Central bank liquidity swap is a type of
currency swap
In finance, a currency swap (more typically termed a cross-currency swap, XCS) is an interest rate derivative (IRD). In particular it is a linear IRD, and one of the most liquid benchmark products spanning multiple currencies simultaneously. ...
used by a country's central bank to provide liquidity of its currency to another country's central bank. In a liquidity swap, the lending central bank uses its currency to buy the currency of another borrowing central bank at the market exchange rate, and agrees to sell the borrower's currency back at a rate that reflects the
interest
In finance and economics, interest is payment from a borrower or deposit-taking financial institution to a lender or depositor of an amount above repayment of the principal sum (that is, the amount borrowed), at a particular rate. It is distin ...
accrued on the loan. The borrower's currency serves as
collateral
Collateral may refer to:
Business and finance
* Collateral (finance), a borrower's pledge of specific property to a lender, to secure repayment of a loan
* Marketing collateral, in marketing and sales
Arts, entertainment, and media
* ''Collate ...
.
Swap line prehistory
Avatars of the later currency swap lines first appeared in the period 1880–1920, when central banks exchanged gold reserves at need; but the first actual currency swap lines (between eight central banks) were set up in the 1960s: they were activated and used by three jurisdictions, the
Bank of England
The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the English Government's banker, and still one of the bankers for the Government o ...
, the
Bank of Canada
The Bank of Canada (BoC; french: Banque du Canada) is a Crown corporation and Canada's central bank. Chartered in 1934 under the ''Bank of Canada Act'', it is responsible for formulating Canada's monetary policy,OECD. OECD Economic Surveys: C ...
, and the US. The swap lines were briefly re-established in the wake of
9/11
The September 11 attacks, commonly known as 9/11, were four coordinated suicide terrorist attacks carried out by al-Qaeda against the United States on Tuesday, September 11, 2001. That morning, nineteen terrorists hijacked four commerci ...
, but only became of global importance with the onset of the
financial crisis of 2007–2008
Finance is the study and discipline of money, currency and capital assets. It is related to, but not synonymous with economics, the study of production, distribution, and consumption of money, assets, goods and services (the discipline of ...
.
Reason for liquidity swaps
Although often criticized by the domestic audience as a "
bailout
A bailout is the provision of financial help to a corporation or country which otherwise would be on the brink of bankruptcy.
A bailout differs from the term ''bail-in'' (coined in 2010) under which the bondholders or depositors of global sys ...
" of foreign banks, liquidity swaps are structured to protect the interests of the lending bank, and are often self-serving rather than purely altruistic.
Minutes of the 2008 US
Federal Open Market Committee
The Federal Open Market Committee (FOMC), a committee within the Federal Reserve System (the Fed), is charged under United States law with overseeing the nation's open market operations (e.g., the Fed's buying and selling of United States Treas ...
(FOMC) meeting at which the final decision was made show that members focused on countries with large holdings of U.S. dollar mortgage-backed securities, which might be tempted to dump them all at once if they lacked easier access to dollars, thereby forcing up mortgage rates and impeding recovery in the United States.
Similarly, swap lines from the
European Central Bank
The European Central Bank (ECB) is the prime component of the monetary Eurosystem and the European System of Central Banks (ESCB) as well as one of seven institutions of the European Union. It is one of the world's most important centra ...
, Swiss, and Nordic central banks to Iceland and the Eastern European countries in 2008 were due in large part to households and businesses in these countries taking out Euro and Swiss Franc denominated mortgages.
USD swaps
U.S Dollar swap lines are the most well-established and well-utilized, due to the status of the U.S. dollar as the world's dominant
reserve currency
A reserve currency (or anchor currency) is a foreign currency that is held in significant quantities by central banks or other monetary authorities as part of their foreign exchange reserves. The reserve currency can be used in international tr ...
, its
liquidity
Liquidity is a concept in economics involving the convertibility of assets and obligations. It can include:
* Market liquidity, the ease with which an asset can be sold
* Accounting liquidity, the ability to meet cash obligations when due
* Liq ...
