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THE FEDERAL RESERVE BANK OF ST. LOUIS
ANNUAL REPORT 2002



ALTHOUGH OUR FINANCIAL SYSTEM
Past performance is no guarantee of future results.
HAS WEATHERED THESE STORMS—
—
The steps we took to protect our credit and
WE’D BE WISE TO KEEP IN MIND THE
payment mechanisms during the latest wave of criOFT-STATED WARNING:
ses may not apply in the future.

2

William Poole
President and CEO

Charles W. Mueller
Chairman

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

A MESSAGE
FROM OUR PRESIDENT
THE ST. LOUIS FED TRADITION-

can recur, even in a country

ALLY ANCHORS ITS ANNUAL

start thinking about these problems and solutions now__ before

REPORT WITH AN ESSAY ON A

some vulnerability surfaces out

record of stability like ours.

TOPIC THAT’S IMPORTANT TO

of the blue and bites us. A few

	

THOSE WHO CARE ABOUT OUR

of the threats to our financial

spurs discussion about the

NATION’S ECONOMY. This year

system are very well-known,

vital need for vigilance on the

is no exception. The subject is
financial stability__ always worth

such as the funding shortages

subject of financial stability.

facing Social Security and

	

talking about but particularly

Medicare. Others are beginning

Elsewhere in this report,
we summarize our year__ a

timely now, what with the

to catch the public’s eye, such

good one for the St. Louis Fed,

shocks that we’ve endured of

as the troubling dominance of

in almost all regards. This book

late: terrorist attacks, war,

the home mortgage market by

also contains a new section,

accounting scandals and vola-

Fannie Mae and Freddie Mac.

called “By the Numbers.”

tile markets, to name a few.

If either of these giants were

Through important, unusual or

	

Although our financial sys-

to stumble, the entire housing

just interesting numbers, we

tem has weathered these
storms__ and many more before

market would fall into disarray.

will tell you a bit more about

Other possible threats may be

who we are at the St. Louis Fed

them__ we’d be wise to keep in

harder to get a handle on, but

and what we do. I hope you

mind the oft-stated warning:

we must still try.

enjoy it.

Past performance is no guaran-

	

tee of future results. The steps

tectors of our financial system

we took to protect our credit

will always prevail, this essay

and payment mechanisms dur-

will provide a reminder of when

ing the latest wave of crises

the United States had a reputa-

may not apply in the future.

tion for financial instability.

Different problems require dif-

Looking today at Japan, one

ferent solutions. We should

can see that such instability

that has a long-term track
We hope that this essay

For those who think the pro-

William Poole

3

2002 MARKED THE THIRD
Yet, three consecutive years of turbulence
CONSECUTIVE YEAR OF FINANCIAL
have not damaged the roots of the U.S.
TURBULENCE IN THE UNITED STATES.
financial system—the banking sector.
4

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

FINANCIAL STABILITY
WELL-ROOTED IN U.S.

2002 MARKED THE THIRD

	

Yet, three consecutive years

CONSECUTIVE YEAR OF

of turbulence have not damaged

around the globe, our financial

FINANCIAL TURBULENCE IN

system has stood immune and

THE UNITED STATES. In early

the roots of the U.S. financial
system__ the banking sector.

2000, investors lost faith in

Commercial banks and thrifts

	Why?

technology stocks and later in
other stocks, ushering in what

have proven financially robust__
indeed, quite profitable__ during

THE SEEDS OF STABILITY

has turned out to be a long

this period. Creditworthy

bear market in equities. In

households and businesses

FINANCIAL STABILITY RARELY

March 2001, the economy

continue to enjoy uninterrupted

COMES UP IN DAILY CONVER-

entered its first recession in a

access to credit, while the pay-

SATION PRECISELY BECAUSE

decade. Then, in September

ments system functions as

THE U.S. FINANCIAL SYSTEM

2001, terrorists attacked New

smoothly as ever. Steady per-

HAS PROVEN SO STABLE

York City and Washington, D.C.

formance is important because

SINCE THE 1930s. Stability

After these shocks, one might

access to credit and to a func-

implies widespread reliance on

have expected a calmer 2002.

tioning payments system are

Instead, last year brought new

the twin hallmarks of financial

the financial system and its
parts to function smoothly__ as,

challenges in the form of sensa-

stability.

for example, when we expect a

tional accounting and invest-

	

24-hour ATM machine to dis-

ment-banking scandals, large

turbulence did spread to the

pense cash on demand, when

corporate bankruptcies, and

banking system in the 19th

we assume a gas pump will

historically high levels of stock-

and early 20th centuries in the

accept a debit card without fail,

and bond-market volatility.

United States and sometimes

when we anticipate that online

Although financial market

still does in other economies

stable for decades.

5

lenders will refinance mortgag-

and payments-systems policies

system was perhaps most

es without a hassle or when we

to calm financial markets after

notable among advanced econ-

trust our money to an unfamiliar

a shock. Finally, the Fed moni-

omies for its instability

bank without a second thought.

tors many U.S. financial institu-

as late as the 1930s. Caveat

	

tions to make sure that they

emptor was the operative rule

term has a more precise mean-

are run in a safe-and-sound

because banks failed as fre-

ing: Financial stability refers

manner. All of these responsi-

quently as any other kind of

To the Federal Reserve, the

to the smooth, uninterrupted
operation of both credit and
payment mechanisms. In practice, financial stability means
that all credit-worthy borrowers
can obtain funds at reasonable

business. System-wide col-

Financial stability
means that all creditworthy borrowers can
obtain funds at reason-

lapses, albeit temporary, were
not unknown.
	

Business and financial

cycles did not originate in the
United States, of course. Adam

rates and that all monetary

able rates and that all

Smith, the Scotsman who is

payments and securities trans-

monetary payments and

now known as the father of

actions will settle accurately

securities transactions

modern economics, long ago

and promptly. Because extending credit and executing pay6

ments are two core commercial

will settle accurately
and promptly.

distilled the essential dynamics
of a modern economy as an
inevitable, recurring sequence
of “overtrading,” followed by

banking functions, it should
come as no surprise that the

bilities interact to stabilize the

“negligence and profusion,”

Fed’s mandate to promote

banking system, thereby pre-

culminating in “revulsion and

financial stability is carried

serving its ability to extend

discredit.”2 What was unusual

out largely through policies

credit and to serve as the back-

about the U.S. financial system

designed to preserve the health

bone of the payments system.1

is how long it took to temper

of individual banks and the
integrity of interbank networks.
	

the “overtrading-negligenceUPROOTING STABILITY

The Fed plays an important

role in maintaining both econo-

revulsion” cycle. England experienced only one banking crisis
after 1866__ when the Bank of

mic and financial stability. Using

HISTORICALLY, FINANCIAL
INSTABILITY__ A TEMPORARY

monetary policy, the Fed exerts

BUT POTENTIALLY SEVERE

cessfully as a lender of last

a stabilizing influence on the

resort. Meanwhile, serious

economy as a whole, working

DISRUPTION OF CREDIT AND
PAYMENT MECHANISMS__ HAS

primarily through interest-rate

OCCURRED FROM TIME TO

United States in 1873, 1884,

channels that influence borrow-

TIME DESPITE THE BEST

1890, 1893, 1907, 1914, and

ing and lending decisions. The

EFFORTS OF MARKET PARTICI-

most tragically, 1930-33.3

Fed also relies on lender-of-

PANTS AND POLICY-MAKERS.

Crashes of the stock market

last-resort (discount window)

To be sure, the U.S. financial

England first intervened suc-

banking disruptions struck the

continued on Page 8

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

The Fed and

Financial
Stability
7

The 12 Federal Reserve banks serve as the banking system’s lender of last resort.
CASUAL OBSERVERS MAY THINK THE FEDERAL RESERVE’S

sudden spikes in the demand for liquidity, such as occurred

ROLE IN THE ECONOMY IS EXCLUSIVELY TO PROMOTE

in the aftermath of Sept. 11. This episode showed clearly

MACROECONOMIC STABILITY—
—INCLUDING PRICE STABILITY,

that, when commercial banks and thrifts have emergency

MAXIMUM SUSTAINABLE ECONOMIC GROWTH AND LOW

access to liquidity at the central bank’s discount window,

LONG-TERM INTEREST RATES. While certainly an important

disruptions to the credit and payment mechanisms can be

and challenging task, the Fed’s mandate actually is broader

avoided even under the direst circumstances. The Federal

and includes the goal of promoting financial stability of the

Reserve also serves as lead supervisor for thousands of

banking system. This dual mandate makes sense because

financial holding companies, bank holding companies and

macroeconomic and financial stability are mutually reinforc-

many state-chartered banks in the United States. This front-

ing——for better and for worse.

line contact with financial institutions equips the Fed to play

	

a role in financial policy-making and provides a source of

The 12 Federal Reserve banks serve as the banking sys-

tem’s lender of last resort, the safety valve that depressurizes

timely information for monetary policy deliberations.

continued from Page 6

and collapses of major financial

Instability in 1920s, 1930s
Slashed Number of Banks in U.S.

institutions were even more frequent. These episodes contrib-

Number of Banks in the United States

uted to a widespread belief that
the U.S. financial system__

35,000

and particularly the banking system__ was inherently unstable.

25,000

	

30,000

20,000

The remarkable 19th- and

15,000

early 20th-century instability of

10,000

the U.S. banking system was, in

5,000

many ways, homegrown.

0

Because the U.S. Constitution
prohibited states from taxing

1865 1875 1885 1895 1905 1915 1925 1935 1945 1955 1965 1975 1985 1995

BEFORE THE GREAT DEPRESSION, the number of banks steadily
rose. States had allowed relatively free entry into banking then.
Restrictions on geographic expansion meant that the expanding
national economy required more banks. But in the 1920s, the
numbers began to fall. Many agricultural areas, along with the
banks that served them, were hit hard by falling agriculture prices
and overall deflation. Some people thought that the failure of hundreds of banks each year during the 1920s without a nationwide
financial crisis meant that our system was immune to collapse.
The 1930s showed otherwise. The number of bank failures
increased during the early 1930s until deposit insurance and the
other New Deal reforms “froze” into place the system that existed
as of 1934. The total number of banks began to fall again about
1985 because of failures and mergers.

interstate commerce or printing
money, they turned in large
part to taxes on state-chartered
banks to cover their expendi8

The Great Depression

tures.4 Many of the restrictions
on geographical and product
expansion in banking date from
this period. To maximize tax
revenues from banks, states

DATA SOURCES: 1865-1933: White, Eugene. The Regulation and Reform
of the American Banking System, 1900-1929. Princeton, N.J.: Princeton
University Press, 1983. 1934-2001: Federal Deposit Insurance Corp.,
Historical Statistics on Banking, Washington, D.C., 2003.

restricted competition.
	

As a result, the United

States ended up with a very
large number of small, undiversified institutions that were vulnerable to local economic as

businesses and households

as a means to keep small

well as national financial

from making payments.

banks competitive with larger

shocks. Depositors, aware of

	

banks that could offer greater

this vulnerability, rationally

economic instability to create a

safety. Many states responded

responded to such shocks by

self-reinforcing downward spiral.

with programs for local banks.

“running” their banks. Bank

Before 1914, no central bank

Typically, the insurance was

panics, in turn, depressed the

existed in the United States to

voluntary, and its price did not

real economy by reducing the

help break the vicious cycle. A

rise much with bank risk. These

available supply of credit to

demand for the government to

design flaws ultimately bank-

business firms and preventing

provide deposit insurance arose

rupted the states’ reserve funds

Financial instability amplified

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

and, more importantly, kept the

ity to contain the banking panic.

