Full text of Annual Report of the Federal Reserve Bank of Richmond : 2009 Annual Report : Systemic Risk and the Pursuit of Efficiency

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2009 Annual Report
SYSTEMIC RISK
and the Pursuit of Efficiency

The Federal Reserve Bank of Richmond

Mission
As a regional Reserve Bank, we work within the Federal Reserve System to foster the stability, integrity,
and efficiency of the nation’s monetary, financial, and payments systems. In doing so, we inspire trust
and confidence in the U.S. financial system.

Vision
To be an innovative policy and services leader for America’s economy.

CONTENTS

Message from the President ............................................................................................................................................ 2
Feature Essay: Systemic Risk and the Pursuit of Efficiency .................................................................................... 4
Message from Management .......................................................................................................................................... 22
The Bank in the Community........................................................................................................................................... 24
Fifth District Economic Report ...................................................................................................................................... 27
Boards of Directors, Advisory Groups, and Officers ............................................................................................... 30
Financial Statements ........................................................................................................................................................ 43

The Federal Reserve Bank of Richmond  2009 Annual Report

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MESSAGE FROM THE PRESIDENT

Jeffrey M. Lacker, President

2

For the past two years I have used this space to discuss the
difficulties the economy has faced and the potential sources of those problems. To be sure, there are many people
who are still hurting. Employees of this Bank—and members of its boards of directors and advisory councils—have
learned a great deal as we have traveled throughout the
Fifth District, listening to the obstacles facing people
and businesses in communities from West Virginia and
Maryland down to South Carolina. These problems are real
and many will not have easy solutions. But I am pleased
to be able to say that I think the economy, as a whole, has
turned the corner and is now showing signs of growth. We
are not out of the woods, but I think we are starting to see
some light peering through the trees.
As the economy begins to recover, policymakers are
naturally looking at ways to prevent future financial crises. Much of this discussion has been productive and has
spawned some fruitful ideas. But in the wake of a crisis,
there also is often a desire to reform something quickly,
based on a presumption about what “must” have gone
wrong, without sufficiently careful scrutiny. This year’s
Annual Report essay, written by Kartik Athreya, a senior
economist at the Richmond Fed, discusses one such idea:
“systemic risk.”
What do policymakers and economists mean when
they use the term systemic risk? Many different meanings
have been put forth by many different people. Indeed,
the lack of precision in defining systemic risk is itself an
impediment to clear thinking about financial regulation.
Many regulatory reform proposals would attempt to reduce the potential of systemic risk to harm the economy
by providing regulators with additional tools to contain
or manage such risks in the event of a crisis. But how can
we accomplish that if we do not have a clear understanding of the phenomenon?
In his essay, Athreya identifies systemic risk with “linkages between market participants that lead to outcomes
that can be unambiguously improved after a shock.”
Note carefully the phrase “after a shock.” It highlights the
fact that a policy intervention may appear useful when
undertaken during a crisis (“ex post”), but could well be
detrimental when evaluated before the fact (“ex ante”)
because of the way it affects the incentives of financial
market participants.

The Federal Reserve Bank of Richmond  2009 Annual Report

There are good reasons, as Athreya argues in his essay,
to pursue ex-ante rather than ex-post efficiency. Does
this mean, then, that we must throw up our hands and do
nothing to ameliorate future shocks? No. But I don’t think
it will be sufficient to more tightly regulate firms regarded
as systemically risky. In fact, this could actually increase
the fragility of the financial system.
There are several reasons why financial institutions decided to take on what now appears to have been excessive risk. But the heart of the problem—as I have argued
elsewhere—is that many firms believed they would not
bear the full consequences of those decisions should they
turn sour. The presence of the federal financial safety net
altered their incentives in a way that reduced the cost of
risk to them and their creditors. A fundamental lesson of
economics is that when you make something cheaper,
you are likely to get more of it, and we did. We need to
tighten the limits around the safety net and make them
transparent to everyone. And most importantly, our
ex-post actions in a crisis must conform to our ex-ante
commitment to forcing uninsured creditors to bear the
full consequences of their actions.
If instead we were to deem some set of financial
institutions systemically important, either explicitly or implicitly, it would be reasonable for the creditors of those
firms to believe that should a problem arise, government
help will follow. This would give large incumbent firms a
permanent funding advantage and undermine competition from smaller rivals.
Robust competition is one reason the American
economy has remained so resilient. As I said, I believe
the economy is now recovering, despite having just been
through a very deep recession. Nonetheless, the downturn is still affecting millions of Americans, and in such
times it is natural to want to respond, to try to safeguard
people from a similar event in the future. But we must act
carefully, and that requires a prudent assessment of the
causes of that adversity. My view is that such an assessment cautions against creating new tools for ex-post
intervention, however immediately appealing that effort
may sound. Fortunately, we possess some of the tools
to help prevent financial shocks that generate calls for
such intervention. Among them is the willingness to not
assist uninsured financial institutions should they find

themselves in peril. Such commitment—if it can be made
credible—would give firms and their creditors a strong
incentive to manage more carefully the risks in their portfolios. Pledging to not intervene is a more difficult task
than it may seem, as events have shown. But it is an effort
well worth pursuing, for our economy and our citizenry.

Jeffrey M. Lacker
President

3

SYSTEMIC RISK and
the Pursuit of Efficiency
by Kartik B. Athreya

4

W

hat is systemic risk? When might it arise?
How should it influence policymakers?
In this essay we identify systemic risk with the
presence of linkages between market participants
whereby problems for one directly create problems for others.
We argue that such situations can arise from the use of
contractual arrangements, especially debt that requires frequent
refinancing and liquidation in the event of an inability to repay.
The presence of spillover effects can, in turn, lead to outcomes
in the wake of shocks that can be unambiguously improved via
policy intervention. Nonetheless, we caution against taking
this as a license to intervene after the fact, and instead suggest
that observed contracting arrangements may be important in
promoting efficient trade between parties from a “before the
shock” perspective. We argue that helping to ensure efficiency
as seen prior to a shock is the right goal for policymakers.
Lastly, we note that the pursuit of such an objective may
require credible commitments to tolerating inefficiency
after a shock.

In the past two years, U.S. financial markets have undergone dramatic changes, with storied firms vanishing
from existence and others surviving only as a direct result
of public sector intervention. A handful of these events
stand out as emblematic. These are, respectively, the bailouts of Bear Stearns, AIG, and the housing governmentsponsored enterprises; the institution of large credit
programs such as the Term Asset-Backed Securities Loan
Facility (TALF) and the Troubled Asset Relief Program
(TARP); and the striking nonbailout of Lehman Brothers.
A common thread in the interventions that took place,
and the criticism of the one that did not, was the appeal
to the idea that the failure of one financial institution

would threaten the health of others and, as a result, hurt
the ability of the financial system as a whole to channel
resources to productive investment projects. In a 2008
assessment of the TARP program, for instance, thenTreasury Secretary Henry Paulson argued:1
“The crisis in our financial system had already spilled
over into our economy and hurt it. It will take a while to
get lending going and repair our financial system, which
is essential to an economic recovery. This won’t happen
as fast as any of us would like, but it will happen much,
much faster than it would have had we not used the
TARP to stabilize our system. Put differently, if Congress
had not given us the authority for TARP and the Capital

The Federal Reserve Bank of Richmond  2009 Annual Report

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Purchase Program and our financial system had
continued to shut down, our economic situation
would be far worse today.”

Similarly, the rescue of Bear Stearns was justified
by the then-President of the New York Fed, Timothy
Geithner, as follows:
“We judged that a sudden, disorderly failure of
Bear would have brought with it unpredictable but
severe consequences for the functioning of the
broader financial system and the broader economy.” 2

Defining Systemic Risk
Aside from policymakers, economists have tried to understand the potential for spillovers both within the financial
sector, as well as those that might flow from the financial
sector to the nonfinancial (or “real”) sector of the economy. Research in this area captures the idea of destructive
spillovers with the term “systemic risk.” A consensus view
of systemic risk comes from Acharya et al.3 who define
it as “…the risk of a crisis in the financial sector and its
spillover to the economy at large.” De Bandt and Hartmann4 use the related term “systemic crisis” to capture
“…a systemic event that affects a considerable number of
financial institutions or markets in a strong sense, thereby
severely impairing the general well-functioning (of an important part) of the financial system. The well-functioning
of the financial system relates to the effectiveness and
efficiency with which savings are channeled into the real
investments promising the highest returns. For example,
a systemic financial crisis can lead to extreme credit
rationing of the real sector (‘credit crunch’).”
In what follows, we will discuss the notion of systemic
risk, describe recent economic theory related to the idea,
and suggest some implications that these ideas have for
policymakers. In terms of emphasis, we make no attempt
to be exhaustive and will focus primarily on conceptual
issues surrounding systemic risk and policymakers’ role in
not only its mitigation, but also its very presence.5
Economists have categorized two broad sources of
systemic risk: externalities and implicit guarantees. Externalities, loosely speaking, are effects that occur when one
party’s actions affect another’s either by markedly affecting prices or by directly limiting the options available to
another in any other way. Such direct effects should be
contrasted with the indirect effects that occur in settings
where individual participants face prices that they regard
as too small to influence.

6

As for implicit guarantees as a source of systemic
risk, the idea is this: Any belief among financial market
participants, especially creditors, that they will be made
whole by the public in the event of the failure of the assets they finance (i.e., that they will be “bailed out”) will
lead them, all else equal, to (i) take greater risks, even
if that means becoming ever more opaque or interconnected, and (ii) grow too large. Externalities and implicit
guarantees are related. The existence of the latter allows
market participants to structure operations in ways that
create externalities (for example, by growing very large
via leverage), thereby virtually guaranteeing themselves
a bailout from a benevolent government intent on avoiding the collateral damage created by these externalities.
The discussion of systemic risk thus far suggests that
it describes situations in which markets are unable to
appropriately allocate resources after the occurrence of
a surprise event or “shock.” So we might begin by asking:
What is meant by “appropriate”? One attribute economists often look for in outcomes is Pareto efficiency. A
Pareto-efficient outcome is a feasible outcome such that
no one can be made better off without hurting someone
else. Outcomes that are not Pareto efficient are therefore
clearly wasteful. We define systemic risk as the risk that
trading arrangements will not yield Pareto-efficient outcomes, particularly in the wake of a shock to the system.
The preceding implies that in settings where shocks,
such as the sudden revaluation of real estate, can occur,
one can differentiate between the Pareto efficiency of a
trading arrangement after, and before, the realization of
the shock. If the expected welfare of participants prior
to the realization of shocks cannot be improved, the
outcome is said to be ex-ante Pareto efficient. And if no
Pareto improvements can be made after the shock, we
have an ex-post Pareto-efficient outcome. A fact for the
reader to keep in mind is this: There are outcomes that
are ex-post Pareto efficient that are not ex-ante efficient.
In particular, a commitment by policymakers to ensure
ex-post efficiency can actually prevent a society from attaining the ex-ante efficient deployment of its resources.
In this essay, we will argue that the goal of policy should
be to approximate ex-ante efficiency.
The main sphere of policymaking we address is that of
regulating financial markets. Financial markets facilitate
the transfer of funds between parties at various times
and under various contingencies. A question to address,
then, is how effective are these markets at achieving
efficient outcomes?

The Federal Reserve Bank of Richmond  2009 Annual Report

Assessing the extent to which a financial system is
allowing society to attain an ex-ante Pareto-efficient
allocation is not an easy task, but there are guidelines.
Households use financial instruments to hedge risks,
prepare for retirement, and buy homes, among other
things. Financial markets therefore mainly assist households in maintaining a stable lifestyle. Perhaps naturally,
then, an observable hallmark of a well-functioning financial system for households is one where expenditures
usually do not move suddenly unless there has been an
unexpected event suffered simultaneously by a significant group of households, such as occurs in a recession.
By this measure, a consensus view of research on this
topic is that U.S. households are able to fairly effectively,
but not perfectly, “smooth” their consumption against all
but those shocks that simultaneously affect significant
proportions of households, or those that are extremely
long-lasting, such as disability or displacement. In
particular, household consumption is shielded well from
temporary shocks,6 most households arrive well-prepared
for retirement,7 and consumption inequality among those
with similar expected lifetime earnings does not grow
substantially with age.8
Firms are, of course, the other major user of financial
instruments, borrowing directly from households via
capital markets, borrowing from banks, arranging trade
credit with one another, and hedging risks through
options, swaps, and other types of instruments. Unfortunately, unlike the case of households, detecting how
effective financial markets are at efficiently allocating
funds across producers is not straightforward. Theoretical work does not give definitive tests of financial market
inefficiency.9 As a result, policymakers have been forced
to rely largely on more heuristic methods to assess strain
or illiquidity in financial markets. Specifically, the sharp
changes in observed interest rate spreads and credit
volumes in many short-term debt markets starting in
mid-2007 led to the conclusion among many policymakers that such data reflected inefficiency. The data
on interbank lending spreads10 were seen as deviations
from fundamentals suggestive of severe impediments
to trade arising from counterparty risk and asymmetric
information. As a result, policymakers, especially those
within the Federal Reserve, focused most of their efforts
on ensuring that a wide spectrum of firms was able to
access short-term finance.

What Does Economics Tell Us about
Systemic Risk?
Of specific concern to us here is the systemic risk that
propagates difficulties in one financial sector firm to
other financial sector firms, and then, possibly, to the
nonfinancial sector as well. The importance of the spread
of spillovers between firms suggests that systemic risk
is, at its heart, a product of the linkages that exist both
between firms and between households and firms. In
what follows, we detail some of the central lessons of
economic theory and explain how they help us think
about these linkages and view policies aimed at improving outcomes.

Lesson 1: Mere Linkages between Economic
Participants Do Not Imply Inefficiency
Economics is interesting because of linkages. Put another
way, resource allocation is relevant only because most
goods and services we value have the property that
what one party consumes precludes the use of these
resources at a later date or by others. When a firm places
an order for more plastic to make children’s toys, for
example, it necessarily becomes unavailable for making
life-saving syringes for medical use. Does this mean that
“too many” toys will be produced relative to syringes?
The answer is: It depends on the cost perceived by users
of both items. The most important achievement of 20th
century economics was to show that, in general, there is
a system of prices for all goods and services such that if
self-interested traders cannot manipulate them, then (i)
these prices will allow all participants in the economy to
feasibly buy and sell what is best for them, and (ii) that
the single-minded pursuit of self-interest subject only to
the constraints imposed by these prices actually leads to
a Pareto-efficient outcome.11 This result is the so-called
“Invisible Hand” theorem and was famously first conjectured by Adam Smith. Therefore, in the context of our
example, the answer depends on whether markets exist
for both items and, if so, whether all participants take the
prices in these markets as given (i.e., not up for haggling).
Otherwise, there is no guarantee of efficiency. The Invisible Hand theorem is very general and fully applies to
settings involving trade in financial instruments.
The Invisible Hand result teaches us that inefficiency
stems fundamentally from the ways in which the competing interests of trading partners are adjudicated.12 In
markets for goods and services, this is generally done

7

by allowing competitive processes to work in the hope
that they will generate prices that all participants take as
given.13 However, as we will argue, in financial markets,
especially banking, trading arrangements that allow parties to attain ex-ante efficiency can sometimes create the
possibility of instability. As a result, financial contracting
arrangements can in some instances create situations
where productive interventions by policymakers exist. For
example, the extreme flexibility of “demandable deposit”
contracts offered by banks allows households to invest
efficiently in productive long-term projects while simultaneously insuring themselves against the risk of sudden liquidity needs. Nonetheless, as we will discuss below, such
contracts can also allow for self-fulfilling and destructive

runs on banks. In turn, the institution of deposit insurance can help rule out such events, and thereby push
outcomes toward ex-ante Pareto efficiency.

Lesson 2: Spillovers Cause Inefficient Responses
to Shocks
When linkages are not mediated through prices that are
taken as given, the failure of a specific financial intermediary may impose costs on unrelated third parties and
may use up scarce resources. It is clear that if a heavily
interconnected firm is not allowed to operate after it becomes delinquent on its liabilities, severe disruptions may
occur elsewhere. This is simply because it may take time
and resources for the physical, organizational, and human

capital at that entity to be redeployed. Thus, failure itself
can lead to costs and ex-post inefficiency that, given a
choice, policymakers will opt to avoid, all else equal.
Consider next the costs of forcing a failed entity into
bankruptcy. Taken in isolation, note first that the liquidation of a firm via formal bankruptcy will typically be
beneficial relative to the status quo. Bankruptcy courts,
after all, exist primarily to ensure efficient liquidation,
i.e., to decide how best to reorganize an entity that is
unable to meet commitments to creditors, dissolving it
(ideally) in only those instances when its “going concern”
value is low and, in these instances, trying precisely to
prevent inefficient liquidation processes. As a result, such
procedures help society channel resources to their most
productive users.
However, the specter of spillovers grows with the size
and, in some cases, the number of distressed institutions. In practice, such a view was expressed to justify the
extremely large bailout of AIG, for example. The fear was
that the shuttering of such a large or “interconnected”
firm would then sow the seeds of further distress.14 In
other recent cases, the specific fears have been that the
liquidation of a firm’s assets, especially when large, would
lower asset prices overall and cause further problems.
Specifically, a fall in asset prices was seen to have the
potential to lead to a further round of tightening in credit
availability for unrelated firms by lowering their ability to
post collateral.15 Thus, bankruptcy courts, though set up to
aid efficiency, may take actions that create externalities.

