Discount window.

In plain English

The discount window is where a bank borrows directly from its regional Federal Reserve Bank, pledging loans or securities as collateral, usually for a short term and at a rate the Fed sets. It exists so a solvent bank facing a sudden cash need does not have to sell assets at a loss or cut off its customers. Loans come in tiers, with the main credit tier for financially sound banks and other tiers for institutions that do not qualify. Because borrowing here has historically been read as a sign of weakness, banks have often avoided it even when it was the cheapest option, a reluctance regulators call stigma. Collateral is valued at a discount to protect the Fed.

01Why it matters

The window is the plumbing that keeps a temporary cash squeeze at one bank from becoming a failure that freezes payroll and payments for its depositors and business customers.

02The math, step by step

Say a bank faces $200 million of unexpected withdrawals and holds $250 million of Treasury securities. Rather than sell into a falling market, it pledges the securities at, say, a 2 percent haircut, giving about $245 million of borrowing capacity, and takes an overnight loan for the $200 million.

Illustrative example. The amounts here are hypothetical, chosen to show how the math works, not real quoted rates or figures.

03What this is NOT

04Receipts

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