HFS Subcommittee Considers the Role of the Fed as Lender of Last Resort

The House Financial Services Committee, Subcommittee on Financial Institutions and Monetary Policy, considered testimony on whether the Federal Reserve should limit or expand its function as lender of last resort.

At a hearing entitled "Lender of Last Resort: Issues with the Fed Discount Window and Emergency Lending," Subcommittee Chair Chairman Andy Barr (R-KY) said that the purpose of the hearing is to "explore the difference between discount window lending and emergency 13(3) lending, whether we are relying on the Fed too much in times of stress, and the issue of ‘stigma’ that banks face in accessing the discount window."

Testifying at the hearing:

• Harvard Law School Professor Hal Scott underscored the critical importance of the lender of last resort ("LLR") function to the U.S. financial system. Professor Scott focused on identifying issues and questions raised by the 2023 banking crisis and the 2020 COVID crisis. In identifying potential solutions, he said, (i) the Fed should clarify its LLR collateral policies; (ii) operational improvements on LLR activities are necessary; (iii) LLR should be the responsibility of the Fed alone; (iv) the respective roles of LLR and deposit insurance in stemming contagion must be examined; (vi) executive compensation should be clawed back, under appropriate circumstances, if a bank’s reliance on LLR funds imposes costs on the Fed and (vii) the Fed’s emergency lending facilities should be limited to providing liquidity and should not entail fiscal policy.
• Bank Policy Institute Executive Vice President and Chief Economist, William Nelson reviewed the Federal Reserve's discount window and emergency lending facilities, highlighting the stigma associated with borrowing from the discount window, and how that stigma affects banks' liquidity management and willingness to borrow in times of need. Mr. Nelson said that "tapping your contingency funding inevitably suggests something has gone wrong."
• MIT Sloan School of Management Professor Simon Johnson described the change in perspective on U.S. bank runs, after the 2023 response to the Silicon Valley Bank (SVB) collapse. Professor Johnson argued that when a crisis is intense and fast moving, the executive branch needs to have sufficient delegated authority. He recommended (i) continued improvement of bank supervision, (ii) the US complete the process of implementing Basel III and (iii) the preparation for all depository banks to access Fed emergency lending under unexpected circumstances. Professor Johnson argued that the view that higher capital requirements would reduce the availability of credit are exaggerated.