[Federal Register Volume 65, Number 250 (Thursday, December 28, 2000)]
[Notices]
[Pages 82360-82366]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-33058]
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FEDERAL RESERVE SYSTEM
[Docket No. R-1095]
Federal Reserve Bank Services; Private Sector Adjustment Factor
AGENCY: Board of Governors of the Federal Reserve System.
ACTION: Notice with request for comments.
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SUMMARY: The Board requests comment on a proposal to modify the method
for calculating the private sector adjustment factor (PSAF). The PSAF
imputes the costs that would have been incurred and profits that would
have been earned had the Federal Reserve Banks' priced services been
provided by a private firm. The Monetary Control Act of 1980 (MCA)
requires that the Federal Reserve set fees for its services to recover,
over the long term, its actual costs of providing the services, as well
as these imputed costs and profits. The Board reviews its method for
calculating the PSAF periodically to assess whether it is still
appropriate in light of the changing environment.
Specifically, the Board requests comment on a proposal to modify
the current method for imputing debt and equity, to enhance the method
for determining the target rate of return on equity, and to continue
using the fifty largest bank holding companies' financial data as a
proxy for Federal Reserve priced-services activities. If adopted, the
changes would be effective for the 2002 PSAF and fees for Federal
Reserve priced services.
DATES: Comments must be submitted on or before April 6, 2001.
ADDRESSES: Comments, which should refer to Docket No. R-1095, may be
mailed to Ms. Jennifer J. Johnson, Secretary, Board of Governors of the
Federal Reserve System, 20th and C Streets, NW, Washington, DC 20551 or
mailed electronically to [email protected]. Comments
addressed to Ms. Johnson also may be delivered to the Board's mail room
between 8:45 a.m. and 5:15 p.m. and to the security control room
outside of those hours. Both the mail room and the security control
room are accessible from the courtyard entrance on 20th Street between
Constitution Avenue and C Street, NW. Comments may be inspected in Room
MP-500 between 9 a.m. and 5 p.m. weekdays, pursuant to Sec. 261.12,
except as provided in Sec. 261.14 of the Board's Rules Regarding
Availability of Information, 12 CFR 261.12 and 261.14.
FOR FURTHER INFORMATION CONTACT: Gregory L. Evans, Manager (202/452-
3945); Brenda Richards, Sr. Financial Analyst (202/452-2753); or
Rebecca Kenyon, Financial Analyst (202/452-2974), Division of Reserve
Bank Operations and Payment Systems. For users of Telecommunication
Device for the Deaf (TDD) only, please contact Janice Simms, (202/872-
4984). Copies of a research paper describing the theoretical basis and
detailed application of each of the proposed models (``The Federal
Reserve Banks' Imputed Cost of Equity Capital'') may be obtained from
the Board through the Freedom of Information Office (202/452-3684) or
at the Board's web site at www.federalreserve.gov by accessing the
press release for this proposal.
SUPPLEMENTARY INFORMATION:
I. Background
The MCA requires Federal Reserve Banks to establish fees for
``priced services'' provided to depository institutions at a level
necessary to recover all direct and indirect costs actually incurred
and imputed costs. Imputed costs include financing costs, return on
capital (also referred to as profit), taxes, and certain other expenses
that would be incurred if a private business firm provided the
services. In establishing fees, the Board considers the objectives of
fostering competition, improving the efficiency of the payments
mechanism, and providing an adequate level of services nationwide. The
imputed costs and imputed profit are collectively referred to as the
private sector adjustment factor (PSAF).
The methodology underlying the PSAF is reviewed periodically to
ensure that it is still appropriate in light of changes that may have
occurred in Reserve Bank priced-service activities, accounting
standards, finance theory and regulatory practices, and banking
activity.
A. Private Sector Adjustment Factor
The current method for calculating the PSAF involves determining
the value of Federal Reserve assets to be used in providing priced
services during the coming year, the financing mix used to fund them,
and the rates used to impute financing costs. Assets are determined
using Reserve Bank information on actual assets and projected disposals
and acquisitions. The priced-services portion of mixed-use assets is
determined based on the allocation of related depreciation expense.
Historically, short-term assets are assumed to be financed with short-
term liabilities and long-term assets are assumed to be financed with a
combination of long-term debt and equity. The financing rates and the
combination of financing types are based on data developed from the
``bank holding company (BHC) model,'' a model that contains
consolidated financial data for the nation's fifty largest (asset size)
BHCs.
