Hidden in the Emergency Economic Stabilization Act of 2008

In yesterday’s Senate bailout bill, also known as the ‘‘Emergency Economic Stabilization Act of 2008’’ is the following, seemingly innocent section.

SEC. 128. ACCELERATION OF EFFECTIVE DATE.
Section 203 of the Financial Services Regulatory Relief Act of 2006 (12 U.S.C. 461 note) is amended by striking ‘‘October 1, 2011’’ and inserting ‘‘October 1, 2008’’.

So they moved the date of the Financial Services Regulatory Relief Act of 2006 up by 3 years. Big deal you say, and what the heck is the FSRRA of 2006? It was a series of amendments to 12 U.S.C. 461 of course! Well, okay, I don’t expect you to know what that is, so here it is (and the other related documents).

The bailout bill - http://money.cnn.com/2008...

Financial Services Regulatory Relief Act of 2006 - http://www.govtrack.us/co...

12 U.S.C. 461 - http://www.law.cornell.ed...

You may want to open those in new tabs, we’ll be bouncing around them a bit.

Okay, lets follow the trail.

They changed the effective date from 2011 to yesterday!

The Financial Services Regulatory Relief Act of 2006 made changes to the United States Code TITLE 12 - BANKS AND BANKING, CHAPTER 3 - FEDERAL RESERVE SYSTEM, SUBCHAPTER XIV - BANK RESERVES.

The changes do a few things, none of which seem to be good for us citizens.

The changes eliminated the requirement for banks to keep reserves of cash on hand to cover deposits, they abolished the Federal Reserve’s Earnings Participation Account, they granted the ability for the Fed to create their own rules for distributing their earnings, and they granted the ability to make payments to foreign banks.

These things were not scheduled to go into effect for 3 more years. Unclear is why they needed these changes at all, the other is why they need them now.

Okay, there it is, the conclusion. You can take my word for it and stop now and have some disgust at the whole thing, or you can continue on and get really mad about how convoluted and cryptic things in Washington are.

Fair warning. Continue at your own risk.

Still here? You really are brave. Actually you probably have no idea the mess you are in for. Don’t say I didn’t warn you.

Okay, I gave you the conclusion, now here is how to get there. I’ll go fast now, try to keep up, it gets complicated.

‘‘Emergency Economic Stabilization Act of 2008’’
SEC. 128. ACCELERATION OF EFFECTIVE DATE.
Section 203 of the Financial Services Regulatory Relief Act of 2006 (12 U.S.C. 461 note) is amended by striking ‘‘October 1, 2011’’ and inserting ‘‘October 1, 2008’’.

Okay, we know the date has moved. Let’s look at what moved.

Section 203 is a part of the following Title. It states when the entire title goes into effect. So they made the entire Title go into effect yesterday.

TITLE II--MONETARY POLICY PROVISIONS
SEC. 201. AUTHORIZATION FOR THE FEDERAL RESERVE TO PAY INTEREST ON RESERVES.
(a) In General- Section 19(b) of the Federal Reserve Act (12 U.S.C. 461(b)) is amended by adding at the end the following:
`(12) EARNINGS ON BALANCES-
`(A) IN GENERAL- Balances maintained at a Federal Reserve bank by or on behalf of a depository institution may receive earnings to be paid by the Federal Reserve bank at least once each calendar quarter, at a rate or rates not to exceed the general level of short-term interest rates.
`(B) REGULATIONS RELATING TO PAYMENTS AND DISTRIBUTIONS- The Board may prescribe regulations concerning--
`(i) the payment of earnings in accordance with this paragraph;
`(ii) the distribution of such earnings to the depository institutions which maintain balances at such banks, or on whose behalf such balances are maintained; and
`(iii) the responsibilities of depository institutions, Federal Home Loan Banks, and the National Credit Union Administration Central Liquidity Facility with respect to the crediting and distribution of earnings attributable to balances maintained, in accordance with subsection (c)(1)(A), in a Federal Reserve bank by any such entity on behalf of depository institutions.
`(C) DEPOSITORY INSTITUTIONS DEFINED- For purposes of this paragraph, the term `depository institution', in addition to the institutions described in paragraph (1)(A), includes any trust company, corporation organized under section 25A or having an agreement with the Board under section 25, or any branch or agency of a foreign bank (as defined in section 1(b) of the International Banking Act of 1978).'.
(b) Conforming Amendment- Section 19 of the Federal Reserve Act (12 U.S.C. 461) is amended--
(1) in subsection (b)(4)--
(A) by striking subparagraph (C); and
(B) by redesignating subparagraphs (D) and (E) as subparagraphs (C) and (D), respectively; and
(2) in subsection (c)(1)(A), by striking `subsection (b)(4)(C)' and inserting `subsection (b)'.
SEC. 202. INCREASED FLEXIBILITY FOR THE FEDERAL RESERVE BOARD TO ESTABLISH RESERVE REQUIREMENTS.
Section 19(b)(2)(A) of the Federal Reserve Act (12 U.S.C. 461(b)(2)(A)) is amended--
(1) in clause (i), by striking `the ratio of 3 per centum' and inserting `a ratio of not greater than 3 percent (and which may be zero)'; and
(2) in clause (ii), by striking `and not less than 8 per centum,' and inserting `(and which may be zero),'.
SEC. 203. EFFECTIVE DATE.
The amendments made by this title shall take effect October 1, 2011.

