Negotiations over the just-released $900 billion COVID-19 relief bill got bogged down over the weekend due to the seemingly arcane matter of Federal Reserve emergency lending authority. For the millions of Americans who are in desperate need of financial assistance, this delay was unnecessary and needlessly cruel. Nor were frenzied negotiations around pandemic relief legislation the appropriate forum to discuss the merits of the Federal Reserve’s emergency lending programs and Congress’ intent in appropriating $454 billion to support these programs in March. While compromise language was reached that prevents the Federal Reserve (the “Fed”) from restarting identical programs to the ones in question after year-end, the Fed retains a wide degree of latitude to use its lender of last resort powers in a manner it sees fit to respond to future economic crises – including the ongoing crisis caused by COVID-19. But the passionate debate about this issue over the past week all but guarantees similar conflicts in the future should the Federal Reserve and the next Treasury Secretary agree to any new emergency lending programs per the Fed’s Section 13(3) authority under the Federal Reserve Act. As a result, the Fed may be reluctant to exercise this authority in the future due to its longstanding desire to be viewed as apolitical. However, the past week’s events demonstrate that during a crisis, politics will find the Fed no matter what it does.
Late last week, Senator Pat Toomey (R-PA) threw a wrench into negotiations by demanding the Fed and the Treasury Department be prevented from “re-establishing emergency programs that had been backed by the congressional appropriation” in the CARES Act from March, and that they also be barred from creating “similar” programs going forward. The CARES Act allocated $454 billion to the Treasury Department to “make loans and loan guarantees to, and other investments in, programs or facilities established by the Board of Governors of the Federal Reserve System for the purpose of providing liquidity to the financial system that supports lending to eligible businesses, States, or municipalities.”
Treasury Secretary Mnuchin went on to commit $195 billion of this funding for the following five facilities: the Primary Market Corporate Credit Facility (PMCCF), the Secondary Market Corporate Credit Facility (SMCCF), the Municipal Liquidity Facility (MLF), the Main Street Lending Program (MSLP), and the Term Asset-Backed Securities Loan Facility (TALF). Treasury’s commitment to these programs facilitated up to $2 trillion of Federal Reserve lending capacity. Currently, nearly $25 billion of loans and other assets have been funded, which is substantially below Treasury’s capital commitment.
The Municipal Liquidity Facility (MLF) and the Main Street Lending Program (MSLP) have attracted the most scrutiny, as they represent a sharp departure from the kinds of emergency lending programs that were rolled out during the previous economic crisis in 2008. Under these programs, the Fed, for the first time ever, is lending directly to non-financial businesses as well as state and local governments. Support for these entities is typically the domain of fiscal policy, so it is no surprise that these programs have drawn the ire of some members of Congress.
The above programs were established under Section 13(3) of the Federal Reserve Act. Section 13(3) authorizes the Fed, in “unusual and exigent circumstances,” “to discount for any participant in any program or facility with broad-based eligibility, notes, drafts, and bills of exchange,” provided said discount is secured to the satisfaction of the Federal Reserve, the recipient is “unable to secure adequate credit accommodations from other banking institutions,” and “that the security for emergency loans is sufficient to protect taxpayers from losses.”
As other scholars have pointed out, the Fed had the legal authority – before the CARES Act – under Section 13(3) to roll out the MLF, MSLP, and the other lending programs funded by the CARES Act. The CARES Act’s text also acknowledges this point:
“Nothing in this subparagraph shall limit the discretion of the Board of Governors of the Federal Reserve System to establish a Main Street Lending Program or other similar program or facility that supports lending to small and mid-sized businesses on such terms and conditions as the Board may set consistent with section 13(3) of the Federal Reserve Act (12 U.S.C. 343(3)), including any such program in which the Secretary makes a loan, loan guarantee, or other investment under subsection (b)(4).”
Traditionally, Section 13(3) is used to fulfill the quintessential central bank function of lender of last resort to the financial sector. But, as Juliana Bolzani acknowledged: “The purpose of the programs and facilities created under the CARES Act is not to provide liquidity to the financial system as an end in itself, but to use the financial system as a vehicle to provide liquidity to businesses, States, and municipalities suffering losses incurred as a result of the pandemic.”
The CARES Act links the traditional lender of last resort function to fiscal policy – and the political accountability that accompanies it – by granting the Treasury Secretary significant discretion over the lending program’s “terms and conditions” and “covenants, representations, [and] warranties.” Treasury’s involvement also provides a degree of political cover for the Fed, who typically avoids encroaching on fiscal policy’s turf, and allows the Fed to adhere to its stated policy of not losing any money on its emergency lending programs. However, as Peter Conti-Brown has indicated – the Fed’s insistence on not incurring losses under 13(3) programs has no statutory basis and is as much a political decision as it is a legal one.