Lesson 3: The Sources of Spillovers Vary
Substantially
Presently, there are several types of linkages that researchers have identified that can forcefully transmit
ex-post inefficient outcomes in financial markets into
production and the “real” side of the economy.
First, given the centrality of banks and bank-like institutions in the recent crisis, it is useful to review briefly the
most influential model of banks available: that of Diamond and Dybvig.16 In their account of banks, the authors
envision a scenario in which a very large number of households have funds and would like to save for the future, but
are faced with random shocks to their spending needs.
The shocks represent any event that forces the household
to withdraw its deposit. For example, a household may
need to make an emergency repair to its home or car or
face a large out-of-pocket medical or legal expense. Given

this uncertainty, households will value a savings instrument that can be easily liquidated if need be.
Diamond and Dybvig’s scenario is one in which
households’ shocks are independent of each other, in the
sense that one person’s receipt of a shock doesn’t imply
that others have received one as well. As a result, the fact
that there are a large number of households guarantees
that the proportion of those that will realize the shock is
known with certainty.17
Consider now a situation where the investment
projects available in the economy all have a lengthy
gestation period—if liquidated early, they generate low
returns. Think of office buildings, or airplanes, or homes:
Each takes time and each, if half-completed, is still nearly
worthless. This creates a problem: While it would be
nice to be able to take advantage of these projects, few
individuals would risk having their funds tied up without
recourse. So is there a way for society to fund these projects while protecting investors/depositors?
Since the shocks to households imagined by Diamond
and Dybvig are independent, a financial intermediary
that can collect funds from many households will be
able to (i) hold funds in reserve for only the proportion it
knows will need to withdraw funds due to a shock and (ii)
use the remaining funds to make productive long-term
investments. This is precisely what Diamond and Dybvig
call a bank. The lesson, at this point, is that the ubiquitous
institution of a bank allows for productive investments,
but does so in large part by forfeiting all flexibility in its
obligations to depositors.
Unfortunately, the absence of flexibility noted above
can create a new problem. And this is the other remarkable feature of Diamond and Dybvig’s analysis: It captures
bank runs, a central feature of banking prior to deposit
insurance. In particular, there is nothing in the account of
Diamond and Dybvig to rule out individuals believing that
a bank lacks sufficient funds to meet all withdrawal needs.
If investors believe this, and the bank redeems deposits
on a first-come, first-served basis, households may choose
to run the bank. Given the fact that the bank held only a
fraction of all deposited funds in reserve and invested the
rest, a run will necessarily force the bank to liquidate at
least some of its long-term investments to meet redemption requests, and society will lose as a result.
The introduction of deposit insurance can rule out
such self-fulfilling “crises of confidence.” But, once again,
this insurance is not without other, less desirable, side

The Federal Reserve Bank of Richmond  2009 Annual Report

9

effects. In particular, deposit insurance changes both the
incentives and ability of bank management and ownership to take risks. First, when publicly provided, deposit
insurance removes incentives for the bank’s creditors (insured depositors) to ask what the bank is doing with their
money. Second, even when deposit insurance is privately
run, the incentives of equity holders to take risks grow
as bank capital deteriorates: Big gambles can have large
payoffs for both owners and a management that has little
left to lose. Notice that in this instance, corporate governance is not the issue; the firm is being operated in the
best interests of shareholders. It is just that their interests
no longer necessarily coincide with societally desirable
goals. In such situations, the shareholders themselves
may urge the manager of the firm to take risks, including
those that generate interconnections and thereby foster
spillovers.
As a result of the lack of equity holders’ incentives
to limit risk taking in bad times and insured depositors’
perpetual indifference to bank asset quality, providers
of insurance, and regulators in the case of FDIC-insured
banks, are left with the task of monitoring bank activities.
They must ensure that huge investments in generally
unproductive projects are not pursued simply because
they might pay off in an unlikely event. In the absence of
such oversight, bank investments would almost certainly
be allocated inefficiently from the ex-ante perspective
and virtually ensure deadweight costs if liquidated.
The incentives to take large gambles create yet
another problem. Deadweight costs of the sort we
mentioned earlier will likely be most important in cases
where the institution being liquidated is large. As a result,
if policymakers are very concerned with limiting ex-post
deadweight losses, they will feel pressure not to allow
such liquidation and instead may transfer public resources to the failing institution. The crucial problem with this,
as alluded to at the outset, is that such pressure will be
anticipated by banks themselves and lead them, all else
equal, to grow too big. This is the classic “too big to fail”
(TBTF) problem.18
Another potential source of spillovers arises from the
absence in some markets of trading institutions capable
of tracking net claims rather than gross claims. The main
idea is this: Consider a setting with three firms, A, B, and
C. Firm A owes Firm B $100, while Firm B owes Firm C
$100. Clearly, if netting was possible, only one transaction needs to occur: Firm A pays Firm C. But in a setting

10

in which gross claims must be settled, more transactions
must occur. In addition, if either Firm A or B must make
an asset sale in order to raise the $100 it owes, problems
may occur. In the midst of widespread suspicion on asset
quality, it may be unable to get a price reflective of the
true underlying quality of the assets being sold; and if the
sale is made anyway, the net worth of both institutions
can decline. This idea has received formal attention from
economists. The classic contribution that highlights the
potential for wasteful liquidation and allocation is that
of Kiyotaki and Moore,19 in which chains of inefficient
liquidation can occur due to a failure of either centralized
netting of contracts or the availability of a single “deeppocketed” creditor. In such an environment, a single default can lead to a “spiral” of liquidation that significantly
amplifies an initial shock. Such risk is likely to be most relevant when many investors face risk arising from default
by their counterparties, and in so-called over-the-counter
(OTC) markets there was very little information that was
centralized and thereby known to a party that could
monitor the ability of obligors to make good on promises.
By contrast, a centralized exchange may have been able
to keep much better track of net obligations, and thereby
avoid default. Shleifer and Vishny20 focus on the issue that
there may be only a limited number of parties with the
expertise to value and manage certain kinds of assets.
The absence of netting is likely to be most problematic when the seller of assets is a bank or other relatively
opaque institution. In particular, a traditional view of
banks is that they are entities that specialize in “information intensive” lending. As a result, banks typically fund
precisely those investment projects that are not sufficiently transparent or standardized to permit the use of
capital markets. As a result, few are in a position to value
such assets when they are sold, and this possibility in turn
may generate what economists call a “Lemons problem.”
That is, if the quality of an asset is known to sellers but
not to buyers, and if sellers anticipate a low price, then
the quality of the assets placed for sale will be disproportionately low (i.e., “Lemons”). In the absence of a credible
mechanism to discern quality, asset prices may be inefficiently low in the sense that there may be buyers willing
to pay high prices for high quality assets but find them
unavailable. Therefore, while a large liquidation may be
sufficient to induce inefficiency, it is not necessary.
At a general level, Lemons problems seem likely to
have played an important role in explaining why the initial

The Federal Reserve Bank of Richmond  2009 Annual Report

wave of mortgage defaults led to greater than 10 percent
unemployment rates. A very rough summary of recent
events might be the following: Mortgages defaulted and
securitization led the exposure to these defaults to be very
widespread and difficult to assess. Many who invested in
these assets did so by borrowing short term. When the
performance of mortgages eroded, these investors were
asked by their creditors to lower their leverage to increase
the likelihood of repayment. This often necessitated the
sale of assets. To the extent that sellers were seen to know
more than buyers about what they were selling, the price
commanded by these assets was low—reflecting the
possibility that the seller was intent on unloading his
worst assets on unwitting buyers. As some sold at these
low prices, others were directly affected in their ability to
sell assets. In the interim, some investors, e.g., so-called
structured investment vehicles (SIVs) and conduits, had
arranged for backup lines of credit from banks. As banks
made good on these commitments, their health and
corresponding ability to fund projects, including those
completely unrelated to mortgage lending, were undercut. As a result, what started as a crisis on “Wall Street”
became a larger crisis on “Main Street.”
The preceding description of a “death spiral” has been
formalized to account for some additional specifics of the
current crisis. Most recently, Brunnermeier21 emphasizes
two spirals related to forces identified in Kiyotaki and
Moore: (i) a “loss” spiral and (ii) a “margin” spiral. In the former case, a reduction in asset prices (possibly for entirely
fundamental reasons) lowers the ability of participants
to borrow, especially leveraged ones. This is because the
fall in asset prices lowers the net worth of the leveraged
entity by much more than the gross worth, and it is net
worth that matters for being able to post collateral and,
in turn, borrow. Subsequently, the loss in net worth may
necessitate the sale of more assets, as lenders will not
want exposure to such a leveraged borrower to persist.
Such pressure will lead the borrower to sell some of his
assets to restore the original leverage ratio, which further
lowers the net worth of other agents, and so on. A margin
spiral is one where the loss spiral is made worse because
lenders may no longer be content with allowing the same
leverage ratio and, by demanding lower leverage, force
greater asset sales by each constrained institution, further
pressuring asset prices downward.
The prevalence of OTC transactions for many derivatives, especially credit-default swaps, later proved to be a

source of significant counterparty risk. In turn, the failure
of an insurer to deliver as promised may itself threaten
the health of those who purchased the insurance and
may force them to liquidate positions to meet obligations. Such liquidations can, as before, lead to downward
spirals. The case of AIG illustrates this clearly. Many holders of mortgage-backed securities purchased insurance
against a loss in their value. AIG collected premiums in
return for promising to buy back these securities at face
value in the event of default. However, it later turned out
that the firm would be incapable of making the promised
payments, and its unanticipated failure could reasonably
be associated with some of the inefficiency-inducing
spirals discussed above.
An issue related to margin spirals and asset sales is
that of the valuation of a firm’s balance sheet. The
practice of generating a real-time valuation of the balance sheet goes by the terms “fair value accounting”
(FVA) and “mark-to-market” accounting. After the
savings and loan (S&L) crisis of the 1980s, regulators
and policymakers came to realize that when an insured
depository institution is aware that its balance sheet
has deteriorated, but regulators aren’t, very bad things
can happen. In particular, poorly performing insured
depository institutions can raise funds by offering high
interest rates on deposits and other short-term funding and use the proceeds to invest in projects that pay
off handsomely in rare cases, but most often do not.
Commercial real estate, in particular, was a favorite for
speculative investments by S&Ls.
As a result, many financial institutions now are asked
to routinely present valuations of the objects on their
balance sheets (the assets, in particular). These valuations
are really a thought experiment in which the firm assesses the value of assets were they to be sold immediately.
In settings in which trading arrangements (i.e., markets)
allow for the easy sale of assets without suspicion of
them being Lemons, FVA will keep insolvent institutions
from raising funds to invest in bad projects. However, in
cases where asset markets are afflicted by serious Lemons
problems, an institution may be inaccurately portrayed
as undercapitalized, in which case it must either sell assets to repay creditors (in other words, shrink its balance
sheet) or issue new equity. Both of these options may
cause further problems, the former for reasons we have
already discussed and the latter because the very issuance of new equity might be perceived as a signal that an

11

entity is undercapitalized. Thus, it is possible that some of
the spillovers that occurred came from measures designed to prevent them from occurring in the first place.
We have argued that spillovers leading to ex-post inefficiency can come from many places, of which we named
a few: (i) demand-deposit-style contracts, (ii) distorted
incentives created by deposit insurance and financial
institution size, (iii) the absence of centralized netting
of contracts, especially in derivatives, and (iv) regulatory practices. It should be clear, therefore, that there are
widely varying, and individually coherent, arguments
as to why systemic risk may be present. There will, in
turn, usually be interventions that can genuinely improve
outcomes, though typically from the ex-post perspective.

This is an important point to keep in mind, and one that is
not always appreciated by those advocating pure “laissez
faire” approaches to crisis management. However, it is
perhaps equally crucial to recognize that the promise of
help from policymakers to avoid inefficiency ex post can
(i) disrupt ex-ante efficient contracting arrangements and
(ii) increase the odds of ending up in a situation where
such intervention takes place. Therefore, it is important to
understand first why certain risks may be an unavoidable
side effect of contractual arrangements constructed to
ensure ex-ante efficiency. In general, such an evaluation is
best done on a case-by-case basis.

Lesson 4: Many of the Linkages Leading to
Fragility and Ex-Post Inefficiency Stem from
Purposeful Choices
The preceding section showed that trading arrangements
in financial markets often leave intact features that can
lead to inefficient responses to shocks, but that tolerating ex-post inefficiency may be essential to allowing for
beneficial outcomes from an ex-ante perspective. The
inflexibility of short-term debt in banking arrangements,
for example, was shown to place burdens on the depository institutions, predisposing them to being run, and
to becoming a source of spillovers. Nonetheless, such
arrangements are precisely what might allow society to
invest in productive ventures.
A ubiquitous feature of the current crisis, and one that
arguably sets it apart from previous periods of rapid
asset-price appreciation, is the pervasive use of debt finance. Therefore, given its inflexibility—and demands for
the liquidation of assets in the event of poor outcomes—
why is debt such a pervasive contractual form? An
answer is suggested in a classic work of Townsend.22
In this paper, the author studies a setting in which a
lender can generate a return on an investment only by
hiring a worker, and where the return on the investment
can be observed only by paying a cost. The author then
shows how a simple debt contract achieves ex-ante
Pareto efficiency. That is, the optimal contract is one
where borrowers make a constant repayment to lenders
except in bankruptcy when they report an inability to pay
as promised. In this case, the borrowers’ output is verified
and assets are seized and liquidated. No further opportunities to improve the well-being of both borrower and
lender remain.
An important aspect of Townsend’s analysis is that, in
the cases where a borrower reports an inability to make
the specified repayment, it doesn’t help either party to
use up resources that could instead be divided between
them. Thus, a costly liquidation process may well be
worse, ex post, than, say, partially forgiving the debt.
But without this commitment to force the borrower into
liquidation whenever he claimed that project returns
were poor, the manager of the project would be able to
report that the project always generated poor returns,
repay very little, and retain the rest. Knowing this, the
lender might never lend in the first place, putting a stop
to a socially useful investment.

As discussed at the outset, recent calls for intervention
by policymakers have uniformly appealed to the idea that
inefficient outcomes would otherwise result. However, a
lesson of the preceding discussion is that one can accept
the idea that such inefficiency may result without intervention, while keeping in mind that the anticipation of
such after-the-fact interventions can damage the ability
of market participants to effectively structure contracts.

Implications for Policymakers
Policymakers seem now to have recognized that the
forces created by implicit guarantees and an unwillingness to tolerate ex-post inefficiency may be important
and have reacted by proposing legislation. Most recently,
legislation under consideration in the Senate seeks to
substantially overhaul the regulation of financial
institutions, largely with a view toward containing
actions that will lead to systemic risk, through the
creation of a systemic risk authority.23
The recent crisis, while beginning with householdlevel decisions to default on mortgages, has largely been
a crisis of short-term funding for banks and nonfinancial
firms. Given that neither financial intermediaries nor firms
are people, the importance of protecting the incomes of
such entities from sharp falls is not by itself a compelling
rationale for policy intervention. The goal of policymakers
in these instances, if anything, might be to ensure that
the entities best equipped to channel funds to productive
projects remain able to do so. Nonetheless, the discussion thus far has alluded to the idea that what market
participants expect financial market policymakers and
regulators to do ex post will matter for their decisions ex
ante. Given this, there are some general implications for
policymakers.

Be Aware of Time Inconsistency
Perhaps the single most important idea that economics
has to offer the practice of policymaking is that of “time
inconsistency.” A policy is a rule that spells out what a
policymaker will do under various contingencies now and
in the future. A policy is said to be time inconsistent if a
policymaker would opt in the future to not carry out the
prescription of a previously announced policy wherever it
was not optimal to do so from that time forward. Instead,
such a policymaker will choose new policies in the future
by repeatedly reoptimizing. The downside to this is that
he will not be able to credibly promise or threaten certain

The Federal Reserve Bank of Richmond  2009 Annual Report

13

future actions, even when such a promise would allow
for actions that would be clearly beneficial from the
viewpoint of the present. Knowing this, individuals (i) will
ignore the possibility that the strategy announced in the
present will actually be implemented in certain eventualities, and, more detrimentally, (ii) can force the hand of the
policymaker in the future by taking actions in the present.
The preceding is a bit abstract, so consider the classic
example of time inconsistency from the seminal article of
Kydland and Prescott,24 in which the idea was first formalized. Imagine a society where some of the land may flood
frequently enough to make home construction a bad idea
from the ex-ante perspective. Ideally, the right policy for
the government in this instance would be to announce
that it would not help those whose homes have flooded.
If credible, this would prevent building on the floodplain
and, in turn, void the need to bail out anyone after the
flood. But, if a benevolent government lacks the commitment to refrain from helping to reconstruct the homes
after a flood, private citizens will rationally expect that
any homes that are built are indeed insured. As a result,
homes will be built on floodplains and, since floods will
occur, the government, if it is benevolent, will find itself
helping homeowners after the fact. If the expected costs
to society from not building there in the first place are
smaller, society as a whole loses.
There are at least two lessons here. First, for policymakers, “tough talk,” such as announcing that there will be no
future bailouts, will, if not accompanied by something
that makes the policy intentions credible, be disregarded
at best. Second, there is a lesson for the broader public.
In order to expect policymaking to meaningfully alter
decisions, one must ask whether a policymaker has the
willingness to stick to an announced policy, especially
when the optimal choice in the future might be to let
bygones be bygones.

Pursue Ex-Ante, not Ex-Post, Pareto Efficiency
Given the ability, and willingness, of policymakers to
intervene to ensure efficiency in the wake of a shock,
why is the pursuit, if not attainment, of ex-ante Pareto
efficiency a useful standard for the regulators of financial
institutions? In the context of financial markets, there
are at least three reasons. First, in markets where there
is no informational advantage held by one party relative
to another, and all parties can be forced to honor their
promises, policies aimed at the achievement of ex-ante

14

efficiency ensure ex-post efficiency; one needn’t target the
latter explicitly. Second, in the presence of informational
advantages held by one party over another, or when
parties cannot be presumed to do as promised, ex-post
interventions, even when they ameliorate ex-post inefficiency, can undermine private contracts engineered to
reflect a variety of considerations necessitated by the informational frictions present. For example, debt contracts
were seen to be useful in helping parties attain financing even when one party faced the prospect of being
cheated by the other. In turn, even well-meaning policies
that hinder the seizure and liquidation of assets as per the
contract could inhibit the financing of many worthy projects. Third, in a world of smart, forward-looking private
sector decisionmakers, the willingness to pursue ex-post
efficiency (or the inability to stop from pursuing it) can
lead society to wasteful allocations of resources through
misdirected investments, tax distortions, and deliberate
exploitation of the taxpayer through excessive risk taking.
This is the lesson of the time inconsistency problem.
Recalling the case of AIG, we can see that once its
inability to meet the claims of its creditors became clear,
policymakers intervened, perhaps justifiably under an
ex-post Pareto efficiency criterion. But, as with deposit
insurance, the fly in this ointment is that situations rife
with inefficiency may be inherited by a policymaker
precisely because of his inability to commit to allowing inefficiency after the fact. AIG, for its part, may have
anticipated (correctly) that the circumstances in which the
credits they insured would fail would likely also be ones in
which aggregate economic activity was already significantly affected. In turn, in these situations, the firm may
have expected assistance from a policymaker—especially
one concerned with ex-post efficiency. As a result, such
views may have been important in allowing AIG and others perceived to be TBTF to grow and create systemic risk.
It is also important to recognize that the ex-ante
standard is not an automatic call for pure laissez faire. For
example, the institution of deposit insurance for banking can be provided by the public and, in turn, can help
ensure that the banking system is productive from the
ex-ante viewpoint. Similarly, in the context of the example
describing the time-inconsistency problem, an ex-ante
standard would differentiate sharply between the two
following scenarios. First, in the example given, the risks
of building on the floodplain were high enough to make
investment there a poor choice. Moreover, no houses had

The Federal Reserve Bank of Richmond  2009 Annual Report

yet been built. Therefore, in this instance, the inability of a
policymaker to commit to avoiding a bailout led directly
to wasteful investments that necessitated bailouts. Consider now a modification of this scenario where the land
floods infrequently enough to attract private investors
even in the absence of any possible bailout. However,
assume that insurance markets for some reason don’t
function well. In this case, would-be homeowners face
risks, but because they cannot insure against them, may
fail to build even though it is productive to do so from an
ex-ante standpoint. Now, imagine that the government
offers insurance to those building there and charges actuarially fair premiums. This will improve ex-ante efficiency,
as citizens will now be able to pool their risks with others.
And in the rare event that a flood does occur, the policymaker will make payments to help people rebuild. This
example suggests that a crucial litmus test for useful expost interventions is whether or not they can reasonably
be interpreted as proxying for a missing market.
A more general danger (i.e., one that is not restricted
to financial market policy) in abandoning the ex-ante
efficiency standard for policymaking is that it opens the
door, in principle, to the implementation of policies that
merely redistribute. However, redistributionary policies are not appropriately conducted by the regulators
of financial institutions who can act fairly unilaterally.
Rather, such actions are more appropriately conducted
through the consensus building inherent in the legislative
system. Politically appointed decisionmakers, especially
those whose choices are not immediately subject to open
debate or transparent appropriations processes, may find
themselves under intense pressure to pursue such policies. Moreover, given the speed with which interventions
in financial institutions have taken place, there will be
incentives for the owners, creditors, and employees of a
handful of financial firms to invoke the specter of systemic risk to request interventions that are primarily transfers.
The preceding arguments suggest that ex-post interventions carried out in the name of mitigating systemic
risk may themselves pose a risk to the welfare of the
citizenry. To avoid this, the public must ask regulatory
authorities to consistently articulate the pure ex-ante
efficiency rationale for their proposed actions. Moreover,
such a defense of intervention must spell out precisely
why private contracting, even when it raises the possibility
of ex-post inefficiency, may not simply reflect the best
that society can achieve ex ante to deal with various

informational- and commitment-related impediments.
Federal Reserve Bank of Richmond President Jeffrey
Lacker has expressed this view fairly strongly.25 As mentioned at the outset, economic theory does offer guidance
here. The presence of widespread market power arising
from barriers to entry and the inability to trade certain
contracts due to various spatial or informational frictions
are two of the most obvious impediments to achieving
ex-ante efficiency. And in the context of financial intermediation, theoretical work on the effects of various
impediments to trading arrangements such as collateral
scarcity, maturity mismatch, and centralized netting are
all ongoing. We have also briefly alluded to the inability of
the government to commit against bailout as an influence
on ex-ante financial contracting, and thereby fragility and
real outcomes.26
One explanation that has been widely circulated to
account for the severity of the crisis, and especially its
transmission to the real economy, is that there was a dramatic expansion of the set of financial institutions with
balance sheets that featured a large maturity mismatch.
That is, in the recent crisis there was an expansion27 in the
set of financial actors that used short-term debt to invest
in long-term assets such as real estate or collateralized
debt obligations with underlying value dependent on
long-maturity loans such as mortgages. The expansion
of such entities in the run-up to the collapse of real estate
prices has been called the rise of a “shadow” banking
system. The Diamond and Dybvig account of banking
suggests that if such an expansion is not met with (i)
a concomitant expansion of something analogous to
deposit insurance and (ii) publicly imposed limits on risk
taking via capital requirements or portfolio restrictions,
fragility and misallocation are likely to ensue.
By all accounts, strict leverage limits and capital requirements were not measures imposed on hedge funds,
investment banks, and money market mutual funds,
which all constructed balance sheets that predisposed
them to the sort of instability discussed above. Therefore,
one implication may be to work to recognize, in real time,
those financial institutions that have balance sheets with
bank-like characteristics but that are not being treated
accordingly.
Before becoming overly optimistic about being just
one more regulation away from containing systemic
risk, however, it is useful to ask why such maturity transformation took place outside of insured and regulated

15

depository institutions. There is good reason to think that
it was precisely to escape the regulation facing the latter.
Therefore, unless we are confident that we can detect
maturity transformation in all its forms, our best bet may
be to allow creditors of unregulated institutions to bear
risk, especially of the macroeconomic kind. This may only
be possible via credible promises to allow such entities
to fail. In other words, the additional costs of monitoring
and regulating may well outweigh any additional benefits of creating yet more actors in the officially insured
maturity transformation business.

