Sunday, March 29, 2020
In a December 2018 post (here), I noted that “although esoteric, such issues as who has access to an account at the Fed are critical social policy choices with real world implications that merit broad-based public debate.”
This past week, a federal district court judge granted the Federal Reserve Bank of New York’s (FRBNY) motion to dismiss The Narrow Bank’s (TNB) complaint in TNB USA Inc. v. Federal Reserve Bank of New York (USDC SDNY) (here). In light of this recent opinion, I wanted to reiterate my invitation to BLPB readers to think about seemingly technical, arcane issues such as who gets an account at the Fed – a master account is essentially a bank account at a regional Federal Reserve Bank enabling access to the Federal Reserve Payments System – and how such decisions should be made. The importance of this critical policy issue is only set to increase. A few months ago, the Federal Reserve announced plans to develop FedNow Service (here).
TNB is a financial institution with an innovative business model. Professor Peter-Conti Brown has written about it (here). It’s model is essentially this: open an account at the Federal Reserve, deposit customer funds (financial institution customers), receive interest on the funds deposited at the Fed’s Interest on Excess Reserves Rate (“IOER rate”), keep a slice of the gains, and pay out the remainder to customers. The Federal Reserve is a risk-free counterparty, but it is not limited to paying the risk-free interest rate. So, TNB has a really clever business model. TNB’s Chairman & CEO, James McAndrews spent 28 years working in the Federal Reserve System (19 at the FRBNY). Its Board members also includes two highly respected finance professors: Gary Gorton at Yale University and Darrell Duffie at Stanford University.
TNB received a “temporary Certificate of Authority” from the Connecticut Department of Banking, contingent on several things, including “that the FRBNY would open a master account for TNB.” As the opinion explains, the FRBNY has not actually denied TNB’s application for a master account…though at least 18 months have passed since TNB applied for it! However, as the opinion notes, “the FRBNY’s delay is not TNB’s cause of action.” Hence, United States District Judge Andrew L. Carter, Jr. granted the FRBNY’s motion to dismiss, writing that “TNB lacks standing to pursue its claim, which is also constitutionally and prudentially unripe.”
The decision strikes me as technically correct, and it will be interesting to see TNB’s strategy from here. I’m not taking a position on whether TNB should/should not have a master account without additional research and thought. However, what I am taking a position on is the importance of greater public debate about the underlying policy questions surrounding who does/doesn’t get an account at the Fed.
In Regulating the Invisible: The Case of Over-the-Counter Derivatives (here), I noted that ICE US Trust LLC, an uninsured NY trust company clearing credit default swaps – controversial financial instruments that had just played a huge role in the financial crisis of 2007-08 – had been granted membership in the Federal Reserve System in 2009 (here). ICE Trust was essentially the predecessor of ICE Clear Credit, which essentially has the monopoly on CDS clearing today. Dodd-Frank’s Title VIII explicitly provides the Federal Reserve with the ability to provide accounts and services to clearinghouses designated as systemically important under that title. But prior to Dodd-Frank, I think that granting ICE Trust membership in the Federal Reserve System was a questionable decision.
The Fed obviously has its hands full at the moment with much more urgent issues. In the future, however, it should provide additional clarity about the granting of master accounts and the general timing of such decisions.