Critical Mission: The Business Side of Central Banking

"Our mission, as set forth by the Congress, is a critical one: to preserve price stability, to foster maximum sustainable growth in output and employment, and to promote a stable and efficient financial system that serves all Americans well and fairly." —Federal Reserve Chairman Ben S. Bernanke

As Hurricane Rita threatened the Texas Gulf Coast in the storm-prone fall of 2005, 3 million residents hurriedly gathered their most precious possessions and crowded onto traffic-jammed highways heading inland.

They carried food, water, clothing and—another essential—money. Chances are these funds were pulled from ATMs before leaving home or along the way. Without this ready access to cash, many evacuees would have been greatly hampered in their move out of harm’s way.

Making sure that currency is available when it’s needed is one of many ways the Federal Reserve System touches the lives of Americans every day—often without their even realizing it.

Did the resident leaving Houston know the money withdrawn from the ATM was put in circulation by a Federal Reserve Bank? Does the bank customer realize the Fed’s supervision of financial institutions helps ensure the safety and accessibility of her money? Is the shopper paying for groceries with a check aware the Federal Reserve has an integral role in processing the check and moving funds from his bank to the store?

The Fed carries out its overall mission in three major ways: maintaining an efficient payments system, supervising the banking system for safety and soundness, and making monetary policy that promotes price stability and maximum employment. Through these functions, the Federal Reserve—the nation’s central bank—helps ensure that we have a healthy economy and financial system.

Moving Currency Through the Economy
The Federal Reserve’s cash operations help ensure that a steady supply of high-quality currency is in circulation to meet the needs of consumers and businesses.

Reserve Banks and their branches, which supply money to financial institutions, hold currency reserves in their vaults. Institutions that have more cash than needed to meet their liquidity requirements can ship the excess to the Federal Reserve. In 2005, the Dallas Fed and its branches paid and received a record 5.4 billion in circulating notes, worth almost $92 billion. Cash volume is expected to continue growing in 2006 as the Dallas Fed begins serving the Kansas City Fed’s Oklahoma City Branch territory.

Upon receipt of currency from depository institutions, the Dallas Fed employs sophisticated sorting machines to weed out notes too worn for further circulation and detect counterfeit bills. Worn bills are replaced with new currency, and suspected counterfeits are turned over to the Secret Service.

Hurricanes Katrina and Rita presented a unique test for the Federal Reserve, but the System rose to the challenge. The Dallas Fed, along with other Reserve Banks, provided support to the Atlanta Fed, which serves southern Louisiana and Mississippi, by filling over 500 orders for currency from financial institutions in Atlanta’s Sixth District. The Dallas and Houston cash operations expanded their hours to fill currency orders seven days a week for six weeks, until the immediate crisis had passed.

In late September—when financial institutions in many parts of Texas and Louisiana anticipated peak demand for cash—Dallas, Houston and San Antonio currency orders were up 136 percent from the same period in 2004.

Maintaining a Dynamic Payments System
Millions of checks flow through the nation’s economy daily. The Federal Reserve serves an important role in helping ensure these checks are processed quickly and efficiently so the public has confidence in the payments system. In 2005, the Dallas Fed processed almost 1 billion checks, worth about $900 billion.

In recent years, consumers and businesses have stepped up their use of debit cards, electronic bill paying and credit cards, resulting in a decline in paper check volume. The Federal Reserve responded with a program to improve the efficiency of check operations by standardizing the automated processes of all major check applications and reducing the number of processing sites.

During 2005, check processing operations at the Houston Branch were moved to Dallas, where San Antonio and El Paso processing had previously been consolidated. In December, the Dallas office also assumed check processing responsibilities from the Oklahoma City Branch. As a result of these consolidations, Dallas now handles checks for five Federal Reserve offices—on average processing 4.5 million items per day—making it one of the System’s largest check processors.

Following Hurricane Katrina, some Louisiana financial institutions redirected their checks to the Dallas Fed until services provided by the New Orleans Branch could be restored. During Hurricane Rita, the Fed acted as a kind of shock absorber for affected Southeast Texas financial institutions by deferring check charges until they could resume operations at contingency sites.

Hurricane Rita also required the use of alternate delivery arrangements for both deposit and presentment of checks. The measures taken by the Fed helped provide essential liquidity to financial institutions and the public in the midst of uncertain conditions caused by the storm.