, and its perception as a
safe-haven currency. In the United States the Federal Reserve operates swap lines under the authority of Section 14 of the
Federal Reserve Act
The Federal Reserve Act was passed by the 63rd United States Congress and signed into law by President Woodrow Wilson on December 23, 1913. The law created the Federal Reserve System, the central banking system of the United States.
The Pani ...
and in compliance with authorizations, policies, and procedures established by the FOMC.
On December 12, 2007, the
Federal Open Market Committee
The Federal Open Market Committee (FOMC), a committee within the Federal Reserve System (the Fed), is charged under United States law with overseeing the nation's open market operations (e.g., the Fed's buying and selling of United States Treas ...
(FOMC) announced that it had authorized temporary reciprocal currency arrangements (central bank liquidity swap lines) with the
European Central Bank
The European Central Bank (ECB) is the prime component of the monetary Eurosystem and the European System of Central Banks (ESCB) as well as one of seven institutions of the European Union. It is one of the world's most important centra ...
and the
Swiss National Bank
The Swiss National Bank (SNB; german: Schweizerische Nationalbank; french: Banque nationale suisse; it, Banca nazionale svizzera; rm, Banca naziunala svizra) is the central bank of Switzerland, responsible for the nation's monetary policy an ...
to help provide liquidity in U.S. dollars to overseas markets.
The swaps were initially capped at $24 billion, but in the crisis of autumn 2008 the cap was expanded to a total $620 billion, before in October the ECB, SNB,
Bank of Japan
The is the central bank of Japan. Nussbaum, Louis Frédéric. (2005). "Nihon Ginkō" in The bank is often called for short. It has its headquarters in Chūō, Tokyo.
History
Like most modern Japanese institutions, the Bank of Japan was foun ...
and
Bank of England
The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the English Government's banker, and still one of the bankers for the Government o ...
were all given unlimited dollar access. Subsequently, the FOMC authorized liquidity swap lines with additional central banks. The swap lines were designed to improve liquidity conditions in U.S. and foreign financial markets by providing foreign
central bank
A central bank, reserve bank, or monetary authority is an institution that manages the currency and monetary policy of a country or monetary union,
and oversees their commercial banking system. In contrast to a commercial bank, a centra ...
s with the capacity to deliver U.S. dollar funding to institutions in their jurisdictions during times of market stress.
, swap lines were authorized with the following institutions: the
Reserve Bank of Australia
The Reserve Bank of Australia (RBA) is Australia's central bank and banknote issuing authority. It has had this role since 14 January 1960, when the ''Reserve Bank Act 1959'' removed the central banking functions from the Commonwealth Bank.
Th ...
, the
Banco Central do Brasil, the
Bank of Canada
The Bank of Canada (BoC; french: Banque du Canada) is a Crown corporation and Canada's central bank. Chartered in 1934 under the ''Bank of Canada Act'', it is responsible for formulating Canada's monetary policy,OECD. OECD Economic Surveys: C ...
,
Danmarks Nationalbank
Danmarks Nationalbank (in Danish often simply ''Nationalbanken'') is the central bank of the Kingdom of Denmark. It is a non-eurozone member of the European System of Central Banks ( ESCB). Since its establishment in 1818, the objective of the Na ...
, the
Bank of England
The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the English Government's banker, and still one of the bankers for the Government o ...
, the
European Central Bank
The European Central Bank (ECB) is the prime component of the monetary Eurosystem and the European System of Central Banks (ESCB) as well as one of seven institutions of the European Union. It is one of the world's most important centra ...
, the
Bank of Japan
The is the central bank of Japan. Nussbaum, Louis Frédéric. (2005). "Nihon Ginkō" in The bank is often called for short. It has its headquarters in Chūō, Tokyo.
History
Like most modern Japanese institutions, the Bank of Japan was foun ...
