan- level. The Board of Governors held daily conference calls cial system to remain functional and liquid without con- with all 12 Federal Reserve Banks to aid in the coordination cerns of crisis, panic, or lack of liquidity.” Federal Reserve Bank of Philadelphia/2001 many of our customers were simultaneously calling our cus- 5 Federal Reserve Response to September 11 T hese statistics illustrate the Fed’s quick and effective response to the Sep- tember 11 crisis. But beyond the numbers, the clear message is that Fed business contin- ued as usual. We remained open and operating in the aftermath of the attacks to ensure the continuation of vital payment services including electronic transfers, check processing, and currency distribution. • On September 5, System discount window borrowing totaled $195 million. On September 12, the day after the attack, it peaked at a record $45.6 billion. The Philadelphia Fed (shown above), along with the entire Federal Reserve System, helped to maintain stability during the crisis. • Also on September 12, the Open Market Desk at liberalizing its rules for securities lending. In the the Federal Reserve Bank of New York injected strained, post-crisis marketplace, the Open Mar- $38 billion in liquidity into the financial system. ket Desk’s lending expanded from a pre-September daily average of approximately $1.5 billion to Federal Reserve Bank of Philadelphia/2001 • To facilitate the functioning of financial markets 6 and provide liquidity in dollars, the Federal Re- over $8 billion a day in the week following the attacks. serve established or expanded swap lines totaling $90 billion with the European Central Bank, Bank of Canada, and Bank of England. • To further help the U.S. economy, following the attacks the Fed eased monetary policy four times during the remainder of 2001 for a total of 175 • The Open Market Desk facilitated the clearing process in the government securities markets by basis points – bringing the federal funds rate to a 40-year low of 1.75 percent. Stability in a Crisis... Checks O n a normal day, the Philadelphia Fed, the larg- Fed. In these instances we participated in System-wide est processor of checks in the Federal Reserve conference calls to decide how we could offer mutual System, clears approximately 5 million checks. support. “But the events of September 11 eclipsed any- Although other forms of payments continue to make inroads against checks, we are far from thing by far. That day, of course, achieving a checkless society. the FAA grounded all flights in So what happens when the U.S., an unprecedented there’s a crisis? Blake Prichard, move. Although the Federal Re- senior vice president, Retail Payment serve and all the private check- Services, talked about disruptions to collection arrangements rely sig- services and how the System and the nificantly on both regional and Philadelphia Fed handled the events national air transportation, we of September 11 and their after- had no contingency plans for math. Here’s his account. that. So we instantly began to put together plans to overcome such a problem.” “Several times in the past, the Fed System has had to respond to emergencies. These problems involved individual Fed- Planning On September 11, with- “On September 11, eral Reserve Banks or their Branches. For example, flooding on the Mississippi, Missouri, and out air transportation, we had no choice but to devise a system of ground transportation. Hurricane Hugo impaired activ- South Carolina, and the Char- We made arrangements with all Senior Vice President 7 the adjacent Districts to consophisticated network of vehicles to move tinue to move checks. Normally, we would ship checks to a Fed office only if those checks were ity at both the Regional Check Processing Center in Columbia, move checks out of Philadelphia. D. Blake Prichard We put together a fairly Branch of the Atlanta Fed was knocked out for a time. Similarly, We put together a fairly sophis- Federal Reserve Bank of Philadelphia/2001 aged southern Florida, the Miami had no choice but to devise a sys- ticated network of vehicles to the Chicago Fed in jeopardy. When Hurricane Andrew rav- without air transportation, we tem of ground transportation. Raccoon rivers put the St. Louis Fed and the Des Moines office of Transportation checks out of Philadelphia. going to be processed there: New York’s checks would go to New York for processing, and lotte Branch of the Richmond Baltimore’s to Baltimore. But because of the extraordi- were unable to get anything to or beyond Chicago, and nary circumstances, we loaded a big truck with checks nothing was coming here from Chicago or further west. for New York; Utica; Windsor Locks, Connecticut; and This situation persisted from September 11 to the week- Boston. We drove the truck to the New York Fed’s pro- end, when air transportation resumed.” cessing center in North Jersey and dropped off not only New York’s checks but Utica’s as well. New York then Processing an Avalanche of Checks took care of getting checks to Utica, since Utica is part “That weekend, with transportation more or less of the New York Fed. Then we drove to Windsor Locks, under control, our check operations area received an avalanche of checks. We’re Connecticut, and gave almost —but not quite them both their own checks plus Boston’s. People worked incredible The Connecticut pro- amounts of overtime. In fact, But we supplemented cessing center took the our unit worked continuously our operations to ensure that we’d have responsibility of moving checks to Boston. “At each stop, through the weekend to keep enough up with the flood of checks. manpower to process Federal Reserve Bank of Philadelphia/2001 additional we also loaded the truck whatever volume came with checks destined for in. People worked in- Philadelphia. In that way, we brought back all the checks credible amounts of overtime. In fact, our unit worked from New England and from the Second District (New continuously through the weekend to keep up with the York) for processing. That took care of the Northeast flood of checks. “Let me give you an order of magnitude for Phila- corridor. 8 — a 24/7 operation. “Simultaneously, we sent a truck to western delphia: Our average daily volume is about 5 million Pennsylvania and made arrangements with the Pittsburgh checks, and we’re the single largest check processor in Branch of the Cleveland Fed to ship all the checks that the System. During the height of the crisis, we processed belonged to its Cincinnati and Columbus offices. Like- 9.4 million checks a day. That’s close to 11.4 million ‘item wise, we supplemented a truckload of checks for Balti- passes’ because checks often have to go through the sorter more with checks for all offices of the Richmond and more than once. The dollar value was over $12 billion; Atlanta Feds. Richmond then took care of forwarding on a normal day we present about $6 billion in checks.” the checks to their respective destinations, going as far south as Florida. Working with Our Customers “Simply stated, we were collecting almost all of “We worked closely with our local banks. The our checks east of the Mississippi, though days later than biggest banks didn’t want to get one big presentment on normal. But at least checks were moving. However, we Monday morning. So, we made courtesy shipments to them throughout the weekend. PNC, Mellon, Citibank, sure of liquidity went a long way toward allowing deposi- and others got checks as they became available. Conse- tors to manage their financial positions and helped to quently, operations at those banks ran smoother. avoid a ripple effect caused by other liquidity concerns.” “In addition, the Federal Reserve System agreed to accept checks from any financial institution. Normally, Getting Back to Normal the System clears about one-third of all checks written. “Within a week of the crisis, check payments But for a while, we were handling a significantly larger were pretty much back to normal. The only area that percentage. By doing this, the Fed provided significant lagged was check adjustments. Under the best circumstances, adjustments liquidity and predictability usually lag processing by to the banking industry. Most banks were surprised [The Fed’s] action provided several weeks. So, of by this action. Ultimately, certainty of credit to finan- course, the extraordinary though, they realized it cial institutions at a time when circumstances of those months meant longer was the Fed being the Fed: bringing stability during a the larger payments system crisis. was under significant stress. lags. “Reflecting on “In fact, through- our response to the cri- out the crisis, the Federal sis, we clearly see the Reserve Banks took the position of extending credit to value of our strong national payments system. The Fed check depositors regardless of the Fed’s ability to physi- met the challenge and provided both the leadership and cally collect checks. This action provided certainty of the operational commitment to overcome adversity and credit to financial institutions at a time when the larger support the economy and the businesses that underlie payments system was under significant stress. This mea- each check payment.” Federal Reserve Bank of Philadelphia/2001 Employees in the check-processing area of the Federal Reserve Bank of Philadelphia worked overtime to keep the payments system functioning on and after September 11. 