Deal financial reforms, the cir-

state-run programs from exert-

This financial, economic and

cumstantial evidence suggests

ing a stabilizing influence on the

social catastrophe convinced a

that these reforms have contri-

financial system.5

sufficient majority of business

buted to our success in avoid-

	

What forced fundamental

and political leaders of the day

ing bouts of financial instability

change on the U.S. financial sys-

that the hitherto lightly regulated

during the past seven decades.

tem, of course, was the Great

financial system was inherently

	

Depression. Between 1930 and

and intolerably unstable.

fered no instances of general-

The United States has suf-

1933, roughly 9,000 U.S. banks
failed__ some 30 percent of the

ized financial instability since
ROOT-AND-BRANCH

the 1930s despite the fact that

nation’s total. Today, many

REFORM

shocks to financial markets

economists believe that the col-

have been no less frequent than

lapse of the banking system

THE NEW DEAL WAS A MAS-

in earlier eras. A partial list of

transformed a garden-variety

SIVE POLICY RESPONSE TO

shocks since the Depression

recession into an economic

THE ECONOMIC CALAMITY.

includes World War II and the

calamity. Bank failures

In the financial sector, the

Korean War, the Cuban missile

destroyed deposits in droves

response took the form of strict

crisis, the Penn Central com-

(or froze them as the failed

bank chartering requirements,

mercial-paper crisis, two OPEC

banks were resolved), causing

narrowly drawn activity restric-

oil shocks, the 1974 and 1987

the available money supply to

tions across all types of finan-

stock market crashes, and the

drop by one-third. Bank fail-

cial institutions, price controls

regionally devastating energy

ures also destroyed valuable

(such as interest-rate ceilings),

and real estate lending cycles

lending relationships, further

federal deposit insurance, new

of the 1980s, culminating in the

contributing to the depth and

government financial institu-

failure of thousands of bank and

length of the Depression.

tions (such as the Recon-

thrift institutions. Most recently,

Between 1929 and 1933, the

struction Finance Corp. and the

corporate accounting scandals,

unemployment rate soared to

Federal National Mortgage

large corporate bankruptcies

25 percent from 3 percent, not

Association, or “Fannie Mae”)

and stock market volatility have

falling back into the single dig-

and a restructured Federal

shaken investor and consumer

its until the 1940s. Sadly, the
Federal Reserve__ created in

Reserve System. Although

confidence. Yet, none of these

many warned of the inhibiting

events produced economy-wide

1914 in part to ensure that

effects of government interven-

financial instability. Why?

financial shocks would not
spark financial instability__

tion, the risk of not attempting

	

root-and-branch reform of the

made things worse in the early

financial system appeared even

the keystone of the New Deal
reforms__ largely explains the

1930s by tightening monetary

greater. And while a revisionist

disappearance of financial

policy to defend the gold stan-

school of thought today ques-

instability. When designing the

dard rather than injecting liquid-

tions the wisdom of many New

Federal deposit insurance__

continued on Page 13

9

CROSS SECTION of U.S. Financial Crises and Reforms

The National Banking Acts of 1863
and 1864. Created a national bank
charter and the Office of the Comptroller of the Currency to regulate
nationally chartered banks. These
acts tried unsuccessfully to drive
state-chartered banks out of business.

The McFadden Act of 1927. In
effect, barred interstate banking and
branching by requiring national
banks to follow the same laws
that applied to state banks.

The Bank Holding Company
Acts of 1956 and 1970.
Defined and created regulation
for bank holding companies, an
organizational form with little
economic rationale other than
to arbitrage regulation. The
Federal Reserve was given
authority to regulate bank holding companies, regardless of the
charter(s) held by banks owned
by the holding companies.

Major banking disruptions.

The Great Depression1929-1939.
Nearly 30 percent of banks fail.
Unemployment hits 25 percent.

10

1970: Penn Central commercialpaper crisis, which threatened to
draw the Fed (via the discount window) into a non-banking financial
crisis. The Fed refused a request
by the Nixon administration
to lend money to a non-bank.

Early 1930s: Fed tightens
monetary policy to defend
gold standard rather than
injecting liquidity to contain
banking panic.

The Federal Reserve Act of
1913 was signed by President
Woodrow Wilson. Created the
Federal Reserve System. This was
the first central bank in the United
States, although its structure and
functioning were quite decentralized.

The Banking Acts of 1933
(Glass-Steagall) and 1935 (part
of FDR’s New Deal reforms, which
stretched out throughout the
1930s). Created federal deposit
insurance for commercial banks
(FDIC) and savings institutions
(FSLIC). Separated commercial
banking from investment banking
and insurance underwriting.
Restructured the Federal Reserve
System, focusing more authority in
Washington. Created the Federal
Open Market Committee (FOMC).
Created a true central bank with a
unified decision-making structure.

When Franklin National Bank of
Long Island, N.Y., failed in October
1974, it was the largest bank failure to
date. Franklin had $5 billion in assets.
Federal Reserve discount-window lending to Franklin peaked at $1.8 billion
just six days before the bank’s failure.
Noting “the severe deterioration of confidence at home and abroad that would
have resulted from an abrupt failure,”
the Fed was inadvertently laying the
groundwork for a “too-big-to-fail” policy,
which later would hamper efforts to
instill market discipline in banking.

1973-74: Worst bear market
since the Great Depression.

The S&L crisis of the late 1970s
and 1980s. By the time all the
doors were closed and depositors
paid off, the crisis cost U.S. taxpayers at least $150 billion.
The Depository Institutions
Deregulation and Monetary
Control Act (DIDMCA) of 1980.
Abolished Regulation Q, which put
ceilings on deposit interest rates.
Broadened access by banks to the
Federal Reserve’s discount window
and extended reserve requirements
to all depository institutions.

The Financial Institutions
Reform, Recovery, and
Enforcement Act (FIRREA)
of 1989. Tightened regulation
of commercial banks and savings institutions. Appropriated
funds and created governmentsponsored entities to administer the resolution (bailout) of
the savings and loans’ insolvent
deposit-insurance corporation
(FSLIC). Moved deposit insurance of savings institutions to
the FDIC.

The Federal Deposit Insurance Corp.
Improvement Act (FDICIA) of 1991.
Made changes to the FDIC and to the
deposit insurance provided to depository
institutions. Addressed the “too-big-tofail” problem by specifying how systemically important depository institutions
could be treated when insolvent.

The Financial Modernization Act
(Gramm-Leach-Bliley) of 1999.
Repealed much, but not all, of the
Glass-Steagall Act that had separated
commercial banking from investment
banking and insurance underwriting.
Created the financial holding company designation to permit financial
organizations to engage in different
financial activities within the same
corporate entity. Reaffirmed the role
of the Federal Reserve as the lead
(or “umbrella”) supervisor of complex
financial institutions (both bank holding companies and financial holding
companies). Preserved the role of
functional supervisors at the subsidiary level to oversee each line of
financial business separately.

11

2000: Stock market
meltdown begins.
1984: “Too big to fail” is inadvertently acknowledged as policy by
the Comptroller of the Currency
when it says Continental Illinois and
10 other major banks cannot be
allowed to fail for fear of bringing
the entire financial system down.

The Riegle-Neal Interstate Bank
Branching Act of 1994. Permitted
interstate branching by all commercial
banks. States subsequently passed
laws to permit state-chartered banks
to branch across state lines.

1998: Long-Term Capital
Management, a hedge fund,
collapses, pushing the world’s
financial system to the brink
of collapse.

Sept. 11, 2001: Terrorists
attack New York City and
Washington, D.C. New York
Stock Exchange closes for four
days, the longest interruption
of trading since 1914. Federal
Reserve undertakes extraordinary measures to protect
the payments system.
Financial stability
is maintained.

		

Potential Sources of

Financial
Instability

		

in the 21st Century

12

“Financial crises have appeared at roughly 10-year intervals for the last 400 years or so.”
IS A RETURN TO FINANCIAL INSTABILITY LIKELY? In 1984,
Charles Kindleberger, an eminent economic historian, suggested
that financial turbulence was unavoidable: “Financial crises
have appeared at roughly 10-year intervals for the last 400

• Deterioration in the financial condition of households, posing a
risk that consumer spending could slow sharply.
• Heightened risk aversion among investors in financial
markets, depressing asset prices.

years or so.” The years after 1984 have witnessed, if

• High levels of volatility in major equity and credit markets.

anything, even more financial crises around the world. Yet,

• Bank losses——both financial losses on loans and losses of

6

the United States has successfully avoided disruptions of
credit and payments mechanisms. Will our record hold?
What threats to financial stability exist today?

reputation from questionable business practices.
• Diminished access to international capital markets by borrowers in
emerging markets.

	 To answer these questions, it pays to think about the type

	 The March 2003 report also pointed to the huge size and ambigu-

of economic or financial crisis that could cause an outbreak of

ous legal status of Fannie Mae and Freddie Mac, two government

financial instability. The International Monetary Fund provides

sponsored enterprises (GSEs), as discussed elsewhere in this essay.

a quarterly update on trouble spots in the global economy and in

	 Any one or a combination of these risk factors could strike an

the financial systems of major countries.7 The report summariz-

undercapitalized, poorly regulated banking system and precipitate

ing risks to global economic and financial stability entering 2003

financial instability somewhere in the world during 2003. But given

pointed to a long list of problems:

the resilience of our banking system in the last three years, it

• An excessive amount of corporate leverage and excess

appears unlikely that financial instability will visit the United States

production capacity in some sectors.

any time soon.

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

continued from Page 9

policy-makers and, ironically,

the interest rate risk exposure

program, Congress sought to

test the robustness of the post-

of the industry and ate away

avoid the problems that brought

Depression financial system.

capital during the period of

down the state systems. For

Specifically, the flat-rate premium structure__a design flaw

higher and more volatile inter-

in the state-run systems as
well__ promoted imprudent risk-

1970s and early 1980s.

example, Congress insisted
that all national banks and

est rates in the late 1960s,

members of the Federal Reserve
System accept coverage__

taking, thereby contributing to

thereby preventing larger, and

the savings and loan debacle of

developing crisis by deregulating thrift asset portfolios__ a

typically stronger, banks from

the 1980s. With flat-rate premi-

sensible move for a strongly

opting out. The nationwide

ums, troubled thrifts could take

capitalized industry, but an ill-

scope of the program reduced

on risky activities, knowing that

advised policy for a weakly capi-

the likelihood that a geographic

deposit insurance would cost

talized one. With little of their

or industry shock would bank-

no more than before and that

own wealth to lose, some

rupt the reserve fund. In the

the government would bear

undercapitalized thrift owners

worst case, the federal treasury

most of any resulting losses.

gladly took on risky invest-

could be called upon to bolster

These perverse incentives

ments. Congress also raised

the fund. These improvements

resulted in billions of dollars of

the deposit insurance ceiling,

over the state-run programs

loans to support projects of

thereby shielding thrifts from

kept financial turbulence from

dubious value and, ultimately,

market discipline because a

provoking banking panics. No
longer did a financial shock__

in thousands of failures with

greater portion of their funding

enormous cost to taxpayers.

became insensitive to risk.

such as the failure of a major
financial institution__ spell

	

Underfunded thrift supervisors,

ums were not the only cause

who operated under intense

trouble for a small depositor.

of the thrift debacle. Policy-

political and lobbying pressure,

Nationwide bank panics

induced incentives to take on

sanctioned the use of account-

became the stuff of newsreels,

interest-rate risk, inadequate

ing gimmicks to give thrifts

not CNN.

supervision of risk-taking and

more leeway to avoid recogniz-

poorly designed legislative

ing losses, presumably so that

To be sure, flat-rate premi-

well.8

	

Congress responded to the

OTHER WEAKNESSES

responses contributed as

they could grow out of their

SURFACE

New Deal programs that were

problems. In many cases, how-

aimed at stabilizing the mort-

ever, these gimmicks simply

ALTHOUGH FEDERAL DEPOSIT

gage market encouraged thrifts

gave thrift managers more time

INSURANCE DID MUCH TO

to lengthen the maturity of

to experiment with new, even

STABILIZE THE U.S. BANKING

their assets, while deposit

riskier investments, thereby

SYSTEM, IT CONTAINED

insurance allowed thrifts to

compounding the cost of the

STRUCTURAL FLAWS that

shorten their liabilities. The

eventual cleanup. Despite an

would later come back to haunt

resulting mismatch increased

ultimate loss to taxpayers of

13

roughly $150 billion, the federal
deposit insurance system__ and

replace thrift institutions as

against mistakes and unfore-

the primary conduits for chan-

seen portfolio losses. Finally,

what is more important, the
banking system__ did not break.

neling funds to households

bank supervisors must receive

desiring mortgages.

adequate funding and remain

Through it all, the public never
lost confidence in depository

shielded from political pressures.
A NEW SEASON

institutions because the insur-

	

The Federal Deposit

Insurance Corp. Improvement

ance was fully backed by the

Act of 1991 (FDICIA) constituted

federal government. Because

REFORMS HELPED US SUR-

a significant step in the right

the credit and payment mecha-

VIVE THE THRIFT DEBACLE,

direction. The act beefed up

nisms remained intact, the

THE HIGH PRICE PAID TO PRO-

supervision by mandating safety-

thrift crisis did not degenerate

TECT THE FINANCIAL SYSTEM,

and-soundness exams at least

into a vicious cycle of financial

IN TERMS OF TAXPAYER

every 18 months, prompt cor-

and economic instability. The

FUNDS AND RESOURCE

rective action, risk-based

role of federal insurance can-

MISALLOCATION, DICTATED A

deposit insurance premiums

not be overemphasized: In the

RE-EVALUATION. This re-evalu-

and least-cost failure resolution.

mid-1980s and early 1990s,

ation pointed to five important

Frequent exams improved the

state-insured depository insti-

lessons. First, it became clear

flow of information between

tutions in Maryland, Ohio and
14

EVEN THOUGH THE NEW DEAL

that mechanisms should be in

bankers and supervisors so

Rhode Island were destroyed

place to encourage faithful and

that emerging problems could

by panicked deposit with-

timely disclosure of financial

be addressed quickly and deci-

drawals. Such panics could

condition. Second, a new

sively. Prompt corrective

have become national rather

method was needed for pricing

action, which mandates specific

than localized phenomena if

deposit insurance, whereby the

supervisory responses to dete-

no federal deposit insurance

explicit price of deposit insur-

riorating bank capital, guaran-

system had existed.

ance plus the implicit price

teed that emerging problems

	

No doubt, other factors help

imposed by bank supervisors

account for the financial stability

would mimic the private sec-

would be addressed quickly
and decisively__ thereby keep-

of the 1980s and 1990s. Unlike

tor’s risk-sensitive approach to

ing supervision insulated from

the early 1930s, monetary policy

pricing. Third, wherever possi-

politically motivated tampering.

during and after the S&L crisis

ble, market discipline must

Risk-based premiums, which

took explicit account of the

reinforce pressure from

currently range from 0 to 27

condition of the banking sys-

deposit-insurance premiums

cents annually per $100 of

tem. Government-sponsored
enterprises__ Fannie Mae,

and bank supervisors to contain

deposits, increased the cost of

risk. Fourth, financial firms

deposit insurance coverage as

Freddie Mac and the Federal
Home Loan Banks __ stepped in

must maintain adequate capital

bank risk rises, thereby making

to promote market discipline

deposit insurance more like pri-

with commercial banks to

and to provide a cushion

vate insurance. Finally, least-

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

cost resolution, which forces

was unlikely; so, the potential

now face greater default risk

the FDIC to clean up failures in

damage one bank’s failure might

than before FDICIA, which is

the least costly way for the

cause for other banks also

the intent of the law. Genuine

deposit insurance fund, shifted

diminished. As a consequence

risk exposure ensures that

more of the losses to uninsured

of implied federal protection,

market discipline will reinforce

depositors. Greater loss expo-

supervisory efforts to maintain

sure increases investors' incen-

To be sure, regulatory

tive to demand higher interest
rates from riskier institutions__

resolve has yet to be

the safety and soundness of
large banks.
	

