The Federal Reserve Bank of Boston just published a study on its AMLF money market support program, which was perhaps the single most important backstop for money market funds during September 2008 and which may serve as a model for the recently proposed Liquidity Exchange Bank (LEB). The new Boston Fed paper is entitled, "How Effective Were the Federal Reserve Emergency Liquidity Facilities? Evidence from the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility."
In the introduction for "QAU Working Paper No. QAU10-3, authors Burcu Duygan-Bump, Patrick M. Parkinson, Eric S. Rosengren, Gustavo A. Suarez, and Paul S. Willen, write, "Following the failure of Lehman Brothers in September 2008, short-term credit markets were severely disrupted. In response, the Federal Reserve implemented new and unconventional facilities to help restore liquidity. Many existing analyses of these interventions are confounded by identification problems because they rely on aggregate data. Two unique micro datasets allow us to exploit both time series and cross-sectional variation to evaluate one of the most unusual of these facilities -- the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF)."
It continues, "The AMLF extended collateralized loans to depository institutions that purchased asset-backed commercial paper (ABCP) from money market funds, helping these funds meet the heavy redemptions that followed Lehman's bankruptcy. The program, which lent $150 billion in its first 10 days of operation, was wound down with no credit losses to the Federal Reserve. Our findings indicate that the facility was effective as measured against its dual objectives: it helped stabilize asset outflows from money market mutual funds, and it improved liquidity in the ABCP market. Using a differences-in-differences approach we show that after the facility was implemented, money market fund outflows decreased more for those funds that held more eligible collateral. Similarly, we show that yields on AMLF-eligible ABCP decreased significantly relative to those on otherwise comparable AMLF-ineligible commercial paper."
The full 44-page study's introduction says, "Short-term credit markets experienced unprecedented stresses after the failure of Lehman Brothers in September 2008. In interbank markets, Libor spreads over overnight index swap rates reached over 350 basis points, as many of the largest financial institutions became unwilling to lend to each other. Similarly, in the commercial paper market, outstanding volumes dropped, maturities shortened, and interest rates climbed to record highs relative to overnight index swap rates. The severe strains in short term credit markets played a pivotal role in the financial crisis by compounding other funding pressures at financial institutions, with the potential of disrupting credit flows to firms and households. To help restore liquidity to short-term credit markets, the Federal Reserve used its authority to lend to nonbanks in 'unusual and exigent circumstances' under Section 13(3) of the Federal Reserve Act, and implemented new and unconventional emergency lending facilities. As a result of these emergency facilities, the purchase of Treasury and agency securities, and other interventions in credit markets, the balance sheet of the Federal Reserve doubled in the fall of 2008. Given their novelty and size, it is important to understand whether these facilities were effective in stabilizing financial markets."
It continues, "The AMLF is especially interesting, as it was one of the most unusual facilities when viewed against traditional uses of the discount window. The facility was unconventional in two ways. First, in a substantial departure from 'traditional' -- recourse and over-collateralized -- discount window loans, the Federal Reserve accepted a modest amount of credit risk under the AMLF by issuing non-recourse loans to banks that purchased ABCP directly from money funds. The ABCP purchased by the bank was pledged as collateral for the loan, but the Federal Reserve did not impose a haircut on the collateral. Second, the facility was created to foster liquidity in secondary markets for ABCP, an asset not typically held by depository institutions."
Finally, the paper says, "Our results show that the AMLF was quickly accepted as a means of meeting redemptions by providing an important source of liquidity to money funds. It also helped stabilize asset outflows from these funds. Our analysis of the drivers of the facility's use also confirms that the facility provided a much needed liquidity back-stop. Especially during the first two months of operation, when the majority of the AMLF loans were originated, funds that experienced substantial redemptions were the most active users of the facility. Once redemption pressures subsided and market conditions improved, the use of the facility wound down, consistent with the design of an emergency facility.... We also show that the AMLF helped to restore liquidity to the ABCP market and drive down ABCP spreads."
