Bank-Equity returns and changes in the discount rate

The ex ante value of discount window operations is modelled as an option providing financial institutions with a right to purchase reserves at potentially below market rates of interest. The value of this option varies according to terms specified by the Federal Reserve. Changes in the value of this option are linked to the equity returns of participating banks. An empirical method is proposed to separate the signal impacts of a discountrate change from the firm-specific impacts of changes in the hypothesized option value. Evidence consistent with changes in the value of the option is reported.