What is 'Emergency Credit'

Emergency credit is a loan given by a Federal Reserve Bank to a non-bank institution or organization when no other source of credit is available. The organization in need must examine all other potential sources of funds first. Most of these loans are longer-term, usually more than 30 days.

BREAKING DOWN 'Emergency Credit'

The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) amended the Federal Reserve Act to expand the scope of bailouts for federally-insured depository institutions, allowing the FDIC to borrow directly from the Treasury in order to help failed banks, and to use the least-expensive method to bail out failed banks. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 further amended the Federal Reserve Act. It restricted the Federal Reserve Board’s authority to extend emergency credit to facilities and programs with demonstrated “broad-based eligibility” and that were established under the approval of the Secretary of the Treasury. Furthermore, the Dodd-Frank Act prohibited the extension of emergency credit to insolvent organizations, and required the Federal Reserve Board to approve procedures to prevent the extension of emergency credit to insolvent borrowers.

Final Procedures for Emergency Lending

In 2015, the Federal Reserve established a final procedure for emergency lending procedures as required by Section 13(3) of the Federal Reserve Act as amended by the Dodd-Frank Act. The final rule clarifies many of the requirements implemented by Dodd-Frank. For example, the final rule defines “broad-based” as a facility or program in which at least five entities can participate, and which was not created or designed in order to assist failing firms. The final rule also broadens the definition of insolvency, incorporates the requirement that emergency lending programs be approved by the Secretary of the Treasury, and sets guidelines for the establishment of an interest rate for emergency credit.

Emergency Credit Interest Rates

Under the final rule created by the Federal Reserve in 2015, interest rates for emergency lending are to be set at a rate that is premium to the normal market rate. The rate should also offer borrowers liquidity in unusual circumstances, while encouraging repayment and discouraging use of emergency lending facilities as the market normalizes.

Effectiveness of Emergency Credit

According to a 2017 study published by the Olin Business School at Washington University in St. Louis, emergency credit is an effective means of stabilizing financial markets. Researchers found that, during the 2008 financial crisis, more than 2,000 banks took advantage of emergency credit offered by the Federal Reserve. The availability of this emergency credit increased bank lending, without increasing the riskiness of banks’ lending choices.

  1. 1913 Federal Reserve Act

    The 1913 Federal Reserve Act was U.S. legislation that created ...
  2. Lending Facility

    A lending facility is a mechanism used by central banks when ...
  3. Emerging Market Fund

    An emerging market fund is a fund that invests the majority of ...
  4. Credit Rating

    A credit rating is an assessment of the creditworthiness of a ...
  5. Reserve Requirements

    Reserve requirements refer to the amount of cash that banks must ...
  6. Federal Discount Rate

    The interest rate set by the Federal Reserve that is offered ...
Related Articles
  1. Investing

    How The U.S. Government Formulates Monetary Policy

    Learn about the tools the Fed uses to influence interest rates and general economic conditions.
  2. Investing

    3 Risks Emerging Markets Debt Faces in 2016

    Learn about the major risks for emerging market debt in 2016. Discover how low interest rate policies by central banks fueled the growth of debt globally.
  3. Personal Finance

    Why You May Not Need an Emergency Fund

    Emergency funds are considered mandatory by most financial-planning experts, but they can be expensive to hold and ultimately unnecessary.
  4. Investing

    The Better Bet: Emerging Market Debt Or Equity?

    Want the returns of emerging markets with less of the volatility and risk? Have a close look at corporate and sovereign debt instead of equities.
  5. Personal Finance

    Why You Absolutely Need an Emergency Fund

    What is an emergency fund, and why is it often the first component of sound financial planning?
  6. Financial Advisor

    Why Banks Don't Need Your Money to Make Loans

    Contrary to the story told in most economics textbooks, banks don't need your money to make loans, but they do want it to make those loans more profitable.
  7. Small Business

    The Small Business Jobs Act: Make It Work For You

    Understanding how to manage business credit is the key to obtaining small business loans.
  8. Small Business

    How To Increase Your Appeal To Prospective Lenders

    Making a business eligible for loans/credit cards at the best possible rates requires crafting an excellent credit profile through the smart use of credit.
  9. Personal Finance

    How the Federal Reserve Affects Your Mortgage

    The Federal Reserve can impact the cost of funds for banks and consequently for mortgage borrowers when maintaining economic stability.
  1. What major laws regulating financial institutions were created in response to the ...

    Read about the major federal responses to the financial crisis of 2008, such as the Dodd-Frank Wall Street Reform Act and ... Read Answer >>
  2. What are key government regulations that affect investing in the banking sector?

    Discover how the global financial crisis of 2008 changed the face of banking in the United States and around the world by ... Read Answer >>
  3. What impact does the Federal Reserve have on a bank's profitability?

    Learn how the Federal Reserve impacts a bank's profitability with its influence on the discount rate, federal funds rate ... Read Answer >>
Trading Center