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Federal Reserve earned $45 billion in 2009

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By Neil Irwin
Washington Post Staff Writer
Tuesday, January 12, 2010

Wall Street firms aren't the only banks that had a banner year. The Federal Reserve made record profits in 2009, as its unconventional efforts to prop up the economy created a windfall for the government.

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The Fed will return about $45 billion to the U.S. Treasury for 2009, according to calculations by The Washington Post based on public documents. That reflects the highest earnings in the 96-year history of the central bank. The Fed, unlike most government agencies, funds itself from its own operations and returns its profits to the Treasury.

The numbers are good news for the federal budget and a sign that the Fed has been successful, at least so far, in protecting taxpayers as it intervenes in the economy -- though there remains a risk of significant losses in the future if the Fed sells some of its investments or loses money on its stakes in bailed-out firms.

This turn of events comes as the banks that benefited from the Fed's actions are under the microscope. Starting at the end of the week, major banks are expected to announce significant earnings and employee bonuses. Anger in Washington is at such a high boil that the Obama administration will probably propose a fee on financial firms to recoup the cost of their bailout, officials confirmed Monday.

As it happens, the Fed's earnings for the year will dwarf those of the large banks, easily topping the expected profits of Bank of America, Goldman Sachs and J.P. Morgan Chase combined.

Much of the higher earnings came about because of the Fed's aggressive program of buying bonds, aiming to push interest rates down across the economy and thus stimulate growth. By the end of 2009, the Fed owned $1.8 trillion in U.S. government debt and mortgage-related securities, up from $497 billion a year earlier. The interest income on those investments was a major source of Fed profits -- though that income comes with risks, as the central bank could lose money if it later sells those securities to reduce the money supply.

The Fed also made money on its emergency loans to banks and other firms and on special programs to prop up lending, such as one that supports credit cards, auto loans, and other consumer and business lending. Those programs impose interest and fees on participants, with the aim of ensuring that the Fed does not lose money.

And while the central bank in its most recent financial report had recorded a $3.8 billion decline in the value of loans it made in bailing out the investment bank Bear Stearns and the insurer American International Group, the Fed also logged $4.7 billion in interest payments from those loans. Further losses -- or gains -- on the two bailouts are possible as time goes by. The Fed also charges fees for operating the plumbing of the financial system, such as clearing checks and electronic payments between banks.

From its revenue, the Fed deducts operating expenses, such as employee salaries, then returns to the Treasury almost all of the earnings that remain. The largest previous refund to the Treasury was $34.6 billion, in 2007.

"This shows that central banking is a great business to be in, especially in a crisis," said Vincent Reinhart, a resident scholar at the American Enterprise Institute and a former Fed official. "You buy assets that have a nice yield, and your cost of funds is very low. The difference is profit."

The Fed plans to release its estimate of 2009 earnings Tuesday. The Post's calculation is based on combining data through September from the Fed's monthly balance sheet report with more recent data from the Treasury's daily budget statement.

Fed officials do not make policy with an eye toward maximizing profits. They are charged by law with managing the nation's money supply to keep employment high and prices stable, and earnings fluctuate depending on a wide range of factors as they pursue that goal. In the crisis, the central bank's policy has been to create money and use it to buy a wide variety of assets, which in turn pay interest.

In effect, the unprecedented range of actions taken to address the crisis has made the Fed's balance sheet more like that of a private bank. A firm such as Bank of America takes money from depositors, whom it pays little or nothing in interest, and lends it out at significantly higher rates. The Fed, similarly, takes money that banks keep on deposit, at a rate of 0.25 percent, and lends it to the U.S. government by buying Treasury securities and, lately, to home buyers and other private borrowers though more exotic investments.

While that resulted in higher earnings in 2009, it exposes the Fed to more risks down the road. "They've moved up the risk-return curve, as they have more long-term assets and more things that involve credit risk," said Diane Swonk, chief economist at Mesirow Financial.

If the price of Treasury bonds or mortgage-related securities issued by Fannie Mae and Freddie Mac were to fall in the years ahead, and Fed leaders decided they need to drain money from the financial system by selling off some of their portfolio, the central bank would lose money. "If they do enough asset sales and rates go high enough, that could eat into future profits pretty substantially," said Michael Feroli, an economist at J.P. Morgan Chase.

Even as the Fed comes to resemble private banks in terms of its balance sheet and its earnings power, there remains one big difference. The CEO of the Federal Reserve, Chairman Ben S. Bernanke, received a modest cost-of-living raise for 2010, despite the record earnings: He now makes $199,700, with no bonus at all.


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