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# Board of Governors Financial Statements

      - Balance Sheets
       |       
      -  Revenues and Expenses 
       |       
      -  Cash Flows 
       |       
      -  Exhibit I 

The financial statements of the Board      for 2006 and 2005 were audited by KPMG LLP, independent      auditors.

KPMG LLP        2001 M Street, NW        Washington, DC 20036 

 

Independent Auditors' Report

 To the Board of Governors of the Federal Reserve System:        We have audited the accompanying balance sheets of the Board of Governors of the Federal Reserve        System (the Board) as of December 31, 2006 and 2005, and the related statements of revenues and        expenses and changes in cumulative results of operations, and cash flows (hereinafter referred to as        "financial statements") for the years then ended. These financial statements are the responsibility of the        Board's management. Our responsibility is to express an opinion on these financial statements based on        our audits.

 We conducted our audits in accordance with auditing standards generally accepted in the United States of        America and the standards applicable to financial audits contained in *Government Auditing Standards*,        issued by the Comptroller General of the United States. Those standards require that we plan and perfonn        the audits to obtain reasonable assurance about whether the financial statements are free of material        misstatement An audit includes consideration of internal control over financial reporting as a basis for        designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing        an opinion on the effectiveness of the Board's internal control over financial reporting, Accordingly, we        express no such opinion, An audit also includes examining, on a test basis, evidence supporting the        amounts and disclosures in the financial statements, assessing the accounting principles used and        significant estimates made by management, as well as evaluating the overall financial statement        presentation. We believe that our audits provide a reasonable basis for our opinion.

 In our opinion, the financial statements referred to above present fairly, in all material respects, the        financial position of the Board of Governors of the Federal Reserve System, as of December 31, 2006 and        2005, and the results of its operations, and its cash flows, for the years then ended, in conformity with U.S.        generally accepted accounting principles.

 As discussed in Note 3 to the financial statements, in 2006, the Board adopted the provisions of the        Financial Accounting Standard Board Statement No. 158, *Employers' Accounting for Defined Benefit        Pension and Other Postretirement Plans.*

 In accordance with *Government Auditing Standards*, we have also issued our reports dated April 17, 2007,        on our consideration of the Board's internal control over financial reporting and our tests of its compliance        with certain provisions of laws, regulations, contracts, and other matters. The purpose of those reports is to        describe the scope of our testing of internal control over financial reporting and compliance and the results        of that testing, and not to provide an opinion on the internal control over financial reporting or on        compliance. Those reports are an integral part of an audit performed in accordance with *Government        Auditing Standard* and should be read in conjunction with this report in assessing the results of our audits

April 17, 2007

KPMG LLP KPMG LLP, a U.S. limited liability partnership, is the U.S. member firm of KPMG International, a Swiss cooperative.

##  Balance Sheets

|              | As of December 31, |
|--------------|--------------------|
||
|         |
|         |
| $60,030,706  | $45,970,435        |
| 2,625,907    | 3,081,520          |
| 4,260,507    | 2,992,412          |
| 66,917,120   | 52,044,367         |
|         |
|         |
|         |
| 151,205,386  | 155,441,553        |
| 151,205,386  | 155,441,553        |
|         |
| $218,122,506 | $207,485,920       |
|         |
|         |
|         |
| $10,950,470  | $16,906,350        |
| 5,421,666    | 4,860,572          |
| 16,334,512   | 15,456,484         |
| 327,663      | 270,167            |
| 366,304      | 783,711            |
|         |
| 33,400,615   | 38,277,284         |
|         |
|         |
| 108,755      | 406,188            |
| 1,354,662    | 813,497            |
| 8,111,829    | 6,237,290          |
| 6,515,301    | 5,111,365          |
| 16,090,547   | 12,568,340         |
|         |
| 49,491,162   | 50,845,624         |
|         |
|              |                    |
| 33,844,168   | 14,037,250         |
| (14,325,986) | (12,162,152)       |
| 150,768,968  | 154,765,198        |
| (1,655,806)  | ...                |
| 168,631,344  | 156,640,296        |
| $218,122,506 | $207,485,920       |