, the
Bank of Korea
The Bank of Korea (BOK; ) is the central bank of the Republic of Korea and issuer of Korean Republic won. It was established on 12 June 1950 in Seoul, South Korea.
The bank's primary purpose is price stability. For that, the bank targe ...
, the
Banco de Mexico
The Bank of Mexico ( es, Banco de México), abbreviated ''BdeM'' or ''Banxico,'' is Mexico's central bank, monetary authority and lender of last resort. The Bank of Mexico is autonomous in exercising its functions, and its main objective is to ...
, the
Reserve Bank of New Zealand
The Reserve Bank of New Zealand (RBNZ, mi, Te Pūtea Matua) is the central bank of New Zealand. It was established in 1934 and is constituted under the Reserve Bank of New Zealand Act 1989. The governor of the Reserve Bank is responsible for ...
,
Norges Bank
Norges Bank / Noregs Bank is the central bank of Norway. The bank shall promote economic stability in Norway. Norges Bank also manages the Government Pension Fund of Norway and the bank’s own foreign exchange reserves.
History
The history of ...
, the
Monetary Authority of Singapore
The Monetary Authority of Singapore (MAS) is the central bank and financial regulatory authority of Singapore. It administers the various statutes pertaining to money, banking, insurance, securities and the financial sector in general, as well ...
,
Sveriges Riksbank
Sveriges Riksbank, or simply the ''Riksbank'', is the central bank of Sweden. It is the world's oldest central bank and the fourth oldest bank in operation.
Etymology
The first part of the word ''riksbank'', ''riks'', stems from the Swedish w ...
, and the Swiss National Bank. The FOMC authorized these liquidity swap lines through October 30, 2009. By November 2011, swap agreements were extended until February 2013, at lower interest rates.
Immediately prior to the
COVID-19 pandemic
The COVID-19 pandemic, also known as the coronavirus pandemic, is an ongoing global pandemic of coronavirus disease 2019 (COVID-19) caused by severe acute respiratory syndrome coronavirus 2 (SARS-CoV-2). The novel virus was first identi ...
, the U.S.
Federal Reserve
The Federal Reserve System (often shortened to the Federal Reserve, or simply the Fed) is the central banking system of the United States of America. It was created on December 23, 1913, with the enactment of the Federal Reserve Act, after a ...
had standing U.S. dollar liquidity swap lines with the
Bank of Canada
The Bank of Canada (BoC; french: Banque du Canada) is a Crown corporation and Canada's central bank. Chartered in 1934 under the ''Bank of Canada Act'', it is responsible for formulating Canada's monetary policy,OECD. OECD Economic Surveys: C ...
, the
Bank of England
The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the English Government's banker, and still one of the bankers for the Government o ...
, the
Bank of Japan
The is the central bank of Japan. Nussbaum, Louis Frédéric. (2005). "Nihon Ginkō" in The bank is often called for short. It has its headquarters in Chūō, Tokyo.
History
Like most modern Japanese institutions, the Bank of Japan was foun ...
, the
European Central Bank
The European Central Bank (ECB) is the prime component of the monetary Eurosystem and the European System of Central Banks (ESCB) as well as one of seven institutions of the European Union. It is one of the world's most important centra ...
, and the
Swiss National Bank
The Swiss National Bank (SNB; german: Schweizerische Nationalbank; french: Banque nationale suisse; it, Banca nazionale svizzera; rm, Banca naziunala svizra) is the central bank of Switzerland, responsible for the nation's monetary policy an ...
. On March 20, 2020, it extended this arrangement to nine more central banks, comprising US$60 billion each with the
Monetary Authority of Singapore
The Monetary Authority of Singapore (MAS) is the central bank and financial regulatory authority of Singapore. It administers the various statutes pertaining to money, banking, insurance, securities and the financial sector in general, as well ...
,
Reserve Bank of Australia
The Reserve Bank of Australia (RBA) is Australia's central bank and banknote issuing authority. It has had this role since 14 January 1960, when the ''Reserve Bank Act 1959'' removed the central banking functions from the Commonwealth Bank.