Why the banking sector has

an illustration of market disci-

tested in a crisis; so, we

fared so well during the recent

pline. The consensus view so

do not know if the claim

economic slowdown can be

far seems to be that FDICIA

by regulators that no

explained in part by the retool-

has reduced the chances of

bank is too big to fail is,

another thrift-type deposit-

indeed, true.

insurance meltdown.

ing of policy following the thrift
crisis, along with:
• 	other changes in regulation

	

FDICIA brought one more
important change __ it scaled

that permitted greater bank
of course, market pressure on

diversification across product

back the so-called “too big to

all large banks to contain risk

lines and geographic markets,

fail” protection for large banks.

was reduced.

In May 1984, concerns about

	

“systemic risk” (another term

fail protection by requiring the

for financial instability) led reg-

consent of the Secretary of the

• 	technological advances in

ulators to shield all creditors of

Treasury, along with two-thirds

risk management, such as

Continental Illinois from losses

majorities of the Board of

asset securitization, and

when the bank became insol-

Governors of the Federal

vent. That September, the

Reserve and the directors of

Comptroller of the Currency

the FDIC, before an institution

	

formalized the policy in con-

could be given an exemption

whole, return on assets remains

gressional testimony by

from normal procedures for

comfortably above the traditional

announcing that the 11 largest

resolution. To be sure, regula-

1 percent benchmark for strong

national banks were too big to

tory resolve has yet to be tested

earnings. Bank failures num-

fail. The equity markets imme-

in a crisis; so, we do not know

bered more than 100 every year

diately priced a reduction in

if the claim by regulators that

between 1985 and 1991, but

risk into the publicly traded

no bank is too big to fail is,

since 1995, they have not

securities of all large banking

indeed, true. The consensus

exceeded 11 in any year. The

organizations. That is, market

view among market partici-

average commercial bank’s

participants came to believe

pants appears to be that unin-

equity capital ratio stood at 6.4

that the failure of a large bank

sured creditors of large banks

percent of assets at the end of

• 	the strengthening of capital

FDICIA curbed too-big-to-

requirements under the Basel
Capital Accord,

• 	better risk management
by banks.
For the banking sector as a

15

1990, but had risen to 9.2 per-

THREATS ON THE

system. As important, they are

cent of assets by the end of 	

HORIZON

not federally insured and do not

	

have access to the Federal

One other stabilizing aspect

of the supervisory framework is
worth mentioning. The Federal

LONG AND PAINFUL EXPERI-

Reserve discount window.
	 Two of these entities __

Reserve’s role as supervisor of

ENCE THAT THE BEST SAFE-

Fannie Mae and Freddie Mac __

all financial holding companies,

GUARD AGAINST FINANCIAL

merit special attention because

bank holding companies and

INSTABILITY IS A CAREFULLY

of their size and dominance in

some state-chartered banks

DESIGNED PRIVATE-PUBLIC

the housing finance market in

contributes to financial stability

PARTNERSHIP. Yet, as a result

the United States. These two

in two ways. First and foremost,

of rapid financial innovation as

housing GSEs are so massive

the Fed’s supervisory role yields

well as profit-driven incentives

in size and are growing so fast

critical feedback about ongoing

to avoid regulation, a thriving set

that any significant disruption at

developments in the financial

of non-bank financial entities

one or both of the enterprises

sector and in the non-financial

has emerged in the United

necessarily would impact a

economy. This feedback puts
16

WE HAVE LEARNED FROM

States and many other nations.

large number of other financial

the Fed in a better position to

These lightly regulated entities

institutions and non-financial

carry out its function as lender

are not allowed to offer deposits,

entities.9 The securities issued

of last resort. Second, and

but compete with banks on

and guaranteed by the housing

somewhat under-appreciated,

other fronts. Prominent non-

GSEs are widely held in the

the Fed’s status as being “inde-

bank financial entities today

United States and abroad, nota-

pendent inside the government”

include investment banks,

bly by commercial banks.10

puts some distance between

mutual funds, finance com-

U.S. households depend on

the political process and bank

panies, the “financial con-

Fannie and Freddie to obtain

supervision. The Fed shares

glomerates” permitted by the

capital-market rates for home

supervisory responsibility at the

Gramm-Leach-Bliley Act of 1999

mortgage borrowing. A large

federal level with the Office of

and financially oriented govern-

number of players in the inter-

the Comptroller and the FDIC;

ment sponsored enterprises

est-rate derivatives market

each state also has a supervi-

(GSEs). Because these institu-

(including commercial banks)

sion department.

tions have grown rapidly, they

count one or both enterprises

	

have become important players

among their most important

helps guarantee that competi-

in the financial system. Yet,

counterparties. Illiquidity

tion among state and federal

because we do not have many

caused by concerns about enter-

regulators, which can do much

centuries of experience with

prise viability, not to mention

to improve efficiency and

non-bank financial institutions

outright default, could

reduce regulatory burden, does

as we do for banks, we do not

disrupt commercial banks’

not compromise the integrity of

really know what risks they

liquidity management and other

the supervisory process.

potentially pose to the financial

The Fed’s independence

continued on Page 18

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

Fannie and Freddie

Troubling
Dominance
Their direct debt—over $1.5 trillion—is about 40 percent as much as the publicly held debt of the Treasury.
FANNIE MAE (FORMERLY KNOWN AS THE FEDERAL NATIONAL

tions of the two enterprises (i.e., excluding mortgage-backed

MORTGAGE ASSOCIATION, OR FNMA) AND FREDDIE MAC

securities) presently exceed $1.5 trillion, roughly 40 percent

(FORMERLY KNOWN AS THE FEDERAL HOME LOAN MORTGAGE

as much as the publicly held debt of the U.S. Treasury.

CORP., OR FHLMC) TOGETHER OWN OR GUARANTEE ABOUT

Mortgage-backed securities issued and guaranteed by Fannie

45 PERCENT OF ALL RESIDENTIAL MORTGAGE DEBT, UP FROM

and Freddie of about the same amount are held by investors

ABOUT 25 PERCENT IN 1990.

of many types. U.S. commercial banks held about $900 billion

11

In their primary market niche of

so-called “conforming mortgages”—
—prime quality fixed-rate sin-

of housing-GSE securities (13 percent of banks’ total assets)

gle-family mortgages——Fannie and Freddie enjoy a market share

on Sept. 30, 2002, up from about $400 billion at the end of

of about 75 percent, up from about 50 percent a decade ago.

1993 (11 percent of total assets). Meanwhile, community

The U.S. housing market has been strong throughout the 1990s

banks alone (those banks with less than $500 million of assets)

and into the 2000s, in part due to the ability of these housing

held $130 billion of housing-GSE securities on Sept. 30, 2002

GSEs to provide uninterrupted access by households to the com-

(16 percent of total assets), a bit more than at the end of

petitive interest rates available in international capital markets.

1993 (15 percent of total assets).12 To manage interest-rate

	

risk, Fannie and Freddie together have become the largest

As the secondary mortgage market has grown, so have the

direct debt obligations of Fannie and Freddie. Direct debt obliga-

end-users of interest-rate derivatives in the world.

17

	

continued from Page 16

financial institutions and mar-

The fact that we have

kets in unpredictable ways.

Nevertheless, OFHEO con-

cluded that the chance of such
a systemic disruption could not

The collapse of the hedge fund

avoided

Long-Term Capital Management

instability for 70 years

research is warranted. For,

(LTCM) in 1998 illustrates how

is, unfortunately, no

though a Fannie or Freddie

disruptive a single large play-

guarantee that we will

insolvency is unlikely, the rami-

er’s demise can be, especially

financial

be as lucky during the

in the global derivatives mar-

next seven decades.

kets. Federal Reserve intervention, which encouraged a capi-

be ruled out and that further

fications for financial markets
and some financial institutions
should insolvency occur__
particularly if it occurred

tal infusion and an orderly
wind-ing-up of LTCM’s business,

cial stability posed by the housing

prevented much greater

GSEs has not gone unnoticed.

uncovering an accounting
fraud__ would be profound, to

financial turbulence.

The housing GSEs’ federal regu-

say the least. A more likely

	

lator, the Office of Federal

event is not outright insolvency

with an ambiguous status in the

Housing Enterprise Oversight

of one or both of the enterpris-

market. Participants in capital
18

	

(OFHEO), recently published an

es, but some disruption to the

markets clearly perceive a sig-

extensive study analyzing the

liquidity of the markets in which

nificant credit-quality benefit

systemic-risk implications posed

attached to GSE status, as

by Fannie Mae and Freddie

their fixed-income securities
trade__ the agency market or

reflected in the very tight

Mac.13 The report concluded

the mortgage-backed security

interest-rate spreads that GSE

that the immediate risks of

(MBS) market. Such a “liquidity

obligations enjoy over Treasury

financial-solvency issues at
either Fannie or Freddie__ and

event” could stress the banking
ing more and more on agency

upon the federal government

hence, the risk they pose for
financial stability__ were quite

to provide financial support

small because these enterprises

ary liquidity reserves.

beyond a trivial line of credit.

are very strong financially and

If market participants were to

are well-regulated by OFHEO.

AS UNPREDICTABLE

abruptly downgrade the credit

The agency also believes it like-

AS THE WEATHER

quality of GSE-issued or GSE-

ly that other financial institu-

guaranteed securities, the

tions, such as large banks,

SUDDEN SHOCKS__ INCLUD-

resulting repricing and loss of

could quickly fill any void creat-

ING DRAMATIC REVALUATIONS

wealth by securities holders

ed by the pullback of Fannie or

OF CURRENCIES, STOCK MAR-

could unleash substantial

Fred-die from the mortgage

portfolio reallocations and

market due to financial prob-

KET CORRECTIONS OR TERRORIST EVENTS__ are facts of

widespread market volatility.

lems they might encounter.

life in modern economies.

Housing GSEs also operate

securities. Yet, the housing
GSEs have no legal right to call

The potential threat to finan-

abruptly, say, as a result of

system because banks are relysecurities and MBS as second-

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

ing of Japan’s “bubble economy”
of the 1980s has crippled its

Financial Stability Pays Off

banking sector. Indeed, Japan

120
100
80

120
100
80

60

60

Recessions represented
by shaded stripes

40

40
Industry Production
1997=100

20

20

has avoided profound financial
instability only by massive ad
hoc government interventions
that well may bring long-lasting
negative consequences, such as
an unsustainable amount

10

10

of government debt issued to
support the banks. Moreover,

4

4
20

30

40

50

60

70

80

90

00

10

The United States has enjoyed financial stability since the 1930s.
This has helped make recessions less frequent and of shorter
duration. In addition, the growth of industrial production (a proxy
for real GDP) has been noticeably smoother since the 1930s, in
part because the financial system has functioned smoothly.

many less-developed economies
have succumbed to macroeconomic and financial instability of
the type that bedeviled the U.S.
economy during the 19th
and early 20th centuries.

SOURCE: Federal Reserve Board

	

As we move into the 21st

century, we must build on our
Economic disturbances such as

nomic and financial stability,

successes and learn from our

recessions and lending cycles

and other financial regulations__

own and other countries’ mis-

appear to be unavoidable as

has short-circuited this damag-

takes. In practice, this means

well. Without prudent policy,

ing feedback loop since the

paying careful attention to the

these shocks and disturbances,

1930s. To be sure, private-

incentives created by our bank-

if severe or concentrated

sector risk management prac-

ing policies. The fact that we

enough in time, could translate

tices have improved, but it is no

have avoided financial instability

into a financial crisis that criti-

accident that the New Deal

for 70 years is, unfortunately,

cally damages the banking sec-

financial reforms described in

no guarantee that we will be

tor. This, in turn, could severely

this essay have coincided with

as lucky during the next seven

disrupt credit and payment
mechanisms__ that is, create

the longest uninterrupted

decades. In addition to contin-

stretch of financial stability

uous updating of financial

financial instability.

in U.S. history.

supervisory practice and regula-

	

	

vention into the financial sector
of the U.S. economy__ federal

financial instability have

tion, constant vigilance by
government regulators__ the

occurred in the United States

public’s watchdogs__ will be

deposit insurance, the Federal

since the 1930s, we know its

required. 

