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Board of Governors of the Federal Reserve System
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Financial Accounting Manual

Chapter 4: Central Bank Unique Accounting

 

 

40.01 General

The New York Reserve Bank has been authorized and directed by the Federal Open Market Committee (FOMC) to execute open-market transactions on behalf of the Reserve Banks. The New York Reserve Bank holds the resulting securities and agreements in the System Open Market Account (SOMA). U.S. Treasury, Federal agency, and government sponsored enterprise (GSE) debt securities, Federal agency and GSE mortgage-backed securities (MBS), outstanding commitments under dollar roll and coupon swap transactions, and investments denominated in foreign currencies comprising the SOMA are recorded at amortized cost, on a settlement-date basis. Rather than using the fair value presentation, amortized cost more appropriately reflects the Bank's securities holdings given the System's unique responsibility to conduct monetary policy. Differences between fair value and amortized cost have no direct effect on the quantity of reserves available to the banking system, or on the ability of the Reserve Banks, as the central bank, to meet their financial obligations and responsibilities. Accounting for securities held in the SOMA on a settlement-date basis better reflects the timing of the transaction's effect on the quantity of reserves in the banking system.1

Both the domestic and foreign components of the SOMA portfolio may involve transactions that result in gains or losses when holdings are sold prior to maturity. Decisions regarding securities and foreign currency transactions, including their purchase and sale, are motivated by monetary policy objectives rather than profit. Accordingly, market values, earnings, and any gains or losses resulting from the sale of such securities and currencies are incidental to the open market operations and do not motivate decisions related to policy or open market activities. The Reserve Banks do not present a statement of cash flows because, their liquidity and cash position do not affect their ability to meet their financial obligations and responsibilities. The financial statement footnote disclosures, however, include cash flow information for significant categories of Reserve Bank activities, such as open market operations, lending, and capital expenditures. Profit motivated entities provide a cash flow statement to disclose their ability to generate future cash flows and thus the ability to meet their obligations. This does not represent a risk to the Reserve Banks.


40.05 Participated Accounts

The following accounts are those for which daily activity is allocated to each Reserve Bank consistent with their participation ratios.

  • Federal agency and GSE obligations bought outright
  • U.S. Treasury securities bought outright
  • MBS, related short-term investments, fail assets and liabilities, and cash margin accounts
  • Investments denominated in foreign currencies
  • Central bank liquidity swaps
  • Interest accrued and interest payable--includes fees on securities lending
  • Interest income and interest expense
  • Premium and discount on securities
  • Foreign deposits
  • Reverse repurchase agreements
  • Repurchase agreements

40.10 Interest Earnings and Expense

Interest on securities is accrued daily. Consistent with market convention, interest accruals and the amortization of premiums and discounts are recognized beginning on the day that securities purchases settle and ending the day before securities mature or sales settle.


40.13 SOMA Portfolio Holdings Impairments

The New York Reserve Bank should evaluate SOMA securities holdings for other than temporary impairment resulting from credit risk. Although GAAP requires an entity to consider the effects of both interest rate risk and credit risk in evaluating impairments, for the Reserve Banks, the evaluation should be limited to considerations of credit risk. The periodic evaluation, recording, and disclosure of credit impairments require RBOPS Financial Reporting and Control approval.


40.20 U.S. Treasury, Federal Agency, and GSE Debt Securities

These securities are held in the SOMA at the New York Reserve Bank with premiums and discounts recorded separately and amortized (accreted) on a straight-line basis. Earnings are accrued daily to the interest accrued account (see paragraph 40.10) and all realized gains and losses are determined by the specific identification method within classifications. These assets and related income and the associated gains and losses are allocated to each Reserve Bank based on the Bank's designated share of the SOMA portfolio (see paragraph 40.40).