16

The Variety of Linkages and Reasons for Spillovers
Will Make Regulating Hard
We argued above that not only are there many ways for
financial sector entities to be linked and create inefficiency in the wake of shocks, but also that many contractual
choices that create ex-post inefficiency were deliberately aimed at allowing for gains from trade between
two parties. Recalling the example of mortgage lenders
committed to foreclosing on late payers, we saw that
even though debt forgiveness would be ideal after the
fact, such a policy would be ruinous for lenders, and thus
ultimately choke off credit to borrowers.

From a policy perspective, this suggests that it may be
beneficial to tie the hands of policymakers in the wake of
crisis: It is perhaps the only way to give participants, especially nonbanks, the incentives to avoid becoming overly
linked with each other and choosing balance sheets that
make them fragile. But here again, a policy of never intervening may not always be desirable either. As Diamond
and Dybvig’s analysis shows, the presence of fragility
sometimes comes from the achievement of other, more
desirable objectives as well, and in these cases programs
like deposit insurance can indeed help achieve ex-ante
efficiency.
Another problem facing would-be systemic risk regulators is that asset price collapses often seem to precede
financial crises. In the recent crisis, the collapse in housing
prices has been widely seen as a crucial starting point
for events. In particular, many of the mortgage contracts
that required little or nothing from the borrower for
more than a year, only to ask for far more in subsequent
periods, were predicated on increases in house prices that
were ultimately not realized. Any regulator charged with
mitigating systemic risk would have had to take a position on the likely path of house prices. Such forecasts are
not easy to make. In fact, from a theoretical perspective,
forecasting the path of the price of any asset, especially
when markets are functioning well, is inherently difficult. Moreover, in addition to forecasting house prices,
assessing the implications of changes in these prices for
various market participants would have required detailed
knowledge of not only mortgage contracts, but also the
health of all those who acquired exposure to them.
Lastly, it should be kept in mind that in some cases,
the very regulations intended to protect the public from
excessive risk taking may have unintended consequences.
As discussed earlier, FVA may have played a decisive role
in exacerbating the initial effects of the financial crisis,
even though it was instituted to prevent the public from
being exploited by financial intermediaries with access
to backstop public funding and insurance. As a result, it
is difficult to know what a policymaker intent on limiting
systemic risk might have done differently. The preceding
ideas lead to the question of how much discretion policymakers (ought to) have. We will argue that the answer
may be: not much.

Broader Powers Are not Necessarily Better
The perception that disastrous outcomes would have

occurred in the absence of timely intervention by policymakers has now led to calls to endow regulatory bodies,
including the Federal Reserve System, with wider powers. Such efforts may have benefits, but they also carry
risks. The benefits of having such a regulator, especially
when it is the Fed, are listed frequently,28 so we will focus
on some of the risks.29 First, recall that the time inconsistency problem arises not in spite of, but rather because a
policymaker is benevolent, seeking at each moment only
to do what is best for the public. And yet, it is this inability
to stick to a rule that created the very conditions that led
such a policymaker to have to act: One need not have a
jaundiced view of policymakers to worry about giving
them discretion.
With respect to the discretion possessed by policymakers, a central question that at present does not have a
clear answer is whether policymakers can ever have commitment to not revisit their policy announcements. One
view is that the answer is no; policymakers will always
reoptimize and refuse to allow very bad things to occur.
The dramatic policy responses by the Fed and the executive branch of government suggest that they indeed
reoptimized, seeking to improve outcomes from the present moment forward. However, what is less clear is the
extent to which the preconditions for a crisis would have
occurred in a world where policymakers were determined
to always let the chips fall where they may. If one’s view
is that policymakers do not have commitment to avoiding bailouts, then it follows that they must limit behavior
that would force their hand in the wake of any shock,
especially a large one. This is the essence of the argument
for preventing firms from growing TBTF, especially when
they do so by issuing debt.
If one’s view is that policymakers are unable to tolerate
ex-post inefficiency, then the source of this inability matters. In particular, if policymakers pursue bailouts because
they fear a public unwilling to brook such outcomes, it
becomes crucial that the public understands the extent to
which a given after-the-fact intervention sows the seeds
for behavior that will create the next crisis. And here, the
received science is not definitive. Large banks and other
financial institutions do provide potential efficiency
gains through scale and network effects. Nonetheless,
if TBTF is known to influence some banks’ and financial
intermediaries’ decisions, economic theory tells us
that they will certainly choose too much risk if left to
their own devices. As a result, allowing for very large,

The Federal Reserve Bank of Richmond  2009 Annual Report

17

complex, and interconnected institutions means vigilance
by policymakers and regulators. It is not obvious, though,
that very pervasive regulation can be successful, especially since it creates the distinct possibility of regulatory
capture whereby policymakers subtly become beholden
to the entity they are charged with regulating. Future
work must help delineate clearly the gains the public gets
from allowing financial intermediation to grow extremely
concentrated and the gains from allowing nonbanks to
hold bank-like balance sheets with heavy short-term
leverage and long-term assets.
How relevant was TBTF in recent events? An emerging
view is that the risk and size assumed by banks was quite
deliberate and quantitatively large enough to severely
constrain subsequent lending by banks in the wake of
losses due to mortgage default. As Richardson and
Acharya, Schnabl, and Suarez document,30 banks were
“playing the leverage game” and thereby creating a serious TBTF problem. The reason that even securitized loans
sold into conduits threatened bank balance sheets is that
banks were obligated to provide credit support in the
event that the assets performed poorly.31 As a quantitative matter, the reductions in value of the securities held
by conduits were enough to wipe out the capital of many
institutions that had issued support agreements. As a
result, the securitization, which would have worked well
if the assets had been sold, did not ultimately transfer
risk away from banks and toward investors. Similarly, the
credit support that many of the issuers of real-estatebacked commercial paper (e.g., SIVs and conduits) had
from banks ensured that their creditors would not see
losses. Nonetheless, the willingness of banks to issue such
commitments may well have been affected by the view
that they were TBTF. As a result, such commitments may
have served as a way to transfer risk originating in a SIV to
the taxpayer by way of the banking system. In this view,
the fundamental problem is not the credit lines but the
inability of the policymaker to credibly commit to allowing an overextended institution to simply fail.

shock, appear important. However, we have also argued
that in many cases, the trading arrangements that display
such features may themselves have been constructed
precisely to deal efficiently with problems of asymmetric
information and limited commitment between trading
partners. Moreover, in some instances, contractual arrangements may have been constructed with a view to
exploit the unwillingness of benevolent policymakers to
allow certain financial market entities to be liquidated.
As a result, we have argued that the right goal for policymakers is to do as much as possible to ensure that the institutional arrangements for trade can attain efficiency as
viewed before the arrival of shocks. The successful pursuit
of this objective may then require credible commitments
to withhold assistance in the wake of a shock. Understanding the channels by which after-the-fact interventions alter, and perhaps destroy, the ability of society to
allocate resources productively is of critical importance.
It is particularly crucial for measuring the long-run costs
of the discretionary policymaking that is currently taking
place. In the context of fiscal and monetary policy there
is now something of a consensus among economists that
discretion is harmful. The consequences of discretion in
financial markets are now getting more attention as well.
In the interim, the broader public should remain realistic
about the benefits of codifying and dealing with systemic
risk. In addition, society must remain vigilant to ensure
that systemic risk is not invoked to further ends unrelated
to the long-run realization of gains from trade.

The author is a senior economist at the Federal Reserve Bank
of Richmond. He would like to thank Huberto Ennis,
Amanda L. Kramer, Devin Reilly, Aaron Steelman, John
Walter, John Weinberg, and Alex Wolman for discussions
and detailed comments and Sam Henly for able research
assistance. The views expressed are those of the author and
not necessarily those of the Federal Reserve System.

Concluding Remarks
We have identified systemic risk with linkages between
market participants that lead to outcomes that can be unambiguously improved after a shock. As to the sources of
such outcomes within financial markets, certain contractual arrangements featuring inflexibility, or requiring collateral infusions or liquidations in the event of a negative

18

The Federal Reserve Bank of Richmond  2009 Annual Report

ENDNOTES
1 Prepared remarks by Paulson before the House Financial Services
Committee, November 18, 2008.
2 New York Times, April 8, 2008.
3 Acharya et al. (2009).
4 de Bandt and Hartmann (2000).
5 For those interested in more detailed surveys of systemic risk,
de Bandt and Hartmann is useful, and for autopsies of the recent
crisis, the received literature now provides many options, but two
especially useful treatments are the symposium issue (Winter
2009) of the Journal of Economic Perspectives and the book-length
treatment of Acharya and Richardson (2009).
6 Blundell, Pistaferri, and Preston (2008).
7 Aguiar and Hurst (2005) and Scholz, Seshadri, and Khitratakun
(2006).
8 Heathcote, Storesletten, and Violante (2005).
9 See, e.g., de Bandt and Hartmann (2000).
10 See, e.g., Cecchetti (2009).
11 See, e.g., Debreu (1959).
12 To repeat, in any setting with limited resources, what one party
does must affect all others. The only question then is how these
effects manifest themselves. The Invisible Hand result tells us that
when there are markets for all relevant goods and services, the
interaction of parties in settings where they cannot affect prices
through their individual actions leads to Pareto-efficient outcomes.
13 Think of the auctions for commodities that occur routinely: Millions
of small buyers and sellers individually can do essentially nothing
but accept the price coming from the auction house, but together
their actions certainly affect the price that is set.
14 “The U.S. Department of the Treasury (Treasury), the Federal
Reserve Board, and the Federal Reserve Bank of New York agreed
that the collapse of AIG could cause large and unpredictable global
losses with systemic consequences.” Prepared testimony of Timothy
Geithner, March 24, 2009.
15 Criticisms of the nonbailout of Lehman Brothers usually have taken
this view.
16 Diamond and Dybvig (1983).
17 Think, for example, of a large number of individuals, where each
person holds an unbiased coin. If they all flip their coins, we cannot
know the outcome for any one individual with certainty beforehand, but we do know that the fraction of people who flip “heads”
(or “tails”) will nearly always be very close to one-half.
18 See, e.g., Stern and Feldman (2004). At banks with access to
insured deposits, the competitive pressure to continue acquiring
exposure to high-risk mortgages was likely to have been substantial. Chuck Prince, CEO of Citigroup, famously stated that “…as long
as the music is playing, you’ve got to get up and dance. We’re still
dancing.” Financial Times, July 10, 2007.
19 Kiyotaki and Moore (1997).
20 Shleifer and Vishny (1992).
21 Brunnermeier (2009).
22 Townsend (1979).
23 See the U.S. Senate Committee on Banking, Housing, and Urban
Affairs hearing titled “Establishing a Framework for Systemic Risk
Regulation” held July 23, 2009.
24 Kydland and Prescott (1977).
25 Lacker (1998).

26 See Chari and Kehoe (2010) for a formal analysis of this idea.
27 See, e.g., Acharya et al. (2009) for details.
28 See, e.g., Labonte (2009).
29 To be clear, what is being emphasized is that there are some risks
that would face any systemic risk regulator. The question of who
that regulator should be (e.g., the Fed, the Office of Thrift Supervision, etc.) is a separate issue—one that we do not address here.
30 Richardson (2009) and Acharya, Schnabl, and Suarez (2010).
31 See, e.g., Acharya and Schnabl (2009).

19

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de Bandt, Olivier, and Philipp Hartmann. 2000. “Systemic Risk:
A Survey.” European Central Bank Working Paper 35 (November).
Debreu, Gerard. 1959. Theory of Value: An Axiomatic Analysis of
Economic Equilibrium. New Haven, Conn.: Yale University Press.
Diamond, Douglas W., and Philip H. Dybvig. 1983. “Bank Runs, Deposit
Insurance, and Liquidity.” Journal of Political Economy 91 (3): 401-19.
Geithner, Timothy. 2009. Testimony before the House Financial
Services Committee, Washington, D.C. (March 24).
Heathcote, Jonathan, Kjetil Storesletten, and Giovanni Violante. 2005.
“Two Views of Inequality over the Life Cycle.” Journal of the European
Economic Association 3 (3): 765-75.
Kiyotaki, Nobuhiro, and John Moore. 1997. “Credit Chains.” Princeton
University, mimeo (January).
Kydland, Finn E., and Edward C. Prescott. 1977. “Rules Rather Than
Discretion: The Inconsistency of Optimal Plans.” Journal of Political
Economy 85 (3): 473-91.

20

Labonte, Marc. 2009. “Systemic Risk and the Federal Reserve.”
Washington, D.C.: Congressional Research Service (October 28).
Lacker, Jeffrey M. 1998. “On Systemic Risk.” Comments presented at the
Second Joint Central Bank Research Conference on Risk Measurement
and Systemic Risk at the Bank of Japan, Tokyo (November 16-17).
Paulson, Henry. 2008. Testimony before the House Committee on
Financial Services, Washington, D.C. (November 18).
Richardson, Matthew. 2009. “Causes of the Financial Crisis of 20072009.” In Restoring Financial Stability: How to Repair a Failed System,
edited by V. Acharya and M. Richardson. Hoboken, N.J.: John Wiley,
57-60.
Scholz, John Karl, Ananth Seshadri, and Surachai Khitatrakun. 2006.
“Are Americans Saving ‘Optimally’ for Retirement?” Journal of Political
Economy 114 (4): 607-43.
Shleifer, Andrei, and Robert W. Vishny. 1992. “Liquidation Values and
Debt Capacity: A Market Equilibrium Approach.” Journal of Finance 47
(4): 1343-66.
Stern, Gary H., and Ron J. Feldman. 2004. Too Big to Fail: The Hazards of
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265-93.

The Federal Reserve Bank of Richmond  2009 Annual Report

21

MESSAGE FROM MANAGEMENT

Sarah G. Green, First Vice President

22

Anyone who has paid attention to the news over the
last year has seen plenty about the Federal Reserve—
including criticism. Public discussion has associated the
Fed with Wall Street because of the actions we have
taken amid unprecedented turmoil to stabilize complex
financial markets and prevent widespread repercussions.
Many of these actions were undertaken at moments of
great peril for the financial system and, while they may
not have been how we would have chosen ahead of time
to react, were taken in the interest of preventing a further
deepening of the financial crisis and the recession.
These events have underscored the importance of our
role as a supervisor of large financial institutions, but our
focus is not to help Wall Street. Rather, it is to promote
economic growth with low inflation, a sound financial
system, and an efficient and safe payments system for the
people who live on Main Street. Our interest lies in how
the decisions of families and businesses affect the overall
economy and also how the economy affects them.
As we approach the 100th anniversary of the Fed’s
founding, it seems fitting to revisit the Federal Reserve’s
overriding mission and focus on Main Street. We will be
opening an interactive economic exhibit at the Richmond
Fed this summer that explores this theme. We hope you
will visit and participate in this exhibit.
Looking back to 1913 when Congress established the
Federal Reserve, the United States did not have a central
bank, despite several unsuccessful efforts over the previous century-and-a-half. Banking problems, most notably
a bank panic in 1907, prompted the search for a solution
and a number of proposals were considered with great
deliberation. Then, as now, tension focused on whether it
was better to have a centralized bank, driven by Washington and the interest of large New York banks, or a regional
structure that represented interests from around the
country.
The founders ultimately reached a compromise that
gave the Federal Reserve its unique structure with input
from around the country and oversight from Washington.
That structure remains in place today, with 12 Reserve
Banks representing the regional perspectives and interests of various parts of the United States, and the Federal
Reserve Board of Governors providing central oversight.
That long-established structure prevents concentration of

The Federal Reserve Bank of Richmond  2009 Annual Report

power and has been the foundation for the way the Fed
carries out its responsibilities in monetary policy, banking
supervision, lending, and payments. It also helps the Fed
maintain strong connections with people in all regions of
the country.
The seven governors who constitute the Board of
Governors in Washington and the 12 Reserve Bank
presidents gather at Federal Open Market Committee
meetings every six weeks to make monetary policy
decisions. Each of the presidents brings views informed
by their own local research functions as well as by the information gleaned from interactions with the people and
businesses located in each of their district’s communities.
Real-time local information is particularly important at
times like these when we are trying to help the economy
recover from a deep recession and at the same time
maintain low inflation.
Across the country, the Fed supervises more than
5,000 bank holding companies and, although it sometimes receives less attention, we also have supervisory
responsibility for more than 800 community banks. In
addition, we provide access to collateralized overnight
borrowing to all depository financial institutions. Through
the connections that we develop with all of these banks,
we are able to gain a strong sense of what is happening in the economies of both the Fifth District and the
country as a whole. Our interest is in making sure the
banks remain strong members of their communities for
the benefit of Main Street.
The Fed’s role in the payments system underpins the
activity that occurs daily in the economy. Our focus is
on the accessibility, efficiency, and integrity of the U.S.
payments system. We provide cash, check, automated
clearinghouse, Fedwire, and securities transfer payments
services to financial institutions, and we serve as the fiscal
agent for the U.S. Treasury. The $4 trillion that we transfer each day enables individuals to manage their daily
financial needs—for example, obtain cash, receive their
paychecks and Social Security, make rent and bill payments, and purchase the goods and services offered by
businesses on Main Street.
The Fed’s most direct contact with the public comes
through our outreach to local communities to support
economic education and community development. Each

Reserve Bank reaches out to speak with and learn from a
wide variety of constituents. Some of the activities in the
Fifth District during 2009 are described in “The Bank in
the Community” section of this report.
Our boards of directors, advisory councils, and various outreach activities have highlighted the suffering
and dislocations that people have experienced during
the financial crisis and prolonged, deep recession. As an
organization, we have stepped back to examine how we
can do a better job in the future in each of our areas of
responsibility. The essay in this Annual Report is just
an example of the research we are undertaking to
understand what prompted the financial crisis. We have
increased our transparency, changed and strengthened
our approach to supervision of financial institutions,
and promulgated new consumer regulations. We will
continue to seek opportunities for change that will
strengthen the economy, the financial system, the payments system, and our communities. However, one
thing will not change—our resolve to do what is best
for Main Street over the longer term.