Okay, so we can see here that 201 and 202 amend 12 U.S.C. 461. If we take 12 U.S.C. 461 section 19 (b) in the order of the amendments, the first is Section 19(b)(2)(A).

(2) (A) Each depository institution shall maintain reserves against its transaction accounts as the Board may prescribe by regulation solely for the purpose of implementing monetary policy—
(i) in the ratio of 3 per centum for that portion of its total transaction accounts of $25,000,000 or less, subject to subparagraph (C); and
(ii) in the ratio of 12 per centum, or in such other ratio as the Board may prescribe not greater than 14 per centum and not less than 8 per centum, for that portion of its total transaction accounts in excess of $25,000,000, subject to subparagraph (C).

this section is amended—
(1) in subsection (b)(2)(A), by striking “the ratio of 3 per centum” and inserting “a ratio of not greater than 3 percent (and which may be zero)” in clause (i) and by striking “and not less than 8 per centum,” and inserting “(and which may be zero),” in clause (ii);

Notice the change from a set percentage to a percentage “not greater than” and “which may be zero”. So depository institutions no longer have to maintain reserves against their transaction accounts. What is a depository institution? What is a transaction account?

(1) The following definitions and rules apply to this subsection, subsection (c) of this section, and
sections 248–1, 248a, 342, 360, and 412 of this title:
(A) The term “depository institution” means—
(i) any insured bank as defined in section 3 of the Federal Deposit Insurance Act [12 U.S.C. 1813] or any bank which is eligible to make application to become an insured bank under section 5 of such Act [12 U.S.C. 1815];
(ii) any mutual savings bank as defined in section 3 of the Federal Deposit Insurance Act or any bank which is eligible to make application to become an insured bank under section 5 of such Act;
(iii) any savings bank as defined in section 3 of the Federal Deposit Insurance Act or any bank which is eligible to make application to become an insured bank under section 5 of such Act;
(iv) any insured credit union as defined in section 1752 of this title or any credit union which is eligible to make application to become an insured credit union pursuant to section 1781 of this title;
(v) any member as defined in section 1422 of this title;
(vi) any savings association (as defined in section 3 of the Federal Deposit Insurance Act
[12 U.S.C. 1813]) which is an insured depository institution (as defined in such Act [12 U.S.C. 1811 et seq.]) or is eligible to apply to become an insured depository institution under the Federal Deposit Insurance Act; and (vii) for the purpose of sections 248–1, 342 to 347, 347c, 347d, and 372 of this title any association or entity which is wholly owned by or which consists only of institutions
referred to in clauses (i) through (vi).

So pretty much any place that handles deposits, most people just call them banks.

(C) The term “transaction account” means a deposit or account on which the depositor or account holder is permitted to make withdrawals by negotiable or transferable instrument, payment orders of withdrawal, telephone transfers, or other similar items for the purpose of making payments or transfers to third persons or others. Such term includes demand deposits, negotiable order of withdrawal accounts, savings deposits subject to automatic transfers, and share draft accounts.

This basically means bank accounts.

So there it is, banks no longer have to keep even a small amount of peoples bank accounts available as cash. They don’t have to fail, they can just say they are out of cash today. Your money is still there, FDIC does not kick in, but they just stop giving out money.

Okay, what else does the date change put into effect 3 years early?

(2) in subsection (b)(4), by striking subparagraph (C) and redesignating subparagraphs (D) and (E) as subparagraphs
(C) and (D), respectively

What was subparagraph (C)? In order to understand subparagraph (C) we need to see the whole paragraph (4).