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##  Revenues and Expenses

|              | For the years ended December 31, |
|--------------|----------------------------------|
||
|         |
| $301,013,500 | $265,742,100                     |
| 8,508,949    | 8,520,342                        |
| 309,522,449  | 274,262,442                      |
|         |
| 182,239,595  | 174,523,825                      |
| 35,853,297   | 31,847,951                       |
| 23,944,564   | 24,695,564                       |
| 13,058,667   | 12,954,506                       |
| 9,185,840    | 9,065,329                        |
| 8,820,503    | 7,613,280                        |
| 6,637,765    | 6,052,617                        |
| 4,560,368    | 7,169,829                        |
| 2,634,459    | 3,361,179                        |
| 1,505,470    | 1,973,594                        |
| 7,435,067    | 7,486,158                        |
| 295,875,595  | 286,743,832                      |
| 13,646,854   | (12,481,390)                     |
|         |
| 491,962,202  | 477,087,471                      |
| 491,962,202  | 477,087,471                      |
| 0            | 0                                |
| 13,646,854   | (12,481,390)                     |
| 156,640,296  | 169,121,686                      |
|         |
| (1,655,806)  | ...                              |
| (1,655,806)  | ...                              |
| $168,631,344 | $156,640,296                     |

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##  Cash Flows

|             | For the years ended   December 31, |
|-------------|------------------------------------|
||
|             |
| $13,646,854 | $(12,481,390)                      |
|             |
| 13,058,667  | 12,954,506                         |
|             |                                    |
| (812,482)   | (362,385)                          |
|             |
| (5,955,880) | 3,014,489                          |
| 561,094     | 308,533                            |
| 878,028     | 1,260,574                          |
| (417,407)   | 316,047                            |
| 541,165     | 219,328                            |
| 1,874,539   | 447,724                            |
| 1,403,936   | (197,200)                          |
| (1,655,806) | ...                                |
| 23,122,708  | 5,480,226                          |
|             |
| 7,212       | 2,850                              |
| (8,829,712) | (19,370,223)                       |
| (8,822,500) | (19,367,373)                       |
|             |
| (239,937)   | (249,710)                          |
| (239,937)   | (249,710)                          |
| 14,060,271  | (14,136,857)                       |
| 45,970,435  | 60,107,292                         |
| $60,030,706 | $45,970,435                        |

----

## NOTES TO FINANCIAL STATEMENTS AS OF AND FOR        THE YEARS ENDED DECEMBER 31, 2006 AND 2005 

###  (1) Structure

The Federal        Reserve System was established by Congress in 1913 and consists of the        Board of Governors (Board), the Federal Open Market Committee, the        twelve regional Federal Reserve Banks, the Federal Advisory Council,        and the private commercial banks that are members of the System. The        Board, unlike the Reserve Banks, was established as a federal        government agency and is supported by Washington DC based staff        numbering approximately 1,800, as it carries out its responsibilities        in conjunction with other components of the Federal Reserve System. 

The Board is required by the Federal Reserve Act to report its        operations to the Speaker of the House of Representatives. The Act also        requires the Board, each year, to order a financial audit of each        Federal Reserve Bank and to publish each week a statement of the        financial condition of each such Reserve Bank and a consolidated        statement for all of the Reserve Banks. Accordingly, the Board believes        that the best financial disclosure consistent with law is achieved by        issuing separate financial statements for the Board and for the Reserve        Banks. Therefore, the accompanying financial statements include only        the results of operations and activities of the Board. Combined        financial statements for the Federal Reserve Banks are included in the        Board's annual report to the Speaker of the House of        Representatives.

###  (2) Operations and        Services 

The Board's responsibilities require        thorough analysis of domestic and international financial and economic        developments. The Board carries out those responsibilities in        conjunction with other components of the Federal Reserve System. The        Board also supervises and regulates the operations of the Federal        Reserve Banks, exercises broad responsibility in the nation's payments        system, and administers most of the nation's laws regarding consumer        credit protection. Policy regarding open market operations is        established by the Federal Open Market Committee. However, the Board        has sole authority over changes in reserve requirements, and it must        approve any change in the discount rate initiated by a Federal Reserve        Bank.

 The Board also plays a major role in the supervision and        regulation of the U.S. banking system. It has supervisory        responsibilities for state-chartered banks that are members of the        Federal Reserve System, bank holding companies, foreign activities of        member banks, and U.S. activities of foreign banks.

