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What Might Be Hidden in the Fed’s Books?

Audit the Fed Amendment Opens the Door to Scrutiny of Emergency Lending

On Tuesday, the Senate voted in a landslide to approve the Audit the Fed amendment to Sen. Chris Dodd’s (D-Conn.) financial regulatory reform proposal. Sen. Bernie Sanders (I-Vt.), the author of the amendment, has directed the Government Accountability Office to publish a report on the Fed’s books by Dec. 1, 2010, reviewing in a way that “does not interfere with monetary policy” but does “let the American people know the names of the recipients of over $2,000,000,000,000 in taxpayer assistance.”

But what will the Fed audit be looking for? What might it find? The shortest answer is that the audit will review and post online thus far unpublished details about the Federal Reserve’s emergency lending programs — the alphabet soup of initiatives the Fed created in haste to provide liquidity to and restore confidence in the banking sector during the financial crisis. The programs have garnered criticism as the Fed created them unilaterally, without the input of the Hill, due to the “unusual and exigent circumstance” of the crisis.

Fed audit proponents say some of those programs — most notably, the Fed’s Maiden Lane portfolio of assets bought from Bear Sterns and AIG — might seem questionable or even prove embarrassing under public scrutiny. “The transparency is nonexistent, and the possible taxpayer losses are huge. The Fed should not be in the business of managing these assets. And we’ll finally get to see what they are,” said one Democratic Hill staffer without permission to speak on the record.

The audit is roughly limited to the period of the recession, from Dec. 1, 2007 until the date that the Senate approves the final regulatory reform bill. Most of the Fed audit will be noncontroversial, even if it does make public new details about the Fed’s books. It will include a careful review of the Fed’s straightforward lending programs, each designed to pump liquidity into the market for a different kind of asset. The names are boggling: the asset-backed commercial paper money market mutual fund liquidity facility, the primary dealer credit facility, the commercial paper funding facility, the term securities lending facility. But the idea behind each is simple. Give a low-cost loan for a fixed period of time to a financial firm impacted by the seizing of credit markets. Make sure you require usable collateral for the loan. And therefore help the market while ensuring taxpayers are not on the hook. The majority of these programs sunsetted on Feb. 1, 2010, leaving the Fed’s books with few taxpayer dollars required.

So what will the audit reveal about these programs? Details. Thus far, the Fed has provided only aggregate data about its lending programs. The audit will reveal what banks received what loans, at what interest rate, in return for what collateral as well as when the Fed was paid back. The data for most programs is not expected to prove controversial. But if the Fed continually allowed one bank to post dodgy collateral, or offered beneficial interest rates to big banks but not smaller ones — that could prove questionable and could earn the Fed additional scrutiny as well as criticism.

A few emergency lending programs remain, and those will receive a thorough audit as well. Among them are the term auction facility, which auctions collateralized loans to banks (that is, lends banks cash if they put up bonds, stocks or some other asset in case they cannot pay back the New York Fed) and continues to help ease short-term lending. Its most recent auction, in March, pumped $25 billion into the market.

Another — and a program Fed audit boosters want analyzed closely — is