Sarah G. Green
First Vice President

23

THE BANK IN THE COMMUNITY
The recent recession demonstrates how conditions in
The forums focus on the unique issues in the
local markets are closely linked to fluctuations in the
region. The decline in manufacturing has been an impormacroeconomy—and that having a fuller appreciation
tant part of the Fifth District’s recent economic history,
of one can help us better understand the other.
including for Danville, Va., a river town located at the
The Richmond Fed has recently taken a closer look
foothills of the Blue Ridge Mountains. The Richmond Fed
held an economic forum in Danville in August 2009 to
at the way information about the economy is gathered
better understand how the decline in manufacturing has
at the regional level. In 2009, the Fifth District created
affected the region’s prospects for economic recovery.
a new district-wide outreach function to improve the
In the past, high school graduates in Danville could
quality of information gathered from local business and
count on an abundance of jobs in local factories that did
community leaders.
not require a college degree or additional training. Many
The new outreach function streamlined the Richmond
of those jobs are now gone, however, and the manufacFed’s efforts across departments and branch locations.
turing jobs that remain typically require workers skilled
Outreach activities are now more closely coordinated
in sophisticated technologies and analytical thinking
across multiple departments within the Bank, from
unlike the more traditional
Research to Economic
assembly line jobs of the past.
Education to Community
For example, Danville is the
Affairs, each with an interest
new home of Swedwood, the
in understanding and makfirst U.S.-based manufacturing
ing an impact on the local
facility of Sweden-based
economy. The new function
furniture maker IKEA. While the
created a stronger internal
arrival of Swedwood provides
infrastructure for dissemigreat hope for the Danville
nating and sharing what
region, it also demonstrates
each department is learnthat the unemployment probing from the community,
lem is sometimes thornier than
ultimately to improve the
data alone would indicate.
relationships, policies, and
Richmond Fed President Jeffrey Lacker meets with local
Swedwood relies on highly
impact of the Richmond Fed.
officials in the city of Goldsboro during a three-day visit to
sophisticated, automated
eastern North Carolina. The trip included visits by Bank leaders plant equipment used to transUnderstanding Local
to the Seymour Johnson Air Force Base and Fort Bragg as well form IKEA furniture from raw
Economic Challenges
as discussions with representatives from the timber industry,
One major initiative coordimaterials to finished products
which
has
suffered
from
the
housing
downturn.
nated by the new outreach
with virtually no human interfunction is a series of regional
vention, except when there are
economic forums in Fifth District communities. In each
problems that require changes to operations. This requires
forum, staff from the Richmond Fed, including President
on-the-fly problem solving and understanding process
Jeffrey Lacker and First Vice President Sarah Green, particmetrics.
ipates in events with business, community, financial, and
In Danville, recovery might require a significant retraineducation leaders within Fifth District communities to
ing and retooling of the local work force’s skill set to help
better understand local economic conditions. The forums
people acquire the tools desired by employers. Organiinclude visits to local business operations and roundtable
zations like the Danville-based Institute for Advanced
discussions with industry leaders and bankers to discuss
Learning and Research, for instance, are working to attract
solutions to local economic challenges.
skilled jobs to the region and connect them with available
workers.

24

In 2010, the Richmond
including federal loan modiFed’s outreach team will visit
fication programs enacted
other communities struggling
to address the effects of
with work force development
the housing downturn. The
issues. One area of focus will
Fifth District partnered with
include Hampton Roads, a
nonprofit organizations such
coastal Virginia community
as HOPE NOW and Neighborwith a strong need for skilled
Works America to host events
labor in shipbuilding and
that bring together mortgage
other industries related to the
servicers and homeowners at
region’s harbors.
risk of foreclosure to work out
While providing a venue to
potential mortgage modificalearn about local economies
tions. The events were free
This foreclosed home in Front Royal, Va., was targeted for
directly from community and rehabilitation under the federal government’s Neighborhood and open to the public, held
business leaders, regional
in regions with some of the
Stabilization Program, which helps communities struggling
economic forums have also
highest percentages of home
with foreclosure. The Richmond Fed visited the area in July
helped the Richmond Fed
foreclosures in the mid-Atlantic
2009 as part of a case study conducted with the Cleveland
respond to the strong desire
and Southeast, including
Fed that analyzed how communities were implementing the
the Washington, D.C., and
for economic information in
program.
Charlotte, N.C., metropolitan
the wake of the financial crisis.
areas. The Richmond Fed
The forums provide a medium
contributes by providing technical and in-kind support
for the Richmond Fed to spread information about issues
to these events.
relating to the Fed’s direct responsibilities, including
Yet given the size of the foreclosure problem and the
monetary policy, changes to consumer protection, forechallenges to achieving mortgage modifications, it is
closure prevention solutions, neighborhood stabilization
clear that foreclosures will continue to pose big problems
strategies, and the Fifth District’s view on policy issues.
for communities. The Richmond Fed also has helped comPolicy issues—ranging from the likely path of inflation
munities address the negative effects of foreclosure by
to the “too big to fail” problem—can have a real impact
focusing on neighborhood revitalization in conjunction
on local businesses’ plans and the lives of people in those
with organizations such as the federal Neighborhood
communities.
Stabilization Program, which was created by the Housing
Identifying Local Barriers to
and Economic Recovery Act of 2008.
Foreclosure Solutions
Areas that have experienced large numbers of
Many symptoms of recession are not new, such as work
foreclosures can face property blight, further declines in
force development issues when local industries shift or
home values, and crime—all of which are a roadblock
decline and neighborhood blight following mass foreto economic recovery. In some communities it is not
closure. Many of these problems arise cyclically, but the
immediately clear who even owns foreclosed homes
solutions are not uniform. As difficult as the foreclosure
since lenders and loan servicers are not always willing to
crisis has been for homeowners and communities, it has
claim ownership. The Richmond Fed’s Community Affairs
also provided a valuable opportunity to learn about the
team partnered with the Cleveland Fed in publishing a
problem of foreclosure from both banks and homeowners.
study that analyzed how to most effectively implement
One of the Richmond Fed’s primary roles in this area
the Neighborhood Stabilization Program, a federal
is aiding the implementation of government programs
initiative that devotes funds to communities struggling
created to assist homeowners at risk of foreclosure,
with foreclosure.

The Federal Reserve Bank of Richmond  2009 Annual Report

25

In many ways, community revitalization will be
Since economic data can often come with a lag, these
best supported by local economic recovery. The Fifth
councils and surveys provide real-time insights into
economic conditions that can precede or qualify hard
District has worked to strengthen Community Developdata. This is critical for policymaking, as it can bring
ment Financial Institutions, or CDFIs. These are financial
emerging issues to light that could otherwise stay hidden.
institutions, including some credit unions, community
Gathering information at a local level would not be
development banks, and venture capital funds, working
possible without proximity to the businesses and instituspecifically to support local economic growth by providtions that are the engines of regional economic activity.
ing access to credit and other services to underserved and
Furthermore, having independent regional Reserve Banks
typically low- to moderate-income populations. CDFIs are
within the Federal Reserve System allows each regional
funded largely by private sources like banks and nonprofit
Fed to pursue individual
foundations, but also receive
research agendas that help
support through the federal
the Fed presidents formulate
government’s CDFI Fund.
independent positions on
In October 2009 the Richpolicy issues. Without a
mond Fed presented research
doubt, this diversity of
at a conference in Charlotte,
perspectives—gained in part
N.C., hosted by the Opporthrough insight resulting from
tunity Finance Network, the
local relationships—is one of
Mary Reynolds Babcock Founthe greatest strengths of the
dation, and the U.S. Treasury
Fed’s structure.
to help strengthen commuEach of the Richmond
nity development finance
Fed’s outreach efforts supports
capacity in the Southeast.
Attendees gather information on foreclosure prevention at a
the Federal Reserve System’s
The session provided education to banks, nonprofits, and HOPE NOW event in the Washington, D.C., area. The Richmond mandate to support the health
of the overall economy. Mainpolicymakers about the work Fed sponsored three such events in 2009 in Fifth District
locations that exhibited high rates of mortgage delinquencies. taining relationships with local
of CDFIs, highlighting potenbusiness and community leadtially profitable opportunities
ers casts a clearer perspective on the regional component
for them to work together, and explored possibilities for
of that picture. Gaining this critical intelligence creates
increasing CDFI capacity.
better opportunities to identify and respond to emergA Regional Insight to Policy
ing economic issues and helps the Fifth District refine its
Richmond Fed outreach events are not one-time interstance on key policy issues. Applying the Fifth District’s
actions with those in the community. In many cases,
outreach resources strategically to the communities that
they support the Richmond Fed’s more formal tools for
need them most contributes to a more sound regional
gathering regional economic information. The contacts
and national economy.
established through outreach have resulted in ongoing
relationships with local business and community leaders.
Many of these relationships result in invitations to serve
on the Fifth District’s boards of directors and advisory
councils, as well as contacts for the Beige Book’s survey of
regional economic conditions and the Fifth District’s other
regional economic surveys.

26

The Federal Reserve Bank of Richmond  2009 Annual Report

FIFTH DISTRICT ECONOMIC REPORT
The Fifth District economy was weak through much of
2009, though signs of a recovery emerged in the middle
of the year and began to take hold toward the end.
Where housing markets had been the weakest—the
District of Columbia, Maryland, and Northern Virginia—
signs of recovery developed. And labor markets, which
had contracted across the Fifth District, began to stabilize. Still, the recovery has so far not been as rapid as
those following previous recessions and concerns regarding particular areas of the economy—such as commercial
real estate and conditions for small businesses—lingered.

Labor Market Conditions
Although employment in the Fifth District was weak
throughout 2009, almost 80 percent of the 453,200 job
cuts were reported from January through June. The
professional and business services sector, for example,
lost 69,200 jobs in the first half of 2009 but then added
23,100 jobs in the second half for a net loss of 46,100
jobs over the year.
The bulk of the Fifth District’s 2009 employment
decline—over 50 percent—was in the goods-producing
sector. The professional and business services industry

was also hit particularly hard, accounting for more than
10 percent of the 2009 job cuts in the Fifth District. North
Carolina continued to have the weakest labor market of
Fifth District states. Although the Tarheel State accounted for a little under 30 percent of all Fifth District payroll
employment in the beginning of 2009, it accounted for
almost 40 percent of the job losses during the year. Total
employment in North Carolina contracted 4.1 percent
compared to 3.5 percent in West Virginia, 3.5 percent in
South Carolina, 3.2 percent in Virginia, and 2.8 percent
in Maryland. In contrast, the District of Columbia saw
employment decline only 0.2 percent in 2009—the
growth in the District of Columbia’s leisure and
hospitality sector (1.6 percent) and government sector
(3.8 percent) almost offset employment decline in all
other sectors.
Nonetheless, labor conditions improved at the state
level as every state saw a flattening employment decline
over the year. South Carolina was the most extreme case
of the diminishing job decline: Almost 99 percent of the
jobs lost in South Carolina were lost in the first half of
the year.

FIGURE 1:

Unemployment Rate
December 2009

Percent
1.4 - 6.4
6.5 - 8.3
8.4 - 10.0
10.1 - 12.3
12.4 - 27.7

Sources: Bureau of Labor Statistics, Haver Analytics
27

Most of the major metro areas also experienced weakness in their labor markets in 2009. The employment
contraction in the Charlotte Metropolitan Statistical Area,
home to many financial services firms, was the deepest of
the Fifth District’s major metro areas, losing 49,500 jobs
(5.8 percent of the total labor force) over the year. Most
of the job losses in Charlotte were in the first half of the
year, however; metro area firms cut only 2,200 jobs in
the second half of the year. Although some metro areas
regained jobs in the second half of the year, employment
in most Fifth District metro areas continued to contract
throughout 2009, albeit at a considerably slower pace.

Household Conditions
The economic environment continued to challenge Fifth
District households. The Fifth District unemployment
rate rose to 9.2 percent in 2009—one of the highest
rates on record for the region. Still, joblessness remained
in the single digits and thereby outperformed the nation,
which posted 10.0 percent unemployment in December.
Unemployment rates also rose in every Fifth District
jurisdiction during 2009. The District of Columbia, North
Carolina, and South Carolina all posted record unemployment rates in December (11.9 percent, 10.9 percent,
and 12.4 percent, respectively), with South Carolina
maintaining one of the five highest unemployment rates
in the country throughout 2009. Jobless rates in Maryland and Virginia were at their highest points since the
recession of the early 1980s (7.4 percent and 6.8 percent,
respectively) and West Virginia’s unemployment rate in
December (9.0 percent) was the highest it has been since
the early 1990s.

Housing Market and Commercial
Real Estate Conditions
The housing market slowdown that began in 2007 and
worsened in 2008 stabilized somewhat toward the end
of 2009, particularly in the northern areas of the Fifth
District. The increase in residential refinance activity
spurred by low interest rates gradually gave way to
increased purchase activity, particularly for low- and
middle-tier homes, as the year progressed. In the
District of Columbia, Maryland, and Virginia, house
values that had depreciated considerably throughout

28

2008 continued to trend downward in 2009, but the rate
of decline flattened. Existing home sales, meanwhile,
remained volatile, but began to stabilize or increase
toward the middle and the end of the year.
The housing situation in the Carolinas, however, was
slightly different. House prices remained relatively stable
in 2008, but housing conditions showed signs of weakness in 2009 as existing home sales fell and house values
began to depreciate at historic rates for those states.
Meanwhile, delinquency and foreclosure rates across
the Fifth District continued to rise to new records—a
phenomenon not expected to improve until house prices
and employment conditions stabilize fully.
Commercial real estate conditions also deteriorated in
2009. Both leasing and sales activity in the Fifth District
were depressed and very little new construction was
reported. Property and rental prices decreased and tenant concessions became increasingly common as office,
industrial, and retail vacancy rates rose in metro areas
across the region.

Business Conditions
Persistent economic uncertainty plagued Fifth District
businesses and consumers in the first half of 2009. But as
activity began to pick up (or at least decline at a slower
pace) toward the middle and end of the year, conditions
for regional firms improved.
Although export activity began to recover somewhat
in the Carolinas at the beginning of the year, exports
continued to fall through the first half of the year in
Maryland and Virginia. With domestic consumer demand
in decline, the Richmond Fed’s surveys on manufacturing activity continued to reach record lows through the
spring. By summer, however, conditions had improved
considerably for Fifth District manufacturers, who began
to express increased optimism about the future.
Services sector activity also began the year in contraction and although services firms continued to report
generally falling revenue through December, the decline
slowed substantially over the year. The decline in retail
revenues also seemed to flatten somewhat, although
the continued depressed sales of big-ticket items such as
automobiles and furniture kept the Richmond Fed’s retail
revenues survey index rather deep in negative territory

FIGURE 2:

Fifth District Payroll Employment
Year-over-Year Percent Change,
December 2008-December 2009
-2.6

Total
Mining and Construction
Manufacturing

-10.5
-8.2

-0.7

-5.1
-2.5
-3.0

Trade, Transportation & Utilities
-3.9

Information

-2.6

-3.3

Finance

-1.6

-1.8

-3.6

Professional & Business Services

0.4

Education & Health Services
Leisure & Hospitality

-1.1
-1.6

January through June

Other Services
-12.00

-9.0

-1.8
-6.0

1.2

0.6
0.2

Government
July through December

1.2

-0.8

-3.0

0.0

3.0

Sources: Bureau of Labor Statistics, Haver Analytics

until the final quarter of the year. Consumer traffic was
slow throughout 2009 but improved toward the end
of the year, and holiday sales in 2009 were better than
those in 2008.
The economic environment for small businesses has
been particularly difficult in this recession. That trend
continued in 2009. As in the rest of the country, small
businesses have seen sharp sales declines but, unlike
in earlier recessions, many small businesses in the Fifth
District responded by cutting employment. Obtaining
credit became more difficult for small businesses in
2009, according to a survey by the National Federation
of Independent Businesses, with most firms reporting
that credit is the tightest it has been since the 1980-82
recessionary period. However, despite the generally
widespread pessimism among small businesses in the
Fifth District in 2009, there were modest improvements
in expectations over the second half of the year.

economic conditions persisted throughout 2009. Even
now, continued weakness in commercial real estate markets and labor markets, as well as the limited optimism
still expressed among small business contacts, suggests
that the economic recovery might not be as strong or as
sharp as some had hoped. Furthermore, although the
Fifth District has generally performed better than the nation, the rebound in some sectors, such as manufacturing, appeared weaker locally than nationally toward the
end of 2009. Overall, there are signs that 2010 will be a
year of steady—albeit slow—growth in the Fifth District
economy as the region moves back to its pre-recession
levels.
The data presented and discussed are accurate as of
March 19, 2010.

Looking Ahead
The past year was not an easy one for the Fifth District
or for the nation. The national recession lasted well into
the year and although the deterioration ebbed, fragile

The Federal Reserve Bank of Richmond  2009 Annual Report

29

BOARDS OF DIRECTORS, ADVISORY GROUPS, AND OFFICERS

Federal Reserve Bank of Richmond Board of Directors.........................................................................................33
Baltimore Office Board of Directors .............................................................................................................................34
Charlotte Office Board of Directors..............................................................................................................................35
Small Business and Agriculture Advisory Council...................................................................................................36
Community Development Advisory Council.............................................................................................................37
Payments Advisory Council ............................................................................................................................................38
Management Committee and Officers........................................................................................................................40

30

The Federal Reserve Bank of Richmond  2009 Annual Report

BOARDS OF DIRECTORS, ADVISORY GROUPS, AND OFFICERS
Federal Reserve Bank of Richmond
Board of Directors

Small Business and Agriculture
Advisory Council

Our Richmond Board oversees the management of the
Bank and its Fifth District offices, provides timely business and economic information, participates in the formulation of national monetary and credit policies, and
serves as a link between the Federal Reserve System
and the private sector. The Board also has the responsibility of appointing the Bank’s president and first
vice president, with approval from the Federal Reserve
Board of Governors. Six directors are elected by banks
in the Fifth District that are members of the Federal
Reserve System, and three are appointed by the Board
of Governors.
The Bank’s board of directors annually appoints our
District representative to the Federal Advisory Council,
which consists of one member from each of the 12
Federal Reserve Districts. The Council meets four times
a year with the Board of Governors to consult on
business conditions and issues related to the banking
industry.

Established in 1985, the Small Business and Agriculture
Advisory Council advises the Bank president and other
senior officers on the impact that monetary, banking,
and fiscal policies have on the District’s small business
and agricultural sectors. The Council’s 12 members are
appointed by the Bank president.

Baltimore and Charlotte Offices
Boards of Directors
Our Baltimore and Charlotte Offices have separate
boards that oversee operations at their respective locations and, like our Richmond Board, contribute to policymaking and provide timely business and economic
information about the District. Four directors on each of
these boards are appointed by the Richmond directors,
and three are appointed by the Board of Governors.

Community Development
Advisory Council
Created in 1998 to enhance communication
between the Bank and the public concerning community development issues, our Community Development
Advisory Council advises the Bank president and other
senior officers on community development concerns
and related policy matters. The Council’s eight members are appointed by the Bank president.

Payments Advisory Council
The Bank established a Payments Advisory Council in
1978 as a forum for Fifth District financial institutions
to discuss current and emerging payment trends and
issues and to help the Federal Reserve respond to
financial institutions’ needs for payments services.
Council members are appointed by the Bank’s first
vice president.
Listings as of December 31, 2009

31

THANK YOU

Our Bank’s culture of integrity starts with our boards of directors. We are grateful for their guidance and their oversight
of the Bank’s operations. They provide valuable information on the Fifth District’s economy at our board meetings
and throughout the year at outreach activities and Bank sponsored events. We especially want to thank our directors
who have completed their service on our boards—Dwight V. Neese and Kenneth R. Sparks from the Richmond Board;
Michael L. Middleton from the Baltimore Board; and Michael C. Miller from the Charlotte Board.
We are pleased that in 2010 Lemuel E. Lewis will continue as chairman of the Richmond board of directors and
Margaret E. McDermid will continue as deputy chairman. We also welcome our new directors for 2010:
Wilbur E. Johnson and Richard J. Morgan on the Richmond Board; Anita G. Newcomb on the Baltimore Board;
and Lucia Z. Griffith on the Charlotte Board. Our directors’ contributions in the years ahead will be vital to the
continued economic recovery of our nation.

