The financial media is abuzz with speculation about what the Fed will do next, and whether it will decide to hike the federal funds rate target at its April Federal Open Market Committee (FOMC) meeting. There is a lot of speculation too as to what the Fed might do in the event of another recession or financial crisis. Some recent articles at the Brookings Institution delve into that possibility. And what is the first potential policy action discussed? Negative interest rates.
“It’s normal, all central banks do this.” – Nelson Merentes, President, Central Bank of Venezuela
Debasing their currencies? Monetizing government debt? Impoverishing the common man while enriching the politically well-connected? Well, they do that too, but what Mr. Merentes was referring to was the common practice of central banks engaging in gold swaps. Venezuela has exported $456 million of its gold reserves, most of which was recently repatriated from the New York Fed’s gold vault, to Switzerland in order to gain some cash due to the dire effects of the government’s monetary policy. Venezuela is a basket case, for sure, but the comment that “all central banks do this” bears some looking into. There have been rumors over the years of central banks, including the Federal Reserve, swapping or loaning out their gold reserves, but relatively little hard evidence. This is especially true in the case of the Fed, which does not publicize much surrounding the gold it holds on behalf of the US Treasury and foreign governments, nor is the Government Accountability Office (GAO) allowed to audit much of the New York Fed’s gold holdings. Shouldn’t the American people know whether the gold held by the US government and the Federal Reserve is used to engage in gold swaps, loans, or attempts to manipulate the market price of gold?
A few questions for Fed Chairman Yellen regarding the attempted transfer of $1 billion from the Bangladeshi central bank’s account at the New York Fed, in which the thieves initially got away with about $100 million.
- Why did it take so long for this incident to get reported? Was Congress or were any international organizations (IMF, BIS) informed?
- What exactly happened on the New York Fed end? Why did no one from the New York Fed contact the Bangladeshi central bank to check to see if these withdrawals were legitimate?
- What kind of checks and balances are there for withdrawal requests from central banks? For withdrawal requests from reserves held by commercial banks?
- Has anything like this happened before this incident or since this incident?
- Are any safeguards being put in place to ensure that this does not happen again?
- What kind of safeguards are in place to ensure that the $2 trillion in commercial bank reserves held at the Fed are not fraudulently disbursed?
- Will the Fed be providing a report to Congress once this entire situation is finally resolved?
- Given the Fed’s seeming screw-up in this case and its reluctance to provide any information about what happened, why should the Fed continue to remain exempt from a full audit of its operations?
Just when you thought central banks couldn’t get any nuttier, the European Central Bank (ECB) has gone and done it. One of the ECB’s new programs may actually pay banks to borrow from it. Take away all the accounting sleights of hands and the net result would be an outright payment to those banks. It’s a direct subsidy, so why all the subterfuge? Just set up a direct pay-for-loan system, the more the banks loan the more the ECB pays them. That’s what most likely will happen eventually. It would be much simpler and much more honest, which is probably why they’re not doing it right now.
More juicy details are coming out about the New York Fed and the Bangladesh central bank’s hacked account. Zerohedge has a good synopsis, and there are more articles at Reuters and at the Financial Times. Apparently the heist was targeting $1 billion in funds and was only stopped due to a pretty egregious typo, misspelling “foundation” as “fandation.” Bet that guy wishes he had paid more attention in school. It appears that the Bangladesh central bank’s systems may have been compromised in some way, allowing hackers to spoof a request for funds to the New York Fed. Maybe Bangladesh doesn’t request funds all that often, or maybe there are so many transactions coming in that the New York Fed doesn’t do a great amount of due diligence if SWIFT codes are correct, but both sides are blaming each other with no one willing to take responsibility. There are still a lot of unanswered questions, the most important of which is: Could this happen again? Let’s hope that Chairman Yellen gets some tough questions about this fiasco at next week’s press conference.
The New York Fed has denied that the accounts it holds for Bangladesh’s central bank were hacked. According to the New York Fed, it received payment instructions consistent with those that would have been expected and that were authenticated by the SWIFT messaging system in accordance with standard authentication protocols. SWIFT, for its part, said that there was no indication that its network had been compromised. This case just keeps getting curiouser and curiouser. We have alleged hackers who were able to send a request for payment to the New York Fed, apparently through the SWIFT system, and then siphoned that money off to numerous bank accounts, yet allegedly no accounts were hacked and no networks were compromised. Something just doesn’t add up. Where is the break? Is this an inside job from a disgruntled employee in Bangladesh? Do hackers have enough knowledge of SWIFT to spoof messages? Was the New York Fed the victim of a social engineering hack? All of these possibilities should cause a questioning of the trust placed in the security of the banking system. The Fed, after all, is trusted as the guarantor of financial stability in the United States, yet if it’s able to be manipulated in such a manner, how can we be sure something like this won’t happen again? What’s next? Manipulated Treasury auctions, lending to phantom financial institutions, sophisticated attacks aiming at gold disbursement? And don’t forget the $2 trillion of excess reserves parked at the Fed right now. That provides a very enticing target to would-be hackers.
Remember back in December when we highlighted that one of the responses to central banks’ introduction of negative interest rates might actually be a raising of interest rates by banks to borrowers?
The bank’s preferred solution then might be to keep income up by widening the spread between deposit rates and borrowing rates by increasing the interest rate charged to borrowers. And thus dropping into negative interest rates on deposits can lead to a rise in interest rates for borrowers.
Well, that apparently is happening in Switzerland, whose central bank has had negative interest rates for over a year.
In response, it seems, Swiss banks have pushed up the cost of mortgages, particularly long-dated ones, with spreads more than doubling on average, according to Brupbacker and Nemes. At the same time, the lower bound on retail deposits has been maintained, for the obvious reason of not wanting to incentivise customers to turn up at branches and demand their cash.
It seems that borrowers are trying to lock in lower interest rates by taking out longer-term loans, causing banks to raise the interest rates on those loans so as to maintain or widen the spread between rates charged to borrowers and offered to depositors. Longer-term loans, of course, brings up other problems with maturity mismatching (loans that are ultra-long-term, backed by deposits which can be withdrawn immediately), but that’s a problem inherent to loan banking anyway. For now, the move to negative interest rates appears to be spurring borrowing (or maybe just refinancing) but at a higher cost than central banks would have predicted.