An innovation that is improving the daily delivery of checks is the Check Clearing for the 21st Century Act. Check 21 allows banks and other financial institutions to send electronic images of paper checks received for payment rather than physically transporting the original documents for processing and payment. These electronic images can then be used to create paper reproductions, known as substitute checks, which have the same legal status as the original. The payments system functions more efficiently as checks clear more rapidly and at lower cost.

Check 21 was fully implemented at the Dallas Fed in 2005. The Fed’s image deposit products were complemented by private industry’s introduction of new image delivery service options. The Dallas Fed currently processes about $500 million in checks every day through the exchange of Check 21 digital images.

Advancing Electronic Payments Technologies
Consumers, businesses and government agencies are increasingly using electronic forms of payment for mortgages, utility bills, payrolls, Social Security payments and taxes. The Automated Clearinghouse (ACH)—a system the Fed and private sector developed jointly in the early 1970s—processes these recurring payments electronically.

The Fed recently added an international ACH component. A joint venture between the central bank of Mexico and the Federal Reserve aims to increase the efficiency of sending remittances from the United States to Mexico and reduce costs for both sender and recipient. In addition, Canada, Mexico and several European countries participate in FedACH International Services, which encourages the use of ACH for other international transactions.

Institutions holding accounts with Reserve Banks use the Fedwire® Funds Service to initiate large, single electronic transactions. Each day, the Federal Reserve System transfers billions of dollars electronically between financial institutions worldwide.

Serving the U.S. Treasury
The Federal Reserve serves as the fiscal agent for the Treasury. In this role, the Reserve Banks offer the Treasury and other agencies a variety of payments-related services. The Dallas Fed serves the U.S. government through the Bank’s Treasury Services operation.

The Bank assists the Treasury’s Financial Management Service by supporting the Go Direct^SM and Electronic Transfer Account (ETA)^SM programs. Go Direct is Treasury’s campaign to encourage recipients of Social Security and Supplemental Security Income payments to convert to direct deposit. In 2005, the Dallas Fed began providing Go Direct services on a national level after a highly successful pilot project managed by the Bank. The Dallas Fed supports the program with a call center and web site that accept direct deposit enrollments from federal benefit recipients.

While Go Direct targets those who already have a bank account, the ETA program is an effort to convert the unbanked to direct deposit. The Treasury developed the ETA as a low-cost bank account for federal benefit recipients or their representatives. Dallas provides a call center and web site that help federal benefit recipients locate financial institutions that offer the ETA.

Direct deposit is safer and cheaper than mail, with an estimated cost savings of about 77 cents a check. Multiplied by more than 150 million payments sent annually, direct deposit represents significant savings. Moreover, recipients can access their funds more quickly because they do not have to wait for a check to be delivered by mail.

During the hurricane evacuations, for example, those with direct deposit didn’t need to worry about receiving their Social Security checks or other government payments because the funds went directly into their bank accounts.

Guarding the Safety and Soundness of the Banking System
A sound banking system is vital to a vibrant economy, and the Federal Reserve is charged with supervising and regulating state member banks, bank holding companies and foreign banking organizations operating in the United States. A strong financial system allows money to flow by linking borrowers and savers, thereby facilitating access to and efficient use of funds.

At the Dallas Fed, banking supervision and regulation entail several functions and include examiners and economists. Although the Fed’s banking regulations are written by the Federal Reserve Board in Washington, their enforcement is the regional Reserve Banks’ responsibility.

Bank examiners scrutinize an institution’s financial condition, risk-management processes, and compliance with laws and regulations, including those designed to protect consumers and promote an accessible banking system.

Traditional on-site examinations continue to be the cornerstone of the supervisory process. But, aided by technology, newer approaches to supervision, most notably off-site monitoring and surveillance techniques, play an increasingly prominent role. Economists in the Dallas office, working with Federal Reserve Board staff, have developed a sophisticated early-warning model used throughout the System. It serves as the Fed’s primary resource for off-site statistical modeling of safety and soundness.

Providing Liquidity to the Banking System
To further maintain stability of the banking system, the Fed operates the discount window to offer financial institutions a source of short-term liquidity. This function is carried out at all Reserve Banks.

The discount window plays an important role in the smooth functioning of the payments system, contingency planning and dealing with seasonal swings in an institution’s loans and deposits.