Reserve System’s multifaceted

reappearance is not outside the

role as promoter of macroeco-

realm of possibility. The burst-

Extensive government inter-

Even though no bouts of

19

ENDNOTES
1	 The Federal Reserve served as a stabiliz-

10	 Direct debt obligations of Fannie, Freddie

ing force on several fronts in the unsettled

or the Federal Home Loan Bank System

post-Sept. 11 environment. The Federal

are termed “agency securities.” Securitized

Reserve Bank of St. Louis 2001 Annual

pools of mortgages guaranteed against

Report described in detail the Fed’s contri-

default by Fannie or Freddie are termed

butions to maintaining financial stability.
http://www.stlouisfed.org/publications/
ar/2001/default.html.
2	 Smith, Adam. An Inquiry into the Nature
and the Causes of the Wealth of Nations.
New York: Modern Library, 1776 (1937
edition), p. 700.
3	 Gorton, Gary. “Banking Panics.” The

“mortgage-backed securities,” or MBS.
11	 Falcon Jr., Armando. Statement before
the Bond Market Association, New York,
Feb. 4, 2003. http://www.ofheo.gov/
docs/speeches/bmspeech2403.pdf.
12	 Banks increasingly view securities issued
by the housing GSEs as near-perfect substitutes for Treasury securities to serve as

New Palgrave Dictionary of Money and

secondary liquidity reserves. The share of

Finance, p. 147. New York: The Stockton

banks’ total securities holdings accounted

Press, 1992.

for by housing-GSE securities increased

4	 Sylla, Richard; Legler, John B.; and Wallis,

from 49 to 72 percent between the end

John J. “Banks and State Public Finance

of 1993 and late 2002. Substitution of

in the New Republic: The United States,

GSE for Treasury securities raises banks’

1790-1860.” Journal of Economic History,

interest earnings slightly, at the risk of

1987, Vol. 47, pp. 391-403.

some illiquidity if GSE securities markets

5	 For a brief history of the state-chartered
deposit insurance systems, see Mark D.
Vaughan and David C. Wheelock,

were to become unsettled and illiquid for
some reason.
13	 Office of Federal Housing Enterprise

“Deposit Insurance Reform…Is It Déjà Vu

20

Oversight. “Systemic Risk: Fannie Mae,

All over Again?” Federal Reserve Bank of

Freddie Mac and the Role of OFHEO,”

St. Louis, The Regional Economist,

a report transmitted to the Congress

October 2002, pp. 5-9.

pursuant to 12 U.S.C. 4513, Sec. 1313 (e),

6	 Kindleberger, Charles P. “Financial
Crises.” A Financial History of Western
Europe, p. 269. London: George Allen
& Unwin, 1984.
7	 International Monetary Fund. Global
Financial Stability Report: Market
Developments and Issues. Washington,
D.C.: IMF, December 2002 and
March 2003. www.imf.org/external/
pubs/ft/GFSR.
8	 For an overview of the thrift crisis, see
David H. Pyle, “The U.S. Savings and Loan
Crisis,” in Handbooks in Operations
Research and Management Science,
Vol. 9, edited by R.A. Jarrow, et al.,
Amsterdam, North Holland, 1995.
9	 The third housing GSE is the Federal
Home Loan Bank System. Because
its structure and operations are quite
different, we do not discuss it here.

February 2003, http://www.ofheo.gov/
docs/reports/sysrisk.pdf.

THE FEDERAL RESERVE BANK OF ST. LOUIS
ANNUAL REPORT 2002
THE YEAR IN REVIEW

t

2002 WAS A YEAR OF WHICH
Looking at the most basic barometer of success,
ALL OF US AT THE ST. LOUIS FED
our expenses came in under budget and our financial
CAN BE TRULY PROUD.
services local net revenue exceeded expectations.

2

Mary Karr
Karl Ashman

LeGrande Rives
Dave Sapenaro

Julie Stackhouse
William Poole

MANAGEMENT COMMITTEE

Robert Rasche
Hank Bourgaux

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

A MESSAGE
FROM MANAGEMENT
2002 WAS A YEAR OF WHICH

one of our main businesses.

of a move that will improve the

ALL OF US AT THE ST. LOUIS

At the same time, we’ve been

nation’s economy in the long run.

FED CAN BE TRULY PROUD.
We accomplished our goals__

encouraging check writers to

Despite the sobering news

switch to electronic forms of

of staff reductions, we must

and, in many cases, did more
than we set out to do __ in help-

payment. Why? Electronic

recognize the many successes
we’ve had over the past year.

ing the Federal Reserve System

payments make for a moreefficient payments system__

fulfill its primary responsibili-

one of our primary responsibili-

variety of ways: from the num-

ties: setting and carrying out

ties. Because the public has

bers on the ledger sheets to

monetary policy, regulating and

now begun a fundamental shift

the number of outreach efforts,

supervising member financial

to electronic payments, we

from the quality of our financial

institutions, and providing

need fewer locations and peo-

services to the valuable

financial services to banks and

ple to process checks. System-

research and advice that we

to the federal government.

wide, 1,300 positions will be

provide to our nation’s mone-

eliminated; in the Eighth District,

tary policy-makers.

However, the Federal

These can be measured in a

Looking at the most basic

ing paper payments to electron-

about 170 jobs will be cut by
year-end 2004__ more than

barometer of success, our

ics will result in consolidated

10 percent of our staff__ as

expenses last year came in

operations and a significant

the Little Rock and Louisville

under budget and our financial

change in the way we operate.

branches stop processing

services local net revenue

Recently, the Federal Reserve

checks. Never before has the

exceeded expectations. Not

System announced that it

Fed reduced staff to this extent,

many businesses can say that

would eliminate jobs because

and we’re saddened that we’ll

for 2002.

of the decline in the nation’s

lose such dedicated employees.

In the financial services

check usage. For decades,

Yet we know these reductions

arena, we’re working hard to

processing checks has been

are an unavoidable consequence

keep up with our customers’

Reserve’s success in convert-

3

to create common practices,

the Treasury an additional

to produce economies of scale

$3 million.

and to reduce expenses. For

In bank supervision, our staff

example, our electronic access

carried out 91 on-site safety

support was shifted in 2002 to

and soundness examinations

the Minneapolis Fed. We also

and inspections last year and

pursued joint ventures with

continued to use off-site moni-

other Feds; the business devel-

toring capabilities to improve

opment departments of the

our own productivity and to be

St. Louis and Cleveland Feds
were recently merged __ a first for

less intrusive in our examina-

demands. For example, we’ve

the System __to save money and

were processed faster than

modernized all check-related

provide better service to cus-

ever. The department’s newly

systems as the Fed has moved

tomers across the two districts.

established Center for Online

Bill Poole reads the news before
starting another day at the helm
of the St. Louis Fed.

to a single system for the entire

Our previous experience and

tions. Reports on examinations

Learning is the System’s leader

nation; the Eighth District was

in web-based training for exam-

the first Reserve bank in the

4

expertise in financial services
have been carried over into the

iners. The center’s online

System to complete this effort.
Our cash operations __ count-

jobs we perform for the U.S.

courses save time and money

Treasury. For the last two

for all involved and allow train-

ing, sorting and storing currency,

years, the St. Louis Fed has had

ees to learn at their own pace.

along with replacing the wornout bills __ have also become

oversight responsibility for the
work done by other Federal

Research Department continue

more efficient. As a result, we

Reserve banks for the Treasury.

to provide valuable policy advice,

ended 2002 as No. 2 in pro-

In addition, our District provided

which is shared with the Federal

ductivity among the 12 Fed

some of these Treasury services.

Open Market Committee when

districts in cash operations.

For example, we handled more

it meets to set monetary policy.

The Federal Reserve System

than $2 trillion in transactions

The economists also share their

has also recognized our track

for the Treasury last year, mainly

record in processing food coupons at our Memphis Branch __

in federal tax payments and

research and expertise with
broader District audiences __

investments of available Treasury

everyone from students to

Memphis now has responsibility

funds in banks around the

teachers to business execu-

for processing food coupons

country. With our help, these

tives to government officials.

for the western half of the United

investments earned $280 mil-

In the past year, the economists

States.

lion in interest for the U.S.

have seen more of their work

Even as we picked up addi-

Treasury in 2002. We also

published and have increased

tional System responsibilities,

helped in 2002 to devise a

the number of speeches they

we gave up some financial ser-

new investment program that

give to outside audiences.

vices work to other Feds

in the pilot phase alone netted

They also regularly criss-cross

The economists in our

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

Meanwhile, our economic edu-

been trained and certified as a

cation department is at the

federal law enforcement officer.

forefront in the Fed in training

Next year at this time, we

teachers and laymen about the

hope that we can report a simi-

economy, having doubled its

lar level of success. And we

goal in attendance at such

wish the same for you.

events last year.
As good stewards of our limLeGrande Rives answers questions
at one of the employee town halls
last year.

ited resources, we are always
trying to do more with less.

William Poole

One of our new initiatives in

President
and Chief Executive Officer

tuents and customers, swap

2002 for saving money was
ED__ Electronic Distribution.

ideas and gather information on

Instead of printing and mailing

local and regional economies.

regulatory and financial ser-vic-

the district to meet our consti-

es information to banks,

W. LeGrande Rives

who are reaching out to the

we now send them via e-mail

First Vice President

public with expertise and ser-

and the Internet. This move

and Chief Operating Officer

vices. Our Community Affairs

reduced our mailing costs by

staff travels the District and

more than half.

It’s not just the economists

beyond, bringing together bank-

Another major savings will

ers and those who need credit

come in the future as a result

to help redevelop their commu-

of our decision not to build a

nities. The office also shines

new headquarters building.

the spotlight on issues that

Instead, we will renovate the

deserve attention, issues such

building that we’ve called home

as predatory lending and finan-

for more than 75 years. This

cial literacy. Of particular note

decision will require some cre-

is the conference we sponsored

ativity on the architects’ part—
—

in fall 2002 on the subject of

to give us the added security

revitalizing distressed urban

precautions necessitated by

areas. Instead of holding such

Sept. 11 in our current location.

an affair in a destination city at

But we won’t sacrifice on

a fancy hotel, the office took

employee security, as we’ve

the bold move of holding the

already demonstrated. In the

conference in East St. Louis, Ill.,

past year, we’ve added protec-

the exact location that needs

tion officers at all four offices,

and deserves our attention.

and each of them has now

5

WHAT FOLLOWS IS A COLLECTION
You don’t have to be an accountant—
OF NUMBERS THAT SPEAK ON MANY
or auditor—to understand why these numbers
DIFFERENT LEVELS ABOUT THE ST. LOUIS
are meaningful to us.
FED’S WORK AND ABOUT THE PEOPLE...

106,549

102,843
$37,611,399,000
1,323
6

1,165,805,000

102,843

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

THE ST. LOUIS FED
BY THE NUMBERS
AT ANY BANK, SUCCESS IS

■	171

citations in professional
journals and elsewhere to the
work of Research Division
economists.

MEASURED THROUGH NUMBERS. But not all the important
numbers can be found in
accountants’ financial state-

■	396

loans to depository institutions for a total dollar value
of $974 million.

ments. What follows is a collection of numbers that speak on
many different levels about the

■	46,120,000

Treasury checks
processed, an increase of 64
percent from the previous year.

St. Louis Fed’s work and about
the people involved with the
Bank, whether they are custom-

■	4

ers, employees or outside parties who are just curious about
the Federal Reserve System.
You don’t have to be an accountant — or auditor— to understand
—
—
why these numbers are mean-

28 percent
of all the notes sent to the
Bank are destroyed because
they are worn out.

is average number of suspected counterfeit bills found
a day in money turned over to
the St. Louis office by banks
for processing and storing.
The bills are turned over to the
Secret Service.

ingful to us.
■	1,994

depository institutions —
—
banks, savings & loans, credit
unions and holding companies— are located in the Eighth
—
District. These include 75
Fed-supervised state member
banks and 624 Fed-supervised
holding companies. Last year,
four banks and 16 holding
companies were started in
the District, and there were
two failures (one bank and
one credit union, neither
supervised by the Fed).

Unless otherwise noted, all numbers are for
the year 2002 or are as of Dec. 31, 2002.

1,323
employees in four
locations: the home
office in St. Louis and
the branches in Little
Rock, Louisville and
Memphis. Of these,
76 were part-time.
Total turnover was
8.25 percent.

7

$37,611,399,000
the total dollar value of all currency handled by the St. Louis Fed
and paid out. In all, almost 2.4 billion notes were processed.
When the cash is received from banks, lightning-quick machines
count, validate and bundle notes at the rate of 88,500 an hour.

■	Approximately

$1.6 trillion in
federal taxes on businesses
processed through the
Treasury Tax & Loan program
for the U.S. Treasury.