Th ...
,
Banco Central do Brasil,
Danmarks Nationalbank
Danmarks Nationalbank (in Danish often simply ''Nationalbanken'') is the central bank of the Kingdom of Denmark. It is a non-eurozone member of the European System of Central Banks ( ESCB). Since its establishment in 1818, the objective of the Na ...
,
Bank of Korea
The Bank of Korea (BOK; ) is the central bank of the Republic of Korea and issuer of Korean Republic won. It was established on 12 June 1950 in Seoul, South Korea.
The bank's primary purpose is price stability. For that, the bank targe ...
, and
Banco de Mexico
The Bank of Mexico ( es, Banco de México), abbreviated ''BdeM'' or ''Banxico,'' is Mexico's central bank, monetary authority and lender of last resort. The Bank of Mexico is autonomous in exercising its functions, and its main objective is to ...
, and US$30 billion each with the
Reserve Bank of New Zealand
The Reserve Bank of New Zealand (RBNZ, mi, Te Pūtea Matua) is the central bank of New Zealand. It was established in 1934 and is constituted under the Reserve Bank of New Zealand Act 1989. The governor of the Reserve Bank is responsible for ...
,
Norges Bank
Norges Bank / Noregs Bank is the central bank of Norway. The bank shall promote economic stability in Norway. Norges Bank also manages the Government Pension Fund of Norway and the bank’s own foreign exchange reserves.
History
The history of ...
and
Sveriges Riksbank
Sveriges Riksbank, or simply the ''Riksbank'', is the central bank of Sweden. It is the world's oldest central bank and the fourth oldest bank in operation.
Etymology
The first part of the word ''riksbank'', ''riks'', stems from the Swedish w ...
, in order to lessen strains in global U.S. dollar funding markets due to the pandemic, and mitigate their effects on the supply of credit to households and businesses across the world. On March 31, 2020, these efforts were further expanded with a new program allowing these banks to use their holdings of US Treasury securities as collateral for overnight US dollar loans, in order to "help support the smooth functioning of the US Treasury market by providing an alternative temporary source of US dollars other than sales of securities in the open market".
Revenue and cost impacts
The foreign currency that the originating bank acquires is an asset on its balance sheet. In tables 1, 9, and 10 of the H.4.1 statistical release, the dollar value of amounts that the foreign central banks have drawn but not yet repaid is reported in the line "Central bank liquidity swaps".
Because the swap will be unwound at the same exchange rate that was used in the initial draw, the dollar value of the asset is not affected by changes in the market exchange rate. The dollar funds deposited in the accounts that foreign central banks maintain at the Federal Reserve Bank of New York are a Federal Reserve liability. In principle, draws would initially appear in tables 1, 9, and 10 in the line "foreign and official" deposits. However, the foreign central banks generally lend the dollars shortly after drawing on the swap line. At that point, the funds shift to the line "deposits of depository institutions".
When a foreign central bank draws on its swap line to fund its dollar tender operations, it pays interest to the Federal Reserve in an amount equal to the interest the foreign central bank earns on its tender operations. The Federal Reserve holds the foreign currency that it acquires in the swap transaction at the foreign central bank (rather than lending it or investing it in private markets) and does not pay interest. The structure of the arrangement serves to avoid domestic currency reserve management difficulties for foreign central banks that could arise if the Federal Reserve actively invested the foreign currency holdings in the marketplace.
The Federal Reserve Board issues a weekly release that includes information on the aggregate value of swap drawings outstanding. With the onset of the
financial crisis of 2007–2008
Finance is the study and discipline of money, currency and capital assets. It is related to, but not synonymous with economics, the study of production, distribution, and consumption of money, assets, goods and services (the discipline of ...
and the collapse of
Lehman Brothers
Lehman Brothers Holdings Inc. ( ) was an American global financial services firm founded in 1847. Before filing for bankruptcy in 2008, Lehman was the fourth-largest investment bank in the United States (behind Goldman Sachs, Morgan Stanley, ...
on September 15, 2008, the balance grew rapidly. the balance was $293,533 million.
