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Strong Wholesale Funding Regulations
The new US Federal Reserve chairman, Janet Yellen, spoke recently about strong wholesale funding rules. As reported in the online Fox News,
Yellen focused on liquidity issues in banks, a problem that has been partially addressed by raising international standards for the amount of capital banks need to keep in reserves.
The need for strong wholesale funding regulations goes back to the near collapse of financial markets in 2008 when large banks did not have sufficient cash and borrowers could not get help in short term credit markets. The Fed believes that strong wholesale funding regulations are needed on top of the so called Basel rules which raised capital reserve requirements for major banks. For those of us who are not international bankers, however, just what is wholesale funding?
Banks rely on wholesale funding for capital when deposits are low such as when interest rates are very low or when the economy is weak. Wholesale funding is the use of other sources of capital outside of core deposits used by banks to manage operations and limit risk. Sources of wholesale funding include monies from local, state and federal sources, advances from the U.S. Federal Home Loan Bank, the primary credit program of the United States Federal Reserve, foreign source deposits, deposits from internet or CD listing services and brokered deposits.
A major issue with wholesale funding is that it is typically very interest rate sensitive. Sources of wholesale funding such as wealthy foreign investors commonly chase high interest rates and can easily pull a large chunk of a bank’s wholesale funding overnight. Whatever the reason, when wholesale funding drops off, a bank will not have enough working capital to do business. This is what happened to many large banks during the recent financial crisis. This is why Fed chairman Yellen is talking about stronger wholesale funding regulations. Basically when banks are less leveraged they are more secure. However, the Fed has been fighting a battle to insure liquid capital markets since the 2008 market crash and before and is not going to so tighten up credit markets as to cause another credit crunch.