Board of Governors. The Reserve Banks use earnings to pay operational  expenses and dividends to member banks and to fund their capital  surplus accounts. Stock Purchase Requirement for Member Banks and Membership Benefits

Under the Federal Reserve Act, a member bank (a national bank or state- chartered bank that applies and is accepted to the Federal Reserve) must  subscribe to capital stock of the Reserve Bank of its district in an amount  equal to 6 percent of the member bank’s capital and surplus. The boards of directors of Reserve Banks play a role in the conduct of  monetary policy in three primary ways: (1) by providing input on economic  conditions to the Reserve Bank president (all 12 Reserve Bank presidents  attend and participate in deliberations at each FOMC meeting); (2) by  participating in establishing discount rate recommendations (interest rate  charged to commercial banks and other depository institutions on loans  received from their regional Reserve Bank’s discount window) for Board  of Governors’ review and determination; and (3) for the Class B and C  directors, by appointing Reserve Bank presidents with the approval of the  Board of Governors. Stock Purchase Requirement Established an Ownership and Control Structure for Reserve Banks as a Counterbalance in the Federal Reserve

According to the legislative history and historical accounts related to the  Federal Reserve Act, debate over the creation of the Federal Reserve  focused on the balance of power among economic regions of the United  States and between the private sector and government. Potential Implications of Modifying the Capital Surplus Account and Dividend Rate

Based on our interviews with Federal Reserve officials, the cap on the  aggregate Reserve Banks’ surplus account had little effect on Federal  Reserve operations, and we found that the modification to the Reserve  Bank stock dividend rate has had no immediate effect on membership. While it is debatable whether transferring funds from the Federal Reserve  to Treasury when the FAST Act also funded specific projects should be  viewed any differently than the recurring transfers that occur on a regular  basis, some stakeholders raised concerns about future transfers that  could ultimately affect, among other things, the Federal Reserve’s  financial independence and consequently, autonomy in monetary policy  decision making (instrument independence). The FAST Act, which authorized the Highway Trust Fund for fiscal year  2016 through fiscal year 2020, requires that the aggregate of the Reserve  Banks’ surplus funds not exceed $10 billion and directed that amounts in  excess of $10 billion be transferred to Treasury’s General Fund. The modified dividend rate for the larger member banks reduced the  dividend payment for the first half of 2016 by nearly two-thirds from  the payment for the first half of 2015 (from approximately $850 million  to approximately $300 million). Four  of the 6 large member banks stated that they would likely act to recoup  this lost revenue. This discussion assumes that the  goals reflected in the original construction of the Federal Reserve remain  (independence, balance of power, and geographical diversity). Diminished Reserve Bank autonomy. According to Reserve Bank officials, all else being equal, retirement of the  stock coupled with elimination of the current corporate structure of the  Reserve Banks could result in removal of Reserve Bank boards of  directors or limit the benefits currently provided by their participation. Specifically, this action could  limit the diversity of views in monetary policy by weakening the link to  regional input in FOMC discussions. For example, converting the Reserve Banks to field offices could  preclude them from conducting critical banking functions, and the  activities they could undertake as fiscal agents for the government if they  were to become government entities are unclear. Voluntary Stock Ownership

Making stock ownership voluntary could have a number of policy  implications. Appendix I: Scope and Methodology

In this report, we (1) examine the historical rationale for the Reserve  Banks’ stock purchase requirement and 6 percent dividend, (2) assess  the potential implications of capping the Reserve Banks’ aggregate  surplus account and modifying the Reserve Bank stock dividend rate, and  (3) analyze the potential policy implications of modifying the Reserve  Bank stock ownership requirement for member banks under three  scenarios. We interviewed  Federal Reserve officials, including from the Board of Governors and the  Reserve Banks; former members of the Board of Governors who had  written about the changes in the Fixing America’s Surface Transportation  Act (FAST Act); academics who had written extensively about the Federal  Reserve; other federal bank regulators, including the Federal Deposit  Insurance Corporation (FDIC) and the Office of the Comptroller of the  Currency (OCC); and, banking industry associations. The  scenarios are illustrative and do not represent all of the ways in which the  Federal Reserve structure might be altered nor does our analysis account  for all of the potential consequences of stock ownership modifications.
Why GAO Did This Study