Senator Toomey’s demands made public a fierce debate that has largely been going on behind the scenes ever since Secretary Mnuchin sent a public letter to Federal Reserve Chairman Jerome Powell last month in which he requested that the Fed return all of the unused CARES Act funds that were allocated to its emergency lending programs by the end of the year. In a rare dissent with the Treasury Department, the Fed issued a statement noting it “would prefer that the full suite of emergency facilities established during the coronavirus pandemic continue to serve their important role as a backstop for our still-strained and vulnerable economy.” Ultimately, however, the Fed acquiesced to Treasury’s request and stated they would return Treasury’s excess capital in CARES Act facilities by the end of the year.
Mnuchin’s decision was ostensibly based on his interpretation of the CARES Act. In the letter, he told Chairman Powell that he “was personally involved in drafting the relevant part of the legislation and believe[s] the Congressional intent as outlined in Section 4029 was to have the authority to originate new loans or purchase new assets (either directly or indirectly) expire on December 31, 2020.”
Critics interpreted Mnuchin’s decision as an attempt to handcuff the incoming Biden Administration’s ability to respond to the economic damage wrought by COVID-19. Speaking at a recent CARES Act Congressional Oversight Commission (COC) hearing, Democratic Commissioner Bharat Ramamurti said:
“Despite the Secretary’s claims, the CARES Act did not require him to end the programs this year. The Secretary admits as much when he says he based his decision not on what the law actually says, but on his interpretation of Congress’ intent. In quite the coincidence, the Secretary decided that this is what Congress intended only after the election of Joe Biden. Before the election, the Treasury’s position was that it could extend the programs if market conditions required it.”
At the same hearing, Senator Toomey, who is also a member of the Commission, made it clear he agrees with Secretary Mnuchin’s interpretation of the CARES Act:
“Mr. Secretary, you did exactly the right thing. You did what the law required, in both ending these programs and requiring a return of the money…..Had you done anything to the contrary, it would have been outrageous, and a violation of the law, and certainly the intent of Congress….Had you not followed the law and cancel these programs and ask for the return of that money, what future Congress would ever give flexibility to a Treasury Secretary and a future Federal Reserve chairman in a moment of crisis?”
Mnuchin and Toomey’s interpretation of the CARES Act was dealt a blow when the Congressional Research Service issued a memo last week stating that:
“Section 4029 by its plain terms sets only the date upon which the Treasury Secretary’s authority “to make new loans, loan guarantees, or other investments” under Title IV Subtitle A of the CARES Act “shall terminate.” As pertinent here, the authority granted the Treasury Secretary under Title IV Subtitle A is the authority to invest CARES Act funds in the Fed’s SPVs [special purpose vehicles]. Accordingly, Section 4029 does not appear to impose any limitations on the Treasury Secretary’s discretion to agree to extend the SPVs in which the Treasury Secretary already has invested CARES Act funds.”
Given the Fed’s reticence to end the programs, the Congressional Research Service’s interpretation of the CARES Act, and the views of key Democrats in Congress, it is clear that Janet Yellen, upon being sworn in as the next Treasury Secretary, could restore the $195 billion of CARES Act funds and extend the SPVs beyond December 31, 2020, thereby allowing the Fed to continue making loans under these programs. However, Mnuchin has indicated he plans on placing the returned funds into the Treasury’s General Fund, “which requires specific congressional approval to access.” But as Steven Kelly notes, Biden’s Treasury could determine this move to be inconsistent with the law and place these funds into Treasury’s Exchange Stabilization Fund, which could then be used to support additional emergency lending programs.
Senator Toomey’s insistence on inserting language into the pandemic relief bill that would prevent “similar” emergency lending programs like those funded by the CARES Act can charitably be interpreted as an acknowledgment that his interpretation of the CARES Act was wrong – or more charitably, was not going to be shared by the incoming Biden administration. In a statement released this past Friday, Senator Toomey noted that:
“The language Senate Republicans are advocating for affects a very narrow universe of lending facilities and is emphatically not a broad overhaul of the Federal Reserve’s emergency lending authority. Our language, which largely mirrors what has been publicly available since September, ensures, as the CARES Act intended, that the five facilities that received CARES Act money expire at the end of the year and cannot be re-started or duplicated without authorization by Congress.”
A more cynical observer may conclude that Toomey was simply trying to sabotage the Biden administration’s ability to jumpstart the economy. Regardless, the language in the draft bill was problematic because it would have severely curtailed, if not prevented altogether, the Fed’s ability to support state and local governments as well as small and medium-sized businesses in the future. In effect, it would have restrained Section 13(3) without amending the Federal Reserve Act. This prompted a rare statement from former Fed Chair Ben Bernanke on Saturday:
“[I]t is also vital that the Federal Reserve’s ability to respond promptly to damaging disruptions in credit markets not be circumscribed. The relief act should ensure, at least, that the Federal Reserve’s emergency lending authorities, as they stood before the passage of the CARES Act, remain fully intact and available to respond to future crises.”
