Fellow
Shortrunners,
Aside from monetary policy, the Federal Reserve, central bank of the US, plays several important roles in the economy. One of them is to help reduce the likelihood of bank failures. The Fed, serves as a "lender of last resort" offering liquidity to ailing banks that in many cases are recoverable or temporarily in need of funds. More specifically, banks come to the Federal Reserve's discount window and request a loan. These loans are desirable because ailing banks typically cannot get low interest loans anywhere else. It has become standard practice for the Fed to set the discount rate, the rate at which the Fed lends to banks, about 0.5% or 50 basis points lower than the federal funds rate, a base overnight rate.
The Fed isn't required to make a loan, but when it does, the low cost loan generally bears other non-monetary costs. Primary among these is regulatory supervision of the Fed. Since borrowing from the Fed is discouraged, banks that are forced to borrow large amounts of funds are likely to be in trouble. To ensure that it isn't funding insolvent banks, the Fed monitors banks to which it lends. Apart from creating headaches for the bank, the supervision is costly to the Federal Reserve. To alleviate some of the costs, the Board of Governor's announced two weeks ago it will raise the discount rate to 100 basis points above its target fed funds rate. Future spreads between the fed funds target and the discount rate would be a judgment call for the Federal Reserve.
Several immediate repercussions should be felt. Raising the discount rate would work to effectively discourage borrowing from the discount window. Such a change should cut costs for the Fed by allowing it to cut back on its banking supervision programs. At the same time, the Federal Reserve could still serve as the lender of last resort because a spread of 100 basis point above the fed funds rate may still be cheaper credit than many ailing banks could otherwise receive.
Sincerely,
Daniel Hicks
Economic Releases
The data section
provides charts and data for the most important economic indicators.
Index of Leading Indicators: -0.4%
- Despite a general economic consensus of recovery, the index of leading indicators declined 0.4% for the month of April. The Conference Board's index had been on the rise for several months and most analysts read it as pointing to continued economic growth.
Treasury Budget: $67.2 Billion
- As is typical for the month of April, the Federal Government ran a surplus of $67.2 Billion. The surplus was about a third the size of the previous year and is indicative of the rapid swing the government has made over the past year from surplus to deficit.
- Greater than expected economic activity, despite a contraction in aircraft spending, bolstered orders for durable goods to an overall increase of 1.1% in April. Continued order growth should help the manufacturing sector.
1st Quarter GDP: 5.6%
- Revisions to first quarter GDP growth suggested that the economy was growing at an annual rate of 5.6%. The strong growth number from the first quarter was a surprise to many because of the weakness in the labor markets. Strong productivity growth, as exhibited in the first quarter is not likely to continue indefinitely.
Jobless Claims: 416,000
- Initial jobless claims remained aloof at 416,000 last week, further testament to the labor market's reluctance to join the rest of the economy in recovery. Analysts had expected a stronger recovery out of the labor market.
New Home Sales: 915,000
- New Home Sales jumped to 915,000 as the US housing market remained a pillar of strength. Many economists now believe that the US housing market is developing into a bubble; a danger to continued economic growth.
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