The Fed Earns a Record Profit in 2009 -- but Not Without Huge Risks

The Federal Reserve released its 2009 financial results on Tuesday, and the results are encouraging: It posted a record profit of $46.1 billion, which will be paid to the U.S. Treasury. That's more than the expected combined profits of Bank of America (BAC), Goldman Sachs (GS) and J.P. Morgan (JPM). But are the Fed's earnings worth the substantial risk they entailed?%%DynaPub-Enhancement class="enhancement contentType-HTML Content fragmentId-1 payloadId-61603 alignment-right size-small"%%Most of those profits came from the Fed's aggressive program of buying bonds so it could push down interest rates and stimulate growth. By the end of 2009, the Fed owned $1.8 trillion in U.S. government debt and mortgage-related securities. In 2008 that figure was just $497 billion.

Also, the Fed loaned $2.14 trillion to financial institutions and other companies by using a secret loan facility that's been in existence since the Great Depression but hadn't been used to provide direct loans to nonbank companies since the 1930s. These loans now support credit cards, auto loans, and other consumer and business lending. We don't know the details of who got how much because the Fed has refused to release them.

Undue Influence on Policy?

Even though 2009 was a great year for the Fed -- and U.S. taxpayers will see a profit -- the risks of losses are still enormous. The biggest risk concerns whether the Fed can properly time its exit from the stimulus programs. If the price of Treasury bonds, or mortgage-related securities that the Fed bought from Fannie Mae and Freddie Mac, fall in value when the Fed wants to sell them, that's a problem. The Fed could also lose money if companies default on those secret loans.

The Fed's primary role is to determine monetary policy. But with so much as stake, will the prospect of profits or losses influence it's monetary policy decisions? If such a decision could threaten the trillions of dollars in assets the Fed holds, will it weigh those loses against appropriate monetary policy? We'll probably never know. So far, the Fed has done a good job of playing its cards close to its vest, keeping even the recipients of its secret loan facility a mystery.

We do know from its last financial report that the Fed recorded a $3.8 billion decline in the value of loans it made when bailing out Bear Stearns and AIG (AIG), but the Fed offset those loses with $4.7 billion in interest payments on those loans. So the Fed is still in the clear even there. But with trillions still loaned out far and wide, you can be sure some companies will default, leaving the Fed with losses.

A Model for Bank CEO Pay?

At least the Fed doesn't depend solely on its loan portfolio. It also makes money from the fees it charges for operating the financial system, such as clearing checks and electronic payments between banks. In fact, the Fed pays the costs of its operations from its revenue rather than from taxpayers. Any profits after paying employee salaries and other general operating expenses are turned over to the Treasury. Prior to 2009, the most money the Fed sent to the Treasury was $34.6 billion in 2007.

As it becomes a profit center for the U.S., the Fed is looking more like a private bank, but with one big difference: It's CEO-equivalent, Chairman Ben S. Bernanke, makes just $199,700 and gets no bonus.
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