32

BOARD OF DIRECTORS FEDERAL RESERVE BANK OF RICHMOND
CHAIRMAN
Lemuel E. Lewis
President
LocalWeather.com
Suffolk, Virginia
DEPUTY CHAIRMAN
Margaret E. McDermid
Senior Vice President and
Chief Information Officer
Dominion Resources, Inc.
Richmond, Virginia
Dana S. Boole
President and
Chief Executive Officer
Community Affordable
Housing
Equity Corp.
Raleigh, North Carolina
Robert H. Gilliam, Jr.
President and
Chief Executive Officer
First National Bank
Altavista, Virginia
Patrick C. Graney, III
President
Petroleum Products, Inc.
Belle, West Virginia
Kelly S. King
Chief Executive Officer
BB&T Corporation
Winston-Salem,
North Carolina
Dwight V. Neese
Director, President,
and Chief Executive Officer
Provident Community Bank
and Provident Community
Bancshares, Inc.
Rock Hill, South Carolina
Linda D. Rabbitt
Chairman and
Chief Executive Officer
Rand Construction
Corporation
Alexandria, Virginia

Kenneth R. Sparks
President and
Chief Executive Officer
Ken Sparks Associates LLC
White Stone, Virginia
FEDERAL ADVISORY
COUNCIL REPRESENTATIVE
Kenneth D. Lewis
President and
Chief Executive Officer
Bank of America Corp.
Charlotte, North Carolina

The Federal Reserve Bank of Richmond  2009 Annual Report

33

BOARD OF DIRECTORS BALTIMORE BRANCH

CHAIRMAN
William R. Roberts
President - Verizon
Maryland/D.C.
Verizon Maryland Inc.
Baltimore, Maryland
Biana J. Arentz
President and
Chief Executive Officer
Hemingway’s Inc.
Stevensville, Maryland
Ronald Blackwell
Chief Economist
AFL-CIO
Washington, D.C.

34

James T. Brady
Managing Director,
Mid-Atlantic
Ballantrae International, Ltd.
Ijamsville, Maryland
William B. Grant
President and
Chief Executive Officer
First United Corp. and
First United Bank & Trust
Oakland, Maryland
Michael L. Middleton
Chairman and President
Community Bank of
Tri-County
Waldorf, Maryland

The Federal Reserve Bank of Richmond  2009 Annual Report

Jenny G. Morgan
President
basys, inc.
Linthicum, Maryland

BOARD OF DIRECTORS CHARLOTTE BRANCH

CHAIRMAN
Claude C. Lilly
Dean
College of Business and
Behavioral Science
Clemson University
Clemson, South Carolina
Linda L. Dolny
President
PML Associates, Inc.
Greenwood, South Carolina

Michael C. Miller
President and
Chief Executive Officer
FNB United Corp. and
CommunityONE Bank, N.A.
Asheboro, North Carolina

James H. Speed, Jr.
President and
Chief Executive Officer
North Carolina Mutual Life
Insurance Company
Durham, North Carolina

Barry L. Slider
President and
Chief Executive Officer
First South Bancorp, Inc.
and First South Bank
Spartanburg, South Carolina

David J. Zimmerman
President
Southern Shows, Inc.
Charlotte, North Carolina

John S. Kreighbaum
President and
Chief Executive Officer
Carolina Premier Bank
Charlotte, North Carolina

35

SMALL BUSINESS AND AGRICULTURE ADVISORY COUNCIL

Standing left to right:
R. Bryant; B. Lang;
W. Ditman; C. Nyholm; and D. Arnold
Seated left to right:
J. Tabb; R. Warren; and S. Cowart

CHAIRMAN
Jane Tabb
Secretary
Lyle C. Tabb & Sons, Inc.
Kearneysville, West Virginia

F. Guy Darby, Jr.
Owner/President
F. Guy Darby & Son Farm
Darby Oil Inc.
Chester, South Carolina

David Arnold
President
Class VI River Runners, Inc.
Lansing, West Virginia

William W. Ditman
Chairman Emeritus
Willow Construction, LLC
Easton, Maryland

Ronnie L. Bryant
President and
Chief Executive Officer
Charlotte Regional
Partnership
Charlotte, North Carolina

Barbara B. Lang
President and
Chief Executive Officer
DC Chamber of Commerce
Washington, D.C.

Martha Anne Clark
Owner
Clark’s Elioak Farm
Ellicott City, Maryland
S. Lake Cowart, Jr.
Vice President
Cowart Seafood Corp.
Lottsburg, Virginia

36

Connie G. Nyholm
Co-Owner/Managing Partner
VIRginia International
Raceway
Alton, Virginia
R. Gerald Warren
President
Warren Farming Co., Inc.
Warren Swine Farms
Newton Grove, North
Carolina

COMMUNITY DEVELOPMENT ADVISORY COUNCIL

CHAIRMAN
Jane N. Henderson
President
Virginia Community
Capital, Inc.
Christiansburg, Virginia
Shari Berenbach
President and
Chief Executive Officer
Calvert Social Investment
Foundation
Bethesda, Maryland
Tammie Hoy
Executive Director
Lowcountry Housing Trust
North Charleston,
South Carolina

T. K. Somanath
President and
Chief Executive Officer
Better Housing Coalition
Richmond, Virginia
Michael Stegman
Director
Policy & Housing
The John D. and
Catherine T. MacArthur
Foundation
Chicago, Illinois

Standing left to right:
D. Swinton; S. Berenbach; J. Henderson;
T. K. Somanath; and M. Scruggs
Seated left to right:
T. Hoy and C. Snuggs

David H. Swinton
President
Benedict College
Columbia, South Carolina

Marlo Scruggs
Vice President, Community
Development Specialist
BB&T
Charleston, West Virginia
Clarence J. Snuggs
Deputy Secretary
Maryland Department of
Housing and Community
Development
Crownsville, Maryland

The Federal Reserve Bank of Richmond  2009 Annual Report

37

PAYMENTS ADVISORY COUNCIL

Standing left to right:
D. Cook; T. Wilson; J. Russ; J. King;
S. Lilly; and R. Rhoads
Seated left to right:
G. Felton; M. Patterson; and
G. Youngblood

CHAIRMAN
Martin W. Patterson
Senior Vice President
SunTrust Banks
Richmond, Virginia

Jeff W. Dick
President and
Chief Executive Officer
MainStreet Bank
Herndon, Virginia

Linda J. Adams
Treasury Management
ACH Product Director
Capital One
Glen Allen, Virginia

Tim Dillow
Senior Vice President
Branch Banking and Trust
Wilson, North Carolina

Tanya A. Butts
Executive Vice President and
Chief Operations Officer
The South Financial Group
Lexington, South Carolina
R. Lee Clark
Executive Vice President
TowneBank
Suffolk, Virginia
Daniel O. Cook, Jr.
Executive Vice President and
Chief Operating Officer
Arthur State Bank
Union, South Carolina

38

Debra E. Droppleman
Chief Financial Officer
Fairmont Federal
Credit Union
Fairmont, West Virginia
Gerry Felton
Director
RBC Centura Bank
Rocky Mount, North Carolina
Robert J. Gerth
Group Vice President
M&T Bank
Baltimore, Maryland
Tina Giorgio
Senior Vice President
Sandy Spring Bank
Columbia, Maryland

The Federal Reserve Bank of Richmond  2009 Annual Report

Kenneth L. Greear
Executive Vice President
United Bank
Charleston, West Virginia
John J. King
President
MACHA - The Mid-Atlantic
Payments Association
Hanover, Maryland
Marie B. LaQuerre
Senior Vice President
Bank of America
Charlotte, North Carolina
E. Stephen Lilly
Senior Vice President and
Chief Operating Officer
First Community
Bancshares, Inc.
Bluefield, Virginia
Joan Lovern
Vice President
Virginia Bank & Trust Co.
Danville, Virginia

Rita B. Mielke
Vice President and
Chief Operating Officer
The Centreville National Bank
of Maryland
Centreville, Maryland
Patricia Muldoon
Senior Vice President and
Chief Operating Officer
Citizens National Bank of
Berkeley Springs
Berkeley Springs,
West Virginia
Stephen B. Perry
Senior Operations Officer and
Cashier
Virginia National Bank
Charlottesville, Virginia
Ralph Reardon
Senior Vice President and
Chief Financial Officer
Coastal Federal Credit Union
Raleigh, North Carolina
Rick Rhoads
Senior Vice President
State Employees’
Credit Union
Raleigh, North Carolina

Kenneth L. Richey
Director
Synovus Financial
Corporation
Columbia, South Carolina

Thomas Wilson
Senior Vice President and
Chief Financial Officer
Industrial Bank of Washington
Washington, D.C.

John Russ
President and
Chief Executive Officer
Community FirstBank of
Charleston
Charleston, South Carolina

Gayle Youngblood
Senior Operations Manager
State Employees Credit Union
Linthicum, Maryland

Standing left to right:
J. Dick; J. Lovern; T. Dillow; R. Gerth;
G. Sink; and D. Willis
Seated left to right:
L. Clark; T. Giorgio; and K. Greear

D. Gerald Sink
Senior Vice President
NewBridge Bank
Lexington, North Carolina
Karla Strosnider
Senior Vice President
Centra Bank, Inc.
Morgantown, West Virginia
William Swords
Senior Vice President
Wachovia Corporation
Atlanta, Georgia
David Willis
Vice President
Navy Federal Credit Union
Vienna, Virginia

39

MANAGEMENT COMMITTEE

Standing left to right:
R. Wetzel, Jr.; J. Clatterbuck; J. Weinberg;
S. Green; D. Beck; T. Cummings; J. Lacker;
C. MacSwain; M. Shuler; and M. Martin
Seated left to right:
V. Brugh, II; M. Gluck; and M. Alfriend

Jeffrey M. Lacker
President
Sarah G. Green
First Vice President
Malcolm C. Alfriend
Senior Vice President and
Chief Credit Risk Officer
David E. Beck
Senior Vice President and
Baltimore Regional Executive
Baltimore Office
Victor M. Brugh, II
Medical Director
Janice E. Clatterbuck
Senior Vice President
Tammy H. Cummings
Senior Vice President
Michelle H. Gluck
Senior Vice President and
General Counsel
Claudia N. MacSwain
Senior Vice President and
Chief Financial Officer

40

Matthew A. Martin
Senior Vice President and
Charlotte Regional Executive
Charlotte Office
Marsha S. Shuler
Senior Vice President
John A. Weinberg
Senior Vice President and
Director of Research
Robert E. Wetzel, Jr.
Senior Vice President and
General Auditor

OFFICERS
OFFICERS CONTINUED
Roland Costa
Vice President
Alan H. Crooker
Vice President
Constance B. Frudden
Vice President
A. Linwood Gill, III
Vice President
Howard S. Goldfine
Vice President
Bruce E. Grinnell
Vice President
Mattison W. Harris
Vice President
Andreas L. Hornstein
Vice President
Eugene W. Johnson, Jr.
Vice President
Malissa M. Ladd
Vice President
Ann B. Macheras
Vice President
Dennis G. McDonald
Vice President
P. A. L. Nunley
Deputy General Counsel
Lisa T. Oliva
Vice President
Edward S. Prescott
Vice President
Howard S. Whitehead
Vice President
Michael L. Wilder
Vice President and Controller
Becky C. Bareford
Assistant Vice President
Hattie R. C. Barley
Assistant Vice President
Granville Burruss
Assistant Vice President
John B. Carter, Jr.
Assistant Vice President
Todd E. Dixon
Assistant Vice President
Adam M. Drimer
Assistant Vice President
Daniel E. Elder
Assistant Vice President

Joan T. Garton
Assistant Vice President

Jeffrey K. Thomas
Assistant Vice President

Anne C. Gossweiler
Assistant Vice President

Sandra L. Tormoen
Assistant Vice President

Stephen J. Griffith
Assistant Vice President

Lauren E. Ware
Assistant Vice President

James K. Hayes
Assistant Vice President

Karen J. Williams
Assistant Vice President

Wendi L. Homza
Assistant Vice President

H. Julie Yoo
Assistant Vice President

Cathy I. Howdyshell
Assistant Vice President

Kimberly Zeuli
Assistant Vice President

Gregory A. Johnson
Assistant Vice President

BALTIMORE OFFICE

Mary S. Johnson
Assistant Vice President
James W. Lucas
Assistant Vice President
Steve V. Malone
Assistant Vice President
Randal C. Manspile
Assistant Vice President
Page W. Marchetti
Assistant Vice President
and Secretary
Jonathan P. Martin
Assistant Vice President
Andrew S. McAllister
Assistant Vice President

Steven T. Bareford
Assistant Vice President
Karen L. Brooks
Assistant Vice President and Baltimore
Deputy Regional Executive
Amy L. Eschman
Assistant Vice President
CHARLOTTE OFFICE
R. William Ahern
Vice President
Jennifer J. Burns
Vice President
Stacy L. Coleman
Vice President

William R. McCorvey, Jr.
Assistant General Counsel

Terry J. Wright
Vice President and Charlotte
Deputy Regional Executive

Diane H. McDorman
Assistant Vice President

Margaretta C. Blackwell
Assistant Vice President

Robert J. Minteer
Assistant Vice President

Christopher S. Cook
Assistant Vice President

Johnnie E. Moore
Assistant Vice President

T. Stuart Desch
Assistant Vice President

Susan Q. Moore
Assistant Vice President

Evangelos Sekeris
Assistant Vice President

Barbara J. Moss
Assistant Vice President

Kelly J. Stewart
Assistant Vice President

Edward B. Norfleet
Assistant Vice President

Richard F. Westerkamp, Jr.
Assistant Vice President

James T. Nowlin
Assistant Vice President

Lisa A. White
Assistant Vice President

Arlene S. Saunders
Assistant Vice President

Listings as of December 31, 2009

Rebecca J. Snider
Assistant Vice President

The Federal Reserve Bank of Richmond  2009 Annual Report

41

42

The Federal Reserve Bank of Richmond  2009 Annual Report

FINANCIAL STATEMENTS

Management Assertion ................................................................................................................................................... 44
Report of Independent Auditors .................................................................................................................................. 45
Comparative Financial Statements .............................................................................................................................. 48
Notes to Financial Statements ...................................................................................................................................... 51
In 2009, the Board of Governors engaged Deloitte & Touche LLP (D&T) for the audits of the individual and combined financial
statements of the Reserve Banks and the consolidated financial statements of the limited liability companies (LLCs) that are
associated with Federal Reserve actions to address the financial crisis and are consolidated in the financial statements of the
Federal Reserve Bank of New York. Fees for D&T’s services are estimated to be $9.6 million, of which approximately $2.0 million
were for the audits of the LLCs.1 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 Reserve Banks, or in any other way
impairing its audit independence. In 2009, the Bank did not engage D&T for any non-audit services.
1

Each LLC will reimburse the Board of Governors for the fees related to the audit of its financial statements from the entity’s available net assets.

43

MANAGEMENT ASSERTION
April 21, 2010

To the Board of Directors:
The management of the Federal Reserve Bank of Richmond (“FRB Richmond”) is responsible for the preparation
and fair presentation of the Statements of Condition, Statements of Income and Comprehensive Income, and
Statements of Changes in Capital as of December 31, 2009 (the “Financial Statements”). The Financial Statements
have been prepared in conformity with the accounting principles, policies, and practices established by the Board
of Governors of the Federal Reserve System as set forth in the Financial Accounting Manual for the Federal Reserve
Banks (“Manual”), and, as such, include some amounts that are based on management judgments and estimates. To
our knowledge, the Financial Statements are, in all material respects, fairly presented in conformity with the
accounting principles, policies, and practices documented in the Manual and include all disclosures necessary for
such fair presentation.
The management of the FRB Richmond is responsible for establishing and maintaining effective internal control
over financial reporting as it relates to the Financial Statements. Such internal control is designed to provide
reasonable assurance to management and to the Board of Directors regarding the preparation of the Financial
Statements in accordance with the Manual. Internal control contains self-monitoring mechanisms, including,
but not limited to, divisions of responsibility and a code of conduct. Once identified, any material deficiencies in
internal control are reported to management and appropriate corrective measures are implemented.
Even effective internal control, no matter how well designed, has inherent limitations, including the possibility
of human error, and therefore can provide only reasonable assurance with respect to the preparation of reliable
financial statements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the degree of compliance with
the policies or procedures may deteriorate.
The management of the FRB Richmond assessed its internal control over financial reporting reflected in the
Financial Statements, based upon the criteria established in the “Internal Control—Integrated Framework”
issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment,
we believe that the FRB Richmond maintained effective internal control over financial reporting as it relates to the
Financial Statements.

Federal Reserve Bank of Richmond

Jeffrey M. Lacker
President

44

Sarah G. Green
First Vice President

Claudia N. MacSwain
Senior Vice President and
Chief Financial Officer

REPORT OF INDEPENDENT AUDITORS
To the Board of Governors of the Federal Reserve System
and the Board of Directors of the Federal Reserve Bank of Richmond:
We have audited the accompanying statements of condition of the Federal Reserve Bank of Richmond (“FRB
Richmond”) as of December 31, 2009 and 2008 and the related statements of income and comprehensive income
and changes in capital for the years then ended, which have been prepared in conformity with accounting principles
established by the Board of Governors of the Federal Reserve System. We also have audited the internal control over
financial reporting of FRB Richmond as of December 31, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. FRB Richmond’s management is responsible for these financial statements, for maintaining effective internal control over
financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in
the accompanying Management Assertion. Our responsibility is to express an opinion on these financial statements
and an opinion on FRB Richmond’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with generally accepted auditing standards as established by the
Auditing Standards Board (United States) and in accordance with the auditing standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial
statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included
obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness
exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed
risk. Our audits also included performing such other procedures as we considered necessary in the circumstances.
We believe that our audits provide a reasonable basis for our opinions.
FRB Richmond’s internal control over financial reporting is a process designed by, or under the supervision of,
FRB Richmond’s principal executive and principal financial officers, or persons performing similar functions, and
effected by FRB Richmond’s board of directors, management, and other personnel to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes
in accordance with the accounting principles established by the Board of Governors of the Federal Reserve System.
FRB Richmond’s internal control over financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions
of the assets of FRB Richmond; (2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with the accounting principles established by the Board
of Governors of the Federal Reserve System, and that receipts and expenditures of FRB Richmond are being made
only in accordance with authorizations of management and directors of FRB Richmond; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of FRB
Richmond’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of
collusion or improper management override of controls, material misstatements due to error or fraud may not be
prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal
(continued)

The Federal Reserve Bank of Richmond  2009 Annual Report

45

REPORT OF INDEPENDENT AUDITORS (continued)
control over financial reporting to future periods are subject to the risk that the controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As described in Note 4 to the financial statements, FRB Richmond has prepared these financial statements in
conformity with accounting principles established by the Board of Governors of the Federal Reserve System, as set
forth in the Financial Accounting Manual for Federal Reserve Banks, which is a comprehensive basis of accounting
other than accounting principles generally accepted in the United States of America. The effects on such financial
statements of the differences between the accounting principles established by the Board of Governors of the
Federal Reserve System and accounting principles generally accepted in the United States of America are also
described in Note 4.
In our opinion, such financial statements present fairly, in all material respects, the financial position of
FRB Richmond as of December 31, 2009 and 2008, and the results of its operations for the years then ended,
on the basis of accounting described in Note 4. Also, in our opinion, FRB Richmond maintained, in all material
respects, effective internal control over financial reporting as of December 31, 2009, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission.