9 Stability in a Crisis... Supervision, Regulation, & Credit S upervision and regulation are among the most ful, this allows us to help banking organizations maintain critical components of the banking system. The safe and sound operations without undertaking undue Supervision, Regulation, and Credit Department risk. “The need for crisis management skills comes (SRC) supervises and regulates domestic and foreign operations for financial institutions in into play when we as supervisors eastern Pennsylvania, southern do not have advanced warning New Jersey, and Delaware, under about potential problems and are the jurisdiction of the Federal Re- instead faced with an urgent cri- serve Bank of Philadelphia and the sis situation. This was the case on Board of Governors. September 11. It is imperative for SRC to “On that morning, when maintain public confidence and nor- we realized that these were ter- mal operations at the Bank regard- rorist attacks on America, SRC less of existing circumstances. While immediately began gauging the this objective has been challenged in impact on the financial services past crisis situations, it had never been industry. Some members of our put to the test as on the days follow- SRC’s primary function committee on Credit, Reserves, ing the September 11 terrorist attacks on America. is to ensure safety and and Risk Management meeting at the New York Fed, not far from In the following, Senior Vice President Michael E. Collins recounts SRC staff were attending a Sub- soundness in the fi- SRC’s response to the crisis. nancial A Plan of Action cluding industry in- ground zero. Immediate telephone contact was made to determine if any employees had “Historically, our super- protecting consumers, ensuring Federal Reserve Bank of Philadelphia/2001 10 identifying and anticipating prob- the accessibility of financial services, and aging problem institutions is our ers in SRC to determine a plan of action. Our primary objectives were 1) to manage the technical lems before they become crises. An essential ingredient in man- safety of our staff, we organized a conference call among key play- visory and regulatory framework has played an important role in been affected. After ensuring the providing liquidity to the financial system. aspects of the attacks on the banking system and 2) to keep ability to know what traits of an people informed regarding the emerging situation could cause human aspects of the crisis.” problems. When we are success- Michael E. Collins Senior Vice President and Lending Officer the Office of the Comptroller of the Currency sent mes- Communication in a Crisis “To gauge the impact of the crisis on the Third District, we contacted select institutions around the re- sages to New York via the Philadelphia Fed, as they were unable to get through to New York. gion to assess and evaluate their financial condition. This “Acting as process facilitator proved a crucial way we were able to identify any high-risk areas in the aspect of SRC’s role on September 11. We called the District and locate potential clearing or settlement bottle- New York Fed on behalf of institutions in our District that expected to re- necks. In addition, we immediately took action Immediate and continuous ceive funds from New York banks. The New to analyze the sufficiency of back-up sys- dialogue with financial York Fed then con- tems. Our preparation institutions communicated tacted its institutions to ascertain their ability to for the century date change proved helpful in our analysis. “Immediate our willingness to accommodate special requests in this conduct business. With offices evacuated and systems down, there time of crisis. and continuous dialogue was uncertainty about with financial institu- the effective clearing tions communicated our willingness to accommodate and settlement of transactions. We were able to provide special requests in this time of crisis. Issues related to a source of information to our institutions regarding ac- section 23A of the Federal Reserve Act, which covers count activity. Meanwhile, our Credit Risk Management transactions with affiliates including collateral require- staff worked late into the night addressing settlement is- ments, quickly began to emerge. The discount window sues and completing transactions.” staff was instructed to take an accommodative posture to ensure adequate liquidity and assure institutions that Lender of Last Resort “In the days and weeks following the attacks as quiries were coming in from financial institutions around intelligence was gathered, we were in constant commu- the District as banks became apprehensive about whether nication with our institutions to impart real-time policy their normal channels for funding would be available. decisions. As lender of last resort, especially in times of We acted promptly on these inquiries and gathered in- crisis, it is our responsibility to lend to those with no ac- telligence, which allowed us to preempt potential finan- cess to credit. We communicated policy directives en- cial difficulties. couraging institutions to work with customers and not “The crisis also warranted extensive communi- allow the temporary breach of the stringent supervisory cations among banking agencies, including all Federal framework to impede service. Banks were assured that Reserve Banks, and federal and state regulators. In fact, temporarily inflated balance sheets or temporary declines Federal Reserve Bank of Philadelphia/2001 we were open to lend. Also, lending and supervisory in- 11 in capital ratios would not trigger corrective action on our part as regulators. The temporary easing of credit terms and waiving of certain obligations provided the flexibility to ensure adequate liquidity to those institutions in need.” Banking System Investigation “Once liquidity concerns were addressed, we turned our attention to how the banking system might have been used The Bank’s contingency planning team’s immediate action ensured adequate liquidity to those institutions in need. in the attack. Who was behind the attacks? How were they funded? These were the questions at the forefront of the investigation. We received lists of names from law enforcement Our Utmost Objective “Engaging in proactive crisis management pre- officials sents us with a unique which we circulated to challenge. We are es- financial institutions, The temporary easing of along with instructions credit terms and waiving of on how to notify the certain obligations pro- Federal Reserve Bank of Philadelphia/2001 proper authorities if a 12 sentially preparing for an event we hope never comes to fruition. But crises do occur, some- name from this list was vided the flexibility to en- times insignificant like discovered on their ac- sure adequate liquidity to Y2K, sometimes devas- counts. tating like September “This brings us those institutions in need. into the realm of money 11. Regardless of the issue, we must never lose laundering, an area where I am certain we will see imme- sight of the public nature of our work. Operating effi- diate and far-reaching policy changes. Proposed legisla- ciently, protecting the safety net, and keeping the confi- tion would give the Treasury new powers to target for- dence of our customers is achieved through maintaining eign countries or banks deemed to present a major money- the safety and soundness of our financial system. That is, laundering threat.” and always has been, our utmost objective.” Stability in a Crisis... SCRRM Y (Subcommittee on Credit, Reserves, & Risk Management) ou may never have heard of SCRRM, the “Shortly after the second tower collapsed, SCRRM Subcommittee on Credit, Reserves, and Risk Management. commandeered a conference phone and got to work. Despite But this group played an important role on September 11, 2001, problems with phone lines, we were able to reach the conference bridge at the Minneapolis Fed. Minneapolis staff, and for some weeks thereafter. SCRRM assists Reserve in turn, connected us with discount Bank presidents in developing and window and risk management staff implementing policies for managing at all Reserve Banks, as well as the discount window credit, reserve Board of Governors in Washington, accounts, and payment system risk. D.C. SCRRM also coordinates these collecting information about functions across Reserve Banks to developments in the financial ensure consistent application of system, particularly in the policies across the Federal Reserve interbank markets. SCRRM then began “It soon became apparent System. that there were major disruptions Here’s an account of the subcommittee’s activities to the financial system and that on September 11 and afterward from SCRRM provides a large overdrafts in their reserve SCRRM Chairman Steve Meyer, vice president and senior economic policy forum for discussing and influencing policy, assessing ing procedures to achieve an appropriate degree of con- ment system. SCRRM’s role in- tacted Philadelphia Fed President rized what SCRRM had learned. He informed us that Reserve Bank ity through the discount window. They also increased risk in the pay- “Around noon, we con- Santomero by phone and summa- by the terrorist attacks made it necessary for the Fed to provide liquid- Focusing on Liquidity sistency across the System. presidents and Federal Reserve Board Vice Chairman Ferguson cluded both supplying liquidity and had been discussing the situation. controlling risk. He confirmed that the Federal Stephen A. Meyer SCRRM Chairman, Vice President and Senior Economic Policy Advisor Federal Reserve Bank of Philadelphia/2001 tions to the financial system caused institutions in their District to risk, and coordinat- York Fed – three blocks from the World Trade Center. The disrup- Bank to contact all large financial collect information.” SCRRM and its task forces happened to be meeting at the New accounts as a