Full text of Annual Report of the Federal Reserve Bank of Philadelphia : Commitment and Credibility : 2007 Annual Report

View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

2007Annua
lRe
por
t
FEDERALRESERVEBANK OFPHILADELPHIA

Commi
t
me
nt
a
n
d

Cr
e
d
i
b
i
l
i
t
y

Our Vision
“The Federal Reserve Bank of Philadelphia
will be widely recognized
as a leader and innovator
in central bank knowledge and service.”

Contents

Commitment Versus Discretion in Monetary Policy

Philadelphia's Strengths

Philadelphia Makes the Final Four

Treasury Taps Philadelphia’s Expertise Again

Screening Facility Will Deliver Increased Security

2007 Bank Highlights

Board of Directors

Advisory Councils

Executive Committee

Current Officers

Operating Statistics

Statement of Auditor Independence

Financial Reports

Notes to Financial Statements

FEDERAL Reserve Bank of Philadelphia

President's Message

Annual Report 2007

A Message from President Plosser
Our Vision

2008: Philadelphia's Role on the FOMC

At the Philadelphia Fed, we believe that in
the current financial environment, it is vital to think
creatively and find innovative solutions to problems.
With this in mind, our Bank is proud to introduce a
new vision statement:
The Federal Reserve Bank of Philadelphia will
be widely recognized as a leader and innovator in central bank knowledge and service.
We have refined our vision to include the significance of innovation and leadership in the operation
of this Bank. In last year’s annual report, I said that to
be leaders, we must be innovators. This message still
holds true, since innovation is an important element in
creating and sustaining a world-class institution.
Consistent with this vision, our Bank worked
throughout the year on many new initiatives and
contributed to a number of System projects. We
have continued our work to consolidate our check
processing business, and our Bank was chosen as
one of four remaining check processing sites in the
Federal Reserve System. We were selected to lead
a major endeavor for the U.S. Treasury’s collateral
management and monitoring business. We also
began the process of building a new off-site screening
facility to ensure the safety and security of our Bank.
In the pages that follow, you will learn additional
details about these efforts.

Federal Open Market Committee (FOMC)
meetings involve intense deliberation and consensusbuilding on the part of all members. The analysis and
viewpoints of each Committee member are influential
and play a key role in monetary policy decisions. All
voices matter.
But at the end of the meeting, there must be
a vote on the proposed decision and the wording of
the policy statement. While all seven Fed Governors
vote at each meeting, only five of the 12 Reserve Bank
presidents vote at a meeting. The president of the
New York Fed is always a voting member, and the
other Bank presidents vote on a rotating basis. The
Philadelphia Fed is a voting member in 2008.
The Committee’s ability to make thoughtful
and sound policy choices is greatly strengthened by
the interaction of members with different perspectives. I am fond of recounting the words of journalist Walter Lippman, who said, “Where all men think
alike, no one thinks very much.”
The Fed’s decision last November to provide
quarterly releases of information on the economic
projections of the Fed presidents and Governors is a
major step in providing a clearer picture of our deliberations. I see this as a very important step in making
the central bank’s decisions more transparent and the
central bank more accountable, which is beneficial to
the functioning of the economy.

Commitment and Credibility
This year’s annual report also includes a new
feature: an essay about the debate over rules versus
discretion in monetary policymaking, which I coauthored with Vice President and Senior Economic
Policy Advisor Michael Dotsey. This essay explores the
benefits to the economy when monetary policy makes
and fulfills promises to maintain low inflation. Rather
than constraining policy, honoring such promises
enables monetary policy to attain better economic
outcomes than those achieved by a discretionary
policy regime that does not make commitments and
thus cannot anchor the public’s expectations of future
inflation.
2

Board of Directors
As always, the guidance and insight of our
board of directors are invaluable to our Bank. We offer
sincere gratitude to members of our board who have
completed their terms of service: Doris Damm, president and CEO of ACCU Staffing Services; P. Coleman
Townsend, Jr., chairman and CEO of Townsends, Inc.;
and Wayne R. Weidner, chairman of National Penn
Bank. Their counsel will be missed.
We are pleased to report that William F.
Hecht, retired chairman, president, and CEO of PPL
Corporation, has been appointed chairman of the
board of directors, and Charles P. Pizzi, president and

FEDERAL Reserve Bank of Philadelphia

CEO of Tasty Baking Company, has been appointed
deputy chairman.
We welcome our newest board members and
look forward to their contributions: Keith S. Campbell,
chairman of Mannington Mills, Inc.; Ted Cecala, chairman and CEO of Wilmington Trust Corporation; and
Jeremy Nowak, president and CEO of The Reinvestment Fund.

Thanks to Employees
Let me conclude by expressing sincere thanks
to the dedicated employees of the Philadelphia Fed,
who make our Bank’s many successes possible.
We want to especially recognize our Retail
Payments staff, who continue to do excellent work
managing the evolution toward electronic payments.
They have adapted admirably to the increased responsibility for servicing institutions as a result of the consolidation of Federal Reserve check operations. Also

deserving of our thanks are those in Cash Services,
who have worked to meet the challenges of volume
fluctuations with the implementation of pricing for
cross-shipped currency. Finally, we appreciate the efforts of those involved in the planning for our new offsite screening facility, including our Facilities and Legal
departments.
These employees — and all of our Philadelphia Fed employees — daily reaffirm our Bank’s commitment to credibility and excellence.

Charles I. Plosser
President and CEO
April 2008
3

Annual Report 2007

Policy Debate

Commitment Versus Discretion
in Monetary Policy
by Michael Dotsey and Charles I. Plosser

he late 1970s were arguably the nadir of
post-World War II U.S. monetary policy.
Accommodative monetary policy brought
about rapidly rising inflation in an attempt to reduce unemployment. While the unemployment
rate declined modestly, the cost was record-setting
double-digit inflation. Then, between 1980 and
1984, the U.S. economy experienced two recessions in rapid succession and a number of what
one prominent monetary economist has aptly called
inflation scares.1
In contrast, from 1990 through 2005, the
U.S. economy experienced a period of relatively
stable economic growth, low unemployment rates,

discretionary monetary policy and a lack of commitment to low inflation. In contrast, we believe
that the subsequent improvement in economic outcomes is, in part, attributable to the Federal Open
Market Committee’s (FOMC) credibility for maintaining low inflation, which it acquired through its
persistent actions to achieve and maintain low inflation beginning in the 1980s.2
The debate over rules versus discretion
— that is, whether it is better for a policymaker
to commit to a particular course of action or to
approach each situation with unconstrained flexibility — has been and continues to be a central
question in the design of monetary policy. In 1977,
two Nobel Prize-winning
economists, Finn Kydland
and Edward Prescott, wrote
the seminal article analyzing
the benefits of carrying out
plans based on commitment to specific goals and
the systematic and predictable actions necessary to
achieve them, rather than
relying on discretion. Since
then, the benefits of commitment have been analyzed in many settings and
in many economic models. These analyses have
had a profound influence on the economic profession’s views regarding the implementation of monetary policy and have shaped our views and policy
prescriptions. The implications of these analyses
is that the more the FOMC is perceived as a committed and credible planner — as opposed to a
discretionary policymaker — the better will be both

The debate over rules versus discretion — that is,
whether it is better for a policymaker to commit
to a particular course of action or to approach
each situation with unconstrained flexibility —
has been and continues to be a central question in
the design of monetary policy.
and low to moderate inflation. The two recessions
during this period were both mild and short-lived
by historical standards.
This essay examines these contrasting episodes through the lens of commitment. In particular, we focus on the Federal Reserve’s commitment
to fulfilling its responsibility to maintain price stability. Our analysis places much of the responsibility
for the poor economic outcomes in the 1970s on
4

Discretionary Policy
in the 1970s and its Aftermath
The oil-price shock of the early 1970s was

accompanied by double-digit inflation and high
unemployment.3 However, by the end of 1976, inflation had fallen to about 5 percent, as measured
by the consumer price index (CPI), and the unemployment rate stood at roughly 7.8 percent. The
primary concern of monetary policymakers in this
environment was to seek to reduce unemployment.
The prevailing view was that with the high unemployment rate, there was ample excess capacity in
the economy, so that the danger of exacerbating
inflation through accommodative monetary policy
was not a concern. This view was based on the
Phillips curve, a theory that posited a negative relationship between inflation and unemployment.4
In conjunction with stimulus from fiscal policy, the
goals of low unemployment and nonaccelerating
inflation were thought to be readily attainable.5 As
we can see from Figure 1, the unemployment rate
(Panel A) declined modestly from 1976 through the
end of 1979, but inflation, over that same period
(Panel B), accelerated continuously, reaching 12.4
percent based on the CPI. Further, as shown in Figure 1, the Philadelphia Fed’s Survey of Professional
Forecasters indicated that expectations of inflation
(Panel C), as measured by survey estimates of oneyear-ahead increases in the gross domestic price

FEDERAL Reserve Bank of Philadelphia

policy and economic outcomes. Thus, we believe it
is important that policy actions serve to protect and
enhance the Fed’s credibility.
We begin by revisiting the late 1970s and
early 1980s. The lesson we draw from that experience is that the Fed was not committed to maintaining price stability or low and stable inflation,
and that lack of commitment was a major factor
contributing to the rapid rise in inflation and the
economic consequences that followed. We then
go on to discuss the role that commitment plays
in enhancing the effectiveness of monetary policy
and indicate how we think a credible commitment
to low inflation has helped policymakers over the
last 15 years. In closing, we highlight some of the
implications of our analysis for appropriate monetary policy. We acknowledge that our views, while
shared by many, are our own and that there is
room for further analysis and debate. However, we
believe it is useful and important to share our interpretation of both theory and practice as a contribution to that ongoing discussion.

FIGURE 1

Shaded areas indicate recessions.
5

Annual Report 2007

deflator, accelerated and long-term bond rates (Panel
D) moved up as well, with rates exceeding 10 percent
near the end of 1979.6
The overarching focus on managing the real
economy is evident in Federal Reserve policy. Although
the federal funds rate was raised from about 5 percent
in 1976 to roughly 10 percent in the first half of 1979,
it increased by less than the increase in inflation. Thus,
the inflation-adjusted federal funds rate, or real fed
funds rate, actually became negative, indicating that
monetary policy was very accommodative and was not
responding sufficiently to prevent the increase in inflation. Further, in achieving the decline in unemployment, monetary policy also fooled the public. Actual
inflation turned out to be higher than the public expected in all but one quarter from the fourth quarter
of 1976 to the fourth quarter of 1979.7 In what follows, we will show that such behavior is the hallmark
of a discretionary policymaker.
When the second oil-price shock of the 1970s
hit in the latter half of 1979, prices continued to rise.
Paul Volcker was appointed Federal Reserve Chairman
in August 1979, and the Fed began to aggressively
raise the funds rate to bring down the double-digit

FIGURE 1 Continued

Shaded areas indicate recessions.
6

inflation. The economy officially went into recession
in January 1980. Despite economic weakness, the
primary concern of monetary policy remained focused
on inflation as the federal funds rate rose from 10.9
percent in August 1979 to 17.6 percent by April 1980.
These actions represented the most aggressive monetary policy in post-World War II history. Marvin Goodfriend attributes a significant portion of this tightening
to the Fed’s response to an inflation scare that occurred in the first quarter of 1980.8 In particular, with
the funds rate hovering between 13 and 14 percent in
early 1980, long-term interest rates increased roughly
2 percentage points in the first quarter of 1980. Most
of this increase in the long-term bond rate was attributed to an increase in expected inflation. The Fed’s
response was an additional 3 percentage points of
tightening in policy, which had little effect on the
long-term bond rate, an indication that inflation expectations were finally beginning to decline. Generally, the theory of the term structure implies that an
increase in the short-term interest rate is accompanied
by an increase in the long-term rate as well. That the
long-term rate did not move is an indication that inflation expectations were declining, and this decline in

over 17 percent to 9 percent by July 1980.
This aggressive easing over a mere three
months was accompanied by a rise in long-term bond
rates of over 2 percentage points in the second half of
1980, signaling another inflation scare. Again the Fed
responded aggressively, raising the funds rate to 19.1
percent by January 1981 and holding it at very high
levels through the summer of that year. This tightening once again threw the economy into recession.
However, this time the Fed kept its resolve to reduce
inflation. Inflation began to decline in the fall of
1981, and despite some ups and downs, the average
inflation rate for 1983 was less than 4 percent.

FEDERAL Reserve Bank of Philadelphia

inflation expectations is also evident in the behavior of
the one-year-ahead inflation expectations depicted in
Figure 1 (Panel C).
Despite these aggressive policy moves, inflation continued to increase, reaching 16.7 percent in
the first quarter of 1980. At this point the economy
weakened considerably and the U.S. experienced the
deepest recession in postwar history with second-quarter real GDP declining by 7.8 percent at an annual rate.
The severity of this decline was in large part due to the
Carter administration’s credit controls, but it nonetheless worried the FOMC.9 As a result, the Fed backed
off its aggressive policy, reducing the funds rate from

Federal Reserve Board of Governors,
Eccles Building, Washington, D.C.
7

Annual Report 2007

Interestingly, over this disinflationary period,
one-year-ahead expectations of inflation systematically
exceeded actual inflation as measured by the GDP deflator. Thus, the public remained dubious of the Federal Reserve’s commitment to reducing inflation. This
lack of credibility contributed to the loss of output that
accompanied the reduction in inflation. Thus, the late
1970s and early 1980s should serve as a stern warning
of the cost of low credibility.

Commitment versus Discretion
The late 1970s were a period in which monetary policy was not committed to maintaining price
stability or low inflation, and we saw the damaging
economic consequences that ensued from that lack
of commitment. Why is such a commitment so important? Why does commitment yield better outcomes
than discretion? After all, a discretionary policymaker
can make the same decisions and choices as the committed policymaker at each point in time.
To understand why commitment dominates
discretion, we must first define what we mean by
commitment and how it differs from discretion. Commitment is the willingness and ability to make promises and to deliver on past promises no matter what
the current situation is. However, it is very important
to stress that under commitment, promised behavior
is generally contingent on future events. Promises are
not blanket commitments to be fulfilled irrespective
of future situations. The key aspect of commitment
is that the policymaker keeps his promise to act in a
certain systematic way when a particular future event
comes to pass. The absence of this willingness or ability is called discretion. Under discretion, a policymaker
does not make promises about future behavior. Since
the discretionary planner does not make commitments
to behave in any particular way, it would appear that
discretion offers more flexibility and thus would seem
preferable to a policy in which the policymaker honors
past promises.
The idea that it is better for a central bank
to make commitments and to follow through on
them, rather than being free to respond in any way
8

that seems appropriate at the time, is a subtle and
perhaps surprising one. But not only are better longrun outcomes achieved under such commitments,
monetary policy is also better able to respond to economic shocks. As we’ll discuss later, a central bank
that commits to a goal of maintaining low inflation
and acts in a way consistent with that commitment
can achieve the goal with no adverse consequences
for employment or output. Moreover, such a policy
can achieve less volatility in both inflation and output.
Indeed, as we have already seen, the central bank’s
inability or unwillingness to commit to price stabil-

BENEFITS OF COMMITMENT
IN MONETARY POLICY
What are the economic benefits arising from
a central bank’s commitment to price stability? Let’s
analyze the benefits that commitment confers on
average inflation and average output. A key ingredi-

ent in the analysis is the forward-looking behavior of
individuals. In particular, many people’s economic decisions today are affected by their expectations about
the future course of monetary policy. As a result, the
central bank faces a time-consistency problem. That
is, it may be tempted to pursue policies that deliver
temporary economic benefits that may be inconsistent
with its longer-term goals. Realizing that a discretionary central bank will have the latitude to give in to this
temptation, people will make decisions today based
on the central bank’s discretionary behavior and the
result is sub-optimal economic outcomes.
To illustrate this point, we use a simple framework of how monetary policy works. One of the fundamental tenets of monetary theory is that in the long
run, monetary policy cannot raise the level of output
or employment. However, it is also widely believed
that because of various rigidities in the economy, the
monetary authority may face a short-term tradeoff.
That is, by generating unexpectedly high inflation, the
central bank may be able to temporarily boost employment and output. The late 1970s appear to represent

FEDERAL Reserve Bank of Philadelphia

ity often leads to problems for policymakers and the
economy.
The comparison of policymaking under discretion and under commitment is an analysis of two
polar cases. It sidesteps the question of how a central
bank can convince the public that it is operating in a
manner consistent with commitment when the institutional setting places little restriction on future policies.
For instance, the members of the FOMC change over
time, as do the legislators who monitor the behavior
of monetary policy. Full commitment requires tying
the hands of future policymakers, and in reality, we
don’t even know who they will be.
Research analyzing ways that policy can come
close to the ideal of full commitment has generally
proceeded along two lines. One is institutional design.
How does one set up institutions that will improve on
discretionary outcomes? The other is the role of reputation and the credibility an institution can achieve by
behaving like a committed planner over time. While
of tremendous interest, investigations into these areas
are beyond the scope of this essay. But we cannot
hope to understand these more advanced investigations without first understanding the different nature
of policy under commitment and under discretion.
Economists refer to the desire to alter previously made plans as the time-consistency problem
because, at each date, a policymaker finds it tempting to depart from what an earlier plan dictated. The
temptation to alter strategies affects how the public
and market participants view a proposed plan, and it is
the interaction between the public’s expectations and
the policymaker’s decisions that leads to problems for
a policymaker who cannot commit. Economics has
many examples of the time-consistency problem, but
we will confine our discussion to monetary policy.