Deloitte & Touche LLP
April 21, 2010
Richmond, Virginia

46

The Federal Reserve Bank of Richmond  2009 Annual Report

47

STATEMENTS OF CONDITION (in millions)
As of December 31,
Assets
Gold certificates
Special drawing rights certificates
Coin
Items in process of collection
Prepaid interest on Federal Reserve notes
Loans to depository institutions
System Open Market Account:
Securities purchased under agreements to resell
Treasury securities, net
Government-sponsored enterprise debt securities, net
Federal agency and government-sponsored enterprise mortgage-backed
securities, net
Investments denominated in foreign currencies
Central bank liquidity swaps
Accrued interest receivable
Interdistrict settlement account
Bank premises and equipment, net
Other assets
Total assets
Liabilities and Capital
Federal Reserve notes outstanding, net
System Open Market Account:
Securities sold under agreements to repurchase
Other liabilities
Deposits:
Depository institutions
Other deposits
Deferred credit items
Interdistrict settlement account
Interest due to depository institutions
Accrued benefit costs
Other liabilities
Total liabilities
Capital paid-in
Surplus (including accumulated other comprehensive loss of
$42 million and $47 million at December 31, 2009 and 2008, respectively)
Total capital
Total liabilities and capital
The accompanying notes are an integral part of these financial statements.
48

2009
$

882
412
293
10
305
1,097

2008
$

891
147
233
41
70
75,582

—
29,045
6,031

7,254
43,657
1,881

33,115
7,171
2,915
457
111,074
325
73
$ 193,205

—
6,717
149,945
925
—
332
92
$ 287,767

$ 72,384

$ 69,220

2,801
22

8,012
—

103,288
71
73
—
20
215
51
178,925
7,140

34,056
90
172
163,991
16
201
49
275,807
5,980

7,140
14,280

5,980
11,960

$ 193,205

$ 287,767

STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (in millions)
For the years ended December 31,
Interest Income
Loans to depository institutions
System Open Market Account:
Securities purchased under agreements to resell
Treasury securities
Government-sponsored enterprise debt securities
Federal agency and government-sponsored enterprise mortgage-backed securities
Investments denominated in foreign currencies
Central bank liquidity swaps

2009

2008

$

$

102

389

1
1,082
87
812
84
608

170
2,277
9
—
168
976

2,776

3,989

6
407

66
133

413

199

2,363

3,790

—

332

15

—

60
33
37
69

341
48
31
75

214

827

306
41
55
153
(98)

295
39
55
140
(132)

457
2,120
5

397
4,220
3

Comprehensive income prior to distribution
Distribution of Comprehensive Income
Dividends paid to member banks
Transferred to surplus and change in accumulated other comprehensive loss
Payments to Treasury as interest on Federal Reserve notes

$ 2,125

$ 4,223

$

$

Total distribution

$ 2,125

Total interest income
Interest Expense
System Open Market Account:
Securities sold under agreements to repurchase
Depository institution deposits
Total interest expense
Net interest income
Non-interest Income
System Open Market Account:
Treasury securities gains
Federal agency and government-sponsored enterprise mortgage-backed
securities gains, net
Foreign currency gains, net
Compensation received for services provided
Reimbursable services to government agencies
Other income
Total non-interest income
Operating Expenses
Salaries and other benefits
Occupancy expense
Equipment expense
Assessments by the Board of Governors
Other credits
Total operating expenses
Net income prior to distribution
Change in funded status of benefit plans

396
1,160
569

318
984
2,921

$ 4,223

The accompanying notes are an integral part of these financial statements.
The Federal Reserve Bank of Richmond  2009 Annual Report

49

STATEMENTS OF CHANGES IN CAPITAL (in millions, except share data)
Surplus
For the years ended
December 31, 2009 and
December 31, 2008
Balance at January 1, 2008
(99,919,586 shares)
Net change in capital stock issed
(19,683,498 shares)
Transferred to surplus and
change in accumulated other
comprehensive loss
Balance at December 31, 2008
(119,603,084 shares)
Net change in capital stock issued
(23,190,361 shares)
Transferred to surplus and
change in accumulated other
comprehensive loss
Balance at December 31, 2009
(142,793,445 shares)

Capital
Paid -In

Net Income
Retained

Accumulated
Other
Comprehensive
Loss
Total Surplus Total Capital
(50)

$ 5,046

984

—

—

—

984

—

981

3

984

984

$ 5,980

$ 6,027

$ 5,980

$ 11,960

1,160

—

—

—

1,160

—

1,155

5

1,160

1,160

$ 7,140

$ 7,182

$ 7,140

$ 14,280

The accompanying notes are an integral part of these financial statements.
50

$

$ 4,996

The Federal Reserve Bank of Richmond  2009 Annual Report

$

$

(47)

(42)

$ 4,996

$

9,992

NOTES TO FINANCIAL STATEMENTS

1. Structure
The Federal Reserve Bank of Richmond (“Bank”) is part of the Federal Reserve System (“System”) and is one of the
twelve Federal 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 serves the Fifth Federal Reserve District, which includes Maryland, North Carolina, South Carolina, Virginia,
District of Columbia, and portions of West Virginia.
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. 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.
In addition to the twelve Reserve Banks, 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. These functions include participating in
formulating and conducting monetary policy; participating in the payments system, including large-dollar
transfers of funds, automated clearinghouse (“ACH”) operations, and check collection; distributing coin and
currency; performing fiscal agency functions for the U.S. Department of the Treasury (“Treasury”), certain Federal
agencies, and other entities; serving as the federal government’s bank; providing short-term loans to depository
institutions; providing loans to individuals, partnerships, and corporations in unusual and exigent circumstances;
serving consumers and communities by providing educational materials and information regarding financial
consumer protection rights and laws and information on community development programs and activities;
and supervising 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 conducting monetary policy, establishes policy regarding domestic open market operations,
oversees these operations, and annually issues authorizations and directives to the FRBNY to execute transactions.
The FOMC authorizes and directs the FRBNY to conduct operations in domestic markets, including the direct purchase and sale of Treasury securities, Federal agency and government-sponsored enterprise (“GSE”) debt securities,
Federal agency and GSE mortgage-backed securities (“MBS”), the purchase of these securities under agreements
to resell, and the sale of these securities under agreements to repurchase. The FRBNY executes these transactions
at the direction of the FOMC and holds the resulting securities and agreements in a portfolio known as the System
Open Market Account (“SOMA”). The FRBNY is authorized to lend the Treasury securities and Federal agency and
GSE debt securities that are held in the SOMA.

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NOTES TO FINANCIAL STATEMENTS
In addition to authorizing and directing operations in the domestic securities market, the FOMC authorizes the
FRBNY to execute operations in foreign markets in order to counter disorderly conditions in exchange markets or
to meet other needs specified by the FOMC to carry out the System’s central bank responsibilities. Specifically, the
FOMC authorizes and directs the FRBNY to hold balances of, and to execute spot and forward foreign exchange and
securities contracts for, fourteen foreign currencies and to invest such foreign currency holdings, while maintaining
adequate liquidity. The FRBNY is authorized and directed by the FOMC to maintain reciprocal currency arrangements (“FX swaps”) with two central banks and to “warehouse” foreign currencies for the Treasury and the Exchange
Stabilization Fund (“ESF”). The FRBNY is also authorized and directed by the FOMC to maintain U.S. dollar currency
liquidity swap arrangements with fourteen central banks. The FOMC has also authorized the FRBNY to maintain
foreign currency liquidity swap arrangements with four foreign central banks.
Although the Reserve Banks are separate legal entities, they collaborate in the delivery of certain services to
achieve greater efficiency and effectiveness. This 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
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 reimbursed for costs incurred in providing services to other Reserve Banks. Major
services provided by the Bank on behalf of the System and for which the costs were not reimbursed by the other
Reserve Banks include Standard Cash Automation, Currency Technology Office, IT Transformation Initiatives, Enterprise-wide Security Projects, Enterprise Security Operations Coordination, the Payroll Central Business Administration
Function, Daylight Overdraft Reporting and Pricing, and the National Procurement Office. Costs are, however, redistributed to the other Reserve Banks for computing and support services the Bank provides for the System. The Bank’s
total reimbursement for these services was $261 million and $301 million for the years ended December 31, 2009
and 2008, respectively, and is included in “Other credits” on the Statements of Income and Comprehensive Income.

3. Financial Stability Activities
The Reserve Banks have implemented the following programs that support the liquidity of financial institutions
and foster improved conditions in financial markets.

Expanded Open Market Operations and Support for Mortgage Related Securities
The Single-Tranche Open Market Operation Program allows primary dealers to initiate a series of 28-day term
repurchase transactions while pledging Treasury securities, Federal agency and GSE debt securities, and Federal
agency and GSE MBS as collateral.
The Federal Agency and GSE Debt Securities and MBS Purchase Program provides support to the mortgage and
housing markets and fosters improved conditions in financial markets. Under this program, the FRBNY purchases
housing-related GSE debt securities and Federal agency and GSE MBS. Purchases of housing-related GSE debt securities began in November 2008 and purchases of Federal agency and GSE MBS began in January 2009. The FRBNY is authorized to purchase up to $200 billion in fixed rate, non-callable GSE debt securities and up to $1.25 trillion in fixed
rate Federal agency and GSE MBS. The activities of both of these programs are allocated to the other Reserve Banks.

Central Bank Liquidity Swaps
The FOMC authorized and directed the FRBNY to establish central bank liquidity swap arrangements, which
may be structured as either U.S. dollar liquidity or foreign currency liquidity swap arrangements.
U.S. dollar liquidity swap arrangements were authorized with fourteen foreign central banks to provide
liquidity in U.S. dollars to overseas markets. Such arrangements were authorized with the following central banks:

52

NOTES TO FINANCIAL STATEMENTS
the Reserve Bank of Australia, the Banco Central do Brasil, the Bank of Canada, Danmarks Nationalbank, the Bank of
England, the European Central Bank, the Bank of Japan, the Bank of Korea, the Banco de Mexico, the Reserve Bank
of New Zealand, Norges Bank, the Monetary Authority of Singapore, the Sveriges Riksbank, and the Swiss National
Bank. The maximum amount that could be drawn under these swap arrangements varied by central bank.
The authorization for these swap arrangements expired on February 1, 2010.
Foreign currency liquidity swap arrangements provided the Reserve Banks with the capacity to offer foreign
currency liquidity to U.S. depository institutions. Such arrangements were authorized with the Bank of England, the
European Central Bank, the Bank of Japan, and the Swiss National Bank. The maximum amount that could be drawn
under the swap arrangements varied by central bank. The authorization for these swap arrangements expired on
February 1, 2010.

Lending to Depository Institutions
The Term Auction Facility (“TAF”) promotes the efficient dissemination of liquidity by providing term funds to
depository institutions. Under the TAF, Reserve Banks auction term funds to depository institutions against any
collateral eligible to secure primary, secondary, and seasonal credit less a margin, which is a reduction in the
assigned collateral value that is intended to provide the Banks additional credit protection. All depository
institutions that are considered to be in generally sound financial condition by their Reserve Bank and that are
eligible to borrow under the primary credit program are eligible to participate in TAF auctions. All loans must be
collateralized to the satisfaction of the Reserve Banks.

Lending to Primary Dealers
The Term Securities Lending Facility (“TSLF”) promoted liquidity in the financing markets for Treasury securities.
Under the TSLF, the FRBNY could lend up to an aggregate amount of $200 billion of Treasury securities held in
the SOMA to primary dealers secured for a term of 28 days. Securities were lent to primary dealers through a
competitive single-price auction and were collateralized, less a margin, by a pledge of other securities, including
Treasury securities, municipal securities, Federal agency and GSE MBS, non-agency AAA/Aaa-rated private-label
residential MBS, and asset-backed securities (“ABS”). The authorization for the TSLF expired on February 1, 2010.
The Term Securities Lending Facility Options Program (“TOP”) offered primary dealers, through a competitive
single-price auction, to purchase an option to draw upon short-term, fixed-rate TSLF loans in exchange for eligible
collateral. The program enhanced the effectiveness of the TSLF by ensuring additional liquidity during periods of
heightened collateral market pressures, such as around quarter-end dates. The program was suspended effective
with the maturity of the June 2009 TOP options and the program authorization expired on February 1, 2010.

Other Lending Facilities
The Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (“AMLF”) provided funding to
depository institutions and bank holding companies to finance the purchase of eligible high-quality asset-backed
commercial paper (“ABCP”) from money market mutual funds. The program assisted money market mutual funds
that hold such paper to meet the demands for investor redemptions and to foster liquidity in the ABCP market
and money markets more generally. The Federal Reserve Bank of Boston (“FRBB”) administered the AMLF and was
authorized to extend these loans to eligible borrowers on behalf of the other Reserve Banks. All loans extended
under the AMLF were non-recourse and were recorded as assets by the FRBB, and if the borrowing institution
settles to a depository account in the Fifth Federal Reserve District, the funds were credited to the depository
institution account and settled between the Reserve Banks through the interdistrict settlement account. The credit
risk related to the AMLF was assumed by the FRBB. The authorization for the AMLF expired on February 1, 2010.

The Federal Reserve Bank of Richmond  2009 Annual Report

53

NOTES TO FINANCIAL STATEMENTS
Bank of America Corporation
The Board of Governors, the Treasury, and the FDIC (“parties”) jointly announced on January 15, 2009 that they
would provide financial support to Bank of America Corporation (“Bank of America”). Under this arrangement,
the Bank would have provided funding support for possible future principal losses relating to a designated pool
of up to $118 billion of financial instruments. The Bank’s commitment under the arrangement was to provide
non-recourse loans to Bank of America if, and when, qualifying losses of $18 billion were recorded in the pool. On
September 21, 2009, however, the parties announced that they had reached an agreement with Bank of America to
terminate the agreement. As part of the termination of the agreement, Bank of America paid $57 million in compensation for out-of-pocket expenses incurred by the Bank and an amount equal to the commitment fees required
by the agreement.

4. Significant Accounting Policies
Accounting principles for entities with the unique powers and responsibilities of a 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.
These accounting principles and practices are documented in the Financial Accounting Manual for Federal Reserve
Banks (“Financial Accounting Manual” or “FAM”), which is issued by the Board of Governors. The Reserve Banks are
required to adopt and apply accounting policies and practices that are consistent with the FAM and the financial
statements have been prepared in accordance with the FAM.
Limited differences exist between the accounting principles and practices in the FAM 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 SOMA securities
holdings at amortized cost rather than the fair value presentation required by GAAP. Treasury securities, GSE debt
securities, Federal agency and GSE MBS, and investments denominated in foreign currencies comprising the SOMA
are recorded at cost, on a settlement-date basis rather than the trade-date basis required by GAAP. The cost basis of
Treasury securities, GSE debt securities, and foreign government debt instruments is adjusted for amortization of
premiums or accretion of discounts on a straight-line basis. Amortized cost more appropriately reflects the Bank’s
securities holdings given the System’s unique responsibility to conduct monetary policy. Accounting for these securities on a settlement-date basis more appropriately reflects the timing of the transaction’s effect on the quantity of
reserves in the banking system. Although the application of fair value measurements to the securities holdings may
result in values substantially above or below their carrying values, these unrealized changes in value 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 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, fair values, earnings, and 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. 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 FAM and GAAP.

54

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS
Preparing the financial statements in conformity with the FAM requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities
at the date of the financial statements, and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates. Certain amounts relating to the prior year have been reclassified
to conform to the current-year presentation. Unique accounts and significant accounting policies are explained below.

a. Gold and Special Drawing Rights Certificates
The Secretary of the 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 Treasury. The gold certificates held by the Reserve Banks are required to be backed
by the gold of the Treasury. The Treasury may reacquire the gold certificates at any time and the Reserve Banks must
deliver them to the Treasury. At such time, the 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 per fine
troy ounce. The Board of Governors allocates the gold certificates among the 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 (the “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 U.S. participation in the SDR system, the Secretary of the Treasury is authorized to issue SDR certificates to the
Reserve Banks. When SDR certificates are issued to the Reserve Banks, equivalent amounts in U.S. dollars are credited to the account established for the Treasury and the Reserve Banks’ SDR certificate accounts are increased. The
Reserve Banks are required to purchase SDR certificates, at the direction of the 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 the 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 2008, and in 2009 the
Treasury issued $3 billion in SDR certificates to the Reserve Banks, of which $265 million was allocated to the Bank.

b. Loans to Depository Institutions
Loans are reported at their outstanding principal balances and interest income is recognized on an accrual basis.
Loans are impaired when, based on current information and events, it is probable that the Bank will not receive
the principal or interest that is due in accordance with the contractual terms of the loan agreement. Loans are evaluated to determine whether an allowance for loan loss is required. The Bank has developed procedures for assessing
the adequacy of any allowance for loan losses using all available information to reflect the assessment of credit risk.
This assessment includes monitoring information obtained from banking supervisors, borrowers, and other sources
to assess the credit condition of the borrowers and, as appropriate, evaluating collateral values for each program.
Generally, the Bank discontinues recognizing interest income on impaired loans until the borrower’s repayment performance demonstrates principal and interest will be received in accordance with the term of the loan agreement.
If the Bank discontinues recording interest on an impaired loan, cash payments are first applied to principal until
the loan balance is reduced to zero; subsequent payments are applied as recoveries of amounts previously deemed
uncollectible, if any, and then as interest income.

55

NOTES TO FINANCIAL STATEMENTS
c. Securities Purchased Under Agreements to Resell, Securities Sold Under Agreements to
Repurchase, and Securities Lending
The FRBNY may engage in purchases of securities with primary dealers under agreements to resell (“repurchase
transactions”). These repurchase transactions are typically executed through a tri-party arrangement (“tri-party
transactions”). Tri-party transactions are conducted with two commercial custodial banks that manage the clearing,
settlement, and pledging of collateral. The collateral pledged must exceed the principal amount of the transaction.
Acceptable collateral under tri-party repurchase transactions primarily includes Treasury securities; pass-through
mortgage securities of Fannie Mae, Freddie Mac, and Ginnie Mae; STRIP Treasury securities; and “stripped” securities of Federal agencies. The tri-party transactions are accounted for as financing transactions with the associated
interest income accrued over the life of the transaction. Repurchase transactions are reported at their contractual
amount as “System Open Market Account: Securities purchased under agreements to resell” in the Statements of
Condition and the related accrued interest receivable is reported as a component of “Accrued interest receivables.”
The FRBNY may engage in sales of securities with primary dealers under agreements to repurchase (“reverse
repurchase transactions”). These reverse repurchase transactions may be executed through a tri-party arrangement,
similar to repurchase transactions. Reverse repurchase transactions may also be executed with foreign official and
international accounts. Reverse repurchase transactions are accounted for as financing transactions, and the associated interest expense is recognized over the life of the transaction. These transactions are reported at their contractual amounts in the Statements of Condition and the related accrued interest payable is reported as a component
of “Other liabilities.”
Treasury securities and GSE debt securities held in the SOMA are lent to primary dealers to facilitate the effective
functioning of the domestic securities market. Overnight securities lending transactions are fully collateralized by
other Treasury securities. TSLF transactions are fully collateralized with investment-grade debt securities, collateral
eligible for tri-party repurchase agreements arranged by the FRBNY, or both. The collateral taken in both overnight
and term securities lending transactions is in excess of the fair value of the securities lent. The FRBNY charges the
primary dealer a fee for borrowing securities, and these fees are reported as a component of “Other income.”
In addition, TOP fees are reported as a component of “Other income.”
Activity related to securities purchased under agreements to resell, 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 that occurs in April each year. The settlement also equalizes
Reserve Bank gold certificate holdings to Federal Reserve notes outstanding in each District.

d. Treasury Securities; Government-Sponsored Enterprise Debt Securities; Federal Agency and
Government-Sponsored Enterprise Mortgage-Backed Securities; Investments Denominated in
Foreign Currencies; and Warehousing Agreements
Interest income on Treasury securities, GSE debt securities, and investments denominated in foreign currencies
comprising the SOMA is accrued on a straight-line basis. Interest income on Federal agency and GSE MBS is accrued
using the interest method and includes amortization of premiums, accretion of discounts, and paydown gains or
losses. Paydown gains or losses result from scheduled payment and prepayment of principal and represent the
difference between the principal amount and the carrying value of the related security. Gains and losses resulting
from sales of securities are determined by specific issue based on average cost.
In addition to outright purchases of Federal agency and GSE MBS that are held in the SOMA, the FRBNY enters
into dollar roll transactions (“dollar rolls”), which primarily involve an initial transaction to purchase or sell “to be
announced” (“TBA”) MBS combined with an agreement to sell or purchase TBA MBS on a specified future date. The
FRBNY’s participation in the dollar roll market furthers the MBS Purchase Program goal of providing support to the

56

NOTES TO FINANCIAL STATEMENTS
mortgate and housing markets and fostering improved conditions in financial markets. The FRBNY accounts for
outstanding commitments to sell or purchase TBA MBS on a settlement-date basis. Based on the terms of the FRBNY
dollar roll transactions, transfers of MBS upon settlement of the intitial TBA MBS transactions are accounted for as
purchases or sales in accordance with FASB ASC Topic 860 (ASC 860), Accounting for Transfers of Financial Assets and
Repurchase Financing Transactions, (previously SFAS 140), and the related outstanding commitments are accounted
for as sales or purchases upon settlement.
Activity related to Treasury securities, GSE debt securities, and Federal agency and GSE MBS, including the
premiums, discounts, and realized 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, including the premiums, discounts,
and realized and unrealized gains and losses, 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.
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 or losses, net” in the Statements of Income and
Comprehensive Income.
Warehousing is an arrangement under which the FOMC agrees to exchange, at the request of the Treasury,
U.S. dollars for foreign currencies held by the Treasury or ESF over a limited period of time. The purpose of the
warehousing facility is to supplement the U.S. dollar resources of the Treasury and ESF for financing purchases of
foreign currencies and related international operations.
Warehousing agreements are designated as held-for-trading purposes and are valued daily at current market
exchange rates. Activity related to these agreements 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.

e. Central Bank Liquidity Swaps
Central bank liquidity swaps, which are transacted between the FRBNY and a foreign central bank, may be
structured as either U.S. dollar liquidity or foreign currency liquidity swap arrangements.
Activity related to U.S. dollar and foreign currency swap transactions, including the related income and expense,
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. Similar to investments denominated in foreign currencies, the foreign
currency amounts associated with these central bank liquidity swap arrangements are revalued at current foreign
currency market exchange rates.