result. SCRRM instructed staff in each Reserve advisor at the Philadelphia Fed. “On September 11, some financial institutions had 13 Reserve had made a commitment to provide necessary li- “Returning to Philadelphia that afternoon allowed us to participate in a 5:30 pm conference call with Federal quidity to the banking system. “In response, SCRRM instructed staff in each Reserve officials from all parts of the country and all of the Reserve Bank’s discount window function to ask financial Fed’s functions. During that call, we learned the effects of institutions to continue providing liquidity to their the terrorist attacks were even more widespread than had customers. The Fed, in turn, prepared to give those been apparent from New York.” institutions access to Federal Reserve credit, where necessary, to ensure they had sufficient liquidity to meet their customers’ needs. SCRRM also began planning Following Up “For the next week and a half, SCRRM members, other staff in all Reserve measures to control risks associated with large It soon became apparent that management functions, overdrafts and other extensions of credit. “At 4:30 pm Fed- Banks’ credit and risk there were major disruptions to the financial system. and staff at the Board of Governors shared critical information via late-after- eral Reserve Vice Chairman Ferguson joined SCRRM’s System-wide conference call. noon conference calls. We held those daily calls until mar- During that call, Vice Chairman Ferguson endorsed ket conditions returned to more-or-less normal. SCRRM’s approach to controlling the risks associated with “More recently, SCRRM has been reviewing large overdrafts. SCRRM continued to monitor develop- contingency plans and contributing to a variety of projects ments until 6 pm.” to ensure that the Fed will be able to function in any future emergency. We hope those plans will never be used.” Meeting the Next Day “At 10 am on September 12, many SCRRM members assembled in my midtown Manhattan hotel Federal Reserve Bank of Philadelphia/2001 room for another nationwide 14 conference call. We collected final details on discount window loans and overnight overdrafts from September 11, along with information about market disruptions on September 12. We also began planning how to deal with continuing disruptions. The staff of SCRRM’s administrative office holds a meeting at its Philadelphia headquarters. Stability in a Crisis... Cash & Customer Service I f events interfere with the supply of cash, the public and than that, and it would not be unusual for us to stay open the economy may suffer. Although the events of Septem- until 6 pm or 7 pm to accept a deposit. Toward the week- ber 11 didn’t have as great an impact on cash operations end, we also announced that we would be open on Sat- as they did on checks, Don Doros, executive vice president, urday for emergency orders.” offered comments on the Philadelphia Fed’s preparedness to meet a Dealing with a cash challenge. Potential Problem “One potential problem “Late on the morning of did surface. At one point, ar- September 11, we held discus- mored carriers said they would be sions here at the Bank about how pulling their trucks off the roads. individual Reserve Banks were re- This threat was troubling for at sponding to events of that day. least a couple of reasons. For one Since Philadelphia had no evi- thing, if a bank, in fact, needed dence of any threat to its opera- currency, it would lack the means tions, we remained open. of getting it. Another factor in- “Our customer service staff was kept busy answering volved banks’ retail customers. Even in this age of phones. Most of our customers seemed to have two main questions: Were we open? Was extra riers to directly pick up deposits. payment cards, cash is still an cash available in the event that it was needed? The answer to both Some retailers use armored carPlus many of these stores don’t have the facilities to keep and adequately protect large amounts of important part cash. questions was yes. As it turned out, a few customers asked for special orders, to meet unusually “So you can see that not of the economy. Banks need cash to sequent days, we received no spe- tionship between the Fed and the meet daily demand, cial orders. We also told customers that we would stay open longer than normal for pickup and banks it serves, but it would also disrupt the relationships between and ATMs must be kept stocked. delivery of cash. Our norm is 3 banks and their customers. We felt we had to address this situation. pm. But we have some latitude to accept and receive deposits later would not only affect the rela- “Requests for pickup or Donald F. Doros Executive Vice President deposit of currency come to Federal Reserve Bank of Philadelphia/2001 heavy demand at ATMs. On sub- having armored trucks available 15 us directly from the armored carriers on behalf of they wanted to know the status of Fedwire and check the banks that have hired them. Consequently, clearing. Another important part of the story is e-mail. Philadelphia is in the process we’ve developed a very close relationship with the various armored services. “Because we’ve built this close relationship over the years, staff here at the Bank We’re well prepared to provide cash services to our customers in an emergency. of taking over monitoring the performance and supporting the infrastructure of e-mail for the Federal Reserve System. But, thus far, the transition is not complete. Nonetheless, we called local carriers directly and urged them to be responsive to their customers’ had our people on alert, and we had our back-up facility needs. I’m happy to say that by mid-afternoon armored ready. The good news is that we did not need to use it. E- carriers were on the road, and luckily, this did not be- mail service was maintained and proved to be an effec- come a major complication.” tive means of communicating throughout the Federal Reserve System as it did throughout the country. So, for Maintaining Communication “As events unfolded over the rest of the week, that portion of the e-mail system we’re already managing, we did well.” we kept up communications with our customers. Mostly, Reviewing Procedures “Of course, the events of September 11 have caused the Federal Reserve System to review its contingency plans. Although the System has a considerable amount of contingency plans already, we now have to make sure they’re adequate for these new circumstances. Federal Reserve Bank of Philadelphia/2001 “I think the message in all of this is 16 that we’re well prepared to provide cash services to our customers in an emergency. Our operations stayed open, and we were in close contact with our customers. And even though there were no extraordinary demands for currency, had there been, be assured that we would have been able to meet them.” Federal Reserve Bank employees in the cash vault prepare bundles of currency for delivery to customers. Stability in a Crisis... Public Affairs T he Public Affairs Department helps to shape the Switzerland.) In Richmond, the television media wanted public’s understanding and perception of the Federal Re- to know if the same architect who designed the World serve through working with the local and national media. Trade Towers had worked on their building. (Yes, it was.) During a crisis, our role is to provide relevant, timely infor- In Philadelphia, the question was if our president had mation. returned from giving a speech in New York the day before. (Yes, he and his staff returned on Monday.) “Fifteen minutes after the second airplane “Yet from San Francisco to Boston, all my pub- crashed into the tower, the first call came into Public lic affairs peers were dealing with many of the same ques- Affairs. ‘The Fed hasn’t evacuated,’ the reporter yelled tions: What impact will the attack have on the economy? back to the newsroom. It was but the first of many media How are checks be- calls received in the hours and days following the terror- ing transported if all ist attacks. airplanes “My first response was to let reporters know that we were open and operating and that the Federal Re- are grounded? Was there plenty of cash? serve System stood ready to supply liquidity to any finan- “In Phila- cial institution during this disruption in the markets. This delphia, reporters message went on our Bank’s web site immediately. called about rumors “My colleagues within the Fed Bank network of alleged bank runs and the Board of Governors quickly scheduled regular — unfounded in our communication through e-mail alerts and daily confer- District. It became ence calls. Fed Banks with operations that served the important to convey entire Fed network spoke on behalf of the System. For that the Philadelphia Fed was prepared with plenty of example, Atlanta, home to the check relay system, an- cash, and the Fed stood ready to meet any nationwide swered check inquiries; San Francisco acted as the source unexpected cash demands. for cash distribution questions, while Boston was contacted regarding retail payments. Marilyn Wimp Media Representative “Our responses were closely coordinated to be consistent. We had to speak with one clear voice. “We also had to be mindful of having consistent front-burner issues, sitting in on Vice Chairman news reports nationwide. One low note was news from Ferguson’s conference calls, and conferring with col- the Justice Department that several Fed Banks might have leagues. We followed the same clear crisis communica- been targets for terrorists. One high note – literally – tions guidelines that proved successful during Y2K. Indi- came from the New York Fed, located in the heart of vidual Fed