■	$280

million in interest
earned for the U.S. Treasury
through TT&L investments at
qualified financial institutions.

■	216,487,000

8

postal money
orders processed.

■	5,500

calls a month handled
by Treasury Relations and
Systems Support staff members. They deal with more
than 10,000 financial institutions nationwide.

■	25

workshops on risk management were facilitated by
the Bank’s Risk Management
Consulting department.

■	34,189

statistical reports from
financial institutions and other
respondents were processed.

102,843

cans of food

donated by St. Louis employees
to charity. The annual food
drive is now providing half of
the food collected by Operation
Food Search, the area’s largest
food bank.

5,435,469 hits
to the newly designed web site
from the time it went live in the
middle of August until the end
of the year.

1,165,805,000

commercial checks
processed
(down 0.7 percent from 2001),
with a total dollar value of
$696 billion (up 12 percent).

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

I

N

C

O

M

E

$1.040 b i l l i o n
$897 million
interest on
federal securities
$53 million
services
$42 million
foreign currency gains
$38 million
reimbursable services
to government agencies

E

X

P

E

N

S

E

S

$163 m i l l i o n
$84 million
salaries and benefits

106,549 subscriptions

$42 million
other
(includes everything
from software to travel
to some pension costs)

to our periodicals. In addition to these publications sent out in the
mail, we have 3,617 online subscriptions from people who want to
do their reading on the computer.

depository institutions
had a total balance of
$478,795,726 in Fed accounts
at year’s end. The money
represents required reserves
and discretionary funds needed for settling transactions.

■	26,949,000

food coupons
destroyed. That’s 28 percent
more than the previous year,
thanks, in large part, to consolidation of this work in
Memphis and Richmond, Va.

■	1,603

people who attended
29 economic education
events held across the
District. These included
seven high-school students
from St. Louis who made it
to the Fed Challenge’s “final
four” in Washington, the
highest level attained by any
team from our district, and
35 teachers who participated
in the weeklong Money and
Banking course during the
summer for college credit.

The Bank had net income of
$877 million, with $816 million
of that profit turned over to the
U.S. Treasury, $11 million paid
out to member banks and
$50 million kept as surplus.

8 million hits

■	520

$19 million
upkeep of the
Board of Governors

for the year to the
FRED (Federal Reserve
Economic Data) database, the Internet’s
most popular noncommercial web site for
U.S. economic data.
The Research Division
implemented a new,
enhanced version
of FRED in 2002.
Hits rose 23 percent
from 2001.

9

THANK YOU

RETIRING BOARD MEMBERS

We would like to express our deepest gratitude to those members
10

of our Eighth District boards of directors who retired in 2002.
Our appreciation and best wishes go out to:
Joseph E. Gliessner Jr. from the St. Louis Board,
Cynthia J. Brinkley from the Little Rock Board and
Mike P. Sturdivant Jr. from the Memphis Board.

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

LITTLEDIRECTORS
ROCK
BOARD OF

LEFT OF COLUMN
A. Rogers Yarnell II

David R. Estes

President
Yarnell Ice Cream Co. Inc.
Searcy, Arkansas

President and CEO
First State Bank
Lonoke, Arkansas

11

RIGHT OF COLUMN
Vick M. Crawley
Chairman
Plant Manager
Baxter Healthcare
Corporation
Mountain Home, Arkansas

Lawrence A. Davis Jr.

Raymond E. Skelton

Chancellor
University of Arkansas at
Pine Bluff
Pine Bluff, Arkansas

Regional President
U.S. Bank
North Little Rock,
Arkansas

NOT PICTURED
Everett Tucker III

Scott T. Ford

Chairman
Moses Tucker Real Estate Inc.
Little Rock, Arkansas

President and CEO
ALLTEL Corporation
Little Rock, Arkansas

LOUISVILLE
BOARD OF DIRECTORS

LEFT OF COLUMN
David H. Brooks

Marjorie Z. Soyugenc

Thomas W. Smith

Chairman and CEO
Stock Yards
Bank & Trust Co.
Louisville, Kentucky

Executive Director
and CEO
Welborn Foundation
Evansville, Indiana

President
Thomas W. Smith &
Associates Inc.
Danville, Kentucky

12

RIGHT OF COLUMN
Norman E. Pfau Jr.
Chairman
President and CEO
Geo. Pfau’s Sons
Company Inc.
Jeffersonville, Indiana

Maria Gerwing Hampton

Cornelius A. Martin

Frank J. Nichols

President
The Housing Partnership Inc.
Louisville, Kentucky

President and CEO
Martin Management Group
Bowling Green, Kentucky

Chairman, President and CEO
Community Financial Services
Inc.
Benton, Kentucky

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

MEMPHIS

BOARD OF DIRECTORS

LEFT OF COLUMN
Russell Gwatney

Meredith B. Allen

James A. England

President
Gwatney Companies
Memphis, Tennessee

Vice President,
Marketing
Staple Cotton
Cooperative Association
Greenwood, Mississippi

Chairman, President and CEO
Decatur County Bank
Decaturville, Tennessee

13

RIGHT OF COLUMN
Gregory M. Duckett
Chairman
Senior Vice President and
Corporate Counsel
Baptist Memorial Health
Care Corporation
Memphis, Tennessee

Tom A. Wright

Walter L. Morris Jr.

E.C. Neelly III

Chairman, President and CEO
Enterprise National Bank
Memphis, Tennessee

President
H&M Lumber Co. Inc.
West Helena, Arkansas

Management
Consultant
First American
National Bank
Iuka, Mississippi

ST. LOUIS

BOARD OF DIRECTORS

LEFT OF COLUMN
Lewis F. Mallory Jr.

Bert Greenwalt

J. Stephen Barger

Chairman and CEO
National Bank of
Commerce
Starkville, Mississippi

Partner
Greenwalt Company
Hazen, Arkansas

Executive SecretaryTreasurer
Kentucky State District
Council of Carpenters
Frankfort, Kentucky

Charles W. Mueller
Chairman
Chairman and CEO
Ameren Corporation
St Louis, Missouri

14

RIGHT OF COLUMN
Gayle P.W. Jackson

Lunsford W. Bridges

Robert L. Johnson

Bradley W. Small

Managing Director
FondElec Clean
Energy Group Inc.
St. Louis, Missouri

President and CEO
Metropolitan National Bank
Little Rock, Arkansas

Chairman and CEO
Johnson Bryce Inc.
Memphis, Tennessee

President and CEO
The Farmers and
Merchants
National Bank
Nashville, Illinois

NOT PICTURED
Walter L. Metcalfe Jr.
Deputy Chairman
Chairman
Bryan Cave LLP
St. Louis, Missouri

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

FINANCIAL
STATEMENTS

THE FEDERAL RESERVE BANK OF ST. LOUIS
FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2002

THE FIRM ENGAGED BY THE BOARD OF GOVERNORS FOR THE AUDITS OF THE INDIVIDUAL
AND COMBINED FINANCIAL STATEMENTS OF THE RESERVE BANKS FOR 2002 WAS
PRICEWATERHOUSECOOPERS LLP (PWC). FEES FOR THESE SERVICES TOTALED
$1.0 MILLION. IN ORDER TO ENSURE AUDITOR INDEPENDENCE, THE BOARD OF GOVERNORS
REQUIRES THAT PWC BE INDEPENDENT IN ALL MATTERS RELATING TO THE AUDIT.
SPECIFICALLY, PWC MAY NOT PERFORM SERVICES FOR THE RESERVE BANKS OR OTHERS
THAT WOULD PLACE IT IN A POSITION OF AUDITING ITS OWN WORK, MAKING MANAGEMENT
DECISIONS ON BEHALF OF THE RESERVE BANKS, OR IN ANY OTHER WAY IMPAIRING ITS AUDIT
INDEPENDENCE. IN 2002, THE BANK DID NOT ENGAGE PWC FOR ADVISORY SERVICES.

15

March 3, 2003
To the Board of Directors:
The management of the Federal Reserve Bank of St. Louis (“FRBSTL”) is responsible for the preparation and fair presentation of the Statement of Financial Condition, Statement of Income, and Statement
of Changes in Capital as of December 31, 2002 (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 and as set forth in the Financial Accounting
Manual for the Federal Reserve Banks (“Manual”), and as such, include amounts, some of which are
based on judgments and estimates of management. 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 FRBSTL is responsible for maintaining an effective process of internal
controls over financial reporting including the safeguarding of assets as they relate to the Financial
Statements. Such internal controls are designed to provide reasonable assurance to management
and to the Board of Directors regarding the preparation of reliable Financial Statements. This process
of internal controls contains self-monitoring mechanisms, including, but not limited to, divisions of
responsibility and a code of conduct. Once identified, any material deficiencies in the process of
16

internal controls are reported to management, and appropriate corrective measures are implemented.
Even an effective process of internal controls, 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.
The management of the FRBSTL assessed its process of internal controls over financial reporting
including the safeguarding of assets 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 (COSO). Based on this assessment, we believe that the
FRBSTL maintained an effective process of internal controls over financial reporting including the
safeguarding of assets as they relate to the Financial Statements.
Federal Reserve Bank of St. Louis

William Poole, President and Chief Executive Officer

W. LeGrande Rives, First Vice President and Chief Operating Officer

Marilyn K. Corona, Principal Financial Officer

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors of the Federal Reserve Bank of St. Louis:
We have examined management’s assertion that the Federal Reserve Bank of St. Louis (“FRB”) maintained effective internal control over financial reporting and the safeguarding of assets as they relate to
the financial statements as of December 31, 2002, based on criteria described in “Internal Control—
Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission included in the accompanying Management’s Assertion. FRB’s management is responsible for
maintaining effective internal control over financial reporting and the safeguarding of assets as they
relate to the financial statements. Our responsibility is to express an opinion on the assertion based on
our examination.
Our examination was conducted in accordance with attestation standards established by the American
Institute of Certified Public Accountants, and accordingly, included obtaining an understanding of the
internal control over financial reporting, testing, and evaluating the design and operating effectiveness of
the internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our examination provides a reasonable basis for our opinion.
Because of inherent limitations in any internal control, misstatements due to error or fraud may occur
and not be detected. Also, projections of any evaluation of the internal control over financial reporting
to future periods are subject to the risk that the internal control may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assertion that the FRB maintained effective internal control over financial
reporting and over the safeguarding of assets as they relate to the financial statements as of December 31,
2002, is fairly stated, in all material respects, based on criteria described in “Internal Control—Integrated
Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission.

March 3, 2003
St. Louis, Missouri

17

REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Governors of The Federal Reserve System
and the Board of Directors of The Federal Reserve Bank of St. Louis:
We have audited the accompanying statements of condition of The Federal Reserve Bank of
St. Louis (the “Bank”) as of December 31, 2002 and 2001, and the related statements of income
and changes in capital for the years then ended, which have been prepared in conformity with the
accounting principles, policies, and practices established by the Board of Governors of The Federal
Reserve System. These financial statements are the responsibility of the Bank’s management. Our
responsibility is to express an opinion on the financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United
States of America. Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
18

As discussed in Note 3, the financial statements were prepared in conformity with the accounting
principles, policies, and practices established by the Board of Governors of The Federal Reserve
System. These principles, policies, and practices, which were designed to meet the specialized
accounting and reporting needs of The Federal Reserve System, are set forth in the “Financial
Accounting Manual for Federal Reserve Banks” and constitute a comprehensive basis of accounting
other than accounting principles generally accepted in the United States of America.
In our opinion, the financial statements referred to above present fairly, in all material respects, the
financial position of the Bank as of December 31, 2002 and 2001, and results of its operations for the
years then ended, in conformity with the basis of accounting described in Note 3.

