Cyberproblem

Commercial Paper - The FRB and The Regional Economist

At first, commercial paper might seem more like a first wedding anniversary gift than a money market instrument. However, commercial paper has steadily grown to be the principal method of corporate short-term borrowing. Commercial paper is defined as a type of unsecured promissory note issued by large, stable, and financially strong firms to mostly institutional investors. Commercial paper rates typically range from 1½ to 3 percentage points below that of the stated prime rate, and about 1/8 to 1/2 above the T-bill rate. Because of their unsecured nature, commercial paper is typically only used by a small number of large firms with very high credit ratings.

For this cyberproblem, you will be visiting the Federal Reserve Bank of St. Louis Web site, found at http://www.stls.frb.org. From the front page of the St. Louis Federal Reserve Bank page, click on the "Publications" link in the top right section of the page. From the publications page, select the "The Regional Economist (Quarterly)" from the list of journals and reports. When looking at the current issue of The Regional Economist, click on the "Past Issues" link on the left-hand side of the page. Scroll down the page and select the April 1998 issue of The Regional Economist. The focus of this cyberproblem is an article entitled "The Commercial Paper Market - Who's Minding the Shop?"

1. According to the article, what is the maturity and denomination of the typical commercial paper issue? How is commercial paper offered (discount or premium) and how are issues retired?
   
   
2. What kind of firms issue the bulk of commercial paper? Identify and describe some of the largest issuers of commercial paper. How much commercial paper, and what portion of the total market, is issued by the three top finance companies?
   
   
3. Why would an investor be willing to hold an unsecured corporate note like commercial paper?
   
   
4. How has the commercial paper market grown over the past 20 or 30 years? Cite data from the article that demonstrates this growth.
   
   
5. How have banking institutions been affected by the emergence of commercial paper as the prime source of short-term asset financing?
   
   
6. Define "roll-over risk." How do issuing firms reduce this roll-over risk?
   
   
7. What unique approach to financing had 20th Century Fox engaged in?
   
   
8. What is meant by "systematic risk" in the commercial paper market? What event does the article site as a shock to the commercial paper markets?
   
   
9. What four steps did the Federal Reserve take in response to the Penn Central crisis?
   
   
10. Is a meltdown, like that of Penn Central, likely to happen again? Why?