Banks handled questions about their region Wall Street, as it played John Philip Sousa music over its but referred national matters to Washington. outside speakers. “Some reporters’ questions were very specific. “From the Liberty Bell to the Golden Gate For example, Washington press wanted to know the Bridge, the Federal Reserve System spoke with one strong, whereabouts of Chairman Greenspan. (He was safe in clear, reassuring voice during the September 11 crisis.” Federal Reserve Bank of Philadelphia/2001 “Days were filled talking to officers handling 17 Board of Directors Robert Chappell (1) Palsy of New Jersey, Cherry Hill Charisse R. Lillie (6) Federal Reserve Bank of Philadel- Economic Development Council, Chairman, Federal Reserve Bank of phia Board of Directors member Our Lady of Lourdes Medical Cen- Philadelphia Board of Directors. since 2000. Member Budget and ter, Our Lady of Lourdes Founda- Board member since 1996. Partner Operations and Personnel Commit- tion, and Cherry Hill Regional in law firm of Ballard Spahr tees. Chairman and Chief Execu- Chamber of Commerce. Andrews & Ingersoll, LLP. Mem- tive Officer of Penn Mutual Life In- ber of Labor and Employment Law surance Company. Member Insur- Rufus A. Fulton Jr. (4) Group of firm’s litigation depart- tions and Research and External ance Federation of Pennsylvania. Federal Reserve Bank of Philadelphia ment. Chair of American Bar As- Affairs Committees. President of Sits on Taxation and Financial Ser- Board of Directors member since sociation Commission on Racial Pennsylvania Building and Con- vices Steering Committee for Ameri- 1999. Member Budget and Opera- and Ethnic Diversity. Serves on struction Trades Council in Har- can Council of Life Insurance. tions and Research and External Af- numerous boards including Juvenile risburg. Co-founder of the Capi- Serves on boards of Glatfelter, fairs Committees. Chairman and Law Center, Friends Select School, tal Area Labor Management Com- Quaker Chemical Corporation, Chief Executive Officer of Fulton Fi- The Franklin Institute, and Lead- mittee. Member of Executive South Chester Tube Company, and nancial Corporation. Serves on ex- ership, Inc. Committee of Pennsylvania AFL- Wharton Financial Institutions Cen- ecutive committee of Pennsylvania ter at University of Pennsylvania. Bankers Association. Member of Ronald J. Naples (7) Economic Development through American Bankers Council and Federal Reserve Bank of Philadel- Labor Management, Pennsylvania Howard E. Cosgrove Jr. (2) Bankers Roundtable. Serves on phia Board of Directors member Prevailing Wage Advisory Board, Federal Reserve Bank of Philadel- boards of Lancaster General Hospi- since January 2001. Member Au- and Keystone Commission on Edu- phia Board of Directors member tal, Boys’ Club of Lancaster Founda- dit and Research and External Af- cation and Employment in the 21st since 1996. Member Budget and tion, Lancaster Alliance, and fairs Committees. Chairman and Century. Operations and Personnel Commit- Burnham Corporation. Chief Executive Officer of Quaker Federal Reserve Bank of Philadelphia/2001 tees. Chairman, President, and 18 CIO, Governor’s Committee on Chemical Corporation. Chairman Robert J. Vanderslice (9) Chief Executive Officer of Frank Kaminski Jr. (5) of the Board of the University of the Federal Reserve Bank of Philadel- Conectiv. Professional/civic affili- Federal Reserve Bank of Philadel- Arts. Serves on boards of Glatfelter, phia Board of Directors member ations include Edison Electric In- phia Board of Directors member Philadelphia Museum of Art, since January 2001. Member Au- stitute, University of Delaware, since 2000. Member Audit and Franklin Institute, American Red dit and Personnel Committees. Hagley Museum, and Delaware Research and External Affairs Cross (Southeastern Pennsylvania President and Chief Operating Of- Business Roundtable. Committees. Chairman of Atlan- Chapter), Foreign Policy Research ficer of Pennsville National Bank, tic Central Bankers Bank. Profes- Institute, Rock School of the Penn- Pennsville, New Jersey. Vice Presi- Doris M. Damm (3) sional affiliations include Pennsyl- sylvania Ballet, and Friends’ Cen- dent of Penn Bancshares, Inc. Pro- Federal Reserve Bank of Philadel- vania Bankers Association, Inde- tral School. fessional affiliations include Federal phia Board of Directors member pendent Bankers Association of since January 2001. Member Au- America, Pennsylvania Association Glenn A. Schaeffer (8) New Jersey Bankers Association, dit and Personnel Committees. of Community Bankers, and Bank- Deputy Chairman of Federal Re- Pennsville Economic Development President and Chief Executive Of- ers Bank Council. serve Bank of Philadelphia Board Coalition, Penns Grove Rotary ficer of ACCU Staffing Services. of Directors. Board member since Club, and Salem County Chamber Other affiliations include Cerebral 1998. Member Budget and Opera- of Commerce. Reserve Relations Committee of Federal Reserve Bank of Philadelphia/2001 19 Advisory Councils Business Council John K. Ball (1) Chairman, President, & CEO R.M. Shoemaker Co. West Conshohocken, PA Chloe R. Eichelberger* Owner, President, & CEO Chloe Eichelberger Textiles, Inc. Middletown, PA David J. Freschman (2) President Delaware Innovation Fund Wilmington, DE Daniel R. Hawbaker (3) President Glenn O. Hawbaker, Inc. State College, PA Federal Reserve Bank of Philadelphia/2001 * Not Pictured 20 Chairman Janis Herschkowitz (4) President & CEO PRL, Inc. & Subsidiaries Cornwall, PA David C. Hileman (5) Owner Hilecrest Farms Tyrone, PA Sandra F. Holsonback (6) Director Small Business Development Center Lehigh University Bethlehem, PA Warren B. Matthews, M.D. (7) President Wyncote Family Medicine Wyncote, PA Mitchell L. Morgan (8) President Morgan Properties King of Prussia, PA Audrey S. Oswell (9) President & COO Resorts Atlantic City Atlantic City, NJ Jay Windsor (10) President Lakeside Greenhouses, Inc. Laurel, DE 9 7 8 3 1 6 5 2 7 3 2 9 8 5 6 11 1 4 10 Daniel L. Price Sr. (8) President & CEO Century Savings Bank Bridgeton, NJ Patrick M. Ryan* President and CEO The Yardville National Bank Hamilton, NJ Community Bank Council Theodore D. Bessler* President & CEO Shore Community Bank Toms River, NJ Thomas J. Bisko (1) President The Quakertown National Bank Quakertown, PA John G. Gerlach (3) President, CEO, & Director Pocono Community Bank Stroudsburg, PA Chairman Stephen C. Nelson (5) President & CEO Artisans’ Bank Wilmington, DE John W. Ord (6) President & CEO Peoples National Bank Hallstead, PA Frederick C. (Ted) Peters II (7) President & CEO The Bryn Mawr Trust Company Bryn Mawr, PA Thomas A. Vento (10) President & CEO Prudential Savings Bank, PASA Philadelphia, PA Wayne R. Weidner* Chairman, President & CEO National Penn Bancshares, Inc. Boyertown, PA Julie Wong (11) President & CEO First Asian Bank Edison, NJ * Not Pictured Federal Reserve Bank of Philadelphia/2001 Thomas W. Cook (2) Executive Vice President & CEO The Bank of Landisburg Landisburg, PA Robert H. King (4) President Sterling Bank Mount Laurel, NJ Deputy Chairman Kenneth R. Shoemaker (9) President & CEO Orrstown Bank Shippensburg, PA 21 Credit Union Council Paula Albanese (1) President Diamond State FCU New Castle, DE John LaRosa (5) COO & Treasurer Police and Fire FCU Philadelphia, PA James F. McCaw (7) President & CEO K of C FCU Philadelphia, PA Barbara Arrowsmith* Manager New Castle County Delaware Employees FCU New Castle, DE Chairman Lee T. MacMinn (6) President & CEO Freedom CU Philadelphia, PA Kipp Stecher (8) President & CEO AmeriChoice FCU Mechanicsburg, PA Judith M. Supplee (9) President & CEO Keystone FCU Downingtown, PA Jo Ann Broderick (2) President First Commonwealth FCU Lehigh Valley, PA L. Edward Brzozowski (3) President MON-OC FCU Toms River, NJ Federal Reserve Bank of Philadelphia/2001 Dennis Flickinger (4) President & CEO First Capital FCU York, PA 22 4 8 3 7 6 1 * Not Pictured 9 2 5 Officers Anthony M. Santomero President William H. Stone Jr. First Vice President Donald F. Doros Executive Vice President Richard W. Lang Executive Vice President Michael E. Collins Senior Vice President and Lending Officer David D. Gathman Senior Vice President and Chief Financial Officer Loretta J. Mester Senior Vice President and Director of Research D. Blake Prichard Senior Vice President Retail Payment Services Milissa M. Tadeo Senior Vice President Treasury Services and Customer Services & Support John G. Bell Vice President Financial Statistics Robert J. Bucco Vice President Wholesale Payments Product Office Peter P. Burns Vice President and Director Payment Cards Center Dean Croushore Vice President and Economist John J. Deibel Vice President and Chief Administrative Officer Supervision, Regulation, and Credit Patrick L. Donahue Vice President Business Development Herbert E. Taylor Vice President and Corporate Secretary Ronald R. Sheldon Assistant Vice President Check Operations Joanna H. Frodin Vice President Supervision, Regulation, and Credit Vish P. Viswanathan Vice President and Discount Officer Supervision, Regulation, and Credit Marie Tkaczyk Assistant Vice President Information Technology Services Faith P. Goldstein Vice President Public Affairs Arun K. Jain Vice President Retail Payments Processing Jerry Katz Vice President Human Resources Henry T. Kern Vice President Cash Services Thomas P. Lambinus Vice President Facilities Management and Accounting Services Edward M. Mahon Vice President and General Counsel Stephen A. Meyer Vice President and Senior Economic Policy Advisor Mary DeHaven Myers Vice President and Community Affairs Officer A. Reed Raymond III Vice President Supervision, Regulation, and Credit Eileen