March 3, 2003
St. Louis, Missouri

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

FEDERAL RESERVE BANK OF ST. LOUIS | STATEMENTS OF CONDITION
(IN MILLIONS)

					

As of December 31,
					
					
2002		
2001
ASSETS			
Gold certificates	
$	
346	
$	
343
Special drawing rights certificates		
71		
71
Coin				
59		
58
Items in process of collection		
695		
215
Loans to depository institutions		
11		
3
U.S. government and federal agency securities, net		
22,726		
20,245
Investments denominated in foreign currencies		
343		
291
Accrued interest receivable		
194		
206
Interdistrict settlement account		
–		
721
Bank premises and equipment, net		
66		
67
Other assets		
26		
19
			TOTAL ASSETS	

$	

24,537	 $	 22,239

LIABILITIES AND CAPITAL			
Liabilities:			
	 Federal Reserve notes outstanding, net	
$	
18,914	
$	
21,435
	 Securities sold under agreements to repurchase		
750		
—
Deposits:			
	 Depository institutions		
480		
344
	 Other deposits		
5		
1
Deferred credit items		
345		
79	
Interest on Federal Reserve notes due U.S. Treasury		
30		
22
Interdistrict settlement account		
3,554		
—
Accrued benefit costs		
57		
55
Other liabilities		
4		
5
			TOTAL LIABILITIES		
Capital:			
	 Capital paid-in		
	Surplus		
			TOTAL CAPITAL		
			 TOTAL LIABILITIES AND CAPITAL	

24,139		 21,941
199		
199		

149
149

398		

298

$	 24,537		$22,239

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

FEDERAL RESERVE BANK OF ST. LOUIS | STATEMENTS OF INCOME
(IN MILLIONS)

For the years ended December 31,
					
2002		
2001
Interest income:			
	 Interest on U.S. government and federal agency securities	
$	
897	
$	
1,082
	 Interest on investments denominated in foreign currencies		
5		
7
			TOTAL INTEREST INCOME		
902		
			
Other operating income:			
	 Income from services		
53		
	 Reimbursable services to government agencies		
38		
	 Foreign currency gains (losses), net		
42		
	 U.S. government securities gains, net		
3		
	 Other income		
2		
			TOTAL OTHER OPERATING INCOME		
138		
Operating expenses:			
	 Salaries and other benefits		
84		
	 Occupancy expense		
8		
	 Equipment expense		
10		
	 Assessments by Board of Governors		
19		
	 Other expenses 		
42		
			TOTAL OPERATING EXPENSES	

$	

163	$	

1,089

54
26
(30)
12
3
65
80
8
10
18
35
151

19

Net income prior to distribution	

$	

877	

$	

Distribution of net income:			
	 Dividends paid to member banks	
$	
11	
$	
	 Transferred to surplus 		
50		
	 Payments to U.S. Treasury as interest on Federal Reserve notes		
816		
			TOTAL DISTRIBUTION	

$	

877	 $	

1,003

9
11
983
1,003

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

FEDERAL RESERVE BANK OF ST. LOUIS | STATEMENTS OF CHANGES IN CAPITAL
for the years ended December 31, 2002 and December 31, 2001
(IN MILLIONS)

				
Capital Paid-in		
Surplus		
Total Capital
Balance at January 1, 2001
			(2.8 million shares)	
$	
138	 $	
138	 $	
276
	 Net income transferred to surplus				
11		
11
	 Net change in capital stock issued
			(0.2 million shares)		
11				
11
Balance at December 31, 2001
		
(3.0 million shares)	

$	

149	

$	

149	

$	

	 Net income transferred to surplus				
50		
	 Net change in capital stock issued
		
(1.0 million shares)		
50				
Balance at December 31, 2002
		
(4.0 million shares)	

$	

199	

$	

199	

$	

298	
50
50
398

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

20
FEDERAL RESERVE BANK OF ST. LOUIS | NOTES TO FINANCIAL STATEMENTS
1. STRUCTURE
	 The Federal Reserve Bank of St. Louis (“Bank”) is part of the Federal Reserve System (“System”) created by Congress under
the Federal Reserve Act of 1913 (“Federal Reserve Act”) which established the central bank of the United States. The System
consists of the Board of Governors of the Federal Reserve System (“Board of Governors”) and twelve Federal Reserve Banks
(“Reserve Banks”). The Reserve Banks are chartered by the federal government and possess a unique set of governmental,
corporate, and central bank characteristics. The Bank and its branches in Little Rock, Louisville and Memphis, serve the Eighth
Federal Reserve District, which includes Arkansas, and portions of Illinois, Indiana, Kentucky, Mississippi, Missouri and Tennessee. Other major elements of the System are the Federal Open Market Committee (“FOMC”) and the Federal Advisory Council.
The FOMC is composed of members of the Board of Governors, the president of the Federal Reserve Bank of New York (“FRBNY”)
and, on a rotating basis, four other Reserve Bank presidents. Banks that are members of the System include all national banks
and any state chartered bank that applies and is approved for membership in the System.
Board of Directors
	 In accordance with the Federal Reserve Act, supervision and control of the Bank are exercised by a Board of Directors. The
Federal Reserve Act specifies the composition of the Board of Directors for each of the Reserve Banks. Each board is composed
of nine members serving three-year terms: three directors, including those designated as Chairman and Deputy Chairman, are
appointed by the Board of Governors, and six directors are elected by member banks. Of the six elected by member banks, three
represent the public and three represent member banks. Member banks are divided into three classes according to size. Member
banks in each class elect one director representing member banks and one representing the public. In any election of directors,
each member bank receives one vote, regardless of the number of shares of Reserve Bank stock it holds.
2.	 OPERATIONS AND SERVICES
	 The System performs a variety of services and operations. Functions include: formulating and conducting monetary policy;
participating actively in the payments mechanism, including large-dollar transfers of funds, automated clearinghouse (“ACH”)
operations and check processing; distributing coin and currency; performing fiscal agency functions for the U.S. Treasury and
certain federal agencies; serving as the federal government’s bank; providing short-term loans to depository institutions; serving
the consumer and the community by providing educational materials and information regarding consumer laws; supervising
bank holding companies and state member banks; and administering other regulations of the Board of Governors. The Board

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

of Governors’ operating costs are funded through assessments on the Reserve Banks.
	 The FOMC establishes policy regarding open market operations, oversees these operations, and issues authorizations and
directives to the FRBNY for its execution of transactions. Authorized transaction types include direct purchase and sale of
securities, matched sale-purchase transactions, the purchase of securities under agreement to resell, the sale of securities
under agreement to repurchase, and the lending of U.S. government securities. The FRBNY is also authorized by the FOMC to
hold balances of and to execute spot and forward foreign exchange (“F/X”) and securities contracts in nine foreign currencies,
maintain reciprocal currency arrangements (“F/X swaps”) with various central banks, and “warehouse” foreign currencies for
the U.S. Treasury and Exchange Stabilization Fund (“ESF”) through the Reserve Banks.
3.	 SIGNIFICANT ACCOUNTING POLICIES
	 Accounting principles for entities with the unique powers and responsibilities of the nation’s central bank have not been formulated by the Financial Accounting Standards Board. The Board of Governors has developed specialized accounting principles
and practices that it believes are appropriate for the significantly different nature and function of a central bank as compared to
the private sector. These accounting principles and practices are documented in the Financial Accounting Manual for Federal
Reserve Banks (“Financial Accounting Manual”), which is issued by the Board of Governors. All Reserve Banks are required to
adopt and apply accounting policies and practices that are consistent with the Financial Accounting Manual.
	 The financial statements have been prepared in accordance with the Financial Accounting Manual. Differences exist between
the accounting principles and practices of the System and accounting principles generally accepted in the United States of
America (“GAAP”). The primary differences are the presentation of all security holdings at amortized cost, rather than at the fair
value presentation requirements of GAAP, and the accounting for matched sale-purchase transactions as separate sales and
purchases, rather than secured borrowings with pledged collateral, as is generally required by GAAP. In addition, the Bank has
elected not to present a Statement of Cash Flows. The Statement of Cash Flows has not been included as the liquidity and cash
position of the Bank are not of primary concern to the users of these financial statements. Other information regarding the
Bank’s activities is provided in, or may be derived from, the Statements of Condition, Income, and Changes in Capital. Therefore,
a Statement of Cash Flows would not provide any additional useful information. There are no other significant differences
between the policies outlined in the Financial Accounting Manual and GAAP.
	 Effective January 2001, the System implemented procedures to eliminate the sharing of costs by Reserve Banks for certain
services a Reserve Bank may provide on behalf of the System. Major services provided for the System by the Bank, for which
the costs will not be redistributed to the other Reserve Banks, include operation of the Treasury Relations and Support Office
and Treasury Relations and Systems Support Department, which provide services to the U.S. Treasury. These services include:
relationship management, strategic consulting, and oversight for fiscal and payments related projects for the Federal Reserve
System; and operational support for the Treasury’s tax collection, cash management and collateral monitoring.
	 The preparation of the financial statements in conformity with the Financial Accounting Manual requires management to
make certain estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities at the date of the financial statements, and the reported amounts of income and expenses during the
reporting period. Actual results could differ from those estimates. Unique accounts and significant accounting policies are
explained below.
a.	 Gold Certificates
	 The Secretary of the Treasury is authorized to issue gold certificates to the Reserve Banks to monetize gold held by the U.S.
Treasury. Payment for the gold certificates by the Reserve Banks is made by crediting equivalent amounts in dollars into the
account established for the U.S. Treasury. These gold certificates held by the Reserve Banks are required to be backed by the
gold of the U.S. Treasury. The U.S. Treasury may reacquire the gold certificates at any time and the Reserve Banks must deliver
them to the U.S. Treasury. At such time, the U.S. Treasury’s account is charged and the Reserve Banks’ gold certificate accounts
are lowered. The value of gold for purposes of backing the gold certificates is set by law at $42 2/9 a fine troy ounce. The
Board of Governors allocates the gold certificates among Reserve Banks once a year based upon average Federal Reserve notes
outstanding in each District.
b.	 Special Drawing Rights Certificates
	 Special drawing rights (“SDRs”) are issued by the International Monetary Fund (“Fund”) to its members in proportion to each
member’s quota in the Fund at the time of issuance. SDRs serve as a supplement to international monetary reserves and may be
transferred from one national monetary authority to another. Under the law providing for United States participation in the SDR
system, the Secretary of the U.S. Treasury is authorized to issue SDR certificates, somewhat like gold certificates, to the Reserve
Banks. At such time, equivalent amounts in dollars are credited to the account established for the U.S. Treasury, and the Reserve
Banks’ SDR certificate accounts are increased. The Reserve Banks are required to purchase SDRs, at the direction of the U.S.
Treasury, for the purpose of financing SDR certificate acquisitions or for financing exchange stabilization operations. At the time
SDR transactions occur, the Board of Governors allocates SDR certificate transactions among Reserve Banks based upon Federal
Reserve notes outstanding in each District at the end of the preceding year. There were no SDR transactions in 2002.
c.	 Loans to Depository Institutions
	 The Depository Institutions Deregulation and Monetary Control Act of 1980 provides that all depository institutions that
maintain reservable transaction accounts or nonpersonal time deposits, as defined in Regulation D issued by the Board of
Governors, have borrowing privileges at the discretion of the Reserve Banks. Borrowers execute certain lending agreements and
deposit sufficient collateral before credit is extended. Loans are evaluated for collectibility, and currently all are considered
collectible and fully collateralized. If loans were ever deemed to be uncollectible, an appropriate reserve would be established.
Interest is accrued using the applicable discount rate established at least every fourteen days by the Boards of Directors of the
Reserve Banks, subject to review by the Board of Governors. Reserve Banks retain the option to impose a surcharge above the
basic rate in certain circumstances.