40.23 Federal Agency and GSE Mortgage-Backed Securities (MBS)

Outright Purchases

MBS are held in the SOMA portfolio at the New York Reserve Bank. Interest income on Federal agency and GSE MBS is accrued using the effective interest method and includes amortization of premiums, accretion of discounts, and paydown gains or losses. The premiums and discounts related to Federal agency and GSE MBS are amortized over the term of the security to stated maturity, and the amortization of premiums and accretion of discounts are accelerated when principal payments are received. Paydown gains and losses represent the difference between the principal amount paid and the amortized cost basis of the related security.

Earnings are accrued daily to the interest accrued account (see paragraph 40.10) and all realized gains and losses are determined by the specific identification method within classifications. These assets, related income, and the associated gains and losses are allocated to each Reserve Bank based on the Bank's designated share of the SOMA portfolio (see paragraph 40.40).

Dollar Roll Transactions

A mortgage dollar roll is a transaction in which the investor sells or purchases MBS or "to-be-announced" (TBA) securities for delivery in the current month and simultaneously contracts to repurchase or resell substantially similar (although not necessarily the same) securities on a specified future date. Based on the terms of the dollar roll transactions, transfers of MBS upon settlement of the initial TBA MBS transactions are accounted for as purchases or sales in accordance with FASB ASC Topic 860 (ASC 860), Transfers and Servicing, and the related outstanding commitments are accounted for as sales or purchases upon settlement.

Coupon Swap Transactions

A coupon swap is a trade with a single counterparty in which the investor agrees to simultaneously sell one type of TBA MBS and to buy an equal amount of a different type TBA MBS. Based on the terms of the coupon swap transactions, transfers of MBS upon settlement of the initial TBA MBS transactions are accounted for as purchases or sales in accordance with FASB ASC Topic 860 (ASC 860), Transfers and Servicing, and the related outstanding commitments are accounted for as sales or purchases upon settlement.

MBS Commitments

MBS commitments can result from outright purchases of Federal agency and GSE MBS and dollar roll and coupon swap transactions. These TBA transactions are agreements between a buyer and a seller with regards to type of security, coupon, face value, price, and settlement date; however, the actual pools of underlying mortgage collateral are not known until allocation day. Allocation day is two business days before settlement date, and the characteristics of the pools are not known prior to settlement date. The Securities Industry and Financial Markets Association (SIFMA) releases a monthly schedule that indicates specific days that settlement is expected to occur. The New York Reserve Bank requires the posting of cash collateral for commitments as part of the risk management practices used to mitigate counterparty risk, and the resulting cash collateral held by the New York Reserve Bank is recorded as a sundry items payable (see paragraph 11.70).

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40.25 Securities Purchased Under Agreements to Resell (Repurchase Agreements)

The New York Reserve Bank is authorized by the FOMC to acquire U.S. Treasury, Federal agency, and GSE debt securities, as well as Federal agency and GSE MBS, under agreement with a dealer to repurchase the securities at an established point in time (securities purchased under agreements to resell). The New York Reserve Bank may engage in tri-party purchases of securities under agreements to resell ("tri-party agreements"). Tri-party agreements are conducted with two custodial banks that manage the clearing and settlement of collateral. Acceptable collateral under tri-party agreements is determined by the FOMC. The tri-party agreements are accounted for as financing transactions with the associated interest income accrued over the life of the agreements. The repurchase agreements generally consist entirely of agreements through third-party custodial arrangements.


40.30 Securities Sold Under Agreements to Repurchase (Reverse Repurchase Agreements)

In December 2002, the New York Reserve Bank replaced matched sale-purchase transactions with securities sold under agreements to repurchase. Securities sold under agreements to repurchase, unlike matched-sale purchase transactions, which were accounted for as separate sale and purchase transactions at an agreed upon rate at the commencement of the transaction, are treated as secured borrowing transactions with the associated interest expense recognized over the term of the transaction, generally overnight.