P. Adezio Assistant Vice President Supervision, Regulation, and Credit Shirley L. Coker Assistant Vice President and Counsel Donna L. Franco Assistant Vice President Accounting Services William L. Gaunt Assistant Vice President Supervision, Regulation, and Credit Stephen G. Hart Assistant Vice President and Planning Officer Business Planning and Analysis Mary Ann Hood Assistant Vice President Human Resources Howard M. James Jr. Assistant Vice President Supervision, Regulation, and Credit Alice Kelley Menzano Assistant Vice President Groupware Leadership Center Information Technology Services Department Louis N. Sanfelice Vice President Supervision, Regulation, and Credit Camille M. Ochman Assistant Vice President Treasury Services John B. Shaffer Vice President and General Auditor Patrick M. Regan Assistant Vice President and Information Security Officer Richard A. Sheaffer Vice President Treasury Services Anthony T. Scafide Jr. Assistant Vice President Customer Services and Support Officers list through December 31, 2001, plus 2002 promotions through March Sharon N. Tomlinson Assistant Vice President Business Planning and Analysis & Assistant Secretary Richard Valente Assistant Vice President and Assistant General Auditor Elisabeth Videira-Dzeng Assistant Vice President Supervision, Regulation, and Credit Bernard M. Wennemer Assistant Vice President Supervision, Regulation, and Credit Michael P. Zamulinsky Assistant Vice President Supervision, Regulation, and Credit Mitchell Berlin Research Officer and Economist Research Department Donna L. Brenner Budget Officer John P. Kelly Check Adjustments Officer Linda K. Kirson Office Automation Support Officer Joseph L. McCann Administrative Services and Security Officer Edward Morrison Operations Officer Data Processing Michelle Scipione Cash Services Officer Stephen J. Smith Assistant Counsel Anthony J. White Financial Services Officer Federal Reserve Bank of Philadelphia/2001 Theodore M. Crone Vice President and Economist William Evans Jr. Vice President Information Technology Services 23 Operating Statistics T otal commercial check volume increased 2 in the volume of currency processed were attributable to percent while the dollar value of transactions increased additional capacity resulting from the installation of two 31 percent. An increase in the number of high dollar currency counting rooms. The substantial increase in coin value Same Day Settlement deposits resulted in an increase processed was the result of unusually large deposits from in total dollar value of checks processed. A significant one of our large cash customers. increase in U.S. government check volume was experienced in 2001 because of the issuance of a one-time income tax While the number of loans to depository institutions in 2001 rebate. was lower than in the previous year, the average size of the In 2001, the Bank continued to be a major loans was higher. processor of cash in the Federal Reserve System. Increases 2001 Volume 2001 Dollar Value 2000 Volume 2000 Dollar Value SERVICES TO DEPOSITORY INSTITUTIONS Wire Transfer of Funds 8.2 million transfers $27.3 trillion 7.7 million transfers $25.3 trillion Check processing: U.S. Government Commercial checks 40.9 million checks 1,339.8 million checks $37.1 billion $2,501.3 billion 31.1 million checks 1,314.5 million checks $32.5 billion $1,913.4 billion Cash operations: Currency processed Coin processed 2,053.8 million notes 52.5 thousand bags $36.8 billion $29.9 million 1,659.0 million notes 19.7 thousand bags $35.6 billion $9.6 million $503 million 183 loans $545 million 48,000 transfers $170 billion 47,000 transfers $138 billion 6.4 million coupons $34.3 million 6.3 million coupons $31.3 million Federal Reserve Bank of Philadelphia/2001 Loans to depository institutions 24 96 loans SERVICES TO U.S. TREASURY Electronic book-entry transfers Food coupons processed Note: Because of consolidation of Federal Reserve System ACH operations in 2001, ACH statistics are no longer shown here. Financial Report Contents Letter to Directors 27 Report of Independent Accountants 28 Report of Independent Accountants 29 Statements of Condition 30 Statements of Income 31 Statements of Changes in Capital 32 Notes to Financial Statements Federal Reserve Bank of Philadelphia/2001 26 25 Federal Reserve Bank of Philadelphia/2001 LETTER TO DIRECTORS 26 REPOR T OF INDEPENDENT ACC OUNT ANT S EPORT CCOUNT OUNTANT ANTS Federal Reserve Bank of Philadelphia/2001 27 Federal Reserve Bank of Philadelphia/2001 REPOR T OF INDEPENDENT ACC OUNT ANT S EPORT CCOUNT OUNTANT ANTS 28 STATEMENTS OF CONDITION As of December 31, 2001 and December 31, 2000 (in millions) ASSETS 2001 Gold certificates Special drawing rights certificates Coin Items in process of collection Loans to depository institutions U.S. government and federal agency securities, net Investments denominated in foreign currencies Accrued interest receivable Interdistrict settlement account Bank premises and equipment, net Other assets Total assets 2000 $ 454 83 44 526 — 23,071 481 234 — 70 91 $ 414 83 52 384 2 21,596 486 251 1,353 72 91 $ 25,054 $ 24,784 $ 21,773 $ 23,114 LIABILITIES AND CAPITAL Liabilities: Federal Reserve notes outstanding, net Deposits: Depository institutions Other deposits Deferred credit items Interest on Federal Reserve notes due U.S. Treasury Interdistrict settlement account Accrued benefit costs Other liabilities Total liabilities Total capital Total liabilities and capital $ The accompanying notes are an integral part of these financial statements. 702 3 404 44 — 51 10 24,612 24,328 221 221 228 228 442 456 25,054 $ 24,784 Federal Reserve Bank of Philadelphia/2001 Capital: Capital paid-in Surplus 413 2 100 29 2,239 51 5 29 STATEMENTS OF INCOME For the years ended December 31, 2001 and December 31, 2000 (in millions) 2001 Interest income: Interest on U.S. government and federal agency securities Interest on investments denominated in foreign currencies $ 1,211 8 1,230 1,219 47 20 (47) 13 4 43 23 (44) (3) 3 Total other operating income 37 22 Operating expenses: Salaries and other benefits Occupancy expense Equipment expense Cost of unreimbursed Treasury services Assessments by Board of Governors Other expenses 79 9 13 — 24 32 74 9 11 4 23 39 157 160 Other operating income: Income from services Reimbursable services to government agencies Foreign currency losses, net U.S. government securities gains (losses), net Other income Total operating expenses Net income prior to distribution Federal Reserve Bank of Philadelphia/2001 $ 11 Total interest income 30 1,219 2000 Distribution of net income: Dividends paid to member banks Transferred to (from) surplus Payments to U.S. Treasury as interest on Federal Reserve notes Total distribution $ 1,110 $ 1,081 $ 14 (7) $ 13 145 1,103 $ The accompanying notes are an integral part of these financial statements. 1,110 923 $ 1,081 STATEMENTS OF CHANGES IN CAPITAL for the years ended December 31, 2001 and December 31, 2000 (in millions) Capital Paid-in Balance at January 1, 2000 (4.0 million shares) Net income transferred to surplus Surplus transfer to the U.S. Treasury Net change in capital stock issued (0.6 million shares) Balance at December 31, 2000 (4.6 million shares) Transferred from surplus Net change in capital stock redeemed (0.2 million shares) Balance at December 31, 2001 (4.4 million shares) $ 199 — — Surplus $ 29 $ 228 — 221 $ — $ (7) $ 200 145 (117) Total Capital 228 (7) 29 $ — $ 221 399 145 (117) 456 (7) (7) $ 442 The accompanying notes are an integral part of these financial statements. Federal Reserve Bank of Philadelphia/2001 31 NOTES TO FINANCIAL STATEMENTS 1. ORGANIZATION The Federal Reserve Bank of Philadelphia (“Bank”) is 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 System consists of the Board of Governors of the Federal Reserve System (“Board of Governors”) and twelve Federal Reserve Banks (“Reserve Banks”). The Reserve Banks are chartered by the federal government and possess a unique set of governmental, corporate, and central bank characteristics. Other major elements of the System are the Federal Open Market Committee (“FOMC”) and the Federal Advisory Council. 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. Structure The Bank in Philadelphia serves the Third Federal Reserve District, which includes Delaware and portions of New Jersey and Pennsylvania. In accordance with the Federal Reserve Act, supervision and control of the Bank are exercised by a Board of Directors. Banks that are members of the System include all national banks and any state chartered bank that applies and is approved for membership in the System. Federal Reserve Bank of Philadelphia/2001 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, and six directors are elected by member banks. Of the six elected by member banks, three represent the public and three represent member banks. 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. 