Central bank liquidity swaps have maturities ranging from overnight to three months. Table 2 of the H.4.1 statistical release reports the remaining maturity of outstanding central bank liquidity swaps.
By September 2011, the total of lending by the Fed had come to $10 trillion (or standardised to 1-month loans, $4.45 trillion), over half of which had gone to the ECB: all loans were repaid in full, and profits made by the Fed on swap repayments in 2008-9 alone came to c. $4 billion.
Non-USD swaps
Europe
During the
European debt crisis
The European debt crisis, often also referred to as the eurozone crisis or the European sovereign debt crisis, is a multi-year debt crisis that took place in the European Union (EU) from 2009 until the mid to late 2010s. Several eurozone me ...
*
European Central Bank
The European Central Bank (ECB) is the prime component of the monetary Eurosystem and the European System of Central Banks (ESCB) as well as one of seven institutions of the European Union. It is one of the world's most important centra ...
to Hungary
*
Swiss National Bank
The Swiss National Bank (SNB; german: Schweizerische Nationalbank; french: Banque nationale suisse; it, Banca nazionale svizzera; rm, Banca naziunala svizra) is the central bank of Switzerland, responsible for the nation's monetary policy an ...
to Poland and Hungary in exchange for euros
During the
2008–2011 Icelandic financial crisis
The Icelandic financial crisis was a major economic and political event in Iceland that involved the default of all three of the country's major privately owned commercial banks in late 2008, following their difficulties in refinancing their ...
* The
Swedish central bank
Sveriges Riksbank, or simply the ''Riksbank'', is the central bank of Sweden. It is the world's oldest central bank and the fourth oldest bank in operation.
Etymology
The first part of the word ''riksbank'', ''riks'', stems from the Swedish w ...
to Iceland, Latvia and Estonia.
* The
Norwegian central bank to Iceland
* The
Danish central bank to Iceland and Latvia
China
Since 2009, China has signed bilateral currency swap agreements with thirty-two counterparties. The stated intention of these swaps is to support trade and investment and to promote the international use of renminbi. Broadly, China limits the amount of renminbi available to settle trade, and the swaps have been used to obtain renminbi after these limits have been reached.
In 2015, Argentina drew on the China swap line in order to bolster the country's foreign exchange reserves. The
Central Bank of Argentina
The Central Bank of the Argentine Republic ( es, Banco Central de la República Argentina, BCRA) is the central bank of Argentina, being an autarchic entity.
Article 3 of the Organic Charter lists the objectives of this Institution: “The bank ...
reportedly converted the renminbi received through the swap into other currencies to facilitate the import of goods, which had become difficult after Argentina defaulted on its debt in July 2014.
South Korea
South Korea has signed bilateral currency swap agreements with eight counterparties. These include a currency swap with
Canada
Canada is a country in North America. Its ten provinces and three territories extend from the Atlantic Ocean to the Pacific Ocean and northward into the Arctic Ocean, covering over , making it the world's second-largest country by to ...
for an unlimited amount and infinite time period signed in 2017 and limited amounts with
China
China, officially the People's Republic of China (PRC), is a country in East Asia. It is the world's List of countries and dependencies by population, most populous country, with a Population of China, population exceeding 1.4 billion, slig ...
,
Switzerland
). Swiss law does not designate a ''capital'' as such, but the federal parliament and government are installed in Bern, while other federal institutions, such as the federal courts, are in other cities (Bellinzona, Lausanne, Luzern, Neuchâtel ...
,
Indonesia
Indonesia, officially the Republic of Indonesia, is a country in Southeast Asia and Oceania between the Indian and Pacific oceans. It consists of over 17,000 islands, including Sumatra, Java, Sulawesi, and parts of Borneo and New Gui ...