The New York Reserve Bank is authorized by the FOMC to sell U.S. Treasury, Federal agency, and GSE debt securities, as well as Federal agency and GSE MBS, under agreements to repurchase. The New York Reserve Bank is also authorized and directed by the FOMC to execute reverse repurchase agreements with primary dealers or selected money market funds through a tri-party arrangement. The New York Reserve Bank also executes reverse repurchase agreements with foreign official and international accounts as part of a service offering to account holders. The par values of securities that are sold under agreements to repurchase are deducted from the SOMA portfolio balance when calculating assets available for collateral for Federal Reserve notes.


40.35 Securities Lending

The New York Reserve Bank, on behalf of the Reserve Banks, may lend, on an overnight or term basis, U.S. Treasury, Federal agency, and GSE debt securities held in the SOMA to securities dealers and to banks participating in U.S. government clearing arrangements. These securities-lending transactions are fully collateralized by Treasury securities that have fair value in excess of the securities lent. The New York Reserve Bank charges the participating dealer or bank a fee for borrowing securities and a fee if the borrower fails to deliver the borrowed securities at maturity.


40.40 SOMA Participation

All domestic securities activity, with the exception of acceptances, is allocated to each Reserve Bank on daily basis using the Interdistrict Settlement Account (see paragraph 5.00).2 The allocation includes the related interest accrued and premium amortization or discount accretion. Gains and losses are allocated to each Bank based on holdings at the opening of business. Allocation is made on the basis of percentages that are derived from an annual settlement of interdistrict clearings and equalization of gold certificate holdings as explained below. The percentages that are used for allocating the account prescribed by the FOMC are calculated as follows:

  • In April of each year the Board and the Markets Group at the Federal Reserve Bank of New York calculate the average daily balance on each Bank's Interdistrict Settlement account during the preceding 12 months. The average daily settlement account balance (plus or minus) is applied to each Bank's gold certificate account total.
  • In this calculation, an amount is set aside in New York Reserve Bank's account to accommodate future gold sales by the U.S. Treasury.
  • A calculation is then made of the amount each Bank should have in its gold certificate account to equal the System average of gold certificates to Federal Reserve notes outstanding. In this calculation, an amount is set aside in New York Reserve Bank's account to accommodate future gold sales by the U.S. Treasury.
  • The adjustment that would be required in each Bank's gold certificate total is applied by the New York Reserve Bank against each Bank's holdings in the System Open Market Account. Thus, a desired decrease in a Bank's gold certificate account is achieved by increasing the Bank's holdings of securities.
  • The resulting percentage of each Bank's participation in the System Account is used, until the next reallocation, as the basis for allocating the daily SOMA transactions.
  • The following is a simplified illustration of the procedure that is performed each April: Assume that Reserve Bank A has gold certificates balance of 105, securities of 2,000, outstanding Federal Reserve notes of 2,000, and during the 12 months ending in March, its ISA settlement account averaged -5. The gold certificate total of all Banks combined is 10 percent of the combined Federal Reserve notes.

    1. The ISA settlement account will be adjusted by debiting it for 5
    2. The offset to the above ISA entry is to credit the gold certificate account for 5.
    3. The gold certificate account will be adjusted to equal ten percent of the outstanding notes total (2,000 x 10% = 200), increasing the gold account by 100 (200 -100 = 100).
    4. The offset to the final change to gold account (100) is deducted from the SOMA securities account (2,000 - 100 = 1,900).
Example: Gold ISA SOMA
Dr. Cr. Dr. Cr. Dr. Cr.
Balance before the annual adjustment 105 10 2,000
1. ISA 5
2. Gold 5
3. Gold 100
4. Securities 100
Balance after adjustment 200   5 1,900

40.50 Investments Denominated in Foreign Currency

The New York Reserve Bank, on behalf of the Reserve Banks, holds foreign currency deposits and foreign government debt instruments denominated in foreign currencies with foreign central banks and the Bank for International Settlements (BIS). Balances result from market and off-market transactions for the purpose of stabilizing fluctuations in international flows and exchange values of various currencies and other needs specified by the FOMC. Foreign currency holdings are invested in so far as practicable, considering needs for minimum working balances. This account includes the amortization of premiums and discounts and the accrual of interest. Each Reserve Bank is allocated a share of the foreign-currency-denominated assets, realized and unrealized gains and losses, and interest on the basis of its designated share of the total portfolio. Each Reserve Bank's share of the portfolio is determined based on the ratio of its capital and surplus to the total capital and surplus of all Federal Reserve Banks, as determined at the first of each year (see paragraph 3.85).