Many people’s economic decisions
today are affected by their expectations
about the future course of monetary
policy. As a result, the central bank
faces a time-consistency problem.

just such an environment. As mentioned, from the
fourth quarter of 1976 through the fourth quarter of
1979, expectations of future inflation were systematically lower than the inflation that ensued, indicating
that the public did not anticipate the rapid increase in
inflation. As a consequence, output and employment
were temporarily increased.
Similarly, unexpectedly low inflation may temporarily reduce output and employment. This is consistent with the situation in the early 1980s. As monetary
9

Annual Report 2007

policy tightened, the public experienced an unanticipated decline in inflation, output and employment declined, and the economy suffered two recessions.
Economic analysis tells us that as long as the
prospect of exploiting this short-term tradeoff exists, a
central bank conducting discretionary monetary policy
will not be able to achieve its desired or preferred rate
of inflation. Only under commitment can the monetary policymaker deliver on its desired inflation rate.
To see why, imagine that the monetary authority announces that it is going to maintain an average inflation rate at some desired level. We could

fare will be thwarted by the behavior of individuals,
who will eventually catch on to what the policymaker
is doing, and he will end up producing more inflation
with no sustained increase in output or employment.
If, however, individuals immediately recognize
the temptation facing the policymaker, they will accurately anticipate the higher inflation and not even a
temporary increase in output will be possible. All that
will ensue is higher inflation. Either way, higher inflation with little or no economic gain will occur, and this
type of behavior has emerged many times in many
countries. Generally, the process ends with a change
in monetary regime, and a policy designed to reduce inflation
is put in place.
However, at this point,
implementing the new policy
of reducing inflation poses a
problem. It is generally not
credible; the public is dubious
that the new policy will be cardeclined, and the economy suffered two recessions.
ried out. Thus, to re-establish
the desired inflation rate, the
policymaker must generate
unexpectedly low inflation,
think of this as the economy’s optimal rate of inflation,
risking a temporary decline in output and employment
but it need not be, nor is it important for our purposes
and perhaps a painful recession. This seems to be the
10
what that rate is. If policy successfully maintains this
story of the early 1980s. If the policymaker decides
desired inflation rate, output would grow at its effiagainst such action, the economy is stuck with a per11
cient rate.
manently higher inflation rate than it desires. Thus,
But a discretionary policymaker will be temptdiscretionary monetary policy fails to deliver on the
ed to generate a bit more output in the short run by
desired objective and places significant subsequent
unexpectedly increasing inflation. If it takes time for
costs on the economy.
the public to catch on, the policymaker will initially
Now consider the outcomes if the monetary
be successful. However, once the higher inflation rate
authority could credibly commit itself, in some way,
associated with this strategy is recognized, the public
to delivering the desired inflation rate that it had anwill revise upward its expectations of future inflation
nounced. With such a credible commitment, the
and push wages and prices up. At that point, the
public would expect the central bank to maintain inflaoutput boost will vanish. The policymaker might be
tion at the announced desired rate. There would be
tempted to try the same experiment again, but it will
no policy-generated surprises to inflation that would
generate the same outcome — a temporary boost in
move output and employment and so the economy
output followed by higher inflation. Thus, the policywould grow efficiently. So a monetary authority that
maker’s attempt to permanently increase public welcould commit to its desired inflation policy would out-

Unexpectedly low inflation may temporarily reduce
output and employment. This is consistent with
the situation in the early 1980s. As monetary policy
tightened, the public experienced an unanticipated
decline in inflation, output and employment

FEDERAL Reserve Bank of Philadelphia

FOMC Meeting at the Federal Reserve Board,
Washington, D.C.

perform a monetary authority that is free to exercise
discretion — that is, it would deliver the same output
growth, but lower inflation.
Many people find this result counterintuitive.
But we can see the importance of commitment in
everyday life. Almost all of us at one time or another
have said that we would like to lose weight. We know
that we would be healthier and happier by doing so.
Yet most of us at some point make choices inconsistent with those desirable goals. We eat that piece of
cake sitting in the refrigerator, or we eat too much at
our favorite restaurant. We receive some short-run
enjoyment from this behavior, even though we know
it is not compatible with our long-term goal to lose
weight. Pretty soon the diet is abandoned. Having
the discretion to yield to temptation does not yield the

desired outcome. We would be better off if we could
figure out some way to commit to eating in a way that
is consistent with our goal. People often look for ways
to help them pre-commit to staying on their diet. For
example, they go to the grocery store and buy only
food that is on the diet, so they won’t be tempted to
snack. Some will make commitments to their spouse
or friend to form some kind of mutual support group
that makes it harder to deviate from the diet.
People often think that keeping monetary
policy from deviating from a desired inflation goal is
like tying the policymakers’ hands and that doing so
must yield worse outcomes. Yet, as in the case of the
dieter who benefits from the ability to commit to sticking with a diet, commitment in fact results in better
outcomes.
11

Annual Report 2007

The above examples make clear the long-run
benefits of commitment and of devising institutional
arrangements that prevent the central bank from
using discretionary policy. Some economists have
argued, for example, that the gold standard was such
an arrangement. Currently, there is a good deal of
interest in whether explicit forms of inflation targeting
help to achieve the better outcomes associated with
commitment.12

THE RESPONSE TO SHOCKS
UNDER COMMITMENT AND DISCRETION
The desire to respond to economic shocks,
such as sharp oil-price increases or changes in productivity, so as to limit their effects on economic volatility is
one of the most difficult challenges confronting central
banks. It is this aspect of monetary policy that most often elicits arguments extolling the importance and benefits of discretion. Those in favor of discretion argue
that monetary policymakers must be allowed a free
hand to respond in a flexible way to each situation as it
arises and not be constrained by prior commitments or
goals. Discretion, it is argued, is needed to adequately
guide the economy through turbulent times.
However, the notion that commitment to
behave in a systematic manner unduly
constrains the policymaker from reacting in the best way to economic shocks
is intuitively appealing but is actually
mistaken. The ability to make commitments and to keep them anchors expectations, which allows a central bank operating under a policy of commitment
to take actions and achieve outcomes
that the discretionary planner cannot. In fact, a policy
under commitment can achieve all of the outcomes
of a policy under discretion and can also achieve outcomes unobtainable under discretion. The committed
policymaker cannot do worse than the discretionary
policymaker.13
Although policymaking that achieves perfect
commitment is the ideal, we acknowledge that it
is a bit unrealistic to expect that it will be achieved.

However, when a policymaker can commit to follow
through on promised actions, he can influence the
public’s expectations in a desirable way. People generally make plans for the future. Firms deciding on
whether to expand or contract capacity think about
future demand. Consumers buying cars or houses
take into account their future income prospects. Thus,
expectations of the future affect the current actions of
households and businesses. Expectations of how policymakers will behave in the future can have an important impact on future economic conditions and thus
on current behavior. As a result, influencing expectations can be a powerful policy tool. The discretionary
policymaker makes decisions period by period, makes
no promises regarding future behavior, and, as a result, cannot shape the public’s expectations. By making well-designed promises about the goals of policy
and the way policy will respond to the environment, a
committed policymaker can influence expectations in
ways that elicit better economic outcomes.
However, it is not just about making commitments. Along with these promises comes the constraint to honor them in the future and also to honor
past promises today. In this sense, the committed
policymaker is not free to base today’s policy only on

The policymaker is not free to manipulate the
public’s expectations - rather he must act in
a way consistent with previous, current, and
future commitments.

current economic conditions; he must also take account of what was promised in the past. Those promises depended on the economic situation at the time
they were made and imply that the policy committed
to depends on history as well as current circumstances. Put another way, the policymaker is not free to
manipulate the public’s expectations — rather he must
act in a way consistent with previous, current, and future commitments.

future inflation affect current inflation. When policymakers make a commitment to keep inflation low and
stand behind that commitment, individuals take into
account the policymaker’s promise to keep inflation
down and to not exploit the output gains arising from
an unexpected increase in inflation. As a result, expectations about inflation are stable or well-anchored
and thus do not increase as much under commitment,
implying that firms do not raise their current prices as
aggressively as they would in an environment where
expectations are not well-anchored, as would be the
case when policymakers act with discretion. The stability of inflation expectations under commitment implies
that policy does not have to be as aggressive in order
to bring down inflation, and as a result, output does
not have to decline by as much. Contrary to intuition,
the constraint of abiding by past promises actually allows the committed policymaker to achieve superior
economic outcomes for both inflation and output in
response to economic shocks.

FEDERAL Reserve Bank of Philadelphia

But having policy constrained in this way
should not be viewed as a negative attribute of commitment. These constraints, if designed appropriately,
can actually lead to better outcomes through their influence on expectations that allow for better economic
decisions. Moreover, this result holds true in a variety
of models that economists now use to characterize the
macroeconomy.14 Research has shown that in a range
of environments, a central bank that is committed to
price stability, or low and stable inflation, has an easier
time dealing with economic shocks.
For example, consider a positive shock to the
inflation rate. Responding to this unexpected shock, a
committed policymaker can achieve a better outcome:
less inflation as a result of the shock with less variability in output while, at the same time, acting less
aggressively. Thus, economic welfare is unambiguously
higher under commitment than under discretion.
What makes it possible for the policymaker
to accomplish this? The answer is that expectations of

Annual Report 2007

AN EXAMPLE:
OIL-PRICE SHOCKS
To make our point a bit more concrete, we
will contrast two episodes, both involving oil-price
shocks. Although we cannot give definitive proof for
the following argument, one can view the differential
economic impact of oil-price shocks in the late 1970s
and 2000s through the lens of commitment.15, 16 As
we have already seen, in the first instance the Fed
lacked credibility for maintaining low inflation. In contrast, we will argue that by the early years of the new
century, the Fed had achieved greater credibility with
the public that it would act to maintain low inflation.
Economists’ theoretical and empirical investigations
suggest that the effects of the oil-price shocks on
economic activity and inflation will be different under
these two settings. In fact, they were quite different.
Recall that by the time the oil-price shock
of 1979 hit, more than doubling oil prices over the
course of the year, inflation had already reached 9
percent. As we discussed, these historically high inflation rates were caused by overly easy monetary policy.
Moreover, the Federal Reserve had, by the time of
the oil shock, lost any credibility it may have had for
maintaining low inflation. The rise in oil prices further

FIGURE 2

Shaded areas indicate recessions.
14

ignited inflationary pressures, and the Fed was put in
the situation of ratifying the higher expected inflation
or trying to contain inflation with a potentially large
loss of output. Lacking credibility, the Fed also lacked
the public’s confidence that it would keep inflation
low; therefore, the public placed significant weight on
the former scenario, and by the first quarter of 1980,
inflation had increased to more than 15 percent.
Eventually the Fed did rein in inflation, and our previous account of this episode described the economic
pain that ensued. It was a painful price to pay for the
lack of credibility, but it eventually helped the Fed to
earn a more believable reputation for maintaining low
inflation.
Indeed, throughout the remainder of the
1980s and 1990s, the Fed continued to act in a way
that reinforced and enhanced its new credible commitment to price stability. The benefits of that hardwon reputation bore fruit in the face of the renewed
round of oil-price increases in the current decade,
which saw the price of oil more than double from the
end of 2003 to the end of 2005. During this period,
inflation remained contained without any significant
adverse effect on output.
The main difference, we believe, between the

SUMMARY
This essay has explored the benefits of policy
under commitment versus under discretion. In particular, it has highlighted the added benefits policymakers
and the economy derive from making and fulfilling
past promises to keep inflation low and stable. Rather
than constraining policy, honoring such past promises

enables monetary policy to attain better outcomes
than those achieved by a discretionary policy regime
that does not make commitments and thus cannot
anchor expectations. Committed policy generates
lower long-run inflation without any adverse effects
on economic activity and ameliorates the effects of
economic shocks.
In practice, achieving and maintaining the
credibility of the Fed’s commitment to low inflation is
not easy or straightforward. The credibility the Fed
achieved in the 1980s and 1990s was due, in no small
part, to the leadership of Fed Chairmen Paul Volcker
and Alan Greenspan. They frequently spoke about the
importance of maintaining the central bank’s commitment to low and stable inflation, as has Chairman Ben
Bernanke in this decade. The benefits of following a
committed plan to maintain low inflation are now so
entrenched in policy-making circles that most central
banks aggressively strive to maintain their credibility.
They are constantly aware of the dangers of inflation
expectations becoming unanchored and the loss of
credibility that represents. Such a loss of credibility
would pose grave problems for monetary policymakers
because it puts the achievement of their dual mandate
at risk and must be avoided.

FEDERAL Reserve Bank of Philadelphia

experience of the late 1970s and early 1980s and the
period from 2003 through 2005 is the credibility that
the Federal Reserve enjoyed in the latter period for
maintaining low and stable inflation. This credibility
is illustrated by the stability of various measures of
inflation expectations during the period. For example,
the 10-year expected inflation rate in the Survey of
Professional Forecasters hardly moved over this period
(Figure 2, Panel C) and expected inflation, as represented by the difference between the yield on 10-year
nominal and inflation-indexed Treasury bonds, remained quite stable. In sum, as shown in Figure 2, the
oil-price shock of 2003-2005 had very little impact on
inflation expectations (Panel C), and as a result, there
has been no need for exceedingly aggressive monetary
policy actions. In turn, there was very little impact on
output (Panel A).

Annual Report 2007

ENDNOTES
1

See the article by Marvin Goodfriend.

For a discussion of the benefits of low and stable inflation, see the
article by Anthony Santomero.

See the article by Stacey Schreft for a detailed analysis of the
Carter administration’s credit control program.

Economists use the term shock to refer to unanticipated changes
in economic variables.

Depending on one’s view of the structure of the economy, the
optimal rate could be slightly negative, zero, or even perhaps slightly
positive.