32 2. OPERATIONS AND SERVICES The System performs a variety of services and operations. Functions include: formulating and conducting monetary policy; participating actively in the payments mechanism, including large-dollar transfers of funds, automated clearinghouse (“ACH”) operations and check processing; distributing coin and currency; performing fiscal agency functions for the U.S. Treasury and certain federal agencies; serving as the federal government’s bank; providing short-term loans to depository institutions; serving the consumer and the community by providing educational materials and information regarding consumer laws; supervising bank holding companies and state member banks; and administering other regulations of the Board of Governors. The Board of Governors’ operating costs are funded through assessments on the Reserve Banks. The FOMC establishes policy regarding open market operations, oversees these operations, and issues authorizations and directives to the FRBNY for its execution of transactions. Authorized transaction types include direct purchase and sale of securities, matched sale-purchase transactions, the purchase of securities under agreements to resell, and the lending of U.S. government securities. The FRBNY is also authorized by the FOMC to hold balances of and to execute spot and forward foreign exchange and securities contracts in nine foreign currencies, maintain reciprocal currency arrangements (“F/X swaps”) with various central banks, and “warehouse” foreign currencies for the U.S. Treasury and Exchange Stabilization Fund (“ESF”) through the Reserve Banks. 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 the Financial Accounting Standards Board. The Board of Governors has developed specialized accounting principles and practices that it believes are appropriate for the significantly different nature and function of a central bank as compared to 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 Reserve Banks are required to adopt and apply accounting policies and practices that are consistent with the Financial Accounting Manual. The financial statements have been prepared in accordance with the Financial Accounting Manual. Differences exist between the accounting principles and practices of the System and accounting principles generally accepted in the United States of America (“GAAP”). The primary differences are the presentation of all security holdings at amortized cost, rather than at the fair value presentation requirements of GAAP, and the accounting for matched sale-purchase transactions as separate sales and purchases, rather than secured borrowings with pledged collateral, as is generally required by GAAP. In addition, the Bank has elected not to present a Statement of Cash Flows. The Statement of Cash Flows has not been included as the liquidity and cash position of the Bank are not of primary concern to the users of these financial statements. Other information regarding the Bank’s activities is provided in, or may be derived from, the Statements of Condition, Income, and Changes in Capital. Therefore, a Statement of Cash Flows would not provide any additional useful information. There are no other significant differences between the policies outlined in the Financial Accounting Manual and GAAP. Effective January 2001, the System implemented procedures to eliminate the sharing of costs by Reserve Banks for certain services a Reserve Bank may provide on behalf of the System. Data for 2001 reflects the adoption of this policy. Major services provided for the System by this bank, for which the costs will not be redistributed to the other Reserve Banks, include: Collateral Management System, Electronic Cash Letter development, Groupware Leadership Center, Office of Cash Fiscal Services, Treasury Direct Central Business Administration Function. 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 and 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. Federal Reserve Bank of Philadelphia/2001 a. Gold Certificates The Secretary of the Treasury is authorized to issue gold certificates to the Reserve Banks to monetize gold held by the U.S. Treasury. 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. These 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 lowered. 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 upon average Federal Reserve notes outstanding in each District. 33 NOTES TO FINANCIAL STATEMENTS b. Special Drawing Rights Certificates Special drawing rights (“SDRs”) 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. SDRs 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. At such time, 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 SDRs, at the direction of the U.S. Treasury, for the purpose of financing SDR certificate acquisitions or for financing exchange stabilization operations. At the time SDR transactions occur, the Board of Governors allocates amounts among Reserve Banks based upon Federal Reserve notes outstanding in each District at the end of the preceding year. There were no SDR transactions in 2001. c. Loans to Depository Institutions The Depository Institutions Deregulation and Monetary Control Act of 1980 provides that all depository institutions that maintain reservable transaction accounts or nonpersonal time deposits, as defined in Regulation D issued by the Board of Governors, have borrowing privileges at the discretion of the Reserve Banks. Borrowers execute certain lending agreements and deposit sufficient collateral before credit is extended. Loans are evaluated for collectibility, and currently all are considered collectible and fully collateralized. If any loans were 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 Banks, subject to review by the Board of Governors. Reserve Banks retain the option to impose a surcharge above the basic rate in certain circumstances. Federal Reserve Bank of Philadelphia/2001 d. U.S. Government and Federal Agency Securities and Investments Denominated in Foreign Currencies The FOMC has designated the FRBNY to execute open market transactions on its behalf and to hold the resulting securities 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. Such authorizations are reviewed and approved annually by the FOMC. 34 Matched sale-purchase transactions are accounted for as separate sale and purchase transactions. Matched sale-purchase transactions are transactions in which the FRBNY sells a security and buys it back at the rate specified at the commencement of the transaction. The FRBNY has sole authorization by the FOMC to lend U.S. government securities held in the SOMA to U.S. government securities dealers and to banks participating in U.S. government securities clearing arrangements on behalf of the System, in order to facilitate the effective functioning of the domestic securities market. These securities-lending transactions are fully collateralized by other U.S. government securities. FOMC policy requires FRBNY to take possession of collateral in excess of the market values of the securities loaned. The market values of the collateral and the securities loaned are monitored by FRBNY on a daily basis, with additional collateral obtained as necessary. The securities loaned continue to be accounted for in the SOMA. Foreign exchange (“F/X”) contracts are contractual agreements between two parties to exchange specified currencies, at a specified price, on a specified date. Spot foreign contracts normally settle two days after the trade date, whereas the settlement date on forward contracts is negotiated between the contracting parties, but will extend beyond two days from the trade date. The FRBNY generally enters into spot contracts, with any forward contracts generally limited to the second leg of a swap/warehousing transaction. The FRBNY, on behalf of the Reserve Banks, maintains renewable, short-term F/X swap arrangements with two authorized foreign central banks. 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 foreign currencies that it may need for intervention operations to support the dollar and give the partner foreign central bank temporary access to dollars it may need to support its own currency. Drawings under the F/X swap arrangements can be initiated by either the FRBNY or the partner foreign central bank, and must be agreed to by the drawee. The F/X swaps are structured so that the party initiating the transaction (the drawer) bears the exchange rate risk upon maturity. The FRBNY will generally invest the foreign currency received under an F/X swap in interest-bearing instruments. Warehousing is an arrangement under which the FOMC agrees to exchange, at the request of the Treasury, U.S. dollars for foreign currencies held by the 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 Treasury and ESF for financing purchases of foreign currencies and related international operations. In connection with its foreign currency activities, the FRBNY, on behalf of the Reserve Banks, may enter into contracts which contain varying degrees of off-balance sheet market risk, because they represent contractual commitments involving future settlement and counter-party credit risk. The FRBNY controls credit risk by obtaining credit approvals, establishing transaction limits, and performing daily monitoring procedures. U.S. government and federal agency 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 and is reported as “Interest on U.S. government and federal agency securities” or “Interest on investments denominated in foreign currencies,” as appropriate. Income earned on securities lending transactions is reported as a component of “Other income.” Gains and losses resulting from sales of securities are determined by specific issues based on average cost. Gains and losses Federal Reserve Bank of Philadelphia/2001 While the application of current market prices to the securities currently held in the SOMA portfolio and investments denominated in foreign currencies 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 from time to time involve transactions that can result in gains or losses when holdings are sold prior to maturity. However, decisions regarding the securities and foreign currencies transactions, including their purchase and sale, are motivated by monetary policy objectives rather than profit. Accordingly, earnings and any gains or losses resulting from the sale of such currencies and securities are incidental to the open market operations and do not motivate its activities or policy decisions. 