Imputed taxes are captured using a pre-tax return on equity (ROE).
The use of the pre-tax ROE assumes that a 100 percent recovery of
expenses, including the targeted ROE, will be achieved. Should the pre-
tax earnings be more or less than the targeted ROE, the PSAF is
adjusted (``variable PSAF'') for the tax expense or savings associated
with the adjusted recovery. The variable PSAF tax rate is the median of
the rates paid by the BHCs over the past five years
[[Page 82361]]
adjusted to the extent that the BHCs are invested in municipal bonds.
In addition, the PSAF includes the estimated priced-services
expenses of the Board of Governors, imputed sales taxes, and an
assessment for FDIC insurance, imputed based on current FDIC rates and
projected clearing balances (deposits) held with the Reserve Banks.
B. Net Income on Clearing Balances (NICB)
Depository institutions may hold both reserve and clearing balances
with the Federal Reserve Banks.\1\ Reserve balances are held pursuant
to a regulatory requirement and are separate from the Reserve Banks'
priced-services activities. Clearing balances, based on contractual
agreements with Reserve Banks, are held to settle transactions arising
from use of Federal Reserve priced services. In some cases, depository
institutions hold clearing balances in excess of the contractual
agreements.
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\1\ Clearing balances, unless otherwise indicated, refers to
contracted and excess clearing balances held by depository
institutions with the Federal Reserve Banks.
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The NICB calculation assumes that the Reserve Banks invest the
clearing balances net of imputed reserves, and imputes an equal
investment in three-month Treasury bills. The calculation also
determines the actual priced-services cost of earnings credits (amounts
available to offset future service fees) on contracted clearing
balances held, net of expired earnings credits, based on the federal
funds rate. Because they are held for clearing priced-services
transactions, clearing balances are directly related to priced
services. Therefore, the net earnings or expense attributable to the
imputed Treasury-bill investments and clearing balances are considered
income or expense for priced-services activities.
II. Proposed Methodology Changes
Since the adoption of the PSAF and NICB framework, certain finance
theories have gained industry acceptance and the levels of clearing
balances held by depository institutions with the Reserve Banks have
increased significantly. In addition, mergers, acquisitions, and the
expansion of allowable BHC activities may alter the comparability of
the top fifty BHCs to the Reserve Bank priced-services activities. The
criteria used for evaluating alternatives proposed for various
components of the calculation were based on the conceptual framework of
the PSAF and its relationship to private-sector practice. As a result,
the Board requests comment on a proposal that seeks to create a priced-
services balance sheet that resembles that of a private business firm,
using real assets and liabilities, imputing liabilities and equity only
to the extent necessary, and more appropriately reflecting the risk
inherent in priced-service activity.
A. Imputed Debt and Equity
The current method for computing the PSAF and NICB unnecessarily
imputes larger amounts of certain assets and liabilities and the
related income and expenses to priced services. Considering the growth
in the size of clearing balances since the inception of the NICB and
the stable nature of the majority of the balances, it is likely that
rather than incur additional debt costs, a private business firm would
use a portion of these balances to finance its capital needs. Assuming
a sensible business use of clearing balances is necessary to provide an
appropriate cost comparison between Reserve Bank and private-sector
service providers. For the Federal Reserve, such an assumption requires
the integration of the PSAF and NICB computations to effectively
eliminate imputed debt and reduce imputed investments in Treasury
securities. Essentially, the Reserve Bank priced-services activity will
forgo earnings at the Treasury-bill rate to reduce long-term and short-
term debt expenses. Under the proposal, a portion of the contracted
clearing balances would be considered ``core deposits,'' that is,
deposits that will remain stable without regard to the magnitude of
actual clearing balances. This use is consistent with a banking
organization's use of deposits. Banking and regulatory practice
recognizes that core deposits, while technically short-term, are
largely stable over time. This stability provides confidence that a
substantial portion of the balances can appropriately be used to fund
longer-term assets.
1. Imputed Debt
When the PSAF methodology was established, clearing balances were
new, quite small, and did not offer a significant source of funding.