By efficient growth we mean the rate of growth at which the
economy is optimally employing resources conditional on the
economic shocks occurring at the time. Thus, an economy that
experienced a rapid increase in new technologies would grow faster
than one that was subject to less technological innovation, and it
would also use productive resources more intensely. In the absence
of any economic shocks, the economy would grow at its long-term
trend.

For an interesting and readable discussion of the theory of the
Phillips curve, see the Richmond Fed’s annual report essay by Jeffrey
Lacker and John Weinberg.

For a detailed discussion of the politics and deliberations
surrounding Fed policy, see the article by Robert Hetzel.

The one-year-ahead expected inflation measures come from
the SPF data series. Prior to the third quarter of 1981, inflation
expectations were collected only in terms of the GDP deflator. Tenyear-ahead expectations for the SPF began in the fourth quarter of
1991. Prior to that, they were taken from the Blue Chip Consensus
forecasts.

The difference between actual and expected inflation is calculated
using actual one-year-ahead inflation rates as measured by increases
in the gross domestic price deflator minus the corresponding
expectation of inflation.

For a survey of inflation targeting and its effects, see the 2006
article by Michael Dotsey.

For a more formal exposition, see the article by Richard Clarida,
Jordi Gali, and Mark Gertler and the forthcoming article by Michael
Dotsey.

See the article by Clarida, Gali, and Gertler and Dotsey’s
forthcoming article for examples.

Recent evidence outlined in the article by Sylvain Leduc, Keith
Sill, and Tom Stark is consistent with the interpretation of events
described here.

Marvin Goodfriend defines an inflation scare as a significant rise
in long-term interest rates in the absence of a rise in the federal
funds rate. Thus, the rise in long-term rates is interpreted as mostly
a rise in long-run inflation expectations. Goodfriend’s account of the
disinflation and inflation scares that plagued monetary policy even
after the successful disinflation is fascinating reading for anyone
interested in the consequences that low central bank credibility for
maintaining low inflation has on the evolution of policy.

There are many other documented episodes. Some are discussed
in the speech by Charles Plosser, and the history of inflation scares
is documented in the article by Marvin Goodfriend. Also, for a
more detailed analysis of appropriate monetary policy in the face of
shocks to oil prices, see the article by Sylvain Leduc and Keith Sill.

Clarida, Richard, Jordi Gali, and Mark Gertler. “The Science of Monetary Policy: A New Keynesian Perspective,” Journal of
Economic Literature, 37 (December 1999), pp. 1661-1707.
Dotsey, Michael. “A Review of Inflation Targeting in Developed Countries,” Federal Reserve Bank of Philadelphia Business
Review (Third Quarter 2006), pp. 10-20.
Dotsey, Michael. “Commitment Versus Discretion in Monetary Policy,” Federal Reserve Bank of Philadelphia Business Review
(forthcoming).

FEDERAL Reserve Bank of Philadelphia

REFERENCES

Goodfriend, Marvin S. “Interest Rate Policy and the Inflation Scare Problem: 1979-1992,” Federal Reserve Bank of Richmond
Economic Quarterly, 79:1 (Winter 1993), pp. 1-23.
Hetzel, Robert L. The Monetary Policy of the Federal Reserve System: An Analytical History, manuscript (2007).
King, Robert G. “Discretionary Policy and Multiple Equilibria,” Federal Reserve Bank of Richmond Economic Quarterly, 92:1
(Winter 2006), pp. 1-5.
Kydland, Finn E., and Edward C. Prescott. “Rules Rather Than Discretion: The Inconsistency of Optimal Plans,” Journal of
Political Economy, 85 (1977), pp. 473-91.
Lacker, Jeffrey M., and John A. Weinberg. “Inflation and Unemployment: A Layperson’s Guide to the Phillips Curve,” Federal
Reserve Bank of Richmond 2006 Annual Report (2007), pp. 5-26.
Leduc, Sylvain, and Keith Sill. “A Quantitative Analysis of Oil-Price Shocks, Systematic Monetary Policy, and Economic
Downturns,” Journal of Monetary Economics, 51:4 (2004), pp. 781-808.
Leduc, Sylvain, Keith Sill, and Tom Stark. “Self-Fulfilling Expectations and the Inflation of the 1970s: Evidence from the
Livingston Survey,” Journal of Monetary Economics, 54:2 (March 2007), pp. 433-59.
Plosser, Charles I. “Credibility and Commitment,” speech delivered to the New York Association for Business Economics, New
York City, March 6, 2007.
Rogoff, Kenneth. “The Optimal Degree of Commitment to an Intermediate Monetary Target,” Quarterly Journal of Economics,
100:4 (1985), pp. 1169-89.
Santomero, Anthony M. “Monetary Policy and Inflation Targeting in the United States,” Federal Reserve Bank of Philadelphia
Business Review (Fourth Quarter 2004), pp. 1-6.
Schreft, Stacey L. “Credit Controls: 1980,” Federal Reserve Bank of Richmond Economic Review, 76 (November/December
1990), pp. 25-55.
Walsh, Carl. “Monetary Policy Design: Institutional Developments from a Contractual Perspective,” International Finance, 3:3
(November 2000), pp. 375-89.
Woodford, Michael M. “Optimal Monetary Policy Inertia,” manuscript (May 1999).

Annual Report 2007

Philadelphia's Strengths
by William H. Stone, Jr., First Vice President
Restructuring Checks
As most of you know, paper checks continue
to give way to electronic payment methods. A recent
Federal Reserve study shows that two-thirds of all payments in the United States are made electronically.
This evolution has significant implications for the Fed’s
check processing infrastructure. As consumers and
businesses continue the steady shift from paper to
electronics, the Federal Reserve has responded by consolidating its check processing businesses.
This restructuring is part of the evolutionary process as check volumes decline. It allows us to
fulfill our traditional role of payments processor while
maintaining efficiency in this new environment. Having fewer Reserve Bank locations in the check business
continues to bring about substantial cost savings.
The Philadelphia Fed is one of four regional
check processing sites that will provide a full range of
check processing services through at least mid-2011.
Philadelphia, along with the Cleveland, Atlanta, and
Dallas Reserve Banks, was selected based on perfor-

The Philadelphia Fed will continue to
develop new and better ways to improve
its work and build its capabilities.
mance, market conditions, and geographic location.
We have a long history of strong performance
in payments processing. While the restructuring of our
check operations will continue to present challenges,
we are confident that our Bank is up to the task. Our
Retail Payments staff is dedicated, experienced, and innovative, and we will continue to support our customers’ needs. As always, we are fully committed to the
Federal Reserve’s mission to promote the efficiency and
integrity of our nation’s payments system.

Changing Cash Services
Like our checks business, our cash business
has also been undergoing an evolution. In response to
18

a changing industry environment, Federal Reserve cash
processing services have become more efficient and
effective than ever before.
Our new currency recirculation policy represents a significant shift in the dynamic between depository institutions and the Fed and is expected to have a
significant impact on operating policies at depository
institutions that handle large volumes of currency.
These institutions are moving away from traditional currency activity toward greater reliance on Reserve Bank
cash processing. The primary reason for this behavioral
change was depository institutions’ desire to reduce the
dollar value of currency on their books, since cash is a
nonearning asset and many banks hold more cash than
they need to meet reserve requirements.
Under the new currency recirculation policy,
the Federal Reserve expects depository institutions to
recirculate to their customers fit currency deposited
with them and to deposit only excess or unfit currency
with Federal Reserve Banks. To promote this policy,
we have implemented a custodial inventory program,
which will permit depository institutions to transfer a
percentage of the $10 and $20 notes in their vaults
to the Fed’s books. In addition, the Federal Reserve’s
Cash Services began billing for additional handling and
processing of currency deposited and withdrawn from
the Federal Reserve in the same week. This program
will allow the institutions to reduce the size and frequency of their deposits of currency and orders from
the Reserve Banks. For our part, we will continue to
meet the needs of our cash customers while avoiding
the unnecessary handling of currency.

Working with the Treasury
Because of Philadelphia’s already successful and long-standing working relationship with the
U.S. Treasury as well as our well-known expertise in
managing collateral, the Philadelphia Fed has been
chosen to head the Treasury’s collateral management
and monitoring business. This effort is part of the
Treasury’s Collections and Cash Management Modernization (CCMM) project — a key element of structural
change in the way the Treasury does business. The
Bank will develop a new application to handle collateral monitoring for new investment options and existing
Treasury collateral programs.

FEDERAL Reserve Bank of Philadelphia

For many years, our
talented and experienced staff
has supported the delivery of
collateral, credit risk management, and monitoring activities,
and we’re now excited for the
opportunity to be part of this
effort.
In addition to leading
the collateral management and
monitoring business for the
Treasury, the Bank will be responsible for developing a new
collateral application that will
provide external access to financial institutions, agencies, and
the Treasury and will support
new Treasury investment options. Philadelphia will also play
an instrumental role in analyzing guidelines for collateral eligibility and valuation methods.

William H. Stone, Jr.

Enhancing Security
The strength of the financial system depends
on the effectiveness of the Federal Reserve System.
Accordingly, the Philadelphia Fed works hard to create sound contingency plans. Our safeguards ensure
there will be no disruptions to America’s payments system. Over the past several years, our nation has been
required to react to a number of threats, including terrorism, natural disasters, and financial crises. This has
led us to review our response procedures as well as to
increase our information security to prevent the likelihood of a cyber attack.
As part of our preparedness, we started thinking harder about security — an issue that has always
been of the utmost importance to the Fed. As the
central bank, the Fed must make certain that people
feel secure. This includes our customers’ security about
business continuity as well as our employees’ assurance of physical security at work. Our customers and
the public at large must be confident in the Fed’s ability to supply liquidity and maintain a sound financial
system. Our employees’ safety ensures they will be
able to perform their jobs, which, in many of our busi-

ness units, are critical to a smoothly functioning payments system.
In our ongoing efforts to enhance our Bank’s
physical security, we have increased training and resources for our federal law enforcement officers. We
are also in the process of building an off-site screening
facility on a 31,500-square-foot parcel of land located
directly across from the Bank’s 7th Street entrance.
Equipped with state-of-the-art technology, this facility
will allow us to identify and mitigate potential threats
a safe distance from the main Bank building.

Strength Through Change
The changing environment within the financial services industry challenges us to be continually
innovative, to strengthen our processes, and to prove
our technical and project management skills.
In 2008 and beyond, the Philadelphia Fed will
continue to develop new and better ways to improve
its work and build its capabilities. Through change,
we’ve continued to show strong performance and
strong customer service. We have proven we can
adapt to change and grow stronger in the process.
19

Annual Report 2007

Restructuring Checks

Philadelphia Makes the Final Four

and provide reconcilement and settlement services.
hiladelphia emerged as a key player when it
Other Federal Reserve check sites that have closed
was chosen as one of four Federal Reserve
or will close their full-scale operations will most likely
Banks that will continue to provide full-service
retain limited service capacities depending on market
check processing for the country’s commercial banks
demand.
until at least mid-2011. Philadelphia’s long-term leadOur Bank’s primary strengths in meeting this
ership in processing paper checks — and, more rechallenge will be the experience, dedication, and incently, electronic images — gave it a clear advantage
as the Federal Reserve System was
evaluating Reserve Banks that met
the criteria to continue full-service
“Philadelphia has long been recognized as a leader, and
operations.
we are doing everything we can to continue to be a top
“Our high performance
paid off in terms of customer
service provider. We are striving to achieve the ultimate
service, efficiency, products, and
status as the sole check site when that day comes.”
innovation,” said Arun Jain, vice
president of the Philadelphia Fed’s
Retail Payments Department. The
novativeness of its staff. “Philadelphia has long been
Cleveland, Atlanta, and Dallas Reserve Banks were also
recognized as a leader, and we are doing everything
selected as full-service check locations in June 2007
we can to continue to be a top service provider. We
based on their performance ratings, market condiare striving to achieve the ultimate status as the sole
tions, and location.
check site when that day comes,” Jain said.
The Fed’s latest check consolidation anBut for now, Philadelphia will assume check
nouncement is part of a multi-year strategy to manprocessing for sites in New York, Connecticut, and
age check processing capacity with declining check
Maryland in consolidations planned through 2009.
volumes. Consumers and businesses are writing fewer
The transition to a regional site began in 2006 when
paper checks and using credit and debit cards more,
the Bank began processing checks for FRB New York’s
circumstances that have led the Fed to reduce its
main operations center and continued in early 2008
check processing sites from 45 to 19 since 2003. This
with the consolidation of its Utica, N.Y., office. “We
transition to electronic collection of paper checks alare incorporating the lessons learned from the conlows paper checks to be collected more efficiently with
solidation of the New York Federal Reserve’s East
fewer geographically dispersed offices. The Fed’s unRutherford Operations Center (EROC) in 2006. EROC
derlying goal is to meet its statutory requirements for
was a huge undertaking that resulted in a 60 percent
long-term cost recovery while still providing the best
increase in check volumes,” Jain said. But unlike with
possible check collection service for the nation.
EROC, the workload for Utica’s consolidation will add
Each of the four full-service regional sites will
roughly 10 percent more volume and will not require
be somewhat similar in size and will have the flexibility
additional staff or equipment.
to accommodate additional processing to absorb closLater this year, most of Philadelphia’s check
ing offices’ volume without increasing staff or addadjustments function will move to one of the three
ing equipment. These four offices will process paper
other regional adjustment sites. As a result, staffing in
checks and electronic images, print substitute checks,

FEDERAL Reserve Bank of Philadelphia

the adjustments area will be slightly reduced, but the
Bank will handle the reductions through attrition and
employee reassignments. Jain explained, “We took
steps during hiring for EROC to manage our staff so
there would be as few job reassignments as possible.”
The Philadelphia Fed has kept its employees
and its customers aware of how changes in the Fed’s
operations will affect them. “We have been aggressively promoting electronic payments to consumers
and banks to foster a more efficient system,” Jain said.
The Fed was a supporter of a law commonly known
as Check 21 that encourages the use of electronically
transmitted check images to increase efficiency. The
law, which went into effect in 2004, allowed banks
to use substitute checks created from original paper
checks as the legal equivalent, with the ultimate objective of achieving end-to-end electronification of the
paper check.
Financial institutions are moving toward depositing transactions electronically because it’s fast and
efficient and can reduce certain errors. The Fed reports
that over 50 percent of check deposits are sent electronically. However, only about 30 percent of check
presentments are made electronically. The Fed prints
substitute paper checks for institutions that do not yet
receive payments electronically.
There is no telling when the balance of banks

will adopt electronic collection methods, but the Fed
is seeing an acceleration in the adoption of electronic
receipt. Research shows that improved costs and
convenience are driving businesses and consumers
to electronic payments. In fact, a 2007 study by the
Federal Reserve showed that two-thirds of all noncash
payments in the United States are made electronically
and that these payments grew 12.4 percent per year
from 2003 to 2006. Around 62.7 billion electronic
payments were made, totaling $34.1 trillion in value.
“Checks are continuing to decline at an even faster
pace than we saw two or three years ago,” Jain said.
However, even though electronic payments comprise
more than two-thirds of all noncash
Distribution of the number of Noncash Payments payments by number, they represent less than half by value. Checks
still have considerable volume. In
2006, 30.6 billion checks were paid,
with a value of $41.7 trillion.
The Federal Reserve remains
committed to providing high-quality
check processing and aligning its
services with market demands. The
Fed will continue to research trends
and review its own check processing
services each year to promote the
long-term integrity, efficiency, and
accessibility of our nation’s evolving
Source: The 2007 Federal Reserve Payments Study: Noncash Payment Trends in the United
payments system.
States: 2003-2006
21

Annual Report 2007

Working with the Treasury

Treasury Taps Philadelphia’s
Expertise Again

n 2006, the Treasury’s Financial Management
Service (FMS) office announced that it was embarking on a comprehensive, multi-year effort
to streamline, modernize, and improve the processes
and systems supporting Treasury’s collections and cash
management programs. This new project is the Collections and Cash Management Modernization (CCMM)
initiative.
In June 2007, Treasury Secretary Henry M.
Paulson, Jr., stated that “to maintain our capital markets’ leadership, we need a modern regulatory structure
complemented by market leaders embracing best practices. The steps we are announcing today will help to
strengthen our global competitiveness.” One of those
steps includes the modernization of Treasury’s cash and
debt management. The department will strengthen the
U.S. government’s cash and debt management systems

through a broad series of public initiatives, further improving the efficiency, integrity, transparency, and competitiveness of the U.S. Treasury market.
Also in June 2007, the Treasury chose the
Federal Reserve Bank of Philadelphia to lead its collateral management and monitoring business line.
Being chosen to lead this project was not a matter
of chance. The Philadelphia Fed’s First Vice President,
Bill Stone, said, “Our Bank was selected to lead the
Treasury’s collateral management and monitoring business because of the talented and experienced staff
in Philadelphia, who, for many years, have supported
the delivery of collateral, credit risk management, and
monitoring activities.”