21

22

d.	 U.S. Government and Federal Agency Securities and Investments Denominated in Foreign Currencies
	 The FOMC has designated the FRBNY to execute open market transactions on its behalf and to hold the resulting securities
in the portfolio known as the System Open Market Account (“SOMA”). In addition to authorizing and directing operations in the
domestic securities market, the FOMC authorizes and directs the FRBNY to execute operations in foreign markets for major currencies in order to counter disorderly conditions in exchange markets or to meet other needs specified by the FOMC in
carrying out the System’s central bank responsibilities. Such authorizations are reviewed and approved annually by the FOMC.
	 In December 2002, the FRBNY replaced matched sale-purchase (“MSP”) transactions with securities sold under agreements
to repurchase. MSP transactions, accounted for as separate sale and purchase transactions, are transactions in which the
FRBNY sells a security and buys it back at the rate specified at the commencement of the transaction. Securities sold under
agreements to repurchase are treated as secured borrowing transactions with the associated interest expense recognized over
the life of the transaction.
	 The FRBNY has sole authorization by the FOMC to lend U.S. government securities held in the SOMA to U.S. government
securities dealers and to banks participating in U.S. government securities clearing arrangements on behalf of the System, in
order to facilitate the effective functioning of the domestic securities market. These securities-lending transactions are fully
collateralized by other U.S. government securities. FOMC policy requires FRBNY to take possession of collateral in excess of
the market values of the securities loaned. The market values of the collateral and the securities loaned are monitored by
FRBNY on a daily basis, with additional collateral obtained as necessary. The securities loaned continue to be accounted for
in the SOMA.
	 F/X contracts are contractual agreements between two parties to exchange specified currencies, at a specified price, on a
specified date. Spot foreign contracts normally settle two days after the trade date, whereas the settlement date on forward
contracts is negotiated between the contracting parties, but will extend beyond two days from the trade date. The FRBNY generally enters into spot contracts, with any forward contracts generally limited to the second leg of a swap/warehousing transaction.
	 The FRBNY, on behalf of the Reserve Banks, maintains renewable, short-term F/X swap arrangements with two authorized foreign central banks. The parties agree to exchange their currencies up to a pre-arranged maximum amount and for an agreed upon
period of time (up to twelve months), at an agreed upon interest rate. These arrangements give the FOMC temporary access to
foreign currencies that it may need for intervention operations to support the dollar and give the partner foreign central bank
temporary access to dollars it may need to support its own currency. Drawings under the F/X swap arrangements can be initiated
by either the FRBNY or the partner foreign central bank, and must be agreed to by the drawee. The F/X swaps are structured so
that the party initiating the transaction (the drawer) bears the exchange rate risk upon maturity. The FRBNY will generally invest
the foreign currency received under an F/X swap in interest-bearing instruments.
	 Warehousing is an arrangement under which the FOMC agrees to exchange, at the request of the Treasury, U.S. dollars for foreign currencies held by the Treasury or ESF over a limited period of time. The purpose of the warehousing facility is to supplement
the U.S. dollar resources of the Treasury and ESF for financing purchases of foreign currencies and related international operations.
	 In connection with its foreign currency activities, the FRBNY, on behalf of the Reserve Banks, may enter into contracts which
contain varying degrees of off-balance sheet market risk, because they represent contractual commitments involving future
settlement and counter-party credit risk. The FRBNY controls credit risk by obtaining credit approvals, establishing transaction
limits, and performing daily monitoring procedures.
	 While the application of current market prices to the securities currently held in the SOMA portfolio and investments denominated in foreign currencies may result in values substantially above or below their carrying values, these unrealized changes in
value would have no direct effect on the quantity of reserves available to the banking system or on the prospects for future
Reserve Bank earnings or capital. Both the domestic and foreign components of the SOMA portfolio from time to time involve
transactions that can result in gains or losses when holdings are sold prior to maturity. Decisions regarding the securities and
foreign currencies transactions, including their purchase and sale, are motivated by monetary policy objectives rather than profit.
Accordingly, market values, earnings, and any gains or losses resulting from the sale of such currencies and securities are incidental to the open market operations and do not motivate its activities or policy decisions.
	 U.S. government and federal agency securities and investments denominated in foreign currencies comprising the SOMA are
recorded at cost, on a settlement-date basis, and adjusted for amortization of premiums or accretion of discounts on a straightline basis. Interest income is accrued on a straight-line basis and is reported as “Interest on U.S. government and federal agency
securities” or “Interest on investments denominated in foreign currencies,” as appropriate. Income earned on securities lending
transactions is reported as a component of “Other income.” Gains and losses resulting from sales of securities are determined
by specific issues based on average cost. Gains and losses on the sales of U.S. government and federal agency securities are
reported as “U.S. government securities gains, net.” Foreign-currency-denominated assets are revalued daily at current foreign
currency market exchange rates in order to report these assets in U.S. dollars. Realized and unrealized gains and losses on
investments denominated in foreign currencies are reported as “Foreign currency gains (losses), net.” Foreign currencies held
through F/X swaps, when initiated by the counter-party, and warehousing arrangements are revalued daily, with the unrealized
gain or loss reported by the FRBNY as a component of “Other assets” or “Other liabilities,” as appropriate.
	 Balances of U.S. government and federal agency securities bought outright, securities sold under agreements to repurchase,
securities loaned, investments denominated in foreign currency, interest income and expense, securities lending fee income,
amortization of premiums and discounts on securities bought outright, gains and losses on sales of securities, and realized and
unrealized gains and losses on investments denominated in foreign currencies, excluding those held under an F/X swap
arrangement, are allocated to each Reserve Bank. Income from securities lending transactions undertaken by the FRBNY are
also allocated to each Reserve Bank. Securities purchased under agreements to resell and unrealized gains and losses on the
revaluation of foreign currency holdings under F/X swaps and warehousing arrangements are allocated to the FRBNY and not
to other Reserve Banks.
e.	 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 estimated useful lives of assets ranging from 2 to 50 years. New assets, major alterations, renovations and improve-

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

ments are capitalized at cost as additions to the asset accounts. Maintenance, repairs and minor replacements are charged to
operations in the year incurred. Costs incurred for software, either developed internally or acquired for internal use, during the
application development stage are capitalized based on the cost of direct services and materials associated with designing, coding, installing, or testing software.
f.	 Interdistrict Settlement Account
	 At the close of business each day, all Reserve Banks and branches assemble the payments due to or from other Reserve
Banks and branches as a result of transactions involving accounts residing in other Districts that occurred during the day’s
operations. Such transactions may include funds settlement, check clearing and ACH operations, and allocations of shared
expenses. The cumulative net amount due to or from other Reserve Banks is reported as the “Interdistrict settlement account.”
g.	 Federal Reserve Notes
	 Federal Reserve notes are the circulating currency of the United States. These notes are issued through the various Federal
Reserve agents (the Chairman of the Board of Directors of each Reserve Bank) to the Reserve Banks upon deposit with such
agents of certain classes of collateral security, typically U.S. government securities. These notes are identified as issued to a
specific Reserve Bank. The Federal Reserve Act provides that the collateral security tendered by the Reserve Bank to the Federal
Reserve agent must be equal to the sum of the notes applied for by such Reserve Bank. In accordance with the Federal Reserve
Act, gold certificates, special drawing rights certificates, U.S. government and federal agency securities, securities purchased
under agreements to resell, loans to depository institutions, and investments denominated in foreign currencies are pledged as
collateral for net Federal Reserve notes outstanding. The collateral value is equal to the book value of the collateral tendered,
with the exception of securities, whose collateral value is equal to the par value of the securities tendered, and securities purchased under agreements to resell, which are valued at the contract amount. The par value of securities pledged for securities
sold under agreements to repurchase is similarly deducted. The Board of Governors may, at any time, call upon a Reserve Bank
for additional security to adequately collateralize the Federal Reserve notes. The Reserve Banks have entered into an agreement which provides for certain assets of the Reserve Banks to be jointly pledged as collateral for the Federal Reserve notes
of all Reserve Banks in order to satisfy their obligation of providing sufficient collateral for outstanding Federal Reserve notes.
In the event that this collateral is insufficient, the Federal Reserve Act provides that Federal Reserve notes become a first and
paramount lien on all the assets of the Reserve Banks. Finally, as obligations of the United States, Federal Reserve notes are
backed by the full faith and credit of the United States government.
	 The “Federal Reserve notes outstanding, net” account represents the Bank’s Federal Reserve notes outstanding, reduced by
its currency holdings of $3.088 million and $2.586 million at December 31, 2002 and December 31, 2001, respectively.
h.	Capital Paid-in
	 The Federal Reserve Act requires that each member bank subscribe to the capital stock of the Reserve Bank in an amount
equal to 6 percent of the capital and surplus of the member bank. As a member bank’s capital and surplus changes, its holdings
of the Reserve Bank’s stock must be adjusted. Member banks are those state-chartered banks that apply and are approved for
membership in the System and all national banks. Currently, only one-half of the subscription is paid-in and the remainder is subject to call. These shares are nonvoting with a par value of $100. They may not be transferred or hypothecated. By law, each
member bank is entitled to receive an annual dividend of 6 percent on the paid-in capital stock. This cumulative dividend is
paid semiannually. A member bank is liable for Reserve Bank liabilities up to twice the par value of stock subscribed by it.
i.	Surplus
	 The Board of Governors requires Reserve Banks to maintain a surplus equal to the amount of capital paid-in as of December 31.
This amount is intended to provide additional capital and reduce the possibility that the Reserve Banks would be required to call
on member banks for additional capital. Pursuant to Section 16 of the Federal Reserve Act, Reserve Banks are required by the
Board of Governors to transfer to the U.S. Treasury excess earnings, after providing for the costs of operations, payment of dividends, and reservation of an amount necessary to equate surplus with capital paid-in.
	 In the event of losses or a substantial increase in capital, payments to the U.S. Treasury are suspended until such losses are
recovered through subsequent earnings. Weekly payments to the U.S. Treasury may vary significantly.
j.	 Income and Costs related to Treasury Services
	 The Bank is required by the Federal Reserve Act to serve as fiscal agent and depository of the United States. By statute, the
Department of the Treasury is permitted, but not required, to pay for these services.
k. Taxes
	 The Reserve Banks are exempt from federal, state, and local taxes, except for taxes on real property, which are reported as a
component of “Occupancy expense.”	
4.	 U.S. GOVERNMENT AND FEDERAL AGENCY SECURITIES
	 Securities bought outright are held in the SOMA at the FRBNY. An undivided interest in SOMA activity and the related premiums, discounts and income, with the exception of securities purchased under agreements to resell, is allocated to each Reserve
Bank on a percentage basis derived from an annual settlement of interdistrict clearings. The settlement, performed in April of
each year, equalizes Reserve Bank gold certificate holdings to Federal Reserve notes outstanding. The Bank’s allocated share of
SOMA balances was approximately 3.556 percent and 3.604 percent at December 31, 2002 and 2001, respectively.

23

The Bank’s allocated share of securities held in the SOMA at December 31, that were bought outright, was as follows (in millions):	
				
		
2002	
2001
PAR VALUE:	
U.S. government:			
	 Bills		
$	
8,060	
$	
6,563
	Notes		
10,592		
9,585
	Bonds		
3,728		
3,736
			TOTAL PAR VALUE		
Unamortized premiums		
Unaccreted discounts		
			TOTAL ALLOCATED TO BANK	

22,380		
383		
(37)		

19,884
407
(46)

$	 22,726	 $	20,245

Total SOMA securities bought outright were $639,125 million and $561,701 million at December 31, 2002 and 2001, respectively.
The maturity distribution of U.S. government and federal agency securities bought outright, which were allocated to the Bank at
December 31, 2002, was as follows (in millions):
					PAR VALUE
U.S. Government Federal Agency
Securities		 Obligations		
MATURITIES OF SECURITIES HELD	
Within 15 days	
$	
16 days to 90 days		
91 days to 1 year		
Over 1 year to 5 years		
Over 5 years to 10 years		
Over 10 years		
	
			TOTAL	

976	
$	
5,483		
5,044		
6,143		
1,895		
2,839		

$	 22,380		

—	
$	
—		
—		
—		
—		
—		

Total
976
5,483
5,044	
6,143	
1,895
2,839

—	 $	$22,380	

	 As mentioned in footnote 3, in December 2002, the FRBNY replaced MSP transactions with securities sold under agreements to
24

repurchase. At December 31, 2002, securities sold under agreements to repurchase with a contract amount of $21,091 million and
a par value of $21,098 million were outstanding, of which $750 million and $750 million, respectively, were allocated to the Bank.
At December 31, 2001, MSP transactions involving U.S. government securities with a par value of $23,188 million were outstanding,
of which $836 million was allocated to the Bank. Securities sold under agreements to repurchase and MSP transactions are generally overnight arrangements.
	 At December 31, 2002 and 2001, U.S. government securities with par values of $1,841 million and $7,345 million, respectively,
were loaned from the SOMA, of which $65 million and $265 million were allocated to the Bank.
5.	INVESTMENTS DENOMINATED IN FOREIGN CURRENCIES
	 The FRBNY, on behalf of the Reserve Banks, holds foreign currency deposits with foreign central banks and the Bank for
International Settlements, and invests in foreign government debt instruments. Foreign government debt instruments held
include both securities bought outright and securities purchased under agreements to resell. These investments are guaranteed
as to principal and interest by the foreign governments.
	 Each Reserve Bank is allocated a share of foreign-currency-denominated assets, the related interest income, and realized and
unrealized foreign currency gains and losses, with the exception of unrealized gains and losses on F/X swaps and warehousing
transactions. This allocation is based on the ratio of each Reserve Bank’s capital and surplus to aggregate capital and surplus
at the preceding December 31. The Bank’s allocated share of investments denominated in foreign currencies was approximately
2.030 percent and 2.001 percent at December 31, 2002 and 2001, respectively.
The Bank’s allocated share of investments denominated in foreign currencies, valued at current foreign currency market
exchange rates at December 31, was as follows (in millions):
					
2002		

2001	

European Union Euro:			
	 Foreign currency deposits	
$	
113	
$	
92
	 Government debt instruments including		
67		
54
		 Agreement to resell			
Japanese Yen:					
	 Foreign currency deposits		
36		
38	
	 Government debt instruments including		
125		
106
		 Agreement to resell			
Accrued interest 		
2		
1
			TOTAL	

$	

343	$	

291

Total investments denominated in foreign currencies were $16,913 million and $14,559 million at December 31, 2002 and 2001,
respectively.