35 NOTES TO FINANCIAL STATEMENTS on the sales of U.S. government and federal agency securities are reported as “U.S. government securities gains (losses), net.” Foreign-currency-denominated assets are revalued daily at current 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 losses, net.” Foreign currencies held through F/X swaps, when initiated by the counter-party, and warehousing arrangements are revalued daily, with the unrealized gain or loss reported by the FRBNY as a component of “Other assets” or “Other liabilities,” as appropriate. Balances of U.S. government and federal agency securities bought outright, securities loaned, investments denominated in foreign currency, interest income, securities lending fee income, amortization of premiums and discounts on securities bought outright, gains and losses on sales of securities, and realized and unrealized gains and losses on investments denominated in foreign currencies, excluding those held under an F/X swap arrangement, are allocated to each Reserve Bank. Income from securities lending transactions undertaken by the FRBNY are also allocated to each Reserve Bank. Securities purchased under agreements to resell and unrealized gains and losses on the revaluation of foreign currency holdings under F/X swaps and warehousing arrangements are allocated to the FRBNY and not to other Reserve Banks. Statement of Financial Accounting Standards No. 133, as amended and interpreted, became effective on January 1, 2001. For the periods presented, the Reserve Banks had no derivative instruments required to be accounted for under the standard. Federal Reserve Bank of Philadelphia/2001 e. Bank Premises and Equipment Bank premises and equipment are stated at cost less accumulated depreciation. Depreciation is calculated on a straight-line basis over estimated useful lives of assets ranging from 2 to 50 years. New assets, major alterations, renovations and improvements are capitalized at cost as additions to the asset accounts. Maintenance, repairs and minor replacements are charged to operations in the year incurred. Internally-developed software is capitalized based on the cost of direct materials and services and those indirect costs associated with developing, implementing, or testing software. 36 f. Interdistrict Settlement Account At the close of business each day, all Reserve Banks and branches assemble the payments due to or from other Reserve Banks and branches as a result of transactions involving accounts residing in other Districts that occurred during the day’s operations. Such transactions may include funds settlement, check clearing and ACH operations, and allocations of shared expenses. The cumulative net amount due to or from other Reserve Banks is reported as the “Interdistrict settlement account.” 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 to the Reserve Banks upon deposit with such Agents of certain classes of collateral security, typically U.S. government securities. These notes are identified as issued to a specific Reserve Bank. The Federal Reserve Act provides that the collateral security 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. In accordance with the Federal Reserve Act, gold certificates, special drawing rights certificates, U.S. government and federal agency securities, triparty agree- ments, loans to depository institutions, and investments denominated in foreign currencies are pledged as collateral for net Federal Reserve notes outstanding. The collateral value is equal to the book value of the collateral tendered, with the exception of securities, whose collateral value is equal to the par value of the securities tendered. The Board of Governors may, at any time, call upon a Reserve Bank for additional security to adequately collateralize the Federal Reserve notes. The Reserve Banks have entered into an agreement which provides for certain assets of the Reserve Banks to be jointly pledged as collateral for the Federal Reserve notes of all Reserve Banks in order to satisfy their obligation of providing sufficient collateral for outstanding Federal Reserve notes. 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, as obligations of the United States, Federal Reserve notes are backed by the full faith and credit of the United States government. The “Federal Reserve notes outstanding, net” account represents Federal Reserve notes reduced by currency held in the vaults of the Bank of $6,562 million, and $8,706 million at December 31, 2001 and 2000, respectively. h. Capital Paid-in The Federal Reserve Act requires that each member bank subscribe to the capital stock of the Reserve Bank in an amount equal to 6 percent of the capital and surplus of the member bank. As a member bank’s capital and surplus changes, its holdings of the Reserve Bank’s stock must be adjusted. Member banks are those state-chartered banks that apply and are approved for membership in the System and all national banks. Currently, only one-half of the subscription is paid-in and the remainder is subject to call. These shares are nonvoting with a par value of $100. They may not be transferred or hypothecated. By law, each member bank is entitled to receive 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. i. Surplus The Board of Governors requires Reserve Banks to maintain a surplus equal to the amount of capital paid-in as of December 31. 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. Reserve Banks are required by the Board of Governors to transfer to the U.S. Treasury excess earnings, after providing for the costs of operations, payment of dividends, and reservation of an amount necessary to equate surplus with capital paid-in. In the event of losses or a substantial increase in capital, payments to the U.S. Treasury are suspended until such losses are recovered through subsequent earnings. Weekly payments to the U.S. Treasury may vary significantly. Federal Reserve Bank of Philadelphia/2001 The Consolidated Appropriations Act of 2000 (Public Law 106-113, Section 302) directed the Reserve Banks to transfer to the U.S. Treasury additional surplus funds of $3,752 million during the Federal Government’s 2000 fiscal year. Federal Reserve Bank of Philadelphia transferred $117 million to the U.S. Treasury. Reserve Banks were not permitted to replenish surplus for these amounts during fiscal year 2000, which ended September 30, 2000; however, the surplus was replenished by December 31, 2000. 37 NOTES TO FINANCIAL STATEMENTS j. Income and Costs related to Treasury Services The Bank is required by the Federal Reserve Act to serve as fiscal agent and depository of the United States. By statute, the Department of the Treasury is permitted, but not required, to pay for these services. The costs of providing fiscal agency and depository services to the Treasury Department that have been billed but will not be paid are reported as the “Cost of unreimbursed Treasury services.” Beginning January 1, 1998, the reimbursement process for all Reserve Banks was centralized at the Bank that included the transfer of each Reserve Bank’s Treasury reimbursement receivable to the Bank. The centralized portion of the Bank’s reimbursement receivable, reported in “Other assets,” totaled $70 million and $71 million at December 31, 2001 and 2000, respectively. The centralized portion of the Bank’s Costs of unreimbursed Treasury services totaled $77 thousand and $4 million for the years ended December 31, 2001 and 2000, respectively. Enhancement to the Treasury billing process implemented January 1, 2001 resulted in a significant decrease in the amount of unreimbursed costs. k. Taxes The Reserve Banks are exempt from federal, state, and local taxes, except for taxes on real property, which are reported as a component of “Occupancy expense.” 4. U.S. GOVERNMENT AND FEDERAL AGENCY SECURITIES Securities bought outright are held in the SOMA at the FRBNY. An undivided interest in SOMA activity, with the exception of securities held under agreements to resell and the related premiums, discounts and income, is allocated to each Reserve Bank on a percentage basis derived from an annual settlement of interdistrict clearings. The settlement, performed in April of each year, equalizes Reserve Bank gold certificate holdings to Federal Reserve notes outstanding. The Bank’s allocated share of SOMA balances was 4.107 percent and 4.165 percent at December 31, 2001 and 2000, respectively. The Bank’s allocated share of securities held in the SOMA at December 31, that were bought outright, were as follows (in millions): Federal Reserve Bank of Philadelphia/2001 Par value: 38 2001 Federal agency U.S. government: Bills Notes Bonds Total par value Unamortized premiums Unaccreted discounts $ .4 Total allocated to Bank $ 23,071.3 2000 $ 7,478.5 10,923.2 4,257.8 22,659.9 464.2 (52.8) 5.4 7,444.7 10,003.5 3,864.5 21,318.1 405.5 (127.8) $ 21,595.8 Total SOMA securities bought outright were $561,701 million and $518,501 million at December 31, 2001 and 2000, respectively. The maturity distribution of U.S. government and federal agency securities bought outright, which were allocated to the Bank at December 31, 2001, were as follows (in millions): Par value Maturities of Securities Held Within 15 days 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 Total U.S. Government Securities $ Federal Agency Obligations Total 438.9 5,115.6 5,365.4 6,290.8 2,190.8 3,258.0 $ — — — 0.4 — — $ 438.9 5,115.6 5,365.4 6,291.2 2,190.8 3,258.0 $ 22,659.5 $ 0.4 $ 22,659.9 At December 31, 2001 and 2000, matched sale-purchase transactions involving U.S. government