Since 1992 the balances have not fallen below $4 billion. This proposal
recommends that $4 billion of clearing balances (out of more than $7
billion clearing balances currently maintained) could initially be
considered available to finance long-term assets. The Board considers
this a conservative level of core balances. Based on the current level
of priced-services assets, an insubstantial part of these balances
would actually be used for financing. The Board expects that the
definition of core deposits may be adjusted over time to consider
clearing balance trends.
The Board requests comment on the benefits and drawbacks of using
core clearing balances as a source of financing long-term assets. The
Board is also interested in commenters' opinions on whether
establishing an initial level of core balances of $4 billion is
reasonable. If commenters have an opinion on how the core balance
should be determined, the Board would be interested in learning the
details of that method.
2. Imputed Equity
Another important aspect of the PSAF calculation is determining an
appropriate level of equity from which to impute a target ROE. The
proposal's use of clearing balances to determine the appropriate amount
of imputed debt, rather than using a debt-to-equity ratio from the BHC
model, requires a new method of imputing equity.\2\ A private business
firm would generally maintain equity, an expensive financing source, at
the minimum level necessary to finance assets, to manage risk, and to
meet regulatory requirements. The current PSAF method for imputing
equity is not based on these considerations and imputed equity has
historically been either more or less than regulatory requirements,
depending on the BHC model debt-to-equity ratio. The Board proposes
targeting an equity level sufficient to satisfy the FDIC requirement
for a well-capitalized institution, which is currently 5 percent of
total assets and 10 percent of risk-weighted assets.\3\ This proposal
is consistent with how the Board believes rational bank management
would target its equity level. The Board requests comment on whether
basing priced-services equity on regulatory requirements is a
reasonable method.
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\2\ The BHC model debt-to-equity ratio is currently used to
determine imputed debt and equity necessary to finance long-term
priced-services assets.
\3\ The FDIC requirements for a well-capitalized financial
institution are (1) a ratio of total capital to risk-weighted assets
of 10 percent or greater; and (2) a ratio of Tier 1 capital to risk-
weighted assets of 6 percent or greater; and (3) a leverage ratio of
Tier 1 capital to total assets of 5 percent or greater. The Federal
Reserve priced-services balance sheet total capital has no
components of tier 1 or total capital other than equity; therefore,
requirements 1 and 2 are essentially the same measurement.
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B. Imputed Return on Equity
The Board proposes that the target ROE used for the PSAF be
calculated using a combination of the current comparable accounting
earnings model
[[Page 82362]]
and two additional economic models, a capital asset pricing model and a
discounted cash flow model.\4\
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\4\ A research paper (``The Federal Reserve Banks' Imputed Cost
of Equity Capital'') describing the theoretical basis and detailed
application of each of the models is available at the Board's web
site at www.federalrserve.gov by accessing the press release for
this proposal.
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1. Current Method
The target return on equity for Reserve Bank priced services is
calculated using BHC data taken from publicly available audited
financial statements. The PSAF BHC equity cost of capital, or ROE, is
calculated as an average of the ratios of the BHCs' net income and
average book value of equity. As an example of a comparable accounting
earnings (CAE) model, the BHC model can be duplicated and is readily
accepted in industry practice. Its shortcomings are that it uses
historical data from the two to seven years before the target year to
predict future earnings and is based on book rather than market
values.\5\
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\5\ The target ROE for 2001, for example, is calculated using
data from BHC financial statements for the years 1995 to 1999.
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2. Capital Asset Pricing Model (CAPM)
The CAPM approach estimates the imputed BHC ROE from the return on
a stock portfolio of the fifty largest (asset size) BHCs over a one-
year period. The ROE estimated using this approach is the sum of a
measure of the one-year risk-free rate and an equity risk premium for
the BHC sample. This risk premium is the product of the sensitivity of
the specified portfolio of BHC sample stocks to the overall stock
market (the portfolio's beta) plus a historical measure of the one-year
stock market return relative to the risk-free rate. As proposed, the
portfolio weights are based on BHC equity market capitalization. This
model provides a strong theoretical framework for addressing risk and
its effect on the required rate of return.
The CAPM requires judgment in determining the risk-free rate, the
average risk premium for the market, and the data used for measuring
beta. The Board proposes using the three-month Treasury-bill rate as
the risk-free rate and a standard data series on returns for the stock
market from 1927 (earliest available data) forward using a rolling ten-
year period to determine the average risk premium for the market. The
proposed beta compares the returns based on BHC data with the stock
market as a whole.