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

The maturity distribution of investments denominated in foreign currencies which were allocated to the Bank at December 31,
2002, was as follows (in millions):
MATURITIES OF INVESTMENTS DENOMINATED IN FOREIGN CURRENCIES
Within 1 year	
$	
Over 1 year to 5 years		
Over 5 years to 10 years		
Over 10 years		
	
			TOTAL	

$

317	
18
8
–
	 343	

At December 31, 2002 and 2001, there were no open foreign exchange contracts or outstanding F/X swaps.
At December 31, 2002 and 2001, the warehousing facility was $5,000 million, with zero balance outstanding.
6.	BANK PREMISES AND EQUIPMENT
A summary of bank premises and equipment at December 31 is as follows (in millions):
					
2002		
2001
BANK PREMISES AND EQUIPMENT:					
	 Land		
$	
4	
$	
4
	Buildings		
50		
46
	 Building machinery and equipment		
18		
16
	 Construction in progress		
—		
1
	 Furniture and equipment		
57		
56
					
Accumulated depreciation		
			 BANK PREMISES AND EQUIPMENT, NET	

$	

129		
(63)		
66	

$	

123
(56)
67

Depreciation expense was $8.9 million and $8.6 million for the years ended December 31, 2002 and 2001, respectively.
Future minimum payments under agreements in existence at December 31, 2002 were immaterial.
7. COMMITMENTS AND CONTINGENCIES
	 At December 31, 2002, the Bank was obligated under noncancelable leases for premises and equipment with terms ranging
from 1 to approximately 4 years. These leases provide for increased rentals based upon increases in real estate taxes, operating costs or selected price indices.
	 Rental expense under operating leases for certain operating facilities, warehouses, and data processing and office equipment
(including taxes, insurance and maintenance when included in rent), net of sublease rentals, was $1 million for each of the years
ended December 31, 2002 and 2001. Certain of the Bank’s leases have options to renew.
	 Future minimum rental payments under noncancelable operating leases and capital leases, net of sublease rentals, with
terms of one year or more, at December 31, 2002, were (in thousands):
	
					OPERATING		
2003		
$	
240		
2004			
64			
2005			
64			
2006			
48		
2007			
–			
Thereafter		–
	
				
				
$	416	
	
				
At December 31, 2002, other commitments and long-term obligations in excess of one year were $0.
	 Under the Insurance Agreement of the Federal Reserve Banks dated as of March 2, 1999, each of the Reserve Banks has
agreed to bear, on a per incident basis, a pro rata share of losses in excess of 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 that a Reserve
Bank’s capital paid-in bears to the total capital paid-in of all Reserve Banks at the beginning of the calendar year in which the
loss is shared. No claims were outstanding under such agreement at December 31, 2002 or 2001.
	 The Bank is involved in certain legal actions and claims arising in the ordinary course of business. Although it is difficult to predict
the ultimate outcome of these actions, in management’s opinion, based on discussions with counsel, the aforementioned litigation
and claims will be resolved without material adverse effect on the financial position or results of operations of the Bank.
8.	RETIREMENT AND THRIFT PLANS
Retirement Plans
	 The Bank currently offers two defined benefit retirement plans to its employees, based on length of service and level of compensation. Substantially all of the Bank’s employees participate in the Retirement Plan for Employees of the Federal Reserve

25

System (“System Plan”) and the Benefit Equalization Retirement Plan (“BEP”) and certain Bank officers participate in a Supplemental Employee Retirement Plan (“SERP”). The System Plan is a multi-employer plan with contributions fully funded by participating employers. No separate accounting is maintained of assets contributed by the participating employers. The Bank’s projected
benefit obligation and net pension costs for the BEP at December 31, 2002 and 2001 and the SERP at December 31, 2002, and
for the years then ended, are not material.
Thrift Plan
	 Employees of the Bank may also participate in the defined contribution Thrift Plan for Employees of the Federal Reserve
System (“Thrift Plan”). The Bank’s Thrift Plan contributions totaled $3 million and $2 million for the years ended December 31,
2002 and 2001, respectively, and are reported as a component of “Salaries and other benefits.”
9.	POSTRETIREMENT BENEFITS OTHER THAN PENSIONS AND POSTEMPLOYMENT BENEFITS
Postretirement benefits other than pensions
	 In addition to the Bank’s retirement plans, employees who have met certain age and length of service requirements are
eligible for both medical benefits and life insurance coverage during retirement.
	 The Bank funds benefits payable under the medical and life insurance plans as due and, accordingly, has no plan assets.
Net postretirement benefit costs are actuarially determined using a January 1 measurement date.
Following is a reconciliation of beginning and ending balances of the benefit obligation (in millions):
					

2001

Accumulated postretirement benefit obligation at January 1	
$	
Service cost-benefits earned during the period	
Interest cost of accumulated benefit obligation	
Actuarial loss (gain)		
Contributions by plan participants	
Benefits paid		
Plan Amendment/Settlement	

45.4	
$	
	0.8		
	2.9		
(1.1)		
	0.1		
(2.5)		
	 0.2		

42.9
1.0	
3.5	
9.5	
0.1	
(2.2)
(9.4)

			
			ACCUMULATED POSTRETIREMENT BENEFIT OBLIGATION AT DECEMBER 31	$	

26

2002		

45.8	 $	 45.4

	 Following is a reconciliation of the beginning and ending balance of the plan assets, the unfunded postretirement benefit obligation, and the accrued postretirement benefit costs (in millions):
					
2002		
2001
Fair value of plan assets at January 1	
$
Contributions by the employer	
Contributions by plan participants	
Benefits paid		
			FAIR VALUE OF PLAN ASSETS AT DECEMBER 31	

$

Unfunded postretirement benefit obligation	
Unrecognized prior service cost	
Unrecognized net actuarial loss	

$

			ACCRUED POSTRETIREMENT BENEFIT COSTS	

$

—	
$
	2.4		
	 0.1		
(2.5)		
—	

$

	45.8	
$	
	 9.0		
	(3.5)		

—
2.2
0.1
(2.3)
—
45.4
10.0
(4.6)

51.3	$	 50.8

Accrued postretirement benefit costs are reported as a component of “Accrued benefit costs.”
	 At December 31, 2002 and 2001, the weighted average discount rate assumptions used in developing the benefit obligation
were 6.75 percent and 7.0 percent, respectively.
	 For measurement purposes, a 9.0 percent annual rate of increase in the cost of covered health care benefits was assumed
for 2003. Ultimately, the health care cost trend rate is expected to decrease gradually to 5.0 percent by 2008, and remain at
that level thereafter.
	
	 Assumed health care cost trend rates have a significant effect on the amounts reported for health care plans. A one percentage point change in assumed health care cost trend rates would have the following effects for the year ended December 31,
2002 (in millions):
					
One Percentage	 One Percentage
Point Increase	 Point Decrease
Effect on aggregate of service and interest cost components
	 of net periodic postretirement benefit costs		
$
0.2	
$	
0.2
Effect on accumulated postretirement benefit obligation	
4.0		
	
4.5

2002 ANNUAL REPORT THE FEDERAL RESERVE BANK OF ST. LOUIS

The following is a summary of the components of net periodic postretirement benefit costs for the years ended December 31
(in millions):
			
2002		
2001
Service cost-benefits earned during the period	
$	
Interest cost of accumulated benefit obligation		
Amortization of prior service cost		

0.8	
$
2.9		
(0.8)		

1.1
3.5
(0.1)

			NET PERIODIC POSTRETIREMENT BENEFIT COSTS	

2.9	$	

4.5

$	

Net periodic postretirement benefit costs are reported as a component of “Salaries and other benefits.”
Postemployment benefits
	 The Bank offers benefits to former or inactive employees. Postemployment benefit costs are actuarially determined and
include the cost of medical and dental insurance, survivor income, and disability benefits. Costs were projected using the same
discount rate and health care trend rates as were used for projecting postretirement costs. The accrued postemployment benefit costs recognized by the Bank at December 31, 2002 and 2001, were $5 million and $4 million, respectively. This cost is
included as a component of “Accrued benefit costs.” Net periodic postemployment benefit costs included in 2002 and 2001
operating expenses were $1 million for each year.
10. SUBSEQUENT EVENT
	 In January 2003, the System decided to restructure its check collection operations. The restructuring plans include streamlining
the check management structure, reducing staff, decreasing the number of check-processing locations, and increasing processing
capacity in other locations. The restructuring, which is expected to begin in 2003 and conclude by the end of 2004, will result in
the Bank discontinuing its check operations at the Little Rock and Louisville offices, increasing its check processing capacity at the
Memphis office, and consolidating its check adjustment function at the St. Louis or Memphis office.

27

ADVISORY COUNCILS AND BANK OFFICERS

FEDERAL ADVISORY
COUNCIL MEMBER
David W. Kemper
Chairman,
President and CEO
Commerce Bancshares Inc.
St. Louis, Missouri
DISTRICT ADVISORY
COUNCIL MEMBERS
Agricultural
Robert A. Cunningham
Valley Farms
Bigbee Valley, Mississippi

John W. Block Jr.
Vice President

Vicki L. Kosydor
Assistant Vice President

Mark D. Vaughan
Supervisory Officer

Timothy A. Bosch
Vice President

Patricia A. Marshall
Assistant Vice President,
Assistant Counsel and
Assistant Secretary

Howard J. Wall
Research Officer

Timothy C. Brown
Vice President
Ronald L. Byrne
Vice President
Marilyn K. Corona
Vice President
Cletus C. Coughlin
Vice President

Robert Seidenstricker
Hazen, Arkansas

Judith A. Courtney
Vice President

Joseph H. Spalding
Lebanon, Kentucky

William T. Gavin
Vice President

Small Business

R. Alton Gilbert
Vice President

William D. Crawley
President
Southern Sales & Service
Memphis, Tennessee
Chris Krehmeyer
Executive Director
Beyond Housing
St. Louis, Missouri

28

Dennis Ott
President/Owner
Dennis Ott and
Company Inc.
Clarksville, Indiana
BANK OFFICERS
St. Louis Office
William Poole
President and Chief
Executive Officer
W. LeGrande Rives
First Vice President and
Chief Operating Officer
Karl W. Ashman
Senior Vice President
Henry Bourgaux
Senior Vice President
Mary H. Karr
Senior Vice President, General
Counsel and Secretary
Robert H. Rasche
Senior Vice President and
Director of Research

John M. Mitchell
Assistant Vice President
John W. Mitchell
Assistant Vice President
Kathleen O’Neill Paese
Assistant Vice President
Todd J. Purdy
Assistant Vice President
Philip G. Schlueter
Assistant Vice President
Frances E. Sibley
Assistant Vice President

Glenda J. Wilson
Community Affairs Officer
Little Rock Office
Robert A. Hopkins
Vice President and
Branch Manager
William D. Little
Assistant Vice President
Matthew W. Torbett
Operations Officer
Louisville Office

Harold E. Slingerland
Assistant Vice President

Thomas A. Boone
Vice President and
Branch Manager

Diane A. Smith
Assistant Vice President

V. Gerard Mattingly
Assistant Vice President

Kim D. Nelson
Vice President

Leisa J. Spalding
Assistant Vice President and
Assistant General Auditor

James E. Stephens
Operations Officer

Michael D. Renfro
Vice President and
General Auditor

Jeffrey L. Wann
Assistant Vice President

Memphis Office

Jean M. Lovati
Vice President
Michael J. Mueller
Vice President

Steven N. Silvey
Vice President
Randall C. Sumner
Vice President and
Assistant Secretary
Daniel L. Thornton
Vice President
Carl K. Anderson
Assistant Vice President
Barkley E. Bailey
Assistant Vice President
Dennis W. Blase
Assistant Vice President
Daniel P. Brennan
Assistant Vice President
James B. Bullard
Assistant Vice President
Susan K. Curry
Assistant Vice President
Hillary B. Debenport
Assistant Vice President

David A. Sapenaro
Senior Vice President

Michael W. DeClue
Assistant Vice President

Julie L. Stackhouse
Senior Vice President

Elizabeth A. Hayes
Assistant Vice President

Richard G. Anderson
Vice President

Edward A. Hopkins
Assistant Vice President

John P. Baumgartner
Vice President

Gary J. Juelich
Assistant Vice President

David C. Wheelock
Assistant Vice President

Martha Perine Beard
Vice President and
Branch Manager

Sharon N. Williamson
Assistant Vice President

J. Allen Brown
Assistant Vice President

Diane B. Camerlo
Assistant Counsel
Michael J. Dueker
Research Officer
Joseph C. Elstner
Public Affairs Officer
Kathy A. Freeman
Financial Management Officer
Paul M. Helmich
Operations Officer
Joel H. James
Bank Relations Officer
Visweswara R. Kaza
Operations Officer
Raymond McIntyre
Facilities Officer
Christopher J. Neely
Research Officer
Patricia S. Pollard
Research Officer
Kathy A. Schildknecht
Operations Officer
Harriet Siering
Operations Officer

The Federal Reserve Bank of St. Louis is one of 12 regional Reserve banks, which,
together with the Board of Governors, make up the nation’s central bank. The
Fed carries out U.S. monetary policy, regulates certain depository institutions,
provides wholesale-priced services to banks and acts as fiscal agent for the
U.S. Treasury. The St. Louis Fed serves the Eighth Federal Reserve District,
which includes all of Arkansas, eastern Missouri, southern Indiana, southern
Illinois, western Kentucky, western Tennessee and northern Mississippi.
Branch offices are located in Little Rock, Louisville and Memphis.

FEDERAL RESERVE BANK OF ST. LOUIS
411 Locust Street
St. Louis, Missouri 63102
(314) 444-8444

Authors of essay: William Emmons, Mark Vaughan

LITTLE ROCK BRANCH
325 West Capitol Avenue
Little Rock, Arkansas 72201
(501) 324-8300

Production: Barbara Passiglia, Mark Kunzelmann

LOUISVILLE BRANCH
410 South Fifth Street
Louisville, Kentucky 40202
(502) 568-9200

Franklin National Bank photograph on Page 10:
©1974 Newsday, Inc. Reprinted with permission.

MEMPHIS BRANCH
200 North Main Street
Memphis, Tennessee 38102
(901) 523-7171

Editor: Al Stamborski
Designers: Joni Williams, Brian Ebert

Photographs of boards of directors, chairman,
president and management committee:
Steve Smith Studios

This annual report is also available on the
Federal Reserve Bank of St. Louis
web site at www.stlouisfed.org.
For additional print copies, contact
Public Affairs Department
Federal Reserve Bank of St. Louis
411 Locust Street
St. Louis, Missouri 63102
(314) 444-8809
PA0305 4/03