securities with par values of $23,188 million and $21,112 million, respectively, were outstanding, of which $952 million and $879 million were allocated to the Bank. Matched sale-purchase transactions are generally overnight arrangements. At December 31, 2001 and 2000, U.S. government securities with par values of $7,345 million and $2,086 million, respectively, were loaned from the SOMA, of which $302 million and $87 million were allocated to the Bank. Each Reserve Bank is allocated a share of foreign-currency-denominated assets, the related interest income, and realized and unrealized foreign currency gains and losses, with the exception of unrealized gains and losses on F/X swaps and warehousing transactions. This allocation is based on the ratio of each Reserve Bank’s capital and surplus to aggregate capital and surplus at the preceding December 31. The Bank’s allocated share of investments denominated in foreign currencies was approximately 3.305 percent and 3.101 percent at December 31, 2001 and 2000, respectively. Federal Reserve Bank of Philadelphia/2001 5. INVESTMENTS DENOMINATED IN FOREIGN CURRENCIES The FRBNY, on behalf of the Reserve Banks, holds foreign currency deposits with foreign central banks and the Bank for International Settlements, and invests in foreign government debt instruments. Foreign government debt instruments held include both securities bought outright and securities held under agreements to resell. These investments are guaranteed as to principal and interest by the foreign governments. 39 NOTES TO FINANCIAL STATEMENTS The Bank’s allocated share of investments denominated in foreign currencies, valued at current exchange rates at December 31, was as follows (in millions): 2001 European Union Euro: Foreign currency deposits Government debt instruments including Agreements to resell Japanese Yen: Foreign currency deposits Government debt instruments including Agreements to resell Accrued interest Total $ $ 2000 152 $ 144 89 85 62 85 176 2 170 2 481 $ 486 Total investments denominated in foreign currencies were $14,559 million and $15,670 million at December 31, 2001 and 2000, respectively. The maturity distribution of investments denominated in foreign currencies which were allocated to the Bank at December 31, 2001, was as follows (in millions): Maturities of Investments Denominated in Foreign Currencies Within 1 year Over 1 year to 5 years Over 5 years to 10 years Federal Reserve Bank of Philadelphia/2001 Total 40 $ 453 13 15 $ 481 At December 31, 2001 and 2000, there were no open foreign exchange contracts or outstanding F/X swaps. At December 31, 2001 and 2000, the warehousing facility was $5 billion, with zero outstanding. 6. BANK PREMISES AND EQUIPMENT A summary of bank premises and equipment at December 31 is as follows (in millions): 2001 Bank premises and equipment: Land Buildings Building machinery and equipment Construction in progress Furniture and equipment $ $ 137.5 (67.8) Accumulated depreciation Bank premises and equipment, net 2.5 65.8 9.6 .5 59.1 2000 $ 69.7 2.4 63.9 9.1 1.8 56.8 134.0 (62.5) $ 71.5 Depreciation expense was $9 million and $8 million for the years ended December 31, 2001 and 2000, respectively. The Bank leases unused space to an outside tenant. This lease has a term of two years. Rental income from such lease was $1 million for both years ended December 31, 2001 and 2000. Future minimum lease payments under the noncancelable agreement in existence at December 31, 2001 were $3 million for years 2002 through 2003. 7. COMMITMENTS AND CONTINGENCIES At December 31, 2001, the Bank was obligated under noncancelable leases for premises and equipment with remaining terms ranging from 1 to approximately 2 years. These leases provide for increased rentals based upon increases in real estate taxes, operating costs or selected price indices. Future minimum rental payments under noncancelable operating leases with terms of one year or more, at December 31, 2001, were $534 thousand for the years 2002 through 2003. At December 31, 2001, the Bank has no other commitments and long-term obligations in excess of one year. Federal Reserve Bank of Philadelphia/2001 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 $658 thousand and $554 thousand for the years ended December 31, 2001 and 2000, respectively. Certain of the Bank’s leases have options to renew. The Bank has no capital leases. 41 NOTES TO FINANCIAL STATEMENTS Under the Insurance Agreement of the Federal Reserve Banks dated as of March 2, 1999, each of the Reserve Banks has agreed to bear, on a per incident basis, a pro rata share of losses in excess of 1 percent of the capital paid-in of the claiming Reserve Bank, up to 50 percent of the total capital paid-in of all Reserve Banks. Losses are borne in the ratio that a Reserve Bank’s capital paid-in bears to the total capital paid-in of all Reserve Banks at the beginning of the calendar year in which the loss is shared. No claims were outstanding under such agreement at December 31, 2001 or 2000. The Bank is 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 Bank. 8. RETIREMENT AND THRIFT PLANS Retirement Plans The Bank currently offers two defined benefit retirement plans to its employees, based on length of service and level of compensation. Substantially all of the Bank’s employees participate in the Retirement Plan for Employees of the Federal Reserve System (“System Plan”) and the Benefit Equalization Retirement Plan (“BEP”). The System Plan is a multiemployer plan with contributions fully funded by participating employers. No separate accounting is maintained of assets contributed by the participating employers. The Bank’s projected benefit obligation and net pension costs for the BEP at December 31, 2001 and 2000, and for the years then ended, are not material. Thrift Plan Employees of the Bank may also participate in the defined contribution Thrift Plan for Employees of the Federal Reserve System (“Thrift Plan”). The Bank’s Thrift Plan contributions totaled $3 million and $2 million for the years ended December 31, 2001 and 2000, respectively, and are reported as a component of “Salaries and other benefits.” Federal Reserve Bank of Philadelphia/2001 9. POSTRETIREMENT BENEFITS OTHER THAN PENSIONS AND POSTEMPLOYMENT BENEFITS 42 Postretirement Benefits Other Than Pensions In addition to the Bank’s 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 Bank funds benefits payable under the medical and life insurance plans as due and, accordingly, has no plan assets. Net postretirement benefit costs are actuarially determined using a January 1 measurement date. Following is a reconciliation of beginning and ending balances of the benefit obligation (in millions): 2001 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, acquisitions, foreign currency exchange rate changes, business combinations, divestitures, curtailments, settlements, special termination benefits Accumulated postretirement benefit obligation at December 31 $ 33.4 0.7 2.4 2.1 0.3 (1.5) 2000 $ (0.2) $ 37.2 30.3 0.6 2.2 1.5 0.2 (1.4) — $ 33.4 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): 2001 2000 $ — — 1.2 0.3 (1.5) $ — — 1.2 0.2 (1.4) Fair value of plan assets at December 31 $ — $ — Unfunded postretirement benefit obligation Unrecognized prior service cost Unrecognized net actuarial gain (loss) $ 37.2 16.0 (8.9) $ 33.4 17.6 (7.0) Accrued postretirement benefit costs $ 44.3 $ 44.0 Accrued postretirement benefit costs are reported as a component of “Accrued benefit costs.” Federal Reserve Bank of Philadelphia/2001 Fair value of plan assets at January 1 Actual return on plan assets Contributions by the employer Contributions by plan participants Benefits paid 43 NOTES TO FINANCIAL STATEMENTS At December 31, 2001 and 2000, the weighted average discount rate assumptions used in developing the benefit obligation were 7.0 percent and 7.5 percent, respectively. For measurement purposes, a 10.0 percent annual rate of increase in the cost of covered health care benefits was assumed for 2002. Ultimately, the health care cost trend rate is expected to decrease gradually to 5.0 percent by 2008, and remain at that level thereafter. 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, 2001 (in millions): Effect on aggregate of service and interest cost components of net periodic postretirement benefit costs Effect on accumulated postretirement benefit obligation 1 Percentage Point Increase 1 Percentage Point Decrease $ $ 0.2 2.4 (0.3) (3.5) The following is a summary of the components of net periodic postretirement benefit costs for the years ended December 31 (in millions): 2001 2000 Service cost-benefits earned during the period Interest cost of accumulated benefit obligation Amortization of prior service cost Recognized net actuarial loss $ 0.7 2.4 (1.8) 0.2 $ 0.6 2.2 (1.8) 0.1 Net periodic postretirement benefit costs $ 1.5 $ 1.1 Federal Reserve Bank of Philadelphia/2001 Net periodic postretirement benefit costs are reported as a component of “Salaries and other benefits.” 44 Postemployment Benefits The Bank offers benefits to former or inactive employees. Postemployment benefit costs are actuarially determined and include the cost of medical and dental insurance, survivor income, and disability benefits. Costs were projected using the same discount rate and health care trend rates as were used for projecting postretirement costs. The accrued postemployment benefit costs recognized by the Bank at both December 31, 2001 and 2000, were $7 million. This cost is included as a component of “Accrued benefit costs.” Net periodic postemployment benefit costs included in both 2001 and 2000 operating expenses were $1 million.