The Board requests comment on whether the three-month Treasury-bill
rate is an appropriate Treasury maturity for use as the risk-free rate
in the CAPM, if stock market activity since 1927 is an appropriate
source for data in determining the average risk premium for the market,
and whether using a rolling ten-year average of BHC data provides a
reasonable beta.
3. Discounted Cash Flow Model (DCF)
The DCF model assumes that a firm's stock price is equal to the
present discounted value of all expected future dividends. If the stock
price and expected future dividends are known, the implied discount
rate for the firm can be calculated and is considered to be the firm's
equity cost of capital. The DCF approach requires as inputs the BHC
stock prices as well as forecasts of their future dividends and long-
term dividend growth rates. As proposed, consensus forecasts of future
dividends and long-term growth rates would be transformed into earnings
forecasts by multiplying them by the BHC's dividend pay-out ratios. The
equity costs of capital for the individual BHCs are then combined into
a single measure using a weighted average, in which the weights are
proposed to be based on the BHC equity market capitalization.
The Board proposes using commercially available consensus
forecasts, such as those published by Institutional Brokers Estimate
System
(I/B/E/S). Academic studies have found consensus forecasts to be more
accurate than individual forecasts.
The Board requests comment on whether commercially available
consensus forecasts are an appropriate measure of future dividends and
long-term growth rates.
4. Combining the Models
Unlike the CAE, the CAPM and DCF use data that predict future
earnings and reflect current academic practice. All three models are
widely used in industry and in regulatory consideration of an
appropriate rate of return. For example, for several years the New York
State Public Service Commission has used a weighted average of
different ROE measures in determining its allowed cost of equity
capital for the utilities it regulates.
Academic studies have demonstrated that use of multiple models can
improve estimation techniques when each model provides new information.
The CAE, CAPM, and DCF models each use different data and examine
different factors. The Board proposes to calculate the target ROE for
Reserve Bank priced services as a simple average of the results from
the three models. This combination will incorporate additional data and
conceptual frameworks into the current practice and will minimize the
impact of outlying observations to provide a more predictable series
over time.
The Board requests comment on the economic models and whether the
three economic models are theoretically sound and should be used to
calculate the PSAF. The Board also requests comment on the
appropriateness of using a simple average of the three models.
5. Weighting the Data
Currently, the PSAF ROE is calculated by taking an equally-weighted
average of the BHC ROEs from the CAE. The weighting used in the CAE
model has the practical benefit of avoiding illogical results such as a
negative target ROE in a year when a large bank holding company
encounters financial difficulties. How observations are weighted in the
models is relevant because the bank holding companies in the peer group
are imperfect proxies, that is, they engage in a wider spectrum of
activities than the range of Reserve Bank payment services for which
the PSAF methodology is used to estimate an appropriate cost of equity
capital.
Alternative weighting schemes can be constructed. One alternative
would be to take a value-weighted average of the ROEs by multiplying
each BHC's ROE by that company's market valuation and then dividing the
sum of these weighted returns by the total market valuation of the
fifty BHCs. Such market weighting places more emphasis on large BHCs
and reflects current academic and industry practice when applying it to
the CAPM and DCF models. The Board proposes to use a market
capitalization weight to determine the CAPM and DCF ROEs while
retaining the commonly used equal weighting of BHC ROEs under the CAE.
The Board requests comment on the appropriateness of this proposal.
Other methods for weighting BHC data in the three models were
considered, such as weighting based on balances due to depository
institutions. Such weighting attempts to measure the significance of a
BHC's correspondent banking activities to the total bank holding
company activities and as a result, gives BHCs with the largest
corespondent-banking business lines greater weight. Deposits due to
depository institutions are not typically reported separately in BHC
annual reports but are reported at the commercial bank level in
publicly available Call Report data. The Board requests comment on BHC
weighting
[[Page 82363]]
based on due-to balances to determine the ROEs.
C. Peer Group
The Board considered whether organizations other than the top fifty
BHCs would provide a better basis for imputing the costs that would
have been incurred and the profits that would have been earned had the
Reserve Banks' priced-services activities been provided by a private-
sector firm. Specifically, the consideration included whether segment
data from BHC financial reports could be used to match more closely the
BHC capital structure to the System's priced-services activity, or
whether service bureaus should be used as proxy for private-sector
firms engaged in priced-services activity.