### (3) Significant Accounting        Policies

*Basis of        Accounting*--The financial statements have been prepared on the        accrual basis of accounting.

*Revenues*--Assessments for        operating expenses and additions to property are based on expected cash        needs.

*Issuance and Redemption of Federal Reserve        Notes*--The Board incurs expenses and assesses the Federal Reserve        Banks for currency printing, issuance, retirement, and shipping of        Federal Reserve Notes. These assessments and expenses are separately        reported in the statements of revenues and expenses because they are        passed through the Board account and are not Board operating        transactions.

*Property, Equipment, and Software*--The        Board's property, buildings, equipment, and software are stated at cost        less accumulated depreciation and amortization. Depreciation and        amortization is calculated on a straight-line basis over the estimated        useful lives of the assets, which range from 3 to 10 years        for furniture and equipment, 10 to 50 years for building        equipment and structures, and 2 to 10 years for software. Upon the sale        or other disposition of a depreciable asset, the cost and related        accumulated depreciation or amortization are removed from the accounts        and any gain or loss is recognized. 

*Art        Collections*--The Board has collections of works of art, historical        treasures, and similar assets. These collections are maintained and        held for public exhibition in furtherance of public service. Proceeds        from any sales of collections are used to acquire other items for        collections. As permitted by Statement of Financial Accounting        Standards Number 116, *Accounting for Contributions          Received and Contributions Made,* the cost of collections purchased        by the Board is charged to expense in the year purchased and donated        collection items are not recorded. The value of the Board's        collections has not been determined.

*Estimates*--The        preparation of financial statements in conformity with accounting        principles generally accepted in the United States requires management        to make estimates and assumptions that affect the reported amounts of        assets and liabilities and the disclosure of contingent assets and        liabilities at the date of the financial statements and the        reported amounts of revenues and expenses during the reporting period.        Actual results could differ from those        estimates. 

*Reclassifications*--Certain 2005 amounts have        been reclassified to conform with the 2006        presentation. 

*Implementation of FASB Statement No. 158,        Employers' Accounting for Defined Benefit Pension and Other        Postretirement Plans*--The Board initially applied the provisions        of FASB Statement No. 158, Employers' Accounting for Defined Benefit        Pension and Other Postretirement Plans, at December 31, 2006. This        accounting standard requires recognition of the overfunded or        underfunded status of a defined benefit postretirement plan in the        Balance Sheets, and recognition of changes in the funded status in the        years in which the changes occur through comprehensive income. The        transition rules for implementing the standard require applying the        provisions as of the end of the year of initial implementation with no        retrospective        application.

### (4) Property      and Equipment

 The following is a          summary of the components of the Board's property and equipment, at        cost, net of accumulated depreciation and amortization.        
|              | As of December 31, |
|--------------|--------------------|
||
| $18,640,314  | $18,640,314        |
| 147,504,169  | 135,152,735        |
| 47,271,434   | 39,926,270         |
| 13,681,508   | 12,415,000         |
| 941,912      | 575,050            |
| 360,966      | 13,928,149         |
| 228,400,304  | 220,637,518        |
| (77,194,918) | (65,195,965)       |
| $151,205,386 | $155,441,553       |

 Furniture and equipment includes $1,230,000        each year for capitalized leases as of December 31, 2006 and 2005.        Accumulated depreciation includes $867,000 and $612,000 for capitalized        leases as of December 31, 2006 and 2005, respectively. The Board paid        interest related to these capital leases in the amount of $54,000 and        $83,000 for 2006 and 2005, respectively.

Construction in process        includes costs incurred in 2006 and 2005 for long-term security        projects and building enhancements. 

The future minimum lease    payments required under the capital leases and the present value of the    net minimum lease payments as of December 31, 2006, are as follows: 
|      | Year ending December 31 | Amount |
|------|-------------------------|--------|
| 2007 | $463,491                |
| 2008 | 138,279                 |
| 2009 | ...                     |
|      | 601,770                 |
|      | (130,540)               |
|      | 471,230                 |
|      | (34,812)                |
|      | 436,418                 |
|      | (327,663)               |
|      | $108,755                |

### (5) Accumulated Retirement Benefits

 The following information provides disclosure requirements        contained in Statement of Financial Accounting Standards No. 132, *Employers' Disclosures about Pensions and Other Postretirement        Benefits*. 