Background

In 2003, the Subcommittee on Credit Risk
Management asked the Federal Reserve
Bank of Philadelphia to help streamline
and modernize the Reserve Banks’ collateral management system. Completed
in 2006, that project entailed converting
a complex centralized system to a webbased portal platform that paved the
way for portal technology to be implemented throughout the Federal Reserve
System. That effort resulted in the new
Collateral Management System (CMS),
which administers the collateral that financial institutions post when they borrow from the Fed and values collateral
held on behalf of the Treasury.
The Bank’s management took
a significant step on behalf of the credPictured left to right (seated): Marie Tkaczyk, Assistant Vice President, and
it risk management community when it
John Ackley, Assistant Vice President; (standing): Bob Mucerino, Collateral
began to develop the CMS using portal
Management National Support Service Manager; Wendy Fasbinder, Project
technology, an application that had
Manager; and Chris DeYoung, Group Manager, Systems Development.
never before been used by the Federal

FEDERAL Reserve Bank of Philadelphia

evaluating a number of other Reserve Banks, “we felt
that the Philadelphia Reserve Bank was the best, most
highly qualified candidate.”
The Philadelphia Fed will be modernizing the
Treasury’s collateral management and monitoring business line. The Bank will be responsible for developing
a new collateral application that will provide external
access to financial institutions, agencies, and the
Treasury and support new Treasury
investment options. Furthermore,
Philadelphia will play an integral role
The Bank will be responsible for developing a new
in analyzing guidelines for collateral
collateral application that will provide external access
eligibility and valuation methods.
to financial institutions, agencies, and the Treasury
Although this particular asand support new Treasury investment options.
pect of the Treasury’s program is new
to Philadelphia, the business line is
really an extension of work that the
Bank
has
been
doing
for quite some time, dating back
accurate collateral values for assets financial instituto the 1980s. At that time, the Philadelphia Fed mantions pledge as collateral when they borrow from the
aged the largest customer safekeeping service in the
Federal Reserve and assets pledged for Treasury collatFederal Reserve System. In the 1990s, the Bank develeral programs. Just as those who get loans for a house
oped a PC-based local area network application to upmay put up collateral as security for the money they
date older mainframe technology. And, of course, for
borrow, banks must also supply collateral for money
the new project, the Bank can also call on its experience
borrowed from the Federal Reserve Banks. Collateral
in developing the CMS.
valuation methodologies are based, in part, on curThe collateral management and monitoring
rent market prices for these assets and a complex set
project is still in the early stages. “Right now,” says
of algorithms using characteristics of securities such
Assistant Vice President John Ackley, “we’re in factas interest rates, time to maturity, duration, and asset
gathering mode in partnership with FMS staff. We need
quality. Since asset values can also change depending
to identify current processes, what the Treasury, federal
on area conditions, CMS also allows Reserve Banks
agencies, and financial institutions want to enhance,
to adjust values based on geographic conditions. The
and what current and new investment options the
Federal Reserve System holds collateral with a current
Treasury is planning. Then we’ll define our project plan
value of $1.34 trillion.
accordingly. We’re also studying the Treasury’s project
The New Business
management and development methodologies.”
This successful completion of the CMS projTo support the new business line, the Bank
ect, combined with the Bank’s well-known expertise in
will also add an operations group to handle day-to-day
managing collateral, resulted in the Philadelphia Fed’s
collateral management and monitoring functions and
expanded responsibility as the leader of the Treasury’s
will establish a Central Business Administration Funccollateral management and monitoring business,
tion (CBAF). The CBAF will direct program changes,
which is part of the CCMM initiative. In a letter to
test and implement enhancements, oversee and test
First Vice President Bill Stone announcing the decision,
software and hardware upgrades, and monitor system
then FMS Commissioner Kenneth Papaj said that after
performance.
Reserve at the national level. In July 2006, the CMS
team successfully completed the project that upgraded
and modernized the system. The project team’s design
meets the needs not only of the Fed but also of certain
collateral programs for the U.S. Treasury.
The CMS staff, in partnership with an experienced development staff, maintains the software application that allows Federal Reserve Banks to calculate

Annual Report 2007

Enhancing Security

Screening Facility Will Deliver
Increased Security

he Federal Reserve Bank of Philadelphia is
designing a sophisticated screening facility
to conduct more vigilant inspections of
vehicles off-site, which will deliver better protection
for employees and increased security for the Bank.
Construction is expected to get underway this spring
to transform the former parking lot across from the
Bank’s Seventh Street entrance into a 6,300-squarefoot screening annex. The project is expected to be
completed in 2009.
Plans call for the screening site to employ
the most advanced technology and highly trained
employees to identify and mitigate potential threats,
such as explosives lurking in the largest pallets or
hazardous chemicals hiding in the smallest parcels.
When the new building opens, the Bank’s law
enforcement officers will be able to scrutinize every
vehicle, from armored cash carriers to ordinary office
supply trucks, in a more
controlled environment
and at a safer distance
from the building. It is a
tremendous responsibility
that involves inspecting
about 7,000 to 10,000
vehicles each year.
“In today’s security-conscious world, we
must look for everything
from explosives to powders to biological agents.
Our job is to deter potential threats and minimize risks. The off-site
screening facility is a very
significant step in making the whole building
safer,” said James Welch,

assistant vice president of the Bank’s Law Enforcement
Department.
The Federal Reserve began enhancing its
security after the 9/11 terrorist attacks and has
continued to boost its controls. “We are a guardian
of the country’s banking and payments system, and
we will diligently carry out our responsibilities. We
value our employees, and we work hard to both keep
them safe and ensure that they feel safe,” said Welch.
The Bank’s security measures have obviously made an
impression on employees: According to a recent Bank
survey, 89 percent of employees feel that the Bank is a
safe and secure place to work.
“We are satisfying all of the most important
physical requirements for a safer, more secure
building,” said Richard A. Elliott, vice president of
Facilities Management, Records, and Document
Services, who is overseeing the project. Before he

Architect's rendering of the new screening facility

FEDERAL Reserve Bank of Philadelphia

joined the Philadelphia Fed in 2004, Elliott was part of
“We are integrating state-of-the-art technology with
the team charged with building a security command
minimal staffing and minimal costs. We’ll have more
center at the Federal Reserve Board of Governors in
flexibility and a screening process that is easier, faster,
Washington, D.C. He emphasized the importance
and even more secure,” he said.
of using more sophisticated technology to identify
Land for the site was purchased for $4.2
potential threats.
million from the Redevelopment Authority of the City
Technology coupled with a well-trained staff
of Philadelphia. The price tag for the former parking
has become an integral part of the Bank’s expanding
lot in addition to the land also covered the required
security program. “As we use more sophisticated
geographic studies, legal fees, and closing costs.
detection equipment, we need more thorough
Architectural firm Ewing Cole, well known
training. It is more complicated than standing at a
regionally for its role in constructing Citizens Bank
post,” Welch explained. Just how many employees
Park, the home of the Philadelphia Phillies, is under
will be needed to handle all of the various deliveries
contract to design the annex. Probably less well
— ranging from check pallets
to cafeteria food — is being
carefully studied.
“We are integrating state-of-the-art technology with
The off-site screening
minimal staffing and minimal costs. We’ll have more
structure’s design calls for
brighter lighting, better shelter,
flexibility and a screening process that is easier, faster,
and more security features.
and even more secure.”
One of the new features is an
X-ray machine large enough
to examine entire pallets. As a
result, the complete inspection process and the offknown is the fact that the firm also designed the
loading of packages are expected to become easier
Philadelphia Reserve Bank’s building and redesigned
and faster. Furthermore, ample parking space will
the Bank’s loading dock.
permit unexpected deliveries to be handled more
Ewing Cole’s design will incorporate green, or
effectively. Additional parking, traffic lights, and
environmentally sound, features. For example, lighting
signage will help traffic flow.
will minimize light pollution and energy consumption.
Elliott stressed the importance of striking a
Philadelphia’s Percent for Art ordinance requires that
balance between providing security and minimally
a percentage of construction costs be earmarked for
interrupting the Bank’s business lines, particularly the
public art. Representatives from the Bank and the
check and cash operations. The Philadelphia Fed is
city’s Redevelopment Authority will decide on the
one of four full-service regional check processing sites
theme and commission the work from artists with a
in the Federal Reserve System handling large volumes
connection to the Bank’s Third District.
of checks daily. The larger staging area for checks will
The exterior of the annex is an important
further streamline the process. In 2006, the Bank’s
consideration. But what the public doesn’t see is even
existing loading dock was renovated to accommodate
more important as the Philadelphia Fed continues
the increase in checks after the Bank acquired the
to execute a more comprehensive security program
New York Reserve Bank’s check processing.
that will ultimately help protect employees, mitigate
Elliott is convinced that we have a tremendous
imminent threats, and safeguard our role in the
opportunity to become even more efficient. Why?
nation’s economy and payment system.

2007 Bank Highlights

Annual Report 2007

Federal Reserve Bank of Philadelphia

Last year, Philadelphia Fed staff contributed to a large number of
significant Bank and System projects. Here are some of the highlights for
2007:
Audit
The Bank’s information technology audit manager made a presentation in April in Ljubljana, Slovenia,
at a workshop on “Information Technology Audit in Central Banks: Best Practice and International Standards.”
The department also hosted the 10th annual Bank-wide Audit Symposium, which offers staff continued
professional development through information sharing and interaction with Bank, professional, and community
leaders.

Cash Services
In May, Cash Services hosted the first regional cash customer meeting in conjunction
with four contiguous Federal Reserve Districts: Boston, New York (EROC), Cleveland, and
Richmond. In September, the national Cash Customer Advisory Council held its meeting at
the Bank. Cash Services also began billing for additional handling and processing of currency
deposited and withdrawn from the Federal Reserve in the same week. This billing is part of a
national effort to encourage recirculation of currency by depository institutions.

Community Affairs
The Community Affairs and Research departments jointly planned the fifth
biennial Federal Reserve System Community Affairs Research Conference held in
March 2007 in Washington, D.C. In addition, Community Affairs initiated a study of
the effectiveness of homeownership counseling on long-term financial management.
The study, which will follow participants for five years after they’ve received housing
counseling, is important, since many borrowers are in foreclosure in the current
financial environment. The department also helped housing advocates understand
options for refinancing and how to work with loan servicers. The department’s
economic education staff reached 600+ educators through seminars and classes at
the Bank or in our District.

Enterprise Risk Management
The Philadelphia Reserve Bank hosted the International Operational Risk Working Group conference.
The department’s assistant vice president chaired the key risk indicator group for the meeting. ERM also hosted
the System’s planning meeting for the 2007 Internal Control Assessment process, which supports compliance
with Auditing Standard No. 2 (AS2). AS2 sets requirements for external auditors in conducting engagements
and issuing opinions for organizations registered with the Securities and Exchange Commission.

The department completed the acquisition of a property for an off-site screening facility. The new
building will be used for screening general delivery trucks, check courier vehicles, and armored carriers before
the vehicles proceed to the main Bank building.

Financial Management Services
Staff in FMS chaired several System groups, including the COSO Coordination group, the Cost
Accounting Group, and the Enterprise Risk Management group. The Bank’s chief financial officer traveled to
Rabat, Morocco, to help the Moroccan central bank with its risk management efforts. Staff in the division’s
accounts payable function achieved designation as certified accounts payable specialists and managers. The
Bank’s budget and procurement officer taught classes for the Institute of Internal Auditors.

FEDERAL Reserve Bank of Philadelphia

Facilities Management

Financial Statistics
In 2007, the Financial Statistics Department made important contributions to the Federal Reserve System’s
Statistics and Reserves Technology Roadmap Initiative; System-level training; and development and testing of
enhancements to the Statistics and Reserves application and the Federal Financial Institutions Examination
Council’s central data repository application. Department staff contributed to testing and evaluating proposed
operational changes and identified and resolved often complex financial reporting issues.

Human Resources
HR established a work group consisting of Bank officers and managers to
develop a talent management program for the Bank. The Bank also established a
Diversity Council and charter to support its objective of a work environment in which all
employees can succeed. Seventeen summer interns, representing 10 universities, worked
at the Bank over the summer. The department’s ePEP group received a first place award
for excellence in e-learning from the Pennsylvania, New Jersey, and Delaware Distance
Learning Association.

DIVERSITY

Information Technology Services
ITS managed scores of internal Bank projects, supporting most business lines and hosting several major
Federal Reserve System assignments, including Treasury Services, Retail Payments, and information security.
The Bank’s Groupware Leadership Center serves as one of many national information technology operators
and has specific responsibility for the Federal Reserve’s collaboration suite of services. These include e-mail
and instant messaging, the calendar function, web conferencing, unified messaging, team workplace sites,
community services, and enterprise content management. The video conferencing team supports an enterprisewide service for all Federal Reserve offices and can connect to business partners in governments and industries
worldwide. This service was expanded to pilot desktop video conferencing.
27

Annual Report 2007

Law Enforcement
The Bank hired a former FBI agent to lead the Law Enforcement Department. The new assistant vice
president supervised the public corruption squad and the white collar crime unit in the FBI’s Philadelphia office.
The department also now occupies newly renovated and expanded space to better meet staff needs.

Legal
The Legal Department provided timely support for the complex transactions involved in the Bank’s
acquisition of property for an off-site screening facility. The Bank’s general counsel has for many years
chaired the System’s Subcommittee of Ethics Officers, which provides information, guidance, and support
to the ethics programs of all the Reserve Banks. Another department officer chairs the System work group
reviewing legal issues related to verifying the identity of those seeking physical or electronic access to federal
government sites.

Payment Cards Center
Center staff worked with the Bank’s Community Affairs Department in
sponsoring a conference on the financial services behavior of low- and moderateincome households. Staff also joined with the Bank’s Research Department to host
the fourth biennial conference on “Recent Developments in Consumer Credit and
Payments.” The staff also made presentations at an unprecedented 11 industrysponsored conferences and forums and numerous presentations in the Bank and
the System.

Public Affairs

Symbols on American

MONEY

The department produced a new publication, Symbols on
American Money, as part of the Bank's public information and economic
education efforts. The redesign of the Bank's external website is now
well underway. The redesign will improve the site's performance and
technical capabilities and provide even better service to our widely
diverse audience. The "Money in Motion" exhibit, which opened in
July 2003, has now welcomed over 120,000 visitors. In 2007 a new
element, "Supervision Mission," was added to help explain the Bank's
regulatory role.