Member banks of the Federal Reserve must purchase stock in their regional Reserve Bank, but historically received a 6 percent dividend annually on paid-in stock. A provision of the 2015 FAST Act modified the dividend rate formula for 85 larger member banks—and currently reduces the amount these banks receive. The FAST Act also capped the surplus capital the Reserve Banks could hold and directed that any excess be transferred to Treasury's general fund. Congress offset payments into the Highway Trust Fund by, among other things, instituting the Reserve Bank surplus account cap.
GAO was asked to report on the effects of these changes and the policy implications of modifying the stock ownership requirement. Among its objectives, this report (1) examines the effects of capping the Reserve Banks' aggregate surplus account and reducing the Reserve Bank stock dividend rate, and (2) evaluates the potential policy implications of modifying the stock ownership requirement for member banks under three scenarios.
GAO reviewed legislative history and relevant literature about the Federal Reserve, prior GAO reports, and interviewed academics and current and former officials of the Board of Governors, Reserve Bank, other banking regulators, and industry associations. In addition, GAO conducted structured interviews with 17 commercial banks, selected based on bank size and regulator.
GAO makes no recommendations in this report. GAO requested comments from the banking regulators and Treasury, but none were provided.

What GAO Found

According to Federal Reserve System (Federal Reserve) officials, capping the surplus account had little effect on Federal Reserve operations, and GAO found that modifying the stock dividend rate formula had no immediate effect on membership. Reserve Banks fund operations, pay dividends to member banks, and maintain a surplus account before remitting excess funds to the Department of the Treasury (Treasury). Whether the transfers to Treasury's General Fund in the Fixing America's Surface Transportation Act (FAST Act) when the act also funds specific projects should be viewed any differently than the recurring transfers of Reserve Bank earnings to Treasury is debatable. Some stakeholders raised concerns about setting a precedent—future transfers could affect the Federal Reserve's independence and, consequently, autonomy in monetary policymaking. Dividend payments to 85 banks decreased by nearly two-thirds (first half of 2016 over first half of 2015), but GAO found no shifts in Reserve Bank membership as of December 2016. Some member banks affected by the rate change told GAO they had a few concerns with it and some said they might try to recoup the lost revenue, but none indicated they would drop membership.
Assuming that the policy goals—independence, balance of power, and geographical diversity—reflected in the original private-public Federal Reserve structure remain important, the implications of modifying the stock ownership requirement and therefore the Federal Reserve structure could be considerable. The scenarios discussed in this report are illustrative and do not represent all the ways in which the Federal Reserve structure might be altered. Also, the discussion of effects is limited because exact replacement structures are unknown. Retiring the stock could result in changes to the existing corporate structure of the 12 Reserve Banks. These changes could
diminish Reserve Bank autonomy in relation to the Board of Governors of the Federal Reserve System (Board of Governors) by removing or changing Reserve Banks' boards of directors, which could limit the diversity of economic viewpoints in monetary policy discussions and centralize monetary policy decision making in the hands of the Board of Governors,
eliminate the private corporate characteristics of Reserve Banks and convert them to government entities (such as field offices of the Board of Governors), which could lead to less private sector involvement and reduced financial independence of the Federal Reserve, and
remove the authority the Reserve Banks currently have to conduct activities critical to the Federal Reserve, such as executing monetary policy through open market operations and those related to the Reserve Banks' role as fiscal agents for the federal government.
Making stock ownership voluntary could increase fluctuations in outstanding shares, affecting Federal Reserve governance and complicating the Reserve Banks' processes for managing their balance sheets. While modifying the stock ownership requirement could give member banks greater control of the capital tied to the stock, member and nonmember banks with which GAO spoke indicated that they likely would not change their membership in response to any modifications discussed in this report.