Substantially all of the Board's employees        participate in the Retirement Plan for Employees of the Federal Reserve        System (System Plan). The System Plan is a multi-employer plan which        covers employees of the Federal Reserve Banks, the Board, and the        Office of Employee Benefits. No separate accounting is maintained of        assets contributed by the participating employers. The Federal Reserve        Bank of New York acts as a sponsor of the System Plan, and the costs        associated with the Plan are not redistributed to other participating        employers.

Employees of the Board who became employed prior to        1984 are covered by a contributory defined benefits program under the        System Plan. Employees of the Board who became employed after 1983 are        covered by a non-contributory defined benefits program under the System        Plan. Contributions to the System Plan are actuariallydetermined        and funded by participating employers. Based on actuarial calculations,        it was determined that employer funding contributions were not required        for the years 2006 and 2005, and the Board was not assessed a        contribution for these years. Because the plan is part of a        multi-employer plan, information as to vested and nonvested benefits,        as well as plan assets, as it relates solely to the Board, is not        readily available.

Effective January 1, 1996, Board employees        covered under the System Plan are also covered under a Benefits        Equalization Plan (BEP). Benefits paid under the BEP are limited to        those benefits that cannot be paid from the System Plan due to        limitations imposed by Sections 401(a)(17), 415(b), and 415(e) of        the Internal Revenue Code of 1986.

 Activity for the BEP for 2006          and 2005 is summarized in the following        table:        
|               | 2006        | 2005 |
|---------------|-------------|------|
|          |
| $536,339      | $140,953    |
| 185,483       | 193,209     |
| 45,004        | 35,964      |
| 0             | 0           |
| 0             | 0           |
| 596,114       | 168,027     |
| (8,278)       | (1,814)     |
| $1,354,662    | $536,339    |
|          |
| $0            | $0          |
| 0             | 0           |
| 8,278         | 1,814       |
| 0             | 0           |
| (8,278)       | (1,814)     |
| $0            | $0          |
|          |
| $ (1,354,662) | $(536,339)  |
| 580,386       | (15,728)    |
| (247,417)     | (261,430)   |
| 0             | 0           |
| $(1,021,693)  | $(813,497)  |
|          |
| $ 0           | $ 0         |
| (1,021,693)   | (813,497)   |
| 0             | 0           |
| (332,969)     | 0           |
| $(1,354,662)  | $ (813,497) |
|          |
| $1,354,662    | $536,339    |
| $546,854      | $278,252    |
|          |
| 5.75%         | 5.75%       |
| 4.50%         | 4.50%       |
|          |
| $185,483      | $193,209    |
| 45,004        | 35,964      |
| 0             | 0           |
| (14,013)      | (14,013)    |
| 0             | 5,982       |
| 0             | 0           |
| $216,474      | $221,142    |
|          |
| $0            | $0          |
|          |
| 5.75%         | 5.75%       |
| 4.50%         | 4.25%       |

 A        relatively small number of Board employees participate in the Civil        Service Retirement System (CSRS) or the Federal Employees' Retirement        System (FERS). These defined benefit plans are administered by the U.S.        Office of Personnel Management, which determines the required employer        contribution levels. The Board's contributions to these plans totaled        $334,000 and $324,000 in 2006 and 2005, respectively. The Board has no        liability for future payments to retirees under these programs and is        not accountable for the assets of the plans. Employees of the        Board may also participate in the Federal Reserve System's Thrift Plan.        Board contributions to members' accounts are based upon a fixed        percentage of each member's basic contribution and were        $8,964,000 and $8,617,000 in 2006 and 2005,        respectively.

### (6) Accumulated Postretirement        Benefits 

The following information        provides disclosure requirements contained in Statement of Financial        Accounting Standards No. 106, *Employers' Accounting for      Postretirement Benefits Other Than Pensions*. 