The Research Department worked with Community Affairs to organize the
fifth biennial Federal Reserve System Community Affairs Research Conference. The
research director then served as editor for a special issue of the Journal of Economics
and Business in which selected papers from the conference were published. Research
also organized and hosted the sixth annual Philadelphia Fed Policy Forum, as well as
several other conferences, including the System Committee on International Analysis Annette L. Nazareth
Former SEC Commissioner
and a conference on analysis and methods using real-time data.

FEDERAL Reserve Bank of Philadelphia

Research

Retail Payments
Philadelphia was chosen in 2007 as one of four remaining Federal
Reserve check processing sites and will absorb the workload from the current
Baltimore, Utica, and Windsor Locks offices. The Customer Relations unit assisted
financial institutions in their efforts to implement Check 21 deposit (FedForward
and FedReturn) and presentment (FedReceipt) services. This is part of an evolution
from a paper-based check collection system to an increasingly electronic check
payments system.

Supervision, Regulation and Credit
SRC spearheaded the System’s “Partnership for Progress:
A Program for Minority-Owned and De Novo Institutions,” the first
of its kind to address the unique challenges facing minority-owned
institutions. The department also played a lead role for retail credit on
Program for
the System’s Basel II qualification team. SRC also prepared to launch
Partnership AMinority-Owned
and De Novo
for
Progress Institutions
its consumer compliance newsletter as a System-wide publication.
In December 2007, for the first time, the Federal Reserve offered
a unique lending program through its discount window called the Term Auction Facility (TAF). The TAF is
designed to supply term loans through an auction method to those financial institutions eligible to borrow
from the Fed under primary credit. Working under a short time frame with other Federal Reserve Banks
and the Subcommittee on Credit and Risk Management, SRC’s discount window staff facilitated the design,
development, and testing of appropriate procedures to implement the TAF in the Third District.

Treasury Services
The U.S. Treasury selected the Philadelphia Reserve Bank to lead the Treasury’s collateral management
and monitoring business line as part of the government’s project to modernize its collections and cash
management activities.

Board of Directors

Annual Report 2007

Federal Reserve Bank of Philadelphia

Doris M. Damm
Chairman, Federal Reserve Bank of Philadelphia
Board of Directors. Board member since January 2001.
President and CEO of ACCU Staffing Services. Director
of Our Lady of Lourdes Medical Center. Member of the
Executive Advisory Council, Rutgers University School of
Business. Panelist for the Rutgers Quarterly Economic
Outlook Panel. Member of the Women’s Business
Enterprise National Council, the Cherry Hill Chamber of
Commerce, and the Chamber of Commerce of Southern
New Jersey.
William F. Hecht
Deputy Chairman, Federal Reserve Bank of
Philadelphia Board of Directors. Board member since
January 2004. Member Audit and Nominating &
Governance Committees. Retired President, Chairman
and CEO of PPL Corporation. Serves on the Board of
Trustees of Lehigh University and of Lehigh Valley Hospital
and Health Network. Serves on the board of directors of
Dentsply International and RenaissanceRe Holdings, Ltd.
President of Lehigh Valley Partnership.
Michael F. Camardo
Board member since January 2007. Member
of Management & Budget Committee. Retired Executive
Vice President Lockheed Martin Information & Technology
Services. Chairman of Our Lady of Lourdes Healthcare
Services, Inc., Symphony in C, and Greater Camden
Partnership. Serves on boards for the Franklin Institute,
Executive Advisory Council for Rutgers University, and Day
& Zimmerman.
John G. Gerlach
Board member since January 2006. Member
of the Audit Committee. President and CEO of Pocono
Community Bank. Member of the boards of First Keystone
Corporation, First Keystone National Bank, and Pocono
Mountains Economic Development Corporation.
Aaron L. Groff
Board member since January 2007. Member
of the Audit Committee. Chairman, President, and
CEO of Ephrata National Bank. Serves on the boards of
the Ephrata Area Educational Foundation, FURST CEO
Network, and the Ephrata Community Hospital. Treasurer
of Ephrata Township Sewer Authority.

Garry L. Maddox
Board member since January 2003. Member of
the Audit Committee. President and CEO of A. Pomerantz
& Company. Founding President of World Wide
Concessions, Inc. Founder and President of Youth Golf
and Academics Program. Serves on boards of Boys and
Girls Club of Camden County, Corporate Alliance for Drug
Education, Greater Philadelphia Chamber of Commerce,
Fairmount Park Commission, Neumann College, and
Philadelphia Sports Congress. Director Emeritus of
Philadelphia Child Guidance Center. Member of Board of
Governors of National Adoption Center.
Charles P. Pizzi
Board member since January 2006. Member
Management & Budget and Nominating & Governance
Committees. President and CEO of Tasty Baking
Company. Chairman of the Allegheny West Foundation.
Serves on the boards of Drexel University, Independence
Blue Cross, Greater Philadelphia Chamber of Commerce,
Philadelphia Stock Exchange, Brandywine Realty Trust, and
Grocery Manufacturers of America.
P. Coleman Townsend, Jr.
Board member since January 2002. Member
Management & Budget and Nominating & Governance
Committees. Chairman and CEO of Townsends, Inc.
Member of Board of Trustees of University of Delaware
and Winterthur Museum. Member Winterthur Museum
Garden, Collections and Library Committees. Serves on
the Council of Advisors for Delaware Center of Horticulture
and the Advisory Board for Lehman Art Center - Brooks
School. Active participant on Delaware Art Museum
Collections Committee.
Wayne R. Weidner
Board member since January 2005. Member
Management & Budget and Nominating & Governance
Committees. Chairman of the Board National Penn
Bancshares, Inc. Serves as a director of National Penn
Bank, National Penn Investors Trust Company, and Hawk
Mountain Council Boy Scouts of America.

FEDERAL Reserve Bank of Philadelphia

Standing left to right: Wayne Weidner, Aaron Groff, John Gerlach, Michael Camardo, and Coleman Townsend.
Seated left to right: Charles Pizzi, Doris Damm, and William Hecht. Not pictured: Garry Maddox.
31

2007 Advisory Councils

Annual Report 2007

Federal Reserve Bank of Philadelphia

Business Council

Community Bank Council

Credit Union Council

Reneé Amoore
President & CEO
The Amoore Group
King of Prussia, PA

Donna M. Coughey
President & CEO
Willow Financial Bank
Wayne, PA

Martin Banecker
President & CEO
Campbell Employees FCU
Camden, NJ

Daniel Blaschak
Treasurer
Blaschak Coal, Inc.
Mahanoy City, PA

Allan R. Dennison
President & CEO
AmeriServ Financial
Johnstown, PA

Maurice Dawkins
President & CEO
American Spirit FCU
Newark, DE

Keith S. Campbell
Chairman
Mannington Mills, Inc.
Salem, NJ

Mark E. Huntley
CEO
Delaware National Bank
Georgetown, DE

Alfreda A. Earnest
President & CEO
Deepwater Industries FCU
Deepwater, NJ

Robert L. Gronlund
Chairman & CEO
Wood Mode, Inc.
Kreamer, PA

John T. Parry
President & CEO
First National Bank & Trust Co.
Newtown, PA.

James E. Everhart, Jr.
President & CEO
Louviers FCU
Newark, DE

James J. Hargadon
Executive Vice President & CFO
Oki Data Americas
Mount Laurel, NJ

Michael M. Quick
Executive Vice President
Susquehanna Bancshares, Inc.
Lititz, PA

Ben Griffith
President
South Jersey FCU
Deptford, NJ

Melinda K. Holman
President
Holman Enterprises
Pennsauken, NJ

Peter C. Zimmerman
Executive Vice President
Orrstown Bank
Shippensburg, PA

Jeff March
President & CEO
Citadel FCU
Thorndale, PA

Eric May
President & Owner
Pen-Fern Oil Co., Inc.
Dallas, PA

Larry D. Miller
President & CEO
Mennonite Financial FCU
Lancaster, PA

Kenneth Tuckey
President
Tuckey Mechanical Services, Inc.
Carlisle, PA

Glen Potteiger
President & CEO
CTCE FCU
Reading, PA

Rodman Ward
President
Speakman Company
Wilmington, DE

Richard Stipa
CEO
TruMark Financial Credit Union
Trevose, PA

David C. Wenger
President & CEO
Transport Decisions
Churchville, PA

Edwin L. Williams
President & CEO
Discovery FCU
Wyomissing, PA

Executive Committee
Federal Reserve Bank of Philadelphia

FEDERAL Reserve Bank of Philadelphia

The Bank’s Executive Committee consists of the president, first vice president, and key senior officers. They
meet regularly to discuss issues facing the Bank or the Federal Reserve System. Pictured clockwise from left: Loretta
J. Mester, Senior Vice President and Director of Research; Richard W. Lang, Executive Vice President; Donna L.
Franco, Senior Vice President and Chief Financial Officer; D. Blake Prichard, Executive Vice President; Michael
E. Collins, Senior Vice President and Lending Officer; Milissa M. Tadeo, Senior Vice President; Charles I. Plosser,
President and Chief Executive Officer; and William H. Stone, Jr., First Vice President.
33

Current Officers

Annual Report 2007

Federal Reserve Bank of Philadelphia

Charles I. Plosser
President & CEO
William H. Stone, Jr.
First Vice President
Richard W. Lang
Executive Vice President
D. Blake Prichard
Executive Vice President
Michael E. Collins
Senior Vice President
and Lending Officer
Supervision, Regulation
and Credit

Mary Ann Hood
Vice President
Human Resources
Arun K. Jain
Vice President
Retail Payments
William W. Lang
Vice President
Supervision, Regulation
and Credit

Donna L. Franco
Senior Vice President and
Chief Financial Officer

Edward M. Mahon
Vice President and General
Counsel, Ethics Officer
Legal

Loretta J. Mester
Senior Vice President and
Director of Research
Research

Alice Kelley Menzano
Vice President
Information Technology
Services

Milissa M. Tadeo
Senior Vice President
Cash Services, Treasury
Services, and Facilities
Management

Stephen A. Meyer
Vice President and Senior
Economic Policy Advisor
Research

John G. Bell
Vice President
Financial Statistics
Mitchell S. Berlin
Vice President and
Economist
Research
Robert J. Bucco
Vice President
Wholesale Product Office
Peter P. Burns
Vice President and Director
Payment Cards Center
John J. Deibel
Vice President and Senior
Examination Officer
Supervision, Regulation
and Credit
Michael Dotsey
Vice President and Senior
Economic Policy Advisor
Research
Richard A. Elliott
Vice President
Facilities Management,
Records, and Document
Services

Faith P. Goldstein
Vice President
Public Affairs

Mary DeHaven Myers
Vice President and
Community Affairs Officer
Community Affairs
A. Reed Raymond, III
Vice President and Chief
Administrative Officer
Supervision, Regulation
and Credit

Kei-Mu Yi
Vice President and
Economist
Research

Stephen G. Hart
Assistant Vice President
Human Resources

John D. Ackley
Assistant Vice President
Treasury Services
Aileen C. Boer
Assistant Vice President
Research

Elisabeth V. Levins
Assistant Vice President
Supervision, Regulation
and Credit

Donna Brenner
Assistant Vice President
Enterprise Risk
Management

Leonard Nakamura
Assistant Vice President
and Economist
Research

Brian Calderwood
Assistant Vice President
Information Technology
Services

Camille M. Ochman
Assistant Vice President
Cash Services

Jennifer E. Cardy
Assistant Vice President
Financial Management
Services
Shirley L. Coker
Assistant Vice President
and Counsel
Legal
Maryann T. Connelly
Assistant Vice President
and Counsel
Legal
Cynthia L. Course
Assistant Vice President
Supervision, Regulation
and Credit

Patrick M. Regan
Vice President
Information Technology
Services

Frank J. Doto
Assistant Vice President
Supervision, Regulation
and Credit

Michelle M. Scipione
Vice President
Cash Services

Michael T. Doyle
Assistant Vice President
and Technical Services
Officer
Information Technology
Services

Richard A. Sheaffer
Vice President and
General Auditor
Herbert E. Taylor
Vice President and
Corporate Secretary
Vish P. Viswanathan
Vice President and
Discount Officer
Supervision, Regulation
and Credit

John P. Kelly
Assistant Vice President
Retail Payments

Gregory Fanelli
Assistant Vice President
Treasury Payments
Suzanne W. Furr
Assistant Vice President
Assistant General Auditor
Audit
William L. Gaunt
Assistant Vice President
Supervision, Regulation
and Credit

Anthony T. Scafide, Jr.
Assistant Vice President
Customer Relations
Stephen J. Smith
Assistant Vice President
and Counsel
Legal
Eric A. Sonnheim
Assistant Vice President
Supervision, Regulation
and Credit
Marie Tkaczyk
Assistant Vice President
Information Technology
Services
Patrick Turner
Assistant Vice President
Information Technology
Services
Todd Vermilyea
Assistant Vice President
Supervision, Regulation
and Credit
Constance H. Wallgren
Assistant Vice President
Supervision, Regulation
and Credit
James K. Welch
Assistant Vice President
Law Enforcement
Thomas J. Lombardo
Financial Services Industry
Relations Officer
Customer Relations
Wanda Preston
Check Adjustments Officer
Retail Payments

Includes promotions through March 2008.

In 2007, Philadelphia’s total volume of commercial checks processed decreased 2 percent and
the dollar value of transactions decreased 28 percent
as a result of the general decline in check processing
in the nation’s payment system. The volume of commercial checks received as Check 21 electronic images
increased 259 percent, and the dollar value increased
120 percent in 2007.
The volume and dollar value of U.S. government checks decreased 40 percent in 2007. This
trend follows the same pattern as the decline in commercial checks due to the Treasury’s increased use of
electronic payments and because depositing banks
are converting government paper checks to Check 21
electronic images. As part of the reorganization of
check processing due to the decline in government paper checks, Philadelphia’s government check operation
is scheduled to be transferred to the St. Louis Reserve
Bank in July 2008. The Philadelphia Reserve Bank will

remain a contingency site for U.S. government check
processing.
In 2007, Philadelphia continued to be a major processor of cash in the Federal Reserve System,
although the volume of currency processed decreased
almost 15 percent. Because the Bank processed a
greater proportion of larger denomination notes,
the actual dollar value of currency processed did not
decrease as significantly (4 percent). In 2007, offsite terminal holdings were increased; therefore, the
volume of coin bags processed on site declined 32
percent. The processed coin value decreased less significantly (17 percent) because the Bank processed an
increased proportion of presidential dollar coins.
In 2007, both the number and value of loans
to depository institutions were significantly higher
than in the previous year because of increased volume
in seasonal loans.

FEDERAL Reserve Bank of Philadelphia

OPERATING STATISTICS

SERVICES TO DEPOSITORY INSTITUTIONS

2007

2006

Volume

Dollar Value

Volume

Dollar Value

Paper processed

998.3 million checks

$2,174.9 billion

1,020.3 million checks

$3,019.9 billion

Check 21 received

583.7 million checks

$1,677.0 billion

162.6 million checks

$763.3 billion

U.S. government checks

51.4 million checks

$63.5 billion

85.9 million checks

$105.4 billion

Currency processed

1,903.9 million notes

$37.1 billion

2,236.5 million notes

$38.6 billion

Coin paid and received

375.5 thousand bags

$195.8 million

549.0 thousand bags

$236.8 million

107 loans

$991.9 million

75 loans

$86.3 million

Check services:
Commercial checks –

Cash operations:

Loans to depository
institutions during the year

Statement of Auditor Independence

Annual Report 2007

Federal Reserve Bank of Philadelphia

he firm engaged by the Board of Governors
for the audits of the individual and combined
financial statements of the Reserve Banks
for 2007 was Deloitte & Touche LLP (D&T). Fees
for these services totaled $4.7 million. To ensure
auditor independence, the Board of Governors
requires that D&T be independent in all matters
relating to the audit. Specifically, D&T may not
perform services for the Reserve Banks or others
that would place it in a position of auditing its own
work, making management decisions on behalf of
the Reserve Banks, or in any other way impairing
its audit independence. In 2007, the Bank did not
engage D&T for any material advisory services.