Bank holding company activities are far more diverse than Reserve
Bank priced-services activities and payment services are generally a
small segment of BHC activities. For this reason, BHCs are not a
precise counterpart, but they do provide the most reasonable
alternative available as a peer group given the similarity of services
provided, the competition between BHCs and the Reserve Banks, and the
availability of useful financial data. Service bureaus are also
diverse; they do not provide settlement or other services comparable to
those of Reserve Banks, and they do not generally view the Reserve
Banks as primary competitors. Therefore, the Board does not believe
service bureaus to be a preferred substitute for the BHCs in the PSAF
model. Maintaining the BHC sample size at fifty encompasses the
majority of banking assets nationwide and minimizes the effects of any
one BHC's financial performance on the data.
The Board considered using BHC segment data in order to exclude the
effect of BHC non-comparable activities on the PSAF. Although these
data increasingly are included in financial reports, the Board
identified several obstacles to using segment data. There is no
standard definition of ``segment'' for use in financial reporting.
Segments may be reported based on any combination of customer type,
product, or service provided and compilation of specific segment data
may reflect a total return on equity that is greater or less than the
return on equity for the entity as a whole. It is often impossible,
with the data available, to determine in which BHC segments activities
comparable to priced-services activities are included to ensure
inclusion of those that are related to Reserve Bank priced services and
exclusion of those that are not. As a result, information is not
reliable, complete, or consistent across BHCs or even within one BHC
over time.
The Board requests comment on whether the fifty largest (in asset
size) bank holding companies continue to be a reasonable data peer
group for Reserve Bank priced-services activities. Further, the Board
would like commenters' views on whether there are ways to adjust BHC
data to resemble more closely the Federal Reserve Banks. priced-
services activities.
D. Pension Financing Costs
The Board considered the current treatment for pension accounting,
financing the pension assets net of the retirement liabilities, and
concluded that it is consistent with that at BHCs and other firms,
follows current rules for recognizing increases in pension assets, and
is theoretically sound.
E. Priced-Services Balance Sheet
Table 1 represents the elements of the priced-services balance
sheet and how they will be derived under the proposal. All actual
assets and liabilities presented on the priced-services balance sheet
are based on projected average daily balances.
Table 1.--Priced-Services Balance Sheet
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Assets Type Description Method for computing
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Required reserves............ Imputed......... Intended to simulate commercial bank 10 percent of total
reserve requirements. clearing balances.
U.S. Treasury securities..... Imputed......... Represents the portion of clearing Total liabilities
balances not required for reserves or to plus equity less
finance other actual or imputed priced- other assets.
service assets.
Short-term assets............ Actual.......... Receivables, prepaid expenses, materials ....................
and supplies reported on the Federal
Reserve Banks' balance sheets that are
attributed to priced services.
Cash items in process of Actual.......... Transactions credited to the accounts of ....................
collection. depository institutions but not yet
collected by the Federal Reserve Banks
that are attributed to priced services.
Pension assets............... Actual.......... The amount of prepaid pension costs ....................
reported on the Federal Reserve Banks'
balance sheets that are attributed to
priced services.
Long-term assets............. Actual.......... The amount of premises, furniture and ....................
equipment, leases, and leasehold
improvements that are reported on the
Federal Reserve Banks' and Board of
Governors balance sheets that are
attributed to priced services.
Core clearing balances....... Actual.......... The portion of clearing balances Estimated amount of
considered stable and available to actual contracted
finance long-term priced-service assets. clearing balances
that have
historically been
stable. Initially
set at $4 billion.
Non-core clearing balances... Actual.......... Deposits of financial institutions Equal to total
maintained at Federal Reserve Banks for clearing balances
clearing transactions. Available to less core clearing
finance short-term priced service assets. balances.
Short-term payables.......... Actual.......... The portion of sundry items payable, ....................
earnings credits due depository
institutions and accrued expenses unpaid
reported on the Federal Reserve Banks'
balance sheets that is attributed to
priced services.
Deferred credits............. Actual.......... The value of checks deposited with the ....................
Federal Reserve Banks but not yet
credited to the accounts of the Reserve
Banks' depositors.
Postemployment/postretirement Actual.......... The portion of post-retirement benefits ....................
liability. due reported on the Federal Reserve
Banks' balance sheets that is attributed
to priced services.