Senator Toomey and his Republican colleagues recognized that his proposed language was “too broad” and agreed to new language in the final bill that would prevent the Fed from restarting programs identical to the ones supported by CARES Act funding:
“The fund established under section 5302 of title 31, United States Code, shall not be available for any program or facility established under section 13(3) of the Federal Reserve Act (12 U.S.C. 343(3)) that is the same as any such program or facility in which the Secretary made an investment pursuant to section 4003(b)(4), except the Term Asset-Backed Securities Loan Facility.’’
This new language means that the Fed’s unprecedented support to non-financial businesses through the Secondary Market Corporate Credit Facility (SMCCF) and Main Street Lending Program (MSLP), and support for state and local governments through the Municipal Liquidity Facility (MLF), will come to an end on December 31st. Notably, the Term Asset-Backed Securities Loan Facility will be allowed to continue, likely because it was first used in 2008 and fits the mold of “traditional” lender of last resort by lending to the financial sector. Critics will surely argue that this is further proof that Congress and the Fed are more interested in supporting Wall Street than struggling small businesses and state and local governments.
The new bill also prevents the Fed from simply tweaking the terms of SMCCF, MLF, and MSLP. The bill states that the Fed:
“shall not modify the terms and conditions of any program or facility established under section 13(3) of the Federal Reserve Act (12 U.S.C. 343(3)) in which the Secretary made a loan, loan guarantee, or other investment pursuant to section 4003(b)(4) [of the CARES Act], including by authorizing transfer of such funds to a new program or facility established under section 13(3) of the Federal Reserve Act (12 U.S.C. 21343(3)).”
However, should the Fed decide that supporting non-financial business and state and local governments is a priority, they can launch new programs under Section 13(3) provided these programs look substantively different than the previous ones. Given how limited the take-up has been in the existing programs, specifically MLF and MSLP, a redesign may be a good thing. According to the most recent COC report, as of November 25, 2020, the Federal Reserve held $5.8 billion in loan participations purchased under the MSLP even though the program was set up to support $600 billion in lending. The MLF has seen even lower participation, with only the state of Illinois and the New York Metropolitan Transportation Authority participating, accounting for less than 1% of the program’s total capacity.
At the end of October, Bharat Ramamurti and Representative Ayanna Pressley (D-MA) wrote a public letter to Secretary Mnuchin and Chairman Powell stating that the design of emergency lending programs appears to be widening racial and gender gaps rather than closing them. They argue that the terms of MLF are too narrow and punitive and that as a result, struggling state and local governments are being forced to layoff workers that are disproportionately Black and female. They also argue that “MSLP currently targets businesses that “are larger businesses than a lot of minority businesses.”” They go on to recommend several changes to both programs that would “address the outsized impact of the pandemic on communities of color and women, as well as the large gap between White and Black and Brown unemployment.”
Senator Toomey’s last-second demand to curb the Federal Reserve’s emergency lending authority nearly derailed a desperately needed pandemic relief bill. It also had the potential to permanently restrict the Fed’s ability to respond to future crises through the use of its Section 13(3) authority. Fortunately, a compromise was reached that both sides can live with. And most importantly, the final bill makes sure to persevere the Fed’s emergency lending authority going forward:
“Except as expressly set forth in paragraphs (1) and (2) of subsection (c) of section 4029 of the CARES Act, as added by this Act, nothing in this Act shall be construed to modify or limit the authority of the Board of Governors of the Federal Reserve System under section 13(3) of the Federal Reserve Act (12 U.S.C. 343(3)) as of the day before the date of enactment of the CARES Act.”
While a manufactured crisis has been averted, for the time being, the bill’s language ensures conflict down the road should the Fed and Biden’s Treasury Secretary decide to support non-financial businesses and state and local governments. As Graham Steele noted, “The thing about legislative compromises, especially those that are struck behind closed doors, is that often both sides come away declaring victory based upon their own, differing interpretations of the same language.”
Lee Reiners is the Executive Director of the Global Financial Markets Center at Duke Law
 The Primary Market Corporate Credit Facility (PMCCF) and the Secondary Market Corporate Credit Facility (SMCCF) have also attracted considerable attention, although the PMCFF has not yet been utilized. Under the SMCCF, the Fed is, for the first time, purchasing corporate bonds on the secondary market to ensure the smooth functioning of the corporate bond market. This program resembles other Federal Reserve bond-buying programs and requires less administrative capacity, and therefore, is not as controversial as MLF and MSLF.
 Under the Dodd-Frank Act, the Federal Reserve Act was amended to require the Treasury Secretary’s approval for any 13(3) programs.