U.S. dollar liquidity swaps
At the initiation of each U.S. dollar liquidity swap transaction, the foreign central bank transfers a specified amount
of its currency to a restricted account for the FRBNY in exchange for U.S. dollars at the prevailing market exchange
rate. Concurrent with this transaction, the FRBNY and the foreign central bank agree to a second transaction that
obligates the foreign central bank to return the U.S. dollars and the FRBNY to return the foreign currency on a
specified future date at the same exchange rate as the initial transaction. The Bank’s allocated portion of the
foreign currency amounts that the FRBNY acquires is reported as “Central bank liquidity swaps” on the Statements
of Condition. Because the swap transaction will be unwound at the same U.S. dollar amount and exchange rate that
were used in the initial transaction, the recorded value of the foreign currency amounts is not affected by changes
in the market exchange rate.

The Federal Reserve Bank of Richmond  2009 Annual Report

57

NOTES TO FINANCIAL STATEMENTS
The foreign central bank compensates the FRBNY based on the foreign currency amounts held for the FRBNY.
The FRBNY recognizes compensation during the term of the swap transaction and reports it as “Interest income:
Central bank liquidity swaps” in the Statements of Income and Comprehensive Income.

Foreign currency liquidity swaps
At the initiation of each foreign currency liquidity swap transaction, the FRBNY will transfer, at the prevailing
market exchange rate, a specified amount of U.S. dollars to an account for the foreign central bank in exchange for
its currency. The foreign currency amount received would be reported as a liability by the Bank. Concurrent with
this transaction, the FRBNY and the foreign central bank agree to a second transaction that obligates the FRBNY
to return the foreign currency and the foreign central bank to return the U.S. dollars on a specified future date.
The FRBNY compensates the foreign central bank based on the foreign currency transferred to the FRBNY. For each
foreign currency swap transaction with a foreign central bank, it is anticipated that the FRBNY will enter into a
corresponding transaction with a U.S. depository institution in order to provide foreign currency liquidity to that
institution. No foreign currency liquidity swap transactions occurred in 2008 or 2009.

f. Interdistrict Settlement Account
At the close of business each day, each Reserve Bank aggregates the payments due to or from other Reserve Banks.
These payments result from transactions between the 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.

g. 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, whether developed internally or acquired
for internal use, are capitalized based on the purchase cost and the cost of direct services and materials associated
with designing, coding, installing, and testing the software. Capitalized software costs are amortized on a straightline 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 and an adjustment is recorded when events or changes in circumstances indicate that the carrying amount
of assets or asset groups is not recoverable and significantly exceeds the assets’ fair value.

h. Federal Reserve Notes
Federal Reserve notes are the circulating currency of the United States. These notes, which are identified as issued
to a specific Reserve Bank, must be fully collateralized. 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.

58

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS
The Board of Governors may, at any time, call upon a Reserve Bank for additional security to adequately collateralize the outstanding 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, 2009 and 2008, 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 $10,026 million and $11,552 million at December 31,
2009 and 2008, 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.
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 one-half 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 be deducted from net earnings, dividends are presented as a distribution of comprehensive
income in the Statements of Income and Comprehensive Income.

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. 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 other postretirement benefit plans
that, under GAAP, 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 12 and 13.

l. Interest on Federal Reserve Notes
The Board of Governors requires the Reserve Banks to transfer excess earnings to the 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. The amount due to the

59

NOTES TO FINANCIAL STATEMENTS
Treasury is reported as “Accrued interest on Federal Reserve notes” in the Statements of Condition. If overpaid
during the year, the amount is reported as “Prepaid interest on Federal Reserve notes” in the Statements of Condition.
Payments are made weekly to the Treasury.
In the event of losses or an increase in capital paid-in at a Reserve Bank, payments to the 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 Treasury in the following year.

m. Interest on Depository Institution Deposits
On October 9, 2008, the Reserve Banks began paying interest to depository institutions on qualifying balances held
at the Banks. The interest rates paid on required reserve balances and excess balances are determined by the Board
of Governors, based on an FOMC-established target range for the effective federal funds rate.

n. Income and Costs Related to Treasury Services
The Bank is required by the Federal Reserve Act to serve as fiscal agent and depositary of the United States Government. By statute, the Department of the Treasury has appropriations to pay for these services. During the years
ended December 31, 2009 and 2008, the Bank was reimbursed for all services provided to the Department of the
Treasury as its fiscal agent.

o. 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 of Income and Comprehensive Income. Similarly, the FRBNY manages the Reserve Banks’
provision of Fedwire funds and securities services and recognizes total System revenue for these services on its
Consolidated Statements of Income and Comprehensive Income. The FRBA and the FRBNY compensate the
applicable 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.

p. 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 by the Treasury to produce 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.

q. 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, 2009 and 2008, and are reported as a
component of “Occupancy expense.”

r. 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 associat-

60

NOTES TO FINANCIAL STATEMENTS
ed with employee separations, contract terminations, and asset impairments. 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 14 describes the Bank’s restructuring initiatives and provides information about the costs and liabilities
associated with employee separations and contract terminations. The costs associated with the impairment of
certain of the Bank’s assets are discussed in Note 9. 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.
The Bank had no significant restructuring activities in 2009.

s. Recently Issued Accounting Standards
In February 2008, FASB issued FSP SFAS 140-3, Accounting for Transfers of Financial Assets and Repurchase
Financing Transactions, (codified in FASB ASC Topic 860 (ASC 860), Transfers and Servicing). ASC 860 requires that an
initial transfer of a financial asset and a repurchase financing that was entered into contemporaneously with, or in
contemplation of, the initial transfer be evaluated together as a linked transaction unless certain criteria are met.
These provisions of ASC 860 are effective for the Bank’s financial statements for the year beginning on January 1,
2009 and have not had a material effect on the Bank’s financial statements. The requirements of this standard have
been reflected in the accompanying footnotes.
In June 2009, FASB issued SFAS 166, Accounting for Transfers of Financial Assets – an amendment to FASB
Statement No. 140, (codified in ASC 860). The new guidance modifies existing guidance to eliminate the scope
exception for qualifying special purpose vehicles (“SPVs”) and clarifies that the transferor must consider all arrangements of the transfer of financial assets when determining if the transferor has surrendered control. These provisions of ASC 860 are effective for the Bank’s financial statements for the year beginning on January 1, 2010, and
earlier adoption is prohibited. The adoption of this standard is not expected to have a material effect on the Bank’s
financial statements.
In May 2009, FASB issued SFAS No. 165, Subsequent Events, (codified in FASB ASC Topic 855 (ASC 855), Subsequent
Events), which establishes general standards of accounting for and disclosing events that occur after the balance
sheet date but before financial statements are issued or are available to be issued. ASC 855 sets forth (i) the period
after the balance sheet date during which management of a reporting entity should evaluate events or transactions
that may occur for potential recognition or disclosure in the financial statements; (ii) the circumstances under which
an entity should recognize events or transactions occurring after the balance sheet date in its financial statements;
and (iii) the disclosures that an entity should make about events or transactions that occurred after the balance
sheet date, including disclosure of the date through which an entity has evaluated subsequent events and whether
that represents the date the financial statements were issued or were available to be issued. The Bank adopted ASC
855 for the period ended December 31, 2009 and the required disclosures are reflected in Note 15.
In June 2009, the FASB issued SFAS No. 168, The Statement of Financial Accounting Standards Codification and the
Hierarchy of Generally Accepted Accounting Principles, a replacement of SFAS No. 162, The Hierarchy of Generally
Accepted Accounting Principles (SFAS 168). SFAS 168 establishes the FASB ASC as the source of authoritative
accounting principles recognized by the FASB to be applied by non-governmental entities in the preparation of
financial statements in conformity with GAAP. The ASC does not change current GAAP, but it introduces a new
structure that organizes the authoritative standards by topic. SFAS 168 is effective for financial statements issued
for periods ending after September 15, 2009. As a result, both the ASC and the legacy standard are referenced in
the Bank’s financial statements and footnotes.

The Federal Reserve Bank of Richmond  2009 Annual Report

61

NOTES TO FINANCIAL STATEMENTS

5. Loans
The loan amounts outstanding at December 31 were as follows (in millions):
2009
Primary, secondary, and seasonal credit
TAF
Loans to depository institutions

$
$

2008
102
995
1,097

$
$

452
75,130
75,582

Loans to Depository Institutions
The Bank offers primary, secondary, and seasonal credit to eligible borrowers. Each program has its own interest
rate. Interest is accrued using the applicable interest rate established at least every fourteen days by the board of
directors of the Bank, subject to review and determination by the Board of Governors. Primary and secondary credit
are extended on a short-term basis, typically overnight, whereas seasonal credit may be extended for a period of up
to nine months.
Primary, secondary, and seasonal credit lending is collateralized to the satisfaction of the Bank to reduce credit
risk. Assets eligible to collateralize these loans include consumer, business, and real estate loans; Treasury securities;
GSE debt securities; foreign sovereign debt; municipal, corporate, and state and local government obligations; ABS;
corporate bonds; commercial paper; and bank-issued assets, such as certificates of deposit, bank notes, and deposit
notes. Collateral is assigned a lending value that is deemed appropriate by the Bank, which is typically fair value or
face value reduced by a margin.
Depository institutions that are eligible to borrow under the Bank’s primary credit program are also eligible to
participate in the 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. TAF loans are
extended on a short-term basis, with terms ranging from 28 to 84 days. All advances under the TAF program must
be collateralized to the satisfaction of the Bank. Assets eligible to collateralize TAF loans include the complete list
noted above for loans to depository institutions. Similar to the process used for primary, secondary, and seasonal
credit, a lending value is assigned to each asset that is accepted as collateral for TAF loans reduced by a margin.
Loans to depository institutions are monitored on a daily basis to ensure that borrowers continue to meet
eligibility requirements for these programs. The financial condition of borrowers is monitored by the Bank and, if a
borrower no longer qualifies for these programs, the Bank will generally request full repayment of the outstanding
loan or, for primary and seasonal credit lending, may convert the loan to a secondary credit loan.
Collateral levels are reviewed daily against outstanding obligations and borrowers that no longer have sufficient collateral to support outstanding loans are required to provide additional collateral or to make partial or
full repayment.

62

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS
The remaining maturity distributions of loans outstanding at December 31 were as follows (in millions):
2009
Primary, secondary,
and seasonal credit

TAF

Within 15 days
16 days to 90 days

$

49
53

$

995
—

Total loans

$

102

$

995

2008
Primary, secondary,
and seasonal credit

TAF

Within 15 days
16 days to 90 days

$

202
250

$

41,980
33,150

Total loans

$

452

$

75,130

At December 31, 2009 and 2008, the Bank did not have any impaired loans and no allowance for loan losses
was required.

6. Treasury Securities; Government-Sponsored Enterprise Debt Securities; Federal
Agency and Government-Sponsored Enterprise Mortgage-Backed 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 3.604 percent and 9.068 percent at December 31, 2009 and 2008, respectively.

63

NOTES TO FINANCIAL STATEMENTS
The Bank’s allocated share of Treasury securities, GSE debt securities, and Federal agency and GSE MBS, excluding
accrued interest, held in the SOMA at December 31 was as follows (in millions):
2009
Treasury securities
GSE debt
securities
$
5,761

Federal
agency and
GSE MBS
$
32,735

664

Notes
$
20,481

Bonds
$
6,841

Total Treasury
securities
$
27,986

—

236

881

1,117

271

436

—

(35)

(23)

(58)

(1)

(56)

Bills
Par
Unamortized
premiums
Unaccreted
discounts
Total
amortized
cost

$

$

664

$

20,682

$

7,699

$

29,045

$

6,031

$

33,115

Fair Value

$

664

$

21,011

$

8,314

$

29,989

$

6,034

$

32,948

2008
Treasury securities

64

GSE debt
securities
$
1,787

Federal
agency and
GSE MBS
$
—

Bills
1,671

Notes
$
30,357

Bonds
$
11,128

Total Treasury
securities
$
43,156

—

25

608

633

97

—

—

(76)

(56)

(132)

(3)

—

Par
Unamortized
premiums
Unaccreted
discounts
Total
amortized
cost

$

$

1,671

$

30,306

$

11,680

$

43,657

$

1,881

$

—

Fair Value

$

1,671

$

32,436

$

15,364

$

49,471

$

1,892

$

—

NOTES TO FINANCIAL STATEMENTS
The total of the Treasury securities, GSE debt securities, and Federal agency and GSE MBS, net, excluding accrued
interest held in the SOMA at December 31 was as follows (in millions):
2009
Treasury securities

Bills
Amortized
Cost
Fair Value

$
$

18,423
18,422

Notes
$
$

573,876
583,041

Total Treasury
securities

Bonds
$
$

213,673
230,717

$
$

805,972
832,180

GSE debt
securities
$
$

167,362
167,444

Federal
agency and
GSE MBS
$
$

918,927
914,290

2008
Treasury securities

Bills
Amortized
Cost
Fair Value

$
$

18,423
18,423

Notes
$
$

334,216
357,708

Bonds
$
$

128,810
169,433

Total Treasury
securities
$
$

481,449
545,564

GSE debt
securities
$
$

20,740
20,863

Federal
agency and
GSE MBS
$
$

—
—

The fair value amounts in the above tables are presented solely for informational purposes. Although the fair
value of security holdings can be substantially greater than 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 the central bank, to meet their
financial obligations and responsibilities. Fair value was determined by reference to quoted market values for
identical securities, except for Federal agency and GSE MBS for which fair values were determined using a
model-based approach based on observable inputs for similar securities.
The fair value of the fixed-rate Treasury securities, GSE debt securities, and Federal agency and GSE MBS in the
SOMA’s holdings is subject to market risk, arising from movements in market variables, such as interest rates and
securities prices. The fair value of Federal agency and GSE MBS is also affected by the rate of prepayments of
mortgage loans underlying the securities.

The Federal Reserve Bank of Richmond  2009 Annual Report

65

NOTES TO FINANCIAL STATEMENTS
The following table provides additional information on the amortized cost and fair values of the Federal agency
and GSE MBS portfolio at December 31, 2009 in millions:
Distribution of MBS
holdings by coupon rate
Allocated to the Bank:

Amortized cost

4.0%
4.5%
5.0%
5.5%
6.0%
Other1

$

6,131
15,653
7,042
3,725
458
106

$

5,973
15,555
7,078
3,769
465
108

Total

$

33,115

$

32,948

$

170,119
434,352
195,418
103,379

$

165,740
431,646
196,411
104,583

System total:
4.0%
4.5%
5.0%
5.5%
6.0%
Other1

12,710
2,949

Total
1

Fair value

$

12,901
3,009

918,927

$

914,290

Represents less than one percent of the total portfolio

Financial information related to securities purchased under agreements to resell and securities sold under agreements to repurchase for the years ended December 31, 2009 and 2008, was as follows (in millions):
Securities purchased under
agreements to resell
2009

Securities sold under
agreements to repurchase

2008

2009

2008

Allocated to the Bank:
Contract amount outstanding,
end of year
Average daily amount
outstanding, during the year
Maximum month-end balance
outstanding, during the year
Securities pledged, end of year

$

—

$

7,254

$

2,801

$

8,012

328

7,756

3,592

4,955

—

10,791

6,961

8,937

—

—

2,806

7,154
(chart continued)

66

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS
Securities purchased under
agreements to resell
2009

Securities sold under
agreements to repurchase

2008

2009

2008

System total:
Contract amount outstanding,
end of year
Average daily amount
outstanding, during the year
Maximum month-end balance
outstanding, during the year
Securities pledged, end of year

$

—

$

80,000

$

77,732

$ 88,352

3,616

86,227

67,837

55,169

—

119,000

77,732

98,559

—

—

77,860

78,896

The Bank has revised its disclosure of securities purchased under agreements to resell and securities sold under
agreements to repurchase from a weighted average calculation, disclosed in 2008, to the simple daily average
calculation, disclosed above. The previously reported System total 2008 weighted average amount outstanding for
securities purchased under agreements to resell was $97,037 million of which $8,799 million was allocated to the
Bank. The previously reported System total 2008 weighted average amount outstanding for securities sold under
agreements to repurchase was $65,461 million of which $5,936 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 remaining maturity distribution of Treasury securities, GSE debt securities, Federal agency and GSE MBS
bought outright, securities purchased under agreements to resell, and securities sold under agreements to repurchase that were allocated to the Bank at December 31, 2009 was as follows (in millions):

Treasury
securities
(Par value)
Within 15 days
16 days to
90 days
91 days to 1 year
Over 1 year to
5 years
Over 5 years to
10 years
Over 10 years
Total allocated
to the Bank

$

419

$

GSE debt
securities
(Par value)
$

2

Federal agency
and GSE MBS
(Par value)

Securities
purchased
under agreements to resell
(Contract
amount)

Securities
sold under
agreements
to repurchase
(Contract
amount)

$

$

$

—

—

2,801

1,040

110

—

—

—

1,830

776

—

—

—

11,779

3,582

—

—

—

7,702

1,218

1

—

—

5,216

73

32,734

—

—

27,986

$

5,761

$

32,735

$

—

$

2,801

67

NOTES TO FINANCIAL STATEMENTS
Federal agency and GSE MBS are reported at stated maturity in the table above. The estimated weighted average
life of these securities at December 31, 2009, which differs from the stated maturity primarily because it factors in
prepayment assumptions, is approximately 6.4 years.
At December 31, 2009 and 2008, Treasury securities and GSE debt securities with par values of $21,610 million
and $180,765 million, respectively, were loaned from the SOMA, of which $779 million and $16,391 million, respectively, were allocated to the Bank.
At December 31, 2009, the total of other investments was $5 million, of which the Bank’s allocated share was
immaterial. Other investments consist of cash and short-term investments related to the Federal agency and GSE
MBS portfolio.
At December 31, 2009, the total of other liabilities was $601 million, of which $22 million was allocated to the
Bank. These other liabilities, which are related to purchases of Federal agency and GSE MBS, arise from the failure of
a seller to deliver securities to the FRBNY on the settlement date. Although the Bank has ownership of and records its
investments in the MBS securities as of the contractual settlement date, it is not obligated to make payment until the
securities are delivered, and the amount reported as other liabilities represents the Bank’s obligation to pay for the
securities when delivered.
The FRBNY enters into commitments to buy Federal agency and GSE MBS and records the related MBS on a
settlement-date basis. As of December 31, 2009, the total purchase price of the Federal agency and GSE MBS under
outstanding commitments was $160,099 million, of which $32,838 million was related to dollar roll transactions. The
amount of outstanding commitments allocated to the Bank was $5,769 million, of which $1,183 million was related
to dollar roll transactions. These commitments, which had contractual settlement dates extending through March
2010, are primarily for the purchase of TBA MBS for which the number and identity of the pools that will be delivered
to fulfill the commitment are unknown at the time of the trade. These commitments are subject to market and counterparty risks that result from their future settlement. As of December 31, 2009, the fair value of Federal agency and
GSE MBS under outstanding commitments was $158,868 million, of which $5,725 million was allocated to the Bank.
During the year ended December 31, 2009, the Reserve Banks recorded net gains from dollar roll related sales of $879
million, of which $15 million was allocated to the Bank. These net gains are reported as “Non-Interest Income: Federal
agency and government-sponsored enterprise mortgage-backed securities gains, net” in the Statements of Income
and Comprehensive Income.