[[Page 82364]]
Long-term debt............... Imputed......... An amount imputed when equity and core Equal to the larger
clearing balances are not sufficient to of zero or long-
finance long-term priced-services assets. term and pension
assets less
postemployment/
postretirement
liability, core
clearing balances,
and equity.
Equity....................... Imputed......... The minimum amount of equity necessary to The greater of five
meet FDIC requirements for a well- percent of total
capitalized institution. assets or 10
percent of risk-
weighted assets.
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F. Effects of Proposal
The combination of the current equally-weighted CAE and the
proposed market-weighted DCF and CAPM models produces the following
pre-tax ROE based on the BHC performance data used for the 2001 PSAF:
Table 2.--Pre-tax Return on Equity
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CAE DCF CAPM Combined
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24.0 21.6 23.7 23.1
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From year to year, the proposed combined model for calculating ROE
can yield a target ROE that is higher or lower than the current method.
On the average during the period from 1983 to 2001, the combined model
yielded a pre-tax ROE that is 230 basis points higher than the current
method.
Using core clearing balances as a source of financing for actual
priced-services assets reduces imputed short-and long-term debt and
imputed investments in marketable securities. As a result, the income
and expenses associated with these imputed elements is reduced as well.
Establishing equity at the level required by FDIC requirements for a
well-capitalized bank results in setting equity equal to five percent
of total assets, which is a slight reduction from the level planned in
2001 under the current methodology (5.3 percent). Applying the proposed
changes to the 2001 priced-services balance sheet would reduce PSAF
costs $53.3 million or 26 percent and would reduce net income on
clearing balances $33.8 million or 90 percent. This result is a net
reduction of costs to priced services of $19.5 million or slightly more
than 2 percent of total actual and imputed costs, including the target
ROE of $138.2 million.\6\ Table 3 illustrates the effects of the
proposal on the various elements of the PSAF and NICB calculations.
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\6\ Under this proposal, priced-services revenue would be $944.7
million and expenses would be $951.5 million, resulting in cost
recovery of 99.3 percent as compared to 98 percent under the 2001
prices.
Table 3.--2001 Comparison Data
[Dollars in millions]
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Current Proposed Change
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Balance Sheet
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Required Reserves............................................ $742.4 $742.4 $0.0
U.S. Treasury Securities..................................... 6,681.9 6,117.8 (564.1)
Short Term Assets............................................ 104.3 104.3 0.0
CIPC......................................................... 3,606.7 3,606.7 0.0
Pension Assets............................................... 718.5 718.5 0.0
Long Term Assets............................................. 676.9 676.9 0.0
--------------------------------------------------
Total Assets............................................. $12,530.7 $11,966.6 ($564.1)
==================================================
Clearing Balances............................................ $7,424.3 $7,424.3 $0.0
Short-Term Payables.......................................... 85.4 85.4 0.0
Short-Term Liabilities....................................... 18.9 0.0 (18.9)
Deferred Credits............................................. 3,606.7 3,606.7 0.0
Postemployment/retirement Liability.......................... 251.9 251.9 0.0
Long-Term Liabilities........................................ 479.1 0.0 (479.1)
Equity....................................................... 664.4 598.3 (66.1)
--------------------------------------------------
Total Liabilities & Equity............................... $12,530.7 $11,966.6 ($564.1)
==================================================
Capital to Risk-weighted Assets.............................. 30.8% 27.7% ...............
Capital to Total Assets...................................... 5.3% 5.0% ...............
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PSAF
----------------------------------------------------------------------------------------------------------------
Target Pre-Tax ROE........................................... 24.0% 23.1% -0.9%
[[Page 82365]]
Cost of:
Equity................................................... $159.5 $138.2 ($21.3)
Long-term Debt........................................... 31.1 0.0 (31.1)
Short-term Debt.......................................... 0.9 0.0 (0.9)
FDIC Insurance........................................... 0.0 0.0 0.0
Sales Taxes.............................................. 10.5 10.5 0.0
BOG Oversight............................................ 4.9 4.9 0.0
--------------------------------------------------
Total PSAF........................................... $206.9 $153.6 ($53.3)
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NICB
----------------------------------------------------------------------------------------------------------------
Return on Investment......................................... $399.6 $365.8 ($33.8)
Cost of Earning Credits...................................... (361.9) (361.9) 0.0
--------------------------------------------------
NICB..................................................... $37.7 $3.9 ($33.8)
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Net Effect of New Methodology
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PSAF......................................................... $206.9 $153.6 ($53.3)
NICB......................................................... 37.7 3.9 (33.8)
--------------------------------------------------
Net Cost................................................. $169.2 $149.7 ($19.5)
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Details may not add to totals due to rounding.