Financial reports contents
Federal Reserve Bank of Philadelphia

Report of Independent Auditors

Statements of Condition

Statements of Income and Comprehensive Income

Statements of Changes in Capital

Notes to Financial Statements

FEDERAL Reserve Bank of Philadelphia

Letter to Directors

Annual Report 2007

Federal Reserve Bank of Philadelphia

Report of Independent Auditors
Federal Reserve Bank of Philadelphia

FEDERAL Reserve Bank of Philadelphia

Continued on next page
39

Report of Independent Auditors

Annual Report 2007

Federal Reserve Bank of Philadelphia

Report of Independent Auditors
Federal Reserve Bank of Philadelphia

FEDERAL Reserve Bank of Philadelphia
41

Annual Report 2007

STATEMENTS OF CONDITION
Federal Reserve Bank of Philadelphia

As of December 31, 2007 and December 31, 2006 (in millions)

ASSETS

2007

2006

$455
83
88
317
2,057
32,987
5,587
281
794
87
56

$463
83
53
649
34,021
1,152
292
836
81
305
58

Total assets
$42,792

$37,993

Gold certificates
Special drawing rights certificates
Coin
Items in process of collection
Securities purchased under agreements to resell
U.S. government securities, net
Investments denominated in foreign currencies
Accrued interest receivable
Interdistrict settlement account
Bank premises and equipment, net
Interest on Federal Reserve notes due from U.S. Treasury
Other assets

LIABILITIES AND CAPITAL
Liabilities:
Federal Reserve notes outstanding, net
$34,165
$31,700
Securities sold under agreements to repurchase
1,946
1,286
Deposits:
Depository institutions
2,664
584
Other deposits
5
3
Deferred credit items
215
718
Interest on Federal Reserve notes due to U.S. Treasury
91
Accrued benefit costs
69
70
Other liabilities
11
12
Total liabilities
39,166
34,373

Capital:
Capital paid-in
1,813
1,810
Surplus (including accumulated other comprehensive loss of
$19 million and $24 million at December 31, 2007 and 2006,
respectively)
1,813
1,810
Total capital
Total liabilities and capital

The accompanying notes are an integral part of these financial statements.
42

3,626

3,620

$42,792

$37,993

Federal Reserve Bank of Philadelphia

For the years ended December 31, 2007 and December 31, 2006 (in millions)

2007

2006

Interest income:
Interest on U.S. government securities
$1,703
$1,454
Interest on securities purchased under agreements to resell
63
Interest on investments denominated in foreign currencies
65
20

FEDERAL Reserve Bank of Philadelphia

STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

Total interest income
1,831
1,474

Interest expense:
Interest expense on securities sold under agreements to repurchase
74
56
Net interest income
1,757
1,418

Other operating income:
Compensation received for services provided
38
32
Reimbursable services to government agencies
31
31
Foreign currency gains, net
243
66
Other income
6
3
Total other operating income
318
132

Operating expenses:
Salaries and other benefits
96
90
Occupancy expense
11
11
Equipment expense
12
11
Assessments by the Board of Governors
67
51
Other expenses
41
42
Total operating expenses
227
205

Net income prior to distribution
1,848
1,345

Change in funded status of benefit plans
5
Comprehensive income prior to distribution
$1,853
$1,345

Distribution of comprehensive income:
Dividends paid to member banks
$109
$80
Transferred to surplus and change in accumulated other
comprehensive loss
3
1,090
Payments to U.S. Treasury as interest on Federal Reserve notes
1,741
175
Total distribution

$1,853

$1,345

The accompanying notes are an integral part of these financial statements.
43

Annual Report 2007

STATEMENTS OF changes in Capital
Federal Reserve Bank of Philadelphia

For the years ended December 31, 2007 and December 31, 2006 (in millions)

Surplus

Accumulated

Other

Capital
Net Income Comprehensive
Total
Total

Paid-In
Retained
Loss
Surplus
Capital

Balance at January 1, 2006
(14.9 million shares)
Net change in capital stock issued
(21.3 million shares)

744

1,066

744

Transferred to surplus

- 1,090

Adjustment to initially apply SFAS
No. 158

Balance at December 31, 2006
(36.2 million shares)

$ 1,810

$ 1,834

$ 744

- 1,066

- 1,090 1,090

(24)

$ 1,810

(24)

$ 3,620

Net change in capital stock issued
(0.1 million shares)

Transferred to surplus and change in
accumulated other comprehensive loss

(2)

Balance at December 31, 2007
(36.3 million shares)
$ 1,813
$ 1,832
$ (19)
$ 1,813

The accompanying notes are an integral part of these financial statements.
44

$ 1,488

$ 3,626

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

The Federal Reserve Bank of Philadelphia
(“Bank”) is part of the Federal Reserve System (“System”) and one of the twelve Reserve Banks (“Reserve Banks”) created by Congress under the Federal
Reserve Act of 1913 (“Federal Reserve Act”), which
established the central bank of the United States. The
Reserve Banks are chartered by the federal government and possess a unique set of governmental, corporate, and central bank characteristics. 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 is exercised by a
board of directors. The Federal Reserve Act specifies
the composition of the board of directors for each of
the Reserve Banks. Each board is composed of nine
members serving three-year terms: three directors,
including those designated as chairman and deputy
chairman, are appointed by the Board of Governors of
the Federal Reserve System (“Board of Governors”) to
represent the public, and six directors are elected by
member banks. Banks that are members of the System include all national banks and any state-chartered
banks that apply and are approved for membership
in the System. Member banks are divided into three
classes according to size. Member banks in each class
elect one director representing member banks and
one representing the public. In any election of directors, each member bank receives one vote, regardless of the number of shares of Reserve Bank stock it
holds.
The System also consists, in part, of the Board
of Governors and the Federal Open Market Committee (“FOMC”). The Board of Governors, an independent federal agency, is charged by the Federal Reserve
Act with a number of specific duties, including general
supervision over the Reserve Banks. The FOMC is
composed of members of the Board of Governors, the
president of the Federal Reserve Bank of New York

(“FRBNY”), and on a rotating basis four other Reserve
Bank presidents.

2. Operations and Services
The Reserve Banks perform a variety of services and operations. Functions include participation in
formulating and conducting monetary policy; participation in the payments system, including large-dollar
transfers of funds, automated clearinghouse (“ACH”)
operations, and check collection; distribution of coin
and currency; performance of fiscal agency functions
for the U.S. Treasury, certain federal agencies, and
other entities; serving as the federal government's
bank; provision of short-term loans to depository institutions; service to the consumer and the community
by providing educational materials and information
regarding consumer laws; and supervision of bank
holding companies, state member banks, and U.S. offices of foreign banking organizations. Certain services
are provided to foreign and international monetary
authorities, primarily by the FRBNY.
The FOMC, in the conduct of monetary policy,
establishes policy regarding domestic open market
operations, oversees these operations, and annually
issues authorizations and directives to the FRBNY for
its execution of transactions. The FRBNY is authorized
and directed by the FOMC to conduct operations in
domestic markets, including the direct purchase and
sale of U.S. government securities, the purchase of securities under agreements to resell, the sale of securities under agreements to repurchase, and the lending
of U.S. government securities. The FRBNY executes
these open market transactions at the direction of the
FOMC and holds the resulting securities and agreements 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

FEDERAL Reserve Bank of Philadelphia

1. Structure

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

to meet other needs specified by the FOMC in carrying out the System’s central bank responsibilities. The
FRBNY is authorized by the FOMC to hold balances
of, and to execute spot and forward foreign exchange
(“FX”) and securities contracts for, nine foreign currencies and to invest such foreign currency holdings
ensuring adequate liquidity is maintained. The FRBNY
is authorized and directed by the FOMC to maintain
reciprocal currency arrangements (“FX swaps”) with
four central banks and “warehouse” foreign currencies for the U.S. Treasury and Exchange Stabilization
Fund (“ESF”) through the Reserve Banks. In connection with its foreign currency activities, the FRBNY may
enter into transactions that contain varying degrees
of off-balance-sheet market risk that result from their
future settlement and counter-party credit risk. The
FRBNY controls credit risk by obtaining credit approvals, establishing transaction limits, and performing
daily monitoring procedures.
Although the Reserve Banks are separate legal
entities, in the interests of greater efficiency and effectiveness they collaborate in the delivery of certain
operations and services. The collaboration takes the
form of centralized operations and product or function offices that have responsibility for the delivery of
certain services on behalf of the Reserve Banks. Various operational and management models are used
and are supported by service agreements between
the Reserve Bank providing the service and the other
eleven Reserve Banks. In some cases, costs incurred
by a Reserve Bank for services provided to other Reserve Banks are not shared; in other cases, the Reserve
Banks are billed for services provided to them by another Reserve Bank.
Major services provided on behalf of the System by the Bank, for which the costs were not redistributed to the other Reserve Banks, include Collateral
Management System, Electronic Cash Letter System,
Groupware Leadership Center, Treasury Check Information Services Central Business Administration Function, and Treasury Direct Central Business Administration Function.

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 accounting standard-setting bodies. The Board of Governors
has developed specialized accounting principles and
practices that it considers to be appropriate for the
nature and function of a central bank, which differ
significantly from those of the private sector. These
accounting principles and practices are documented in
the Financial Accounting Manual for Federal Reserve
Banks (“Financial Accounting Manual”), which is issued by the Board of Governors. All of the Reserve
Banks are required to adopt and apply accounting policies and practices that are consistent with the Financial Accounting Manual and the financial statements
have been prepared in accordance with the Financial
Accounting Manual.
Differences exist between the accounting
principles and practices in the Financial Accounting
Manual and generally accepted accounting principles
in the United States (“GAAP”), primarily due to the
unique nature of the Bank’s powers and responsibilities as part of the nation’s central bank. The primary
difference is the presentation of all securities holdings
at amortized cost, rather than using the fair value
presentation required by GAAP. U.S. government
securities and investments denominated in foreign currencies comprising the SOMA are recorded at cost, on
a settlement-date basis, and adjusted for amortization
of premiums or accretion of discounts on a straightline basis. Amortized cost more appropriately reflects
the Bank’s securities holdings given the System’s
unique responsibility to conduct monetary policy.
While the application of current market prices to the
securities holdings may result in values substantially
above or below their carrying values, these unrealized
changes in value would have no direct effect on the
quantity of reserves available to the banking system or
on the prospects for future Bank earnings or capital.
Both the domestic and foreign components of the

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

a. Gold and Special Drawing Rights Certificates
The Secretary of the U.S. Treasury is authorized to issue gold and special drawing rights (“SDR”)
certificates to the Reserve Banks.
Payment for the gold certificates by the Reserve Banks is made by crediting equivalent amounts in
dollars into the account established for the U.S. Treasury. The gold certificates held by the Reserve Banks
are required to be backed by the gold of the U.S.

Treasury. The U.S. Treasury may reacquire the gold certificates at any time and the Reserve Banks must deliver
them to the U.S. Treasury. At such time, the U.S. Treasury’s account is charged, and the Reserve Banks’ gold
certificate accounts are reduced. The value of gold for
purposes of backing the gold certificates is set by law
at $42 2/9 a fine troy ounce. The Board of Governors
allocates the gold certificates among Reserve Banks
once a year based on the average Federal Reserve
notes outstanding in each Reserve Bank.
SDR certificates are issued by the International
Monetary Fund (“Fund”) to its members in proportion
to each member’s quota in the Fund at the time of issuance. SDR certificates serve as a supplement to international monetary reserves and may be transferred
from one national monetary authority to another.
Under the law providing for United States participation
in the SDR system, the Secretary of the U.S. Treasury
is authorized to issue SDR certificates somewhat like
gold certificates to the Reserve Banks. When SDR
certificates are issued to the Reserve Banks, equivalent
amounts in dollars are credited to the account established for the U.S. Treasury, and the Reserve Banks’
SDR certificate accounts are increased. The Reserve
Banks are required to purchase SDR certificates, at
the direction of the U.S. Treasury, for the purpose of
financing SDR acquisitions or for financing exchange
stabilization operations. At the time SDR transactions
occur, the Board of Governors allocates SDR certificate
transactions among Reserve Banks based upon each
Reserve Bank’s Federal Reserve notes outstanding at
the end of the preceding year. There were no SDR
transactions in 2007 or 2006.

FEDERAL Reserve Bank of Philadelphia

SOMA portfolio may involve transactions that result in
gains or losses when holdings are sold prior to maturity. Decisions regarding securities and foreign currency
transactions, including their purchase and sale, are
motivated by monetary policy objectives rather than
profit. Accordingly, market values, earnings, and any
gains or losses resulting from the sale of such securities and currencies are incidental to the open market
operations and do not motivate decisions related to
policy or open market activities.
In addition, the Bank has elected not to present a Statement of Cash Flows because the liquidity and
cash position of the Bank are not a primary concern
given the Reserve Banks’ unique powers and responsibilities. A Statement of Cash Flows, therefore, would
not provide additional meaningful information. Other
information regarding the Bank's activities is provided
in, or may be derived from, the Statements of Condition, Income and Comprehensive Income, and Changes
in Capital. There are no other significant differences
between the policies outlined in the Financial Accounting Manual and GAAP.
The preparation of the financial statements in
conformity with the Financial Accounting Manual requires management to make certain estimates and assumptions that affect the reported amounts of assets
and liabilities, the disclosure of contingent assets and
liabilities at the date of the financial statements, and
the reported amounts of income and expenses during
the reporting period. Actual results could differ from
those estimates. Unique accounts and significant accounting policies are explained below.

b. Loans to Depository Institutions
Depository institutions that maintain reservable transaction accounts or nonpersonal time deposits, as defined in regulations issued by the Board of
Governors, have borrowing privileges at the discretion
of the Reserve Bank. Borrowers execute certain lending agreements and deposit sufficient collateral before
credit is extended. The Bank offers three discount