(4) (A) The Board may, upon the affirmative vote of not less than 5 members, impose a supplemental reserve requirement on every depository institution of not more than 4 percentum of its total transaction accounts. Such supplemental reserve requirement may be imposed only if—
(i) the sole purpose of such requirement is to increase the amount of reserves maintained to a level essential for the conduct of monetary policy;
(ii) such requirement is not imposed for the purpose of reducing the cost burdens resulting from the imposition of the reserve requirements pursuant to paragraph (2);
(iii) such requirement is not imposed for the purpose of increasing the amount of balances needed for clearing purposes; and
(iv) on the date on which the supplemental reserve requirement is imposed, except as provided in paragraph (11), the total amount of reserves required pursuant to paragraph
(2) is not less than the amount of reserves that would be required if the initial ratios specified in paragraph (2) were in effect.
(B) The Board may require the supplemental reserve authorized under subparagraph (A) only after consultation with the Board of Directors of the Federal Deposit Insurance Corporation,
the Director of the Office of Thrift Supervision, and the National Credit Union Administration Board. The Board shall promptly transmit to the Congress a report with respect to any exercise
of its authority to require supplemental reserves under subparagraph (A) and such report shall state the basis for the determination to exercise such authority.
(C) The supplemental reserve authorized under subparagraph (A) shall be maintained by the Federal Reserve banks in an Earnings Participation Account. Except as provided in subsection (c)(1)(A)(ii) of this section, such Earnings Participation Account shall receive earnings to be paid by the Federal Reserve banks during each calendar quarter at a rate not more than the rate earned on the securities portfolio of the Federal Reserve System during the previous calendar quarter. The Board may prescribe rules and regulations concerning the payment of earnings on Earnings Participation Accounts by Federal Reserve banks under this paragraph.
(D) If a supplemental reserve under subparagraph (A) has been required of depository institutions for a period of one year or more, the Board shall review and determine the need for continued maintenance of supplemental reserves and shall transmit annual reports to the Congress regarding the need, if any, for continuing the supplemental reserve.
(E) Any supplemental reserve imposed under subparagraph (A) shall terminate at the close of the first 90-day period after such requirement is imposed during which the average amount of reserves required under paragraph (2) are less than the amount of reserves which would be required during such period if the initial ratios specified in paragraph (2) were in effect.

So they make every bank pay into a reserve fund. It is maintained in an Earnings Participation Account. By deleting subparagraph (C) they abolished that account. They no longer have to maintain the account or pay the earnings. They can still impose a supplemental reserve requirement, they just don’t have to pay any earnings. I wonder what happened to the funds in that account. Remember, this went into effect yesterday.
Okay, what’s next? Ah yes, they added a whole new paragraph 12!

“(12) Earnings on balances.—
“(A) In general.—Balances maintained at a Federal Reserve bank by or on behalf of a depository institution may receive earnings to be paid by the Federal Reserve bank at least once each calendar quarter, at a rate or rates not to exceed the general level of short-term interest rates.
“(B) Regulations relating to payments and distributions.—The Board may prescribe regulations concerning—
“(i) the payment of earnings in accordance with this paragraph;
“(ii) the distribution of such earnings to the depository institutions which maintain balances at such banks, or on whose
behalf such balances are maintained; and
“(iii) the responsibilities of depository institutions, Federal Home Loan Banks, and the National Credit Union Administration Central Liquidity Facility with respect to the crediting and distribution of earnings attributable to balances maintained, in accordance with subsection (c)(1)(A), in a Federal Reserve bank by any such entity on behalf of depository institutions.
“(C) Depository institutions defined.—For purposes of this paragraph, the term ‘depository institution’, in addition to
the institutions described in paragraph (1)(A), includes any trust company, corporation organized under section 25A
[12 U.S.C. 611 et seq.] or having an agreement with the Board under section 25 [12 U.S.C. 601 et seq.], or any branch
or agency of a foreign bank (as defined in section 3101 of this title).”;
(4) in subsection (c)(1)(A), by striking “subsection (b)(4)(C)” and inserting “subsection (b)”.

So paragraph 12 deals with earnings on balances. So basically any money the Federal Reserve bank has from other banks can make earnings and the Fed can decide how and if those earnings are paid out.

Remember the definition of depository institutions? Of course you do, but we have an additional definition just for this paragraph, everything you already know with the addition of foreign banks. So what you ask, if they deposit money in the Fed bank, shouldn’t they make money. Well, maybe, but yesterday they did not.

Remember, this entire paragraph 12 was not supposed to go into effect until 2011.

Foreign banks were not in the definition of depository institutions until they changed the effective date from October1, 2011 to October 1, 2008.

If we rewrite the opening of the paragraph to use the words “foreign banks” it reads

Balances maintained at a Federal Reserve bank by or on behalf of a foreign banks may receive earnings to be paid by the Federal Reserve bank at least once each calendar quarter, at a rate or rates not to exceed the general level of short-term interest rates.

So, to summarize, by changing the effective date the following is now in effect.

Banks don’t have to have cash on hand.

The Fed does not have to maintain an Earnings Protection account for the supplemental reserve fees they charge banks which means they don’t have to give any of the money back to those banks.

They now include foreign banks as institutions they can pay earnings to. Let’s not forget, earnings is really just more American debt. Federal Reserve Notes are really debt, but that’s a topic for another monster blog entry.

Anyway, all of this from one puny and innocuous section in the ‘‘Emergency Economic Stabilization Act of 2008’’.

If you read this whole thing you deserve a gold star, or at least an attaboy.

Attaboy!