The Board          provides certain life insurance programs for its active employees and          retirees. Activity for 2006 and 2005 is summarized in the following        table:        
|              | 2006         | 2005 |
|--------------|--------------|------|
|         |
| $8,273,831   | $8,404,551   |
| 230,567      | 217,421      |
| 470,256      | 437,320      |
| 0            | 0            |
| 0            | (196,970)    |
| (603,500)    | (304,006)    |
| (259,325)    | (284,485)    |
| $8,111,829   | $8,273,831   |
|         |
| $0           | $0           |
| 0            | 0            |
| 259,325      | 284,485      |
| 0            | 0            |
| (259,325)    | (284,485)    |
| $0           | $0           |
|         |
| $(8,111,829) | $(8,273,832) |
| 0            | 2,145,920    |
| 0            | (109,378)    |
| $(8,111,829) | $(6,237,290) |
|         |
| $(8,111,829) | $0           |
| 0            | (6,237,290)  |
| 0            | 0            |
| $(8,111,829) | $(6,237,290) |
|         |
| $1,422,398   | $0           |
| (99,560)     | 0            |
| 0            | 0            |
| 0            | 0            |
| $1,322,838   | $0           |
|         |
| $274,901     |              |
|         |
| $274,901     |              |
| $296,030     |              |
| $325,793     |              |
| $350,050     |              |
| $364,265     |              |
| $2,132,108   |              |

The liability and        costs for the postretirement benefit plan were determined using        discount rates of 5.75 percent as of December 31, 2006 and        2005. Unrecognized losses of $2,145,920 as of December 31, 2005        result from changes in the discount rate used to measure the        liabilities. The assumed salary trend rate for measuring the increase        in postretirement benefits related to life insurance was an average of        4.50 percent.

The above accumulated postretirement benefit        obligation is related to the Board-sponsored life insurance programs.        The Board has no liability for future payments to employees who        continue coverage under the federally sponsored life and health        programs upon retiring. Contributions for active employees        participating in federally sponsored health programs totaled $9,607,000        and $8,933,000 in 2006 and 2005,        respectively.

### (7) Accumulated Postemployment        Benefit Plan 

The following        information provides disclosure requirements contained in Statement of        Financial Accounting Standards No. 112, *Employers'        Accounting for Postemployment Benefits*. 

The Board provides        certain postemployment benefits to eligible former or inactive        employees and their dependents during the period subsequent to        employment but prior to retirement. Costs were projected using the same        discount rates as were used for projecting postretirement costs. The        accrued postemployment benefit costs recognized by the Board for the        years ended December 31, 2006 and 2005, were $1,963,000 and        $155,800,        respectively.

### (8) Accumulated Other      Comprehensive Income 

Following is a        reconciliation of beginning and ending balances of accumulated other        comprehensive        income.
|              | Amount related to defined benefit retirement plans | Amount related to postretirement benefits other than pensions |
|--------------|----------------------------------------------------|---------------------------------------------------------------|
| $(1,021,693) | $(6,788,992)                                       |
| (332,969)    | (1,322,837)                                        |
| $(1,354,662) | $(8,111,829)                                       |
|              | Total accumulated other comprehensive income (loss) |
|--------------|-----------------------------------------------------|
| $(7,810,685) |
| (1,655,806)  |
| $(9,466,491) |

Additional        detail regarding the classification of accumulated other comprehensive        income is included in        note        6.

### (9) Other Revenues and Other      Expenses

|            | For the years ended December 31, |
|------------|----------------------------------|
||
|            |
| $4,180,692 | $3,788,217                       |
| 2,450,576  | 2,433,833                        |
| 716,294    | 782,743                          |
| 599,827    | 664,755                          |
| 0          | 250,650                          |
| 561,560    | 600,144                          |
| $8,508,949 | $8,520,342                       |
|            |
| $2,676,871 | $2,573,028                       |
| 1,087,429  | 956,476                          |
| 988,950    | 872,467                          |
| 706,497    | 656,150                          |
| 529,557    | 518,640                          |
| 393,122    | 336,342                          |
| 105,587    | 268,228                          |
| 236,448    | 184,880                          |
| 19,296     | 319,461                          |
| 691,309    | 800,486                          |
|            |
| $7,435,067 | $7,486,158                       |

### (10) Commitments and        Contingencies

#### Leases 

The Board has entered into several operating leases        to secure office, training, and warehouse space for remaining periods        ranging from one to four years. Minimum annual payments under the        operating leases having an initial or remaining noncancelable lease        term in excess of one year at December 31, 2006, are as follows: 

| 2007     | $176,807 |
|----------|----------|
| 183,880  |
| 191,235  |
| 198,884  |
| 84,218   |
| $835,024 |

 Rental expenses under the operating leases were        $193,000 in 2006 and $157,000 in        2005.

