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Working Paper
A Probability-Based Stress Test of Federal Reserve Assets and Income
To support the economy, the Federal Reserve amassed a large portfolio of long-term bonds. We assess the Fed?s associated interest rate risk ? including potential losses to its Treasury securities holdings and declines in remittances to the Treasury. Unlike past examinations of this interest rate risk, we attach probabilities to alternative interest rate scenarios. These probabilities are obtained from a dynamic term structure model that respects the zero lower bound on yields. The resulting probability-based stress test finds that the Fed?s losses are unlikely to be large and remittances are ...
Report
Is implied correlation worth calculating? Evidence from foreign exchange options and historical data
This paper examines the performance of implied correlations in forecasting subsequently realized correlations between exchange rates. Implied correlations are derived from sets of implied volatilities on the three exchange rates in a currency trio. We compare the forecasting performance of the implied correlations from two currency trios with markedly different characteristics over two forecast horizons (one month and three months) against a set of alternative correlation forecasts based on time-series data. ; For the correlations in the USD/DEM/ JPY currency trio, we find that the ...
Journal Article
The current strength of the U.S. banking sector
Discussion Paper
Alternative measures of the Federal Reserve banks' cost of equity capital
The Monetary Control Act of 1980 requires the Federal Reserve System to provide payment services to depository institutions through the twelve Federal Reserve Banks at prices that fully reflect the costs a private-sector provider would incur, including a cost of equity capital (COE). Although Fama and French (1997) conclude that COE estimates are ?woefully? and ?unavoidably? imprecise, the Reserve Banks require such an estimate every year. We examine several COE estimates based on the Capital Asset Pricing Model (CAPM) and compare them using econometric and materiality criteria. Our results ...
Working Paper
How does competition impact bank risk-taking?
A common assumption in the academic literature and in the actual supervision of banking systems worldwide is that franchise value plays a key role in limiting bank risk-taking. As the underlying source of franchise value is assumed to be market power, reduced competition has been considered to promote banking stability. Boyd and De Nicolo (2005) propose an alternative view where concentration in the loan market could lead to increased borrower debt loads and a corresponding increase in loan defaults that undermine bank stability. Martinez-Miera and Repullo (2007) encompass both approaches by ...
Working Paper
Is There an On-the-Run Premium in TIPS?
In the U.S. Treasury market, the most recently issued, or so-called ?on-the-run,? security typically trades at a price above those of more seasoned but otherwise comparable securities. This difference is known as the on-the-run premium. In this paper, yield spreads between pairs of Treasury Inflation-Protected Securities (TIPS) with identical maturities but of separate vintages are analyzed. Adjusting for differences in coupon rates and values of embedded deflation options, the results show a small, positive premium on recently issued TIPS - averaging between one and four basis points - that ...
Working Paper
Incorporating equity market information into supervisory monitoring models
We examine whether equity market variables, such as stock returns and equity-based default probabilities, are useful to bank supervisors for assessing the condition of bank holding companies. Using an event study framework, we find that equity market variables anticipate supervisory ratings changes by up to four quarters and that the improvements in forecast accuracy arising from conditioning on equity market information are statistically significant. We develop an off-site monitoring model that easily combines supervisory and equity market information, and we find that the model's forecasts ...
Journal Article
Small Business Lending during COVID-19
Small businesses and farms were hit hard by restrictions that limited their ability to pay operating costs during the COVID-19 crisis. Banks played an important supportive role, substantially expanding the loans available to these firms during the early months of the crisis. The growth in lending was associated with small business participation in the Paycheck Protection Program (PPP) and bank use of the PPP Liquidity Facility. Analyzing data for the first half of 2020 suggests that these programs were successful in supporting lending growth during the crisis, particularly among small banks.
Journal Article
Corporate access to external financing
This Letter summarizes a recent study on Spanish corporate borrowing, providing general insights into how firms and their lenders respond to economic fluctuations.
Working Paper
Does regional economic performance affect bank health? New analysis of an old question
The idea that regional economic performance affects bank health is intuitive and broadly consistent with the aggregate banking data. That said, micro-level research on this relationship provides a mixed picture of the importance, size, and timing of regional variables for bank performance. This paper helps reconcile the heterogeneous findings of previous research by: (1) employing a unique ?composite measure? of regional economic performance that combines several regional indicators into a single index; (2) constructing bank-specific measures of regional economic conditions, based on bank ...