III. Competitive Impact Analysis
All operational and legal changes considered by the Board that have
a substantial effect on payment system participants are subject to the
competitive impact analysis described in the March 1990 policy
statement ``The Federal Reserve in the Payments System.'' \7\ Under
this policy, the Board assesses whether the change would have a direct
and material adverse effect on the ability of other service providers
to compete effectively with the Federal Reserve in providing similar
services because of differing legal powers or constraints or because of
a dominant market position of the Federal Reserve deriving from such
legal differences. If the fees or fee structures create such an effect,
the Board must further evaluate the changes to assess whether their
benefits--such as contributions to payment system efficiency, payment
system integrity, or other Board objectives--can be retained while
reducing the hindrances to competition.
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\7\ FRRS 7-145.2.
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Because the PSAF includes costs that must be recovered through fees
for priced services, changes made to the PSAF may have an effect on
fees. This proposal is intended to refine the PSAF to more closely
mirror the costs and profits of other service providers as required by
the MCA. By mirroring these costs and profits, the fees adopted by the
Reserve Banks should be based on the types of costs and expected
profits that are more comparable to those of other providers.
Accordingly, the Board believes this proposal will not have a direct
and material adverse effect on the ability of other service providers
to compete effectively with the Federal Reserve in providing similar
services.
IV. Summary of Comments Requested
The Board believes the proposed changes to the PSAF methodology are
consistent with the requirements of the MCA. The Board evaluated each
alternative proposed for various components of the PSAF calculation
based on the following framework principles: (1) To provide a
conceptually sound basis for economically efficient pricing in the
market for payments processing and collection services; (2) to maintain
consistency with actual Reserve Bank financial information and
practice; (3) to maintain consistency with private-sector practice; and
(4) to use data in the public domain so others could replicate the PSAF
calculation.
To assist commenters in the preparation of their responses to this
notice, the Board requests comment on the following questions:
A. Overall Proposal
1. Are the proposed changes in the PSAF methodology appropriate?
B. Imputation of Investments, Debt and Equity
1. Is the use of core clearing balances as a source of financing
long-term assets a reasonable use of these actual liabilities?
2. Is an initial core clearing balance of $4 billion reasonable? If
not, what would be a reasonable amount and what would be the best
method for determining it?
3. Is basing priced-services equity on regulatory requirements a
reasonable method?
C. Imputed Return on Equity
1. Are the CAE, DCF, and CAPM economic models theoretically sound
and should they be used to calculate the PSAF?
2. Is the three-month Treasury-bill rate an appropriate Treasury
maturity for use as the risk-free rate in the CAPM?
3. In determining the average risk premium for the market in the
CAPM model, is stock market activity since 1927 an appropriate source
for data?
4. Does using a rolling ten-year average of bank holding company
data provide a reasonable beta for use in the CAPM?
5. Are commercially available consensus forecasts an appropriate
measure of future dividends and long-term growth rates for use in the
DCF economic model?
6. Does a simple average of the results of the three economic
models provide an appropriate ROE?
[[Page 82366]]
D. Weighting the Data
1. Does an equally-weighted average of the results of the CAE
result in a reasonable ROE?
2. Does a market-weighted average of the results of the CAPM result
in a reasonable ROE?
3. Does a market-weighted average of the results of the DCF result
in a reasonable ROE?
4. Would weighting the BHCs by balances due to other banks provide
a more reasonable PSAF ROE than the market capitalization method
proposed?
E. Peer Group
1. Do the fifty largest (in asset size) bank holding companies
provide a reasonable data peer group for Reserve Bank priced-services
activities?
2. Are there ways to adjust BHC data to more closely resemble the
Federal Reserve System's priced services activities?
By order of the Board of Governors of the Federal Reserve
System.
Dated: December 21, 2000.
Jennifer J. Johnson,
Secretary of the Board.
[FR Doc. 00-33058 Filed 12-27-00; 8:45 am]
BILLING CODE 6210-01-P