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

window programs to depository institutions: primary
credit, secondary credit, and seasonal credit, each
with its own interest rate. Interest is accrued using
the applicable discount rate established at least every
fourteen days by the board of directors of the Reserve
Bank, subject to review and determination by the
Board of Governors.
In addition, depository institutions that are
eligible to borrow under the Reserve Bank’s primary
credit program are also eligible to participate in the
temporary Term Auction Facility ("TAF") program.
Under the TAF program, the Reserve Banks conduct
auctions for a fixed amount of funds, with the interest
rate determined by the auction process, subject to a
minimum bid rate. All advances under the TAF must
be fully collateralized.
Outstanding loans are evaluated for collectibility. If loans were ever deemed to be uncollectible,
an appropriate reserve would be established. There
were no outstanding loans to depository institutions at
December 31, 2007 and 2006.
c. U.S. Government Securities and Investments
Denominated in Foreign Currencies
Interest income on U.S. government securities
and investments denominated in foreign currencies
comprising the SOMA is accrued on a straight-line
basis. Gains and losses resulting from sales of securities are determined by specific issues based on average
cost. Foreign-currency-denominated assets are revalued daily at current foreign currency market exchange
rates in order to report these assets in U.S. dollars.
Realized and unrealized gains and losses on investments denominated in foreign currencies are reported
as “Foreign currency gains, net” in the Statements of
Income and Comprehensive Income.
Activity related to U.S. government securities,
including the premiums, discounts, and realized and
unrealized gains and losses, is allocated to each Reserve Bank on a percentage basis derived from an annual settlement of the interdistrict settlement account
that occurs in April of each year. The settlement also

equalizes Reserve Bank gold certificate holdings to
Federal Reserve notes outstanding in each District.
Activity related to investments denominated in foreign
currencies is allocated to each Reserve Bank based on
the ratio of each Reserve Bank’s capital and surplus to
aggregate capital and surplus at the preceding December 31.
d. Securities Purchased Under Agreements to
Resell, Securities Sold Under Agreements to
Repurchase, and Securities Lending
The FRBNY may engage in tri-party purchases
of securities under agreements to resell (“tri-party
agreements”). Tri-party agreements are conducted
with two commercial custodial banks that manage
the clearing and settlement of collateral. Collateral
is held in excess of the contract amount. Acceptable
collateral under tri-party agreements primarily includes
U.S. government securities, pass-through mortgage
securities of the Government National Mortgage Association, Federal Home Loan Mortgage Corporation,
and Federal National Mortgage Association, STRIP
securities of the U.S. Government, and “stripped”
securities of other government agencies. The tri-party
agreements are accounted for as financing transactions, with the associated interest income accrued over
the life of the agreement.
Securities sold under agreements to repurchase are accounted for as financing transactions and
the associated interest expense is recognized over the
life of the transaction. These transactions are reported
in the Statements of Condition at their contractual
amounts and the related accrued interest payable is
reported as a component of “Other liabilities.”
U.S. government securities held in the SOMA
are lent to U.S. government securities dealers in order
to facilitate the effective functioning of the domestic
securities market. Securities-lending transactions are
fully collateralized by other U.S. government securities
and the collateral taken is in excess of the market
value of the securities loaned. The FRBNY charges the
dealer a fee for borrowing securities and the fees are

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

e. FX Swap Arrangements and Warehousing
Agreements
FX swap arrangements are contractual
agreements between two parties, the FRBNY and
an authorized foreign central bank, whereby the
parties agree to exchange their currencies up to a
prearranged maximum amount and for an agreedupon period of time (up to twelve months), at an
agreed-upon interest rate. These arrangements
give the FOMC temporary access to the foreign
currencies it may need to support its international
operations and give the authorized foreign central
bank temporary access to dollars. Drawings under
the FX swap arrangements can be initiated by either
party and must be agreed to by the other party. The
FX swap arrangements are structured so that the party
initiating the transaction bears the exchange rate risk
upon maturity. Foreign currencies received pursuant
to these agreements are reported as a component of
“Investments denominated in foreign currencies” in
the Statements of Condition.
Warehousing is an arrangement under which
the FOMC agrees to exchange, at the request of
the U.S. Treasury, U.S. dollars for foreign currencies
held by the U.S. Treasury or ESF over a limited period
of time. The purpose of the warehousing facility is
to supplement the U.S. dollar resources of the U.S.
Treasury and ESF for financing purchases of foreign
currencies and related international operations.
FX swap arrangements and warehousing
agreements are revalued daily at current market
exchange rates. Activity related to these agreements,

with the exception of the unrealized gains and losses
resulting from the daily revaluation, is allocated to
each Reserve Bank based on the ratio of each Reserve
Bank’s capital and surplus to aggregate capital and
surplus at the preceding December 31. Unrealized
gains and losses resulting from the daily revaluation
are recorded by FRBNY and not allocated to the other
Reserve Banks.
f. Bank Premises, Equipment, and Software
Bank premises and equipment are stated at
cost less accumulated depreciation. Depreciation is
calculated on a straight-line basis over the estimated
useful lives of the assets, which range from two
to fifty years. Major alterations, renovations, and
improvements are capitalized at cost as additions
to the asset accounts and are depreciated over the
remaining useful life of the asset or, if appropriate,
over the unique useful life of the alteration,
renovation, or improvement. Maintenance, repairs,
and minor replacements are charged to operating
expense in the year incurred.
Costs incurred for software during the
application development stage, either developed
internally or acquired for internal use, are capitalized
based on the cost of direct services and materials
associated with designing, coding, installing, or testing
software. Capitalized software costs are amortized on
a straight-line basis over the estimated useful lives of
the software applications, which range from two to
five years. Maintenance costs related to software are
charged to expense in the year incurred.
Capitalized assets including software,
buildings, leasehold improvements, furniture, and
equipment are impaired when events or changes
in circumstances indicate that the carrying amount
of assets or asset groups is not recoverable and
significantly exceeds their fair value.

FEDERAL Reserve Bank of Philadelphia

reported as a component of “Other income.”
Activity related to securities sold under
agreements to repurchase and securities lending
is allocated to each of the Reserve Banks on a
percentage basis derived from an annual settlement of
the interdistrict settlement account. On February 15,
2007 the FRBNY began allocating to the other Reserve
Banks the activity related to securities purchased under
agreements to resell.

g. Interdistrict Settlement Account
At the close of business each day, each
Reserve Bank assembles the payments due to or from

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

other Reserve Banks. These payments result from
transactions between Reserve Banks and transactions
that involve depository institution accounts held by
other Reserve Banks, such as Fedwire funds and
securities transfers, and check and ACH transactions.
The cumulative net amount due to or from the
other Reserve Banks is reflected in the "Interdistrict
settlement account" in the Statements of Condition.
h. Federal Reserve Notes
Federal Reserve notes are the circulating
currency of the United States. These notes are issued
through the various Federal Reserve agents (the
chairman of the board of directors of each Reserve
Bank and their designees) to the Reserve Banks
upon deposit with such agents of specified classes of
collateral 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 at least equal
to the sum of the notes applied for by such Reserve
Bank.
Assets eligible to be pledged as collateral
security include all of the Bank’s assets. The collateral
value is equal to the book value of the collateral
tendered, with the exception of securities, for which
the collateral value is equal to the par value of the
securities tendered. The par value of securities
pledged for securities sold under agreements to
repurchase is deducted.
The Board of Governors may, at any time,
call upon a Reserve Bank for additional security to
adequately collateralize the Federal Reserve notes. To
satisfy the obligation to provide sufficient collateral
for outstanding Federal Reserve notes, the Reserve
Banks have entered into an agreement that provides
for certain assets of the Reserve Banks to be jointly
pledged as collateral for the Federal Reserve notes
issued to all Reserve Banks. In the event that this
collateral is insufficient, the Federal Reserve Act
provides that Federal Reserve notes become a first and

paramount lien on all the assets of the Reserve Banks.
Finally, Federal Reserve notes are obligations of the
United States government. At December 31, 2007,
all Federal Reserve notes issued to the Reserve Banks
were fully collateralized.
“Federal Reserve notes outstanding, net” in
the Statements of Condition represents the Bank’s
Federal Reserve notes outstanding, reduced by the
Bank’s currency holdings of $7,564 million and $6,957
million at December 31, 2007 and 2006, respectively.
i. Items in Process of Collection and Deferred
Credit Items
Items in process of collection in the
Statements of Condition primarily represents amounts
attributable to checks that have been deposited for
collection and that, as of the balance sheet date, have
not yet been presented to the paying bank. Deferred
credit items are the counterpart liability to items in
process of collection, and the amounts in this account
arise from deferring credit for deposited items until
the amounts are collected. The balances in both
accounts can vary significantly.
j. 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. These shares
are nonvoting with a par value of $100 and may not
be transferred or hypothecated. As a member bank’s
capital and surplus changes, its holdings of Reserve
Bank stock must be adjusted. Currently, only onehalf of the subscription is paid-in and the remainder
is subject to call. A member bank is liable for Reserve
Bank liabilities up to twice the par value of stock
subscribed by it.
By law, each Reserve Bank is required to
pay each member bank an annual dividend of 6
percent on the paid-in capital stock. This cumulative
dividend is paid semiannually. To reflect the Federal
Reserve Act requirement that annual dividends are

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

k. Surplus
The Board of Governors requires the Reserve
Banks to maintain a surplus equal to the amount of
capital paid-in as of December 31 of each year. This
amount is intended to provide additional capital and
reduce the possibility that the Reserve Banks would
be required to call on member banks for additional
capital.
Accumulated other comprehensive income is
reported as a component of surplus in the Statements
of Condition and the Statements of Changes in Capital. The balance of accumulated other comprehensive
income is comprised of expenses, gains, and losses
related to defined benefit pension plans and other
postretirement benefit plans that, under accounting standards, are included in other comprehensive
income but excluded from net income. Additional information regarding the classifications of accumulated
other comprehensive income is provided in Notes 9
and 10.
The Bank initially applied the provisions of
SFAS No. 158, Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans, at December 31, 2006. This accounting standard requires
recognition of the overfunded or underfunded status
of a defined benefit postretirement plan in the Statements of Condition, and recognition of changes in the
funded status in the years in which the changes occur
through comprehensive income. The transition rules
for implementing the standard required applying the
provisions as of the end of the year of initial implementation, and the effect as of December 31, 2006
is recorded as “Adjustment to initially apply SFAS No.
158” in the Statements of Changes in Capital.
l. Interest on Federal Reserve Notes
The Board of Governors requires the Reserve
Banks to transfer excess earnings to the U.S. Treasury

as interest on Federal Reserve notes, after providing
for the costs of operations, payment of dividends, and
reservation of an amount necessary to equate surplus
with capital paid-in. This amount is reported as “Payments to U.S. Treasury as interest on Federal Reserve
notes” in the Statements of Income and Comprehensive Income and is reported as a liability, or as an asset
if overpaid during the year, in the Statements of Condition. Weekly payments to the U.S. Treasury may vary
significantly.
In the event of losses or an increase in capital
paid-in at a Reserve Bank, payments to the U.S. Treasury are suspended and earnings are retained until the
surplus is equal to the capital paid-in.
In the event of a decrease in capital paid-in,
the excess surplus, after equating capital paid-in and
surplus at December 31, is distributed to the U.S. Treasury in the following year.

FEDERAL Reserve Bank of Philadelphia

deducted from net earnings, dividends are presented
as a distribution of comprehensive income in the
Statements of Income and Comprehensive Income.

m. Income and Costs Related to U.S. 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 Treasury and other government agencies reimbursement process for all Reserve Banks is
centralized at the Bank. Each Reserve Bank transfers
its Treasury reimbursement receivable to the Bank. The
reimbursement receivable is reported in “Other assets”
and totaled $33 million and $29 million at December
31, 2007 and 2006, respectively. The cost of unreimbursed Treasury services is reported in “Other expense”
and was immaterial at December 31, 2007 and 2006.
n. Compensation Received for Services Provided
The Federal Reserve Bank of Atlanta (“FRBA”)
has overall responsibility for managing the Reserve
Banks’ provision of check and ACH services to depository institutions, and, as a result, recognizes total
System revenue for these services on its Statements

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

of Income and Comprehensive Income. Similarly,
the FRBNY manages the Reserve Banks’ provision of
Fedwire funds and securities transfer services, and
recognizes total System revenue for these services on
its Statements of Income and Comprehensive Income.
The FRBA and FRBNY compensate the other Reserve
Banks for the costs incurred to provide these services.
The Bank reports this compensation as “Compensation received for services provided” in the Statements
of Income and Comprehensive Income.
o. Assessments by the Board of Governors
The Board of Governors assesses the Reserve
Banks to fund its operations based on each Reserve
Bank’s capital and surplus balances as of December
31 of the prior year. The Board of Governors also assesses each Reserve Bank for the expenses incurred
for the U.S. Treasury to prepare and retire Federal Reserve notes based on each Reserve Bank’s share of the
number of notes comprising the System’s net liability
for Federal Reserve notes on December 31 of the prior
year.
p. Taxes
The Reserve Banks are exempt from federal,
state, and local taxes, except for taxes on real property.
The Bank’s real property taxes were $2 million for each
of the years ended December 31, 2007 and 2006 and
are reported as a component of “Occupancy expense.”
q. Restructuring Charges
The Reserve Banks recognize restructuring
charges for exit or disposal costs incurred as part of
the closure of business activities in a particular location, the relocation of business activities from one
location to another, or a fundamental reorganization
that affects the nature of operations. Restructuring
charges may include costs associated with employee
separations, contract terminations, and asset impair-

ments. Expenses are recognized in the period in
which the Bank commits to a formalized restructuring
plan or executes the specific actions contemplated in
the plan and all criteria for financial statement recognition have been met.
Note 11 describes the Bank’s restructuring initiatives and provides information about the costs and
liabilities associated with employee separations and
contract terminations. Costs and liabilities associated
with enhanced pension benefits in connection with
the restructuring activities for all of the Reserve Banks
are recorded on the books of the FRBNY.
r. Recently Issued Accounting Standards
In September, 2006, the FASB issued SFAS
No. 157, Fair Value Measurements (“SFAS No. 157”).
SFAS No. 157 establishes a single authoritative definition of fair value, sets out a framework for measuring
fair value, and expands on required disclosures about
fair value measurement. SFAS No. 157 is generally
effective for the Bank on January 1, 2008, though the
effective date of some provisions is January 1, 2009.
The provisions of SFAS No. 157 will be applied prospectively and are not expected to have a material effect on the Bank’s financial statements.

4. U.S. Government Securities, Securities Purchased Under Agreements to
Resell, Securities Sold Under Agreements to Repurchase, and Securities
Lending
The FRBNY, on behalf of the Reserve Banks,
holds securities bought outright in the SOMA. The
Bank’s allocated share of SOMA balances was approximately 4.424 percent and 4.342 percent at December
31, 2007 and 2006, respectively.

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

2007

Financial information related to securities purchased under agreements to resell and securities sold
under agreements to repurchase for the years ended
December 31, 2007 was as follows (in millions):

2006

Securities
Securities
purchased
sold
under
under
agreements agreements
to resell
to repurchase

Par value:
U.S. government:
Bills
$10,080
$12,027
Notes
17,775
17,469
Bonds
4,910
4,321
Total par value
Unamortized premiums
Unaccreted discounts
Total allocated
to the Bank

32,765

33,817

353
(131)

378
(174)

$32,987

$34,021

At December 31, 2007 and 2006, the fair value of the U.S. government securities allocated to the
Bank, excluding accrued interest, was $34,381 million
and $34,555 million, respectively, as determined by
reference to quoted prices for identical securities.
The total of the U.S. government securities,
net, held in the SOMA was $745,629 million and
$783,619 million at December 31, 2007 and 2006,
respectively. At December 31, 2007 and 2006, the
fair value of the U.S. government securities held in the
SOMA, excluding accrued interest, was $777,141 million and $795,900 million, respectively, as determined
by reference to quoted prices for identical securities.
Although the fair value of security holdings
can be substantially greater or less than the recorded
value at any point in time, these unrealized gains or
losses have no effect on the ability of the Reserve
Banks, as central bank, to meet their financial obligations and responsibilities, and should not be misunderstood as representing a risk to the Reserve Banks, their
shareholders, or the public. The fair value is presented
solely for informational purposes.