,
Australia
Australia, officially the Commonwealth of Australia, is a sovereign country comprising the mainland of the Australian continent, the island of Tasmania, and numerous smaller islands. With an area of , Australia is the largest country by ...
,
UAE,
Malaysia
Malaysia ( ; ) is a country in Southeast Asia. The federal constitutional monarchy consists of thirteen states and three federal territories, separated by the South China Sea into two regions: Peninsular Malaysia and Borneo's East Mal ...
and
Turkey
Turkey ( tr, Türkiye ), officially the Republic of Türkiye ( tr, Türkiye Cumhuriyeti, links=no ), is a transcontinental country located mainly on the Anatolian Peninsula in Western Asia, with a small portion on the Balkan Peninsula ...
, named in the order of amount signed.
Rest of Asia
*
Qatar
Qatar (, ; ar, قطر, Qaṭar ; local vernacular pronunciation: ), officially the State of Qatar,) is a country in Western Asia. It occupies the Qatar Peninsula on the northeastern coast of the Arabian Peninsula in the Middle East; it sh ...
and
Turkey
Turkey ( tr, Türkiye ), officially the Republic of Türkiye ( tr, Türkiye Cumhuriyeti, links=no ), is a transcontinental country located mainly on the Anatolian Peninsula in Western Asia, with a small portion on the Balkan Peninsula ...
signed a currency swap agreement in August 2018 worth US$15 billion
*
China
China, officially the People's Republic of China (PRC), is a country in East Asia. It is the world's List of countries and dependencies by population, most populous country, with a Population of China, population exceeding 1.4 billion, slig ...
and
Turkey
Turkey ( tr, Türkiye ), officially the Republic of Türkiye ( tr, Türkiye Cumhuriyeti, links=no ), is a transcontinental country located mainly on the Anatolian Peninsula in Western Asia, with a small portion on the Balkan Peninsula ...
signed a currency swap agreement in August 2018 worth US$6 billion
*
Japan
Japan ( ja, 日本, or , and formally , ''Nihonkoku'') is an island country in East Asia. It is situated in the northwest Pacific Ocean, and is bordered on the west by the Sea of Japan, while extending from the Sea of Okhotsk in the n ...
and
India
India, officially the Republic of India (Hindi: ), is a country in South Asia. It is the List of countries and dependencies by area, seventh-largest country by area, the List of countries and dependencies by population, second-most populous ...
signed a currency swap agreement worth US$75 billion in October 2018
Multilateral swaps
The Chiang Mai Initiative
The
Chiang Mai Initiative began as a series of bilateral currency swap agreements between the
Association of Southeast Asian Nations (ASEAN) countries, the
People's Republic of China
China, officially the People's Republic of China (PRC), is a country in East Asia. It is the world's List of countries and dependencies by population, most populous country, with a Population of China, population exceeding 1.4 billion, slig ...
,
Japan
Japan ( ja, 日本, or , and formally , ''Nihonkoku'') is an island country in East Asia. It is situated in the northwest Pacific Ocean, and is bordered on the west by the Sea of Japan, while extending from the Sea of Okhotsk in the n ...
, and
South Korea
South Korea, officially the Republic of Korea (ROK), is a country in East Asia, constituting the southern part of the Korea, Korean Peninsula and sharing a Korean Demilitarized Zone, land border with North Korea. Its western border is formed ...
after the
1997 Asian Financial Crisis
The Asian financial crisis was a period of financial crisis that gripped much of East Asia and Southeast Asia beginning in July 1997 and raised fears of a worldwide economic meltdown due to financial contagion. However, the recovery in 1998– ...
. These were subsequently multilateralized in 2010 into a single agreement, the Chiang Mai Initiative Multilateralization (CMIM). Despite standing at US$240 billion as of 2014, these swap lines have never actually been used.
Further reading
Central Bank Currency Swaps Tracker - Council on Foreign Relations
References
{{USGovernment, url=http://www.federalreserve.gov, agency=Board of Governors of the Federal Reserve System
Federal Reserve System
Great Recession