7. 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. These investments
are guaranteed as to principal and interest by the issuing foreign governments. In addition, the FRBNY enters into
transactions to purchase foreign-currency-denominated government-debt securities under agreements to resell
for which the accepted collateral is the debt instruments issued by the governments of Belgium, France, Germany,
Italy, the Netherlands, and Spain.
The Bank’s allocated share of investments denominated in foreign currencies was approximately 28.374 percent
and 27.079 percent at December 31, 2009 and 2008, respectively.

68

NOTES TO FINANCIAL STATEMENTS
The Bank’s allocated share of investments denominated in foreign currencies, including accrued interest, valued
at amortized cost and foreign currency market exchange rates at December 31, was as follows (in millions):
2009

2008

Euro:
Foreign currency deposits
Securities purchased under agreements to resell
Government debt instruments

$

Japanese yen:
Foreign currency deposits
Government debt instruments

2,098
735
1,401

$

966
1,971

Total allocated to the Bank

$

7,171

1,507
1,104
1,248
943
1,915

$

6,717

At December 31, 2009 and 2008, the fair value of investments denominated in foreign currencies, including
accrued interest, allocated to the Bank was $7,230 million and $6,775 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 Treasury securities, GSE debt securities, and Federal agency and GSE MBS discussed
in Note 6, unrealized gains or losses have no effect on the ability of a Reserve Bank, as the central bank, to meet its
financial obligations and responsibilities. The fair value is presented solely for informational purposes.
Total Reserve Bank investments denominated in foreign currencies were $25,272 million and $24,804 million
at December 31, 2009 and 2008, respectively. At December 31, 2009 and 2008, the fair value of the total
Reserve Bank investments denominated in foreign currencies, including accrued interest, was $25,480 million
and $25,021 million, respectively.
The remaining maturity distribution of investments denominated in foreign currencies that were allocated to the
Bank at December 31, 2009 was as follows (in millions):
Euro
Japanese yen
Total
Within 15 days
16 days to 90 days
91 days to 1 year
Over 1 year to 5 years

$

Total allocated to the Bank

$

1,721
711
683

$

1,119
4,234

1,028
131
672

$

1,106
$

2,937

2,749
842
1,355
2,225

$

7,171

At December 31, 2009 and 2008, the authorized warehousing facility was $5 billion, with no balance outstanding.
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 counterparty credit risk. The
FRBNY controls these risks by obtaining credit approvals, establishing transaction limits, receiving collateral in some
cases, and performing daily monitoring procedures.

The Federal Reserve Bank of Richmond  2009 Annual Report

69

NOTES TO FINANCIAL STATEMENTS

8. Central Bank Liquidity Swaps
U.S. Dollar Liquidity Swaps

The Bank’s allocated share of U.S. dollar liquidity swaps was approximately 28.374 percent and 27.079 percent at
December 31, 2009 and 2008, respectively.
At December 31, 2009 and 2008, the total Reserve Bank amount of foreign currency held under U.S. dollar liquidity swaps was $10,272 million and $553,728 million, respectively, of which $2,915 million and $149,945 million,
respectively, was allocated to the Bank.
The remaining maturity distribution of U.S. dollar liquidity swaps that were allocated to the Bank at December 31
was as follows (in millions):
2009
2008
Within
15 days
Australian dollar
Danish krone
Euro
Japenese yen
Korean won
Mexican peso
Norwegian krone
Swedish krona
Swiss franc
U.K. pound
Total

16 days to
90 days

Within
15 days

Total

$

—
—
1,846
155
—
914
—
—
—
—

$

—
—
—
—
—
—
—
—
—
—

$

—
—
1,846
155
—
914
—
—
—
—

$

2,708
—
40,881
12,969
—
—
596
2,708
5,205
32

$

2,915

$

—

$

2,915

$ 65,099

16 days to
90 days
$

3,474
4,062
38,015
20,261
2,803
—
1,632
4,062
1,612
8,925

$ 84,846

Total
$

6,182
4,062
78,896
33,230
2,803
—
2,228
6,770
6,817
8,957

$ 149,945

Foreign Currency Liquidity Swaps
There were no transactions related to the foreign currency liquidity swaps during the years ended December 31,
2008 and 2009.

70

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS

9. Bank Premises, Equipment, and Software
Bank premises and equipment at December 31 were as follows (in millions):
2009

2008

Bank premises and equipment:
Land
Buildings
Building machinery and equipment
Construction in progress
Furniture and equipment

$

44
225
73
4
263
609

Subtotal
Accumulated depreciation

$

38
162
66
63
280
609

(284)

(277)

Bank premises and equipment, net

$

325

$

332

Depreciation expense, for the years ended
December 31

$

46

$

44

Bank premises and equipment at December 31 included the following amounts for capitalized leases
(in millions):
2009

2008

Leased premises and equipment under capital leases
Accumulated depreciation

$

9
(5)

$

21
(13)

Leased premises and equipment under capital leases, net

$

4

$

8

Depreciation expense related to leased premises and
equipment under capital leases

$

2

$

4

The Bank leases space to outside tenants with remaining lease terms ranging from 1 to 8 years. Rental income
from such leases was $1 million for each of the years ended December 31, 2009 and 2008, respectively, and is
reported as a component of “Other income” in the Statements of Income and Comprehensive Income. Future minimum lease payments that the Bank will receive under noncancelable lease agreements in existence at December
31, 2009 are as follows (in thousands):
2010
2011
2012
2013
2014
Thereafter

$

1,082
1,115
694
627
647
1,542

Total

$

5,707

71

NOTES TO FINANCIAL STATEMENTS
The Bank had capitalized software assets, net of amortization, of $23 million and $24 million at December 31, 2009
and 2008, respectively. Amortization expense was $14 million and $19 million for the years ended December 31,
2009 and 2008, respectively. Capitalized software assets are reported as a component of “Other assets” in the Statements of Condition and the related amortization is reported as a component of “Other credits” in the Statements of
Income and Comprehensive Income.

10. Commitments and Contingencies
In the normal course of its operations the Bank enters into contractual commitments, normally with fixed expiration
dates or termination provisions, at specific rates and for specific purposes.
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 and rental
charges to other entities within the System, was $533 thousand and $1 million for the years ended December 31,
2009 and 2008, respectively.
At December 31, 2009, there were no future minimum rental payments under noncancelable operating leases,
net of sublease rentals, with remaining terms of one year or more.
At December 31, 2009, there were no material unrecorded unconditional purchase commitments or 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 paid-in 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, 2009 or 2008.
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.

11. 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 employees of the Reserve Banks, Board of Governors, and Office of
Employee Benefits of the Federal Reserve System (“OEB”) participate in the Retirement Plan for Employees of the
Federal Reserve System (“System Plan”). In addition, employees at certain compensation levels participate in the
Benefit Equalization Retirement Plan (“BEP”) and certain Reserve Bank officers participate in the Supplemental
Retirement Plan for Select Officers of the Federal Reserve Bank (“SERP”).
The System Plan provides retirement benefits to employees of the Federal Reserve Banks, the Board of Governors, and OEB. The FRBNY, on behalf of the System, recognizes the net asset or net liability and costs associated with
the System Plan in its financial statements. Costs associated with the System Plan are not reimbursed by other
participating employers.
The Bank’s projected benefit obligation, funded status, and net pension expenses for the BEP and the SERP at
December 31, 2009 and 2008, and for the years then ended, were not material.

72

NOTES TO FINANCIAL STATEMENTS
Thrift Plan
Employees of the Bank participate in the defined contribution Thrift Plan for Employees of the Federal Reserve
System (“Thrift Plan”). The Bank matches employee contributions based on a specified formula. For the year ended
December 31, 2008 and for the first three months of the year ended December 31, 2009, the Bank matched 80
percent of the first 6 percent of employee contributions for employees with less than five years of service and 100
percent of the first 6 percent of employee contributions for employees with five or more years of service. Effective
April 1, 2009, the Bank matches 100 percent of the first 6 percent of employee contributions from the date of hire
and provides an automatic employer contribution of one percent of eligible pay. The Bank’s Thrift Plan contributions
totaled $12 million and $10 million for the years ended December 31, 2009 and 2008, respectively, and are reported
as a component of “Salaries and other benefits” in the Statements of Income and Comprehensive Income.

12. Postretirement Benefits Other Than Retirement Plans and
Postemployment Benefits
Postretirement Benefits Other Than Retirement Plans

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):
2009
Accumulated postretirement benefit obligation at January 1
Service cost benefits earned during the period
Interest cost on accumulated benefit obligation
Net actuarial loss
Curtailment gain
Contributions by plan participants
Benefits paid
Medicare Part D subsidies
Plan amendments
Accumulated postretirement benefit obligation
at December 31

2008

$

182.0
7.4
11.2
9.4
—
1.8
(9.7)
0.6
(10.9)

$

170.3
6.8
10.8
1.0
(0.6)
1.5
(8.3)
0.5
—

$

191.8

$

182.0

At December 31, 2009 and 2008, the weighted-average discount rate assumptions used in developing the
postretirement benefit obligation were 5.75 percent and 6.00 percent, respectively.
Discount rates reflect yields available on high-quality corporate bonds that would generate the cash flows
necessary to pay the plan’s benefits when due.

The Federal Reserve Bank of Richmond  2009 Annual Report

73

NOTES TO FINANCIAL STATEMENTS
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):
2009

2008

Fair value of plan assets at January 1
Contributions by the employer
Contributions by plan participants
Benefits paid
Medicare Part D subsidies

$

—
7.3
1.8
(9.7)
0.6

$

—
6.3
1.5
(8.3)
0.5

Fair value of plan assets at December 31

$

—

$

—

Unfunded obligation and accrued postretirement
benefit cost

$

191.8

$

182.0

Amounts included in accumulated other comprehensive
loss are shown below:
Prior service cost
Net actuarial loss
Deferred curtailment gain

$

13.5
(56.1)
—

$

4.3
(51.8)
0.4

Total accumulated other comprehensive loss

$

(42.6)

$

(47.1)

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

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

2009

2008

7.50 %

7.50 %

5.00 %
2015

5.00 %
2014

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, 2009 (in millions):

Effect on aggregate of service and interest cost
components of net periodic postretirement benefit costs
Effect on accumulated postretirement benefit obligation

74

1% Point Increase

1% Point Decrease

$

$

The Federal Reserve Bank of Richmond  2009 Annual Report

3.3
25.1

(2.6)
(20.9)

NOTES TO FINANCIAL STATEMENTS
The following is a summary of the components of net periodic postretirement benefit expense for the years
ended December 31 (in millions):
2009
Service cost benefits earned during the period
Interest cost on accumulated benefit obligation
Amortization of prior service cost
Amortization of net actuarial loss

$

2008
7.4
11.2
(1.6)
5.0

$

6.8
10.8
(1.4)
5.2

Total periodic expense

22.0

21.4

Curtailment gain

(0.4)

(0.2)

Net periodic postretirement benefit expense

$

21.6

$

21.2

Estimated amounts that will be amortized from accumulated
other comprehensive loss into net periodic postretirement
benefit expense in 2010 are shown below:
Prior service cost

$

Net actuarial loss
Total

(3.3)
5.0

$

1.7

Net postretirement benefit costs are actuarially determined using a January 1 measurement date. At January 1,
2009 and 2008, the weighted-average discount rate assumptions used to determine net periodic postretirement
benefit costs were 6.00 percent and 6.25 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.
A net curtailment gain associated with restructuring programs that are described in Note 14 was recognized in
net income in the year ended December 31, 2008, related to employees who terminated employment during 2008.
A deferred curtailment gain was recorded in 2007 as a component of accumulated other comprehensive loss; the
gain will be recognized in net income in future years when the related employees terminate employment.
The Medicare Prescription Drug, Improvement and Modernization Act of 2003 established a prescription drug
benefit under Medicare (“Medicare Part D”) and a federal subsidy to sponsors of retiree health care benefit plans
that provide benefits that are at least actuarially equivalent to Medicare Part D. The benefits provided under the
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 are reflected in actuarial loss in the accumulated postretirement benefit
obligation and net periodic postretirement benefit expense.
Federal Medicare Part D subsidy receipts were $0.8 million and $0.4 million in the years ended December 31,
2009 and 2008, respectively. Expected receipts in 2010, related to benefits paid in the years ended December 31,
2009 and 2008, are $0.1 million.

75

NOTES TO FINANCIAL STATEMENTS
Following is a summary of expected postretirement benefit payments (in millions):
Without Subsidy

With Subsidy

2010
2011
2012
2013
2014
2015-2019

$

9.6
10.6
11.3
12.0
12.8
76.4

$

9.0
9.8
10.4
11.0
11.6
68.8

Total

$

132.7

$

120.6

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, 2009
and 2008, were $19 million and $16 million, respectively. This cost is included as a component of “Accrued benefit
costs” in the Statements of Condition. Net periodic postemployment benefit expense included in 2009 and 2008
operating expenses were $7 million and $2 million, respectively, and are recorded as a component of “Salaries and
other benefits” in the Statements of Income and Comprehensive Income.

76

NOTES TO FINANCIAL STATEMENTS

13. Accumulated Other Comprehensive Income and Other Comprehensive Income
Following is a reconciliation of beginning and ending balances of accumulated other comprehensive loss
(in millions):
Amount related to postretirement benefits
other than retirement plans
Balance at January 1, 2008
$
(50)
Change in funded status of benefit plans:
Prior service costs arising during the year
1
Net actuarial loss arising during the year
(1)
Amortization of prior service cost
(2)
Amortization of net actuarial loss
5
Change in funded status of benefit plans–other
comprehensive loss
3
Balance at December 31, 2008

$

Change in funded status of benefit plans:
Prior service costs arising during the year
Net actuarial loss arising during the year
Amortization of prior service cost
Amortization of net actuarial loss
Change in funded status of benefit plans–other
comprehensive loss
Balance at December 31, 2009

(47)
11
(9)
(2)
5
5

$

(42)

Additional detail regarding the classification of accumulated other comprehensive loss is included in Note 12.

14. Business Restructuring Charges
2007 and Prior Restructuring Plans

The Bank incurred various restructuring charges prior to 2008 related to the restructuring of check processing infrastructure and operations, as well as the U.S. Treasury’s Collections and Cash Management Modernization (CCMM)
initiative.

2008 Restructuring Plans
In 2008, the Reserve Banks announced the acceleration of their check restructuring initiatives to align the check
processing infrastructure and operations with declining check processing volumes. The new infrastructure consolidates operations into two regional Reserve Bank processing sites; in Cleveland, for paper check processing, and
Atlanta, for electronic check processing.

The Federal Reserve Bank of Richmond  2009 Annual Report

77

NOTES TO FINANCIAL STATEMENTS
Following is a summary of financial information related to the restructuring plans (in millions):
Restructuring Plans
2007 and prior
Information related to
restructuring plans as of
December 31, 2009:
Total expected costs related to
restructuring activity
Estimated future costs related to
restructuring activity
Expected completion date

$

$

—
2009

Reconciliation of liability balances:
Balance at January 1, 2008
Employee separation costs
Adjustments
Payments
Balance at December 31, 2008

5.5

2008

1.8

Total

$

—
2009

7.3
—

$

5.8
1.2
(0.4)
(1.7)

$

—
2.3
—
(0.2)

$

5.8
3.5
(0.4)
(1.9)

$

4.9

$

2.1

$

7.0

Employee separation costs

0.2

—

0.2

Adjustments

(0.6)

(0.4)

(1.0)

Payments

(3.8)

(1.4)

(5.2)

Balance at December 31, 2009

$

0.7

$

0.3

$

1.0

Employee separation costs are primarily severance costs for identified staff reductions associated with the announced restructuring plans. Separation costs that are provided under terms of ongoing benefit arrangements are
recorded based on the accumulated benefit earned by the employee. Separation costs that are provided under the
terms of one-time benefit arrangements are generally measured based on the expected benefit as of the termination date and recorded ratably over the period to termination. Restructuring costs related to employee separations
are reported as a component of “Salaries and other benefits” in the Statements of Income and Comprehensive
Income.
Adjustments to the accrued liability are primarily due to changes in the estimated restructuring costs and are
shown as a component of the appropriate expense category in the Statements of Income and Comprehensive
Income.
Restructuring costs associated with the impairment of certain Bank assets, including software, buildings, leasehold improvements, furniture, and equipment, are discussed in Note 9. Costs associated with enhanced pension
benefits for all Reserve Banks are recorded on the books of the FRBNY as discussed in Note 11.

78

The Federal Reserve Bank of Richmond  2009 Annual Report

NOTES TO FINANCIAL STATEMENTS

15. Subsequent Events
In February 2010, the System discontinued a contractual relationship in connection with a large-scale software
development program for which the Bank has recorded costs of $4.5 million as of December 31, 2009. The Bank
expects that a portion of these costs, which are recorded as a component of “Bank premises and equipment, net”
and “Other assets,” will be expensed in 2010. There were no subsequent events that require adjustments to or other
events that require disclosure in the financial statements as of December 31, 2009. Subsequent events were evaluated through April 21, 2010, which is the date that the Bank issued the financial statements.

79

The Federal Reserve Bank of Richmond 2009 Annual Report was produced by the
Research Department, Publications Division and the Corporate Communications Department.

Managing Editor: Amanda L. Kramer
Designer: Ailsa Long
Illustrator: Chris OBrion
Article Editor: Elaine Mandaleris-Preddy
Photographer: Larry Cain
Printer: Federal Reserve Bank of Richmond
Special thanks to: Renee Courtois, Andrea Holmes, Jim Strader, and Sonya Ravindranath Waddell
This Annual Report is also available on the Federal Reserve Bank of Richmond’s Web site at www.richmondfed.org.
For additional print copies, contact the Research Publications Subscription and Copy Request Line at (800) 322-0565.

FIFTH FEDERAL RESERVE DISTRICT OFFICES
Richmond
701 East Byrd Street
Richmond, Virginia 23219
(804) 697-8000

Baltimore
502 South Sharp Street
Baltimore, Maryland 21201
(410) 576-3300

Charlotte
530 East Trade Street
Charlotte, North Carolina 28202
(704) 358-2100

www.richmondfed.org