FEDERAL Reserve Bank of Philadelphia

The Bank’s allocated share of U.S. Government securities, net, held in the SOMA at December 31, was as follows (in millions):

Allocated to the Bank:
Contract amount outstanding,
end of year
$ 2,057
$ 1,946
Weighted average amount
outstanding, during the year

1,552 1,542

Maximum month-end balance
outstanding, during the year

2,278 1,946

Securities pledged, end of year 1,949
System total:
Contract amount outstanding,
end of year
$ 46,500
$43,985
Weighted average amount
outstanding, during the year

35,073 34,846

Maximum month-end balance
outstanding, during the year

51,500 43,985

Securities pledged, end of year 44,048

At December 31, 2006, the total contract
amount of securities sold under agreements to repurchase was $29,615 million, of which $1,286 million
was allocated to the Bank. The total par value of
SOMA securities that were pledged for securities sold
under agreements to repurchase at December 31,
2006 was $29,676 million, of which $1,288 million
was allocated to the Bank.
The contract amounts for securities purchased
under agreements to resell and securities sold under
agreements to repurchase approximate fair value.
The maturity distribution of U.S. government

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

securities bought outright, securities purchased under
agreements to resell, and securities sold under agreements to repurchase that were allocated to the Bank
at December 31, 2007, was as follows (in millions):
Securities Securities

Purchased Sold Under

Under
Agreements
U.S.
Agreements
to
Government to Resell Repurchase
Securities
(Contract (Contract
(Par Value)
amount)
amount)

Within 15 days
$ 1,208
$ 2,057
$ 1,946
16 days to 90 days
6,624
91 days to 1 year
6,736
Over 1 year to 5 years 10,643
Over 5 years to 10 years 3,625
Over 10 years
3,929

Total allocated
to the Bank
$ 32,765
$ 2,057
$ 1,946

At December 31, 2007 and 2006, U.S. government securities with par values of $16,649 million
and $6,855 million, respectively, were loaned from
the SOMA, of which $737 million and $298 million,
respectively, were allocated to the Bank.

5. Investments Denominated in
Foreign Currencies
The FRBNY, on behalf of the Reserve Banks,
holds foreign currency deposits with foreign central
banks and with the Bank for International Settlements
and invests in foreign government debt instruments.
Foreign government debt instruments held include
both securities bought outright and securities purchased under agreements to resell. These investments
are guaranteed as to principal and interest by the issuing foreign governments.
The Bank’s allocated share of investments
denominated in foreign currencies was approximately

11.814 percent and 5.626 percent at December 31,
2007 and 2006, respectively.
The Bank’s allocated share of investments
denominated in foreign currencies, including accrued
interest, valued at foreign currency market exchange
rates at December 31, was as follows (in millions):

2007

2006

Euro:
Foreign currency deposits
$ 3,248
$
Securities purchased under
agreements to resell
301
Government debt instruments
551

351
125
229

Japanese Yen:
Foreign currency deposits
332
Government debt instruments
674

146
301

Swiss Franc:
Foreign currency deposits
481

Total allocated to the Bank

$ 5,587

$ 1,152

At December 31, 2007, the total amount of
foreign currency deposits held under FX contracts was
$24,381 million, of which $2,880 million was allocated to the Bank. At December 31, 2006, there were
no open foreign exchange contracts.
At December 31, 2007 and 2006, the fair
value of investments denominated in foreign currencies, including accrued interest, allocated to the Bank
was $5,585 million and $1,150 million, respectively.
The fair value of government debt instruments was
determined by reference to quoted prices for identical
securities. The cost basis of foreign currency deposits
and securities purchased under agreements to resell,
adjusted for accrued interest, approximates fair value.
Similar to the U.S. government securities discussed in
Note 4, unrealized gains or losses have no effect on
the ability of a Reserve Bank, as central bank, to meet
its financial obligations and responsibilities.
Total System investments denominated in
foreign currencies were $47,295 million and $20,482

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

2008

European Japanese Swiss
Euro
Yen
Franc
Within 15 days
$ 591 $
16 days to 90 days
2,729
91 days to 1 year
326
Over 1 year to 5 years
454
Total allocated
to the Bank

$ 4,100

Total

353 $
- $ 944
48 481 3,258
237
- 563
368
- 822

$ 1,006

$ 481

$ 5,587

At December 31, 2007 and 2006, the authorized warehousing facility was $5,000 million, with no
balance outstanding.

6. Bank Premises, Equipment, and
Software
Bank premises and equipment at December
31 was as follows (in millions):

2007

2006

Bank premises and equipment:
Land
$
7
$
3
Buildings
87
84
Building machinery and equipment
14
13
Construction in progress
3
1
Furniture and equipment
68
68
Subtotal
179 169
Accumulated depreciation

(92)

The Bank leases space to an outside tenant
with a remaining lease term of 3 years. Rental income
from the lease was $1 million for each of the years
ended December 31, 2007 and 2006 and is reported
as a component of “Other income.” Future minimum
lease payments that the Bank will receive under the
noncancelable lease agreement in existence at December 31, 2007, are as follows (in millions):

(88)

2009

2010

Total

FEDERAL Reserve Bank of Philadelphia

million at December 31, 2007 and 2006, respectively.
At December 31, 2007 and 2006, the fair value of the
total System investments denominated in foreign currencies, including accrued interest, was $47,274 million and $20,434 million, respectively.
The maturity distribution of investments denominated in foreign currencies that were allocated
to the Bank at December 31, 2007, was as follows (in
millions):

The Bank has capitalized software assets,
net of amortization, of $6 million and $8 million at
December 31, 2007 and 2006, respectively. Amortization expense was $2 million and $3 million for the
years ended December 31, 2007 and 2006, respectively. Capitalized software assets are reported as a component of “Other assets” and the related amortization
is reported as a component of “Other expenses.”

7. Commitments and Contingencies
At December 31, 2007, the Bank was obligated under noncancelable leases for premises and
equipment with remaining terms ranging from 1 to
approximately 5 years. One equipment lease provides
for increased rental payments based upon increases in
operating quantity.
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 $1 million for each of the years
ended December 31, 2007 and 2006. The Bank has
no capital leases.

Bank premises and equipment, net
$87 $81

Depreciation expense,
for the year ended December 31
$ 10
$
9

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

Future minimum rental payments under noncancelable operating leases, net of sublease rentals,
with remaining terms of one year or more, at December 31, 2007 are as follows (in thousands):

Operating
2008
2009
2010
2011
2012

$ 339
104
67
67
62

Future minimum rental payments

$ 639

At December 31, 2007, there were no material unrecorded unconditional purchase commitments
or long-term obligations in excess of one year.
Under the Insurance Agreement of the Federal Reserve Banks, each of the Reserve Banks has
agreed to bear, on a per incident basis, a pro rata
share of losses in excess of one 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 of a Reserve Bank’s capital paidin 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 the agreement at December 31, 2007 or 2006.
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 three 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”). Employees at certain compensation levels
participate in the Benefit Equalization Retirement Plan
(“BEP”) and certain Reserve Bank officers participate in
the Supplemental Employee Retirement Plan (“SERP”).
The System Plan provides retirement benefits
to employees of the Federal Reserve Banks, the Board
of Governors, and the Office of Employee Benefits of
the Federal Reserve Employee Benefits System. The
FRBNY, on behalf of the System, recognizes the net
asset and costs associated with the System Plan in its
financial statements. Costs associated with the System
Plan are not redistributed to other participating employers.
The Bank’s projected benefit obligation, funded status, and net pension expenses for the BEP and
the SERP at December 31, 2007 and 2006, and for the
years then ended, were 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
for each of the years ended December 31, 2007 and
2006 and are reported as a component of “Salaries
and other benefits” in the Statements of Income and
Comprehensive Income. The Bank matches employee
contributions based on a specified formula. For the
years ended December 31, 2007 and 2006, the Bank
matched 80 percent on the first 6 percent of employee contributions for employees with less than five
years of service and 100 percent on the first 6 percent
of employee contributions for employees with five or
more years of service.

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

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.
Following is a reconciliation of the beginning
and ending balances of the benefit obligation (in millions):

Accumulated postretirement
benefit obligation at January 1
Service cost-benefits earned
during the period
Interest cost on accumulated benefit
obligation
Net actuarial loss (gain)
Contributions by plan participants
Benefits paid
Medicare Part D subsidies
Plan amendments

2007

2006

$ 63.1

$ 46.2

1.9

1.4

3.6 2.8
(3.0) 15.2
1.3 1.0
(4.3) (3.6)
0.3 0.3
- (0.2)

Accumulated postretirement benefit
obligation at December 31
$ 62.9

$ 63.1

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):

2006

Fair value of plan assets at January 1
$ $ Contributions by the employer
2.7 2.3
Contributions by plan participants
1.3 1.0
Benefits paid, net of Medicare Part D
subsidies
(4.0) (3.3)
Fair value of plan assets at December 31 $ $
Unfunded obligation and accrued
postretirement benefit cost
$ 62.9
$ 63.1

Amounts included in accumulated other comprehensive loss
are shown below (in millions):

Prior service cost
$ 3.7
$ 5.0
Net actuarial loss (22.6) (28.8)
Total accumulated other
comprehensive loss

$ (18.9)

$(23.8)

Accrued postretirement benefit costs are reported as a component of “Accrued benefit costs” in
the Statements of Condition.
For measurement purposes, the assumed
health care cost trend rates at December 31 are as follows:

At December 31, 2007 and 2006, the weighted-average discount rate assumptions used in developing the postretirement benefit obligation were 6.25
percent and 5.75 percent, respectively.
Discount rates reflect yields available on highquality corporate bonds that would generate the cash
flows necessary to pay the plan’s benefits when due.

2007

FEDERAL Reserve Bank of Philadelphia

9. Postretirement Benefits Other
Than Pensions and Postemployment
Benefits

Health care cost trend rate
assumed for next year
Rate to which the cost trend
rate is assumed to decline
(the ultimate trend rate)
Year that the rate reaches the
ultimate trend rate

2007

2006

8.00%

9.00%

5.00%

2013

2012

Annual Report 2007

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

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,
2007 (in millions):
One
Percentage
Point
Increase
Effect on aggregate of service
and interest cost components
of net periodic postretirement
benefit costs

0.1

Effect on accumulated
postretirement benefit obligation

One
Percentage
Point
Decrease

(0.3)

4.5

(6.4)

The following is a summary of the components of net periodic postretirement benefit expense
for the years ended December 31 (in millions):
2007

2006

Service cost-benefits earned
during the period
$
Interest cost on accumulated
benefit obligation
Amortization of prior service cost
Amortization of net actuarial loss

1.4

3.6
(1.3)
3.2

2.8
(1.3)
1.6

Total periodic expense

7.4

4.5

7.4

4.5

Net periodic postretirement benefit
expense

1.9

Estimated amounts that will be amortized
from accumulated other comprehensive loss into net
periodic postretirement benefit expense in 2008 are
shown below (in millions):
Prior service cost

(1.3)

Net actuarial loss

2.4

Total

1.1

Net postretirement benefit costs are actuarially determined using a January 1 measurement date.
At January 1, 2007 and 2006, the weighted-average
discount rate assumptions used to determine net periodic postretirement benefit costs were 5.75 percent
and 5.50 percent, respectively.
Net periodic postretirement benefit expense is
reported as a component of “Salaries and other benefits” in the Statements of Income and Comprehensive
Income.
The Medicare Prescription Drug, Improvement
and Modernization Act of 2003 established a prescription drug benefit under Medicare (“Medicare Part D”)
and a federal subsidy to sponsors of retiree health care
benefit plans that provide benefits that are at least
actuarially equivalent to Medicare Part D. The benefits
provided under the Bank’s plan to certain participants
are at least actuarially equivalent to the Medicare Part
D prescription drug benefit. The estimated effects of
the subsidy, retroactive to January 1, 2004, are reflected in actuarial loss in the accumulated postretirement
benefit obligation and net periodic postretirement
benefit expense.
There were no receipts of federal Medicare
Part D subsidies in the year ended December 31,
2006. Receipts in the year ending December 31,
2007, related to benefits paid in the years ended December 31, 2006 and 2007, were $.3 million and $.2
million, respectively. Expected receipts in 2008, related to benefits paid in the year ended December 31,
2007 are $.1 million.
Following is a summary of expected postretirement benefit payments (in millions):

Without Subsidy

2008
$
2009
2010
2011
2012
2013 - 2017
Total

With Subsidy

3.7
$
3.9
4.2
4.4
4.7
28.3

3.3
3.5
3.7
3.9
4.1
24.5

49.2

43.0

Federal Reserve Bank of Philadelphia | Notes to Financial Statements

10. Accumulated Other
Comprehensive Income And Other
Comprehensive Income
Following is a reconciliation of beginning and
ending balances of accumulated other comprehensive
income (loss) (in millions):
Amount Related to
Postretirement
Benefits other
than Pensions
Balance at January 1, 2006
$
Adjustment to initially apply SFAS
No. 158
Balance at December 31, 2006
$
Change in funded status of benefit plans:
Net actuarial gain arising during the year
Amortization of prior service cost
Amortization of net actuarial loss
Change in funded status of benefit
plans - other comprehensive income
Balance at December 31, 2007

(24)
(24)
3
(1)
3
5
(19)

Additional detail regarding the classification
of accumulated other comprehensive loss is included
in Note 9.

11. Business Restructuring Charges
In 2007, the Reserve Banks announced a
restructuring initiative to align the check processing
infrastructure and operations with declining check
processing volumes. The new infrastructure will
involve consolidation of operations into four regional
Reserve Bank processing sites in Philadelphia,
Cleveland, Atlanta, and Dallas. The Bank’s costs
associated with the restructuring were not material.

FEDERAL Reserve Bank of Philadelphia

Postemployment Benefits
The Bank offers benefits to former or
inactive employees. Postemployment benefit costs
are actuarially determined using a December 31
measurement date and include the cost of medical
and dental insurance, survivor income, and disability
benefits. The accrued postemployment benefit costs
recognized by the Bank at December 31, 2007 and
2006 were $5 million and $6 million, respectively.
This cost is included as a component of “Accrued
benefit costs” in the Statements of Condition. Net
periodic postemployment benefit expenses included
in both 2007 and 2006 operating expenses were $1
million and are recorded as a component of “Salaries
and other benefits” in the Statements of Income and
Comprehensive Income.

12. Subsequent Events
In March 2008, the Board of Governors
announced several initiatives to address liquidity
pressures in funding markets and promote financial
stability, including increasing the Term Auction Facility
(see Note 3b) to $100 billion and initiating a series
of term repurchase transactions (see Notes 3d and
4) that may cumulate to $100 billion. In addition,
the Reserve Banks' securities lending program (see
Notes 3d and 4) was expanded to lend up to $200
billion of Treasury securities to primary dealers for
a term of 28 days, secured by federal agency debt,
federal agency residential mortgage-backed securities,
agency collateralized mortgage obligations, nonagency AAA/Aaa-rated private-label residential
mortgage-backed securities, and AAA/Aaa-rated
commercial mortgage-backed securities. The FOMC
also authorized increases in its existing temporary
reciprocal currency arrangements (see Notes 3e and
5) with specific foreign central banks. These initiatives
will affect 2008 activity related to loans to depository
institutions, securities purchased under agreements
to resell, U.S. government securities, net, and
investments denominated in foreign currencies, as well
as income and expenses. The effects of the initiatives
do not require adjustment to the amounts recorded as
of December 31, 2007.

The page was intentionally left blank.

The Federal Reserve Bank of Philadelphia is one of 12
regional Reserve Banks in the United States that, together
with the Board of Governors in Washington, D.C., make
up the Federal Reserve System — the nation’s central
bank. The System’s primary role is to ensure a sound
financial system and a healthy economy. The Philadelphia
Fed serves the Third District, which is composed of eastern
Pennsylvania, southern New Jersey, and Delaware.

FEDERALRESERVEBANKOFPHILADELPHIA

Te
nI
nde
p
e
nde
nc
eMa
l
l|Phi
l
a
de
l
p
hi
a
,
PA1
9
1
0
6|www.
p
hi
l
a
de
l
p
hi
a
f
e
d.
o
r
g

Full text of Annual Report of the Federal Reserve Bank of Philadelphia : Commitment and Credibility : 2007 Annual Report

FRASER