lender of last resort

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Lender of last resort

Traditionally the Federal Reserve Bank in the US, which assists banks that face large withdrawals of funds and in so doing stabilizes the banking system.

Lender of Last Resort

An agency, usually a central bank, guaranteeing loans and extending credit when an institution is no longer creditworthy. The term especially applies to a country's central bank lending to other banks when they have become or are becoming insolvent. This is done to prevent bank runs and stabilize the wider economy. At the international level, the International Monetary Fund acts as a lender of last resort to sovereign states that are facing insolvency. In the Free Banking Era, private banks or even very wealthy individuals operated as lenders of last resort.

The term can also apply to private institutions that specialize in extending credit to very high-risk customers. These institutions charge a high rate of interest and only appeal to persons and organizations that are not otherwise creditworthy. See also: Federal Reserve System.

‘lender of last resort’

the role of the BANK OF ENGLAND in making funds available to the DISCOUNT HOUSES when they are unable to cover their short-term liabilities from their own resources or from loans from the commercial banks. See DISCOUNT MARKET, INTEREST RATE, CENTRAL BANK.

lender of last resort

the role of the BANK OF ENGLAND in the UK of making money available to the DISCOUNT HOUSES when they are short of funds. When the COMMERCIAL BANKS find themselves with fewer liquid assets than they feel it is commercially prudent for them to hold (that is, when they fall below their RESERVE-ASSET RATIO requirement), then they must improve their liquidity. They can do this either by selling off TREASURY BILLS to the central bank or calling in their short-term loans to the discount houses, which in turn are then forced to borrow from the central bank. To ensure that discount houses turn to the central bank for funds only as a last resort, the central bank generally makes funds available at a higher cost than prevailing market interest rates. This penal rate of interest is presently called the BILL-DISCOUNTING INTEREST RATE (formerly, minimum lending rate). The discount house must offer collateral, such as government bonds, as security for the loan.

The central bank's role as lender of last resort provides a guarantee that adequate liquidity will be provided for commercial banks and thus helps to maintain public confidence in the BANKING SYSTEM. See FRONT DOOR, BACK DOOR.