Banks in sound financial condition can obtain primary credit from their regional Reserve Banks, usually on an overnight basis. Banks that do not qualify for primary credit may get secondary credit at rates above that available for primary credit. Market-based credit is available to assist smaller institutions that need funds due to seasonal fluctuations.

Setting Sound Monetary Policy
The Federal Reserve sets the nation’s monetary policy by targeting the federal funds rate and influencing the supply of money and credit. The goal is price stability, paving the way for sustainable growth in employment and overall economic activity.

All the Reserve Bank presidents and Federal Reserve governors participate in establishing monetary policy through the Federal Open Market Committee. Each Reserve Bank has research economists with different areas of specialization who study specific forces affecting the economy in order to advise their president on monetary policy.

The Dallas Fed has long had a special emphasis on energy, the U.S.–Mexico border economy and immigration, reflecting their importance to the regional economy.

That perspective was expanded last year to encompass the increasingly important role a more globalized, interconnected world plays in making monetary policy decisions. This involves understanding how factors such as freer trade and more mobile international capital flows, deregulation and rapid technological change affect the economy.

The Fed’s structure ensures input from each region into monetary policymaking. Each Reserve Bank produces a Beige Book—an anecdotal report of current economic conditions—in advance of FOMC meetings. The Beige Book describes overall economic conditions and trends in each district and helps the Reserve Bank presidents formulate their views.

Economists and technical staff at the Dallas Fed have developed several useful tools for analyzing regional and national economic trends. These include an index of leading economic indicators for Texas, the Texas Industrial Production Index and a survey of regional manufacturing activity. In 2005, the Dallas Fed also developed the Trimmed-Mean PCE inflation measure, which tracks inflation trends in the U.S. economy.

Providing Public Programs
The Dallas Fed is committed to expanding public knowledge of the Federal Reserve and everyday economics.

The Bank provides information to high school and college students and educators, business and civic organizations, public officials and young professionals across the Eleventh District. This is accomplished through public speaking engagements, on-site visits, Bank tours, print and electronic materials, and economic education conferences.

In 2005, the Bank offered educational programs on such topics as the global economy, personal finance education and energy. Specific events included a series of regional “Evening at the Fed” dinners and discussions for high school teachers on the economic and fiscal effects of immigration; a lecture by Finn E. Kydland, winner of the 2004 Nobel Memorial Prize in Economic Sciences; a conference on the maquiladora industry exploring the future of the electronic and automotive sectors; and a “Lunch & Learn” event for young professionals on the economics of education and the importance of lifelong learning.

An increasingly effective outreach tool is the Bank’s web site—dallasfed.org—which attracted a large influx of new and returning visitors last year. This growth was fueled in part by a more than 1,000 percent increase in visits to Bank officials’ speeches, signaling a growing interest in globalization’s role in shaping monetary policy. Home page hits soared, as did users’ accessing of timely regional and national economic data; publications such as Building Wealth, the Bank’s popular workbook on budgeting, saving and investing; a Spanish-language section, Entrada; and an array of other features and information.

Through its Community Affairs program, the Bank encourages community and economic development by providing information to financial institutions; local business, civic and government officials; and community development organizations.

For example, to coincide with the United Nations’ designation of 2005 as the International Year of Microcredit, the Dallas Fed brought together financial institutions, academics, philanthropists, public officials and local economic developers. The meeting highlighted the role microenterprise plays as a bridge to the mainstream for low-wealth individuals and as a potential economic benefit for local communities.

To encourage community reinvestment, the Dallas Fed’s Community Affairs office provides financial institutions with information on the Community Reinvestment Act (CRA) and models of successful community development lending partnerships and strategies. Congress passed the CRA in 1977 to encourage commercial banks to meet the credit needs of their communities and stimulate investment in low- and moderate-income neighborhoods.

By fostering economic education, financial literacy and economic development, the Dallas Fed contributes to the economic growth goals of the Federal Reserve.

Conclusion
The Dallas Fed, along with the other 11 Reserve Banks, is an integral part of setting monetary policy and of vital importance to the safe and sound operation of the nation’s banking and payments systems.

Through its cash and check operations, bank supervision, economic research and public programs, the Dallas Fed offers its region unique perspective, services and support, as well as insight into the rapidly changing global economy that affects every individual, not just in the Eleventh District but around the world.

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