Investments denominated in foreign currencies are limited, by FOMC policy, to an average maturity of no more than eighteen months (calculated using the Macaulay duration) and are accounted for at cost on a settlement-date basis, adjusted for amortization of premiums and accretion of discounts using the straight line method. These investments are guaranteed as to principal and interest by the foreign governments, or are contracts with the foreign central banks or the BIS. Foreign-currency-denominated assets of the Reserve Banks are revalued daily at current market exchange rates, with any translation gains or losses recognized in profit and loss. Interest income is recorded on the accrual basis. Gains and losses resulting from sales of securities are determined using the weighted average cost method.


40.60 Central Bank Liquidity Swaps

This is a renewable, short-term currency arrangement generally for up to one year, between two parties, the New York Reserve Bank, on behalf of the Reserve Banks, and an authorized foreign central bank, which mutually agree to exchange their currencies up to a prearranged maximum amount and for an agreed-upon period of time. These arrangements give the Federal Reserve temporary access to the foreign currencies that it needs to support its international operations, and gives the authorized foreign central bank temporary access to dollars.

Depending on the provisions of the swap agreement, the New York Reserve Bank may invest the foreign currency received under the swap arrangement in interest-bearing instruments, and the interest income on these holdings is accrued and included in interest income on investments denominated in foreign currencies. Drawings under the swap are structured so that the party initiating the transaction (drawer) bears the exchange rate risk upon maturity. Each day the swap commitments (both the foreign currency received and the obligation) are revalued at current exchange rates and gains and losses on revaluation of the resulting foreign currency holdings are participated among the Reserve Banks.


40.65 Warehousing Agreement

The FOMC has an agreement to "warehouse" foreign currencies for the U.S. Treasury and the Exchange Stabilization Fund (ESF). This is an arrangement under which the FOMC agrees to exchange, at the request of the Treasury, U.S. dollars for foreign currencies held by the Treasury or ESF for a limited period of time. The purpose of the warehousing facility is to supplement the U.S. dollar resources of the Treasury and ESF for financing purchases of foreign currencies and related international operations. In general, this transaction is similar to the F/X swap; however, the parties are the Federal Reserve and the Treasury.


40.70 Foreign Deposits

These deposits consist of non-interest bearing accounts held with the New York Reserve Bank by foreign central banks and governments for international settlement and other purposes. The portion of the balances estimated to be in excess of what is needed for current transactions is participated among the Reserve Banks on the basis of each Bank's capital and surplus. As a practical matter, foreign deposits are commonly invested overnight in reverse repurchase agreements conducted by the desk at the New York Reserve Bank.


40.75 Euro Reverse Repurchase Agreements

The New York Reserve Bank, on behalf of the Reserve Banks, may enter into euro reverse repurchase agreements, under which foreign currencies are sold under agreements to repurchase. The maximum duration of a euro reverse repurchase agreement is 30 days, and SOMA pays interest at a specified interest rate. These transactions are treated as financing transactions where the currency received is treated as a liability and interest payable is accrued on a daily basis. Each Reserve Bank is allocated a share of the liability for euro reverse repurchase agreements, as well as the related accrued interest and interest expense, based on the foreign currencies allocation ratio (see paragraph 3.85).


References

1. The annual audited financial statements, however, will be adjusted to reflect unsettled foreign-exchange contracts at year-end, effectively adopting trade-date accounting for the audited financial statements only. Return to text

2. In February 2007, the FOMC authorized the New York Reserve Bank to conduct tri-party repurchase agreements and to participate the activity among Reserve Banks. Return to text

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Last update: July 5, 2013