#### Commitments 

The Board has entered        into an agreement with the Federal Deposit Insurance Corporation and        the Office of the Comptroller of the Currency, through the Federal        Financial Institutions Examination Council (the "Council") to        fund a portion of enhancements and maintenance fees for a central data        repository project through 2013. Estimated Board expense to support        this effort is $7.5 million. 

#### Litigation 

The Board is subject to        contingent liabilities which include litigation cases. These contingent        liabilities arise in the normal course of operations and their ultimate        disposition is unknown. Based on information currently available to        management, it is management's opinion that the expected outcome of        these matters, individually or in the aggregate, will not have a        materially adverse effect on the financial statements. Management        believes the Board has substantial defenses and that the likelihood of        an adverse judgement is remote.

 One action currently pending in        U.S. District Court for the District of Columbia alleges discrimination        on behalf of a class of African American secretaries at the Board under        Title VII of the Civil Rights Act of 1964, as amended. On January 31,        2007, the action was dismissed for failure to exhaust administrative        remedies. The plaintiffs have moved to alter or amend judgment on this        ruling; that motion is pending. Should the case be reinstated either as        a result of the pending motion or following appeal, the Board believes        it has substantial defenses and intends to defend the case        vigorously. 

Four additional actions are pending in the United        States District Court for the District of Columbia under Title VII of        the Civil Rights Act of 1964, as amended and/or the Age Discrimination        in Employment Act. All four are believed to be without merit and are        being vigorously contested. 

Five additional matters alleging        employment discrimination are currently pending administrative        resolution. One case is related to, and likely will be joined with, a        case currently pending in district court. In that and another case        there has not yet been an investigative report. Therefore, management        is unable at this time to determine the potential for a materially        adverse effect on the financial statements. Management believes that        the likelihood of an unfavorable outcome in the remaining three cases        is remote.

###  (11) Federal Financial        Institutions Examination        Council

 The Board is one        of the five member agencies of the Council, and currently        performs certain management functions for the Council. The five        agencies which are represented on the Council are the Board, Federal        Deposit Insurance Corporation, National Credit Union Administration,        Office of the Comptroller of the Currency, and Office of Thrift        Supervision. 

|            | 2006       | 2005 |
|------------|------------|------|
|            |
| $109,760   | $83,811    |
| 740,003    | 1,096,062  |
| 204,617    | 202,666    |
| $1,054,380 | $1,382,539 |
|            |
| $3,429,499 | $3,572,816 |
| 183,000    | 175,000    |
| $3,612,499 | $3,747,816 |
|            |
| $395,551   | $277,589   |
| $54,870    | $104,864   |

### (12) Federal Reserve        Banks

 The Board performs        certain functions for the Reserve Banks in conjunction with its        responsibilities for the Federal Reserve System, and the Federal        Reserve Banks provide certain administrative functions to the Board.      

|              | 2006         | 2005 |
|--------------|--------------|------|
|              |
| $2,380,474   | $2,072,595   |
| 2,161,298    | 2,106,850    |
| 1,087,429    | 956,476      |
| $5,629,201   | $5,135,921   |
|              |
| $491,962,202 | $477,087,471 |
| 301,013,500  | 265,742,100  |
| 731,999      | 516,433      |
| $793,707,701 | $743,346,004 |
|              |
| $854,142     | $145,142     |
| $12,417      | $0           |

### (13) Noncash Financing        Activities

 In 2005, the        Board billed a federal government agency $1,096,557 for rent and        leasehold improvements. In 2006, the federal government agency provided        equipment, software, and services valued at $392,301 to the Board and        paid the balance of $704,256 in 2006. In 2006, the Board billed the        same agency $143,772 for rent, and the agency provided        telecommunication equipment and services valued at $124,720 to the      Board and paid the balance of $19,052 in 2006.

KPMG LLP        2001 M Street. NW        Washington, DC 20036 

Independent Auditors' Report on Internal Control over Financial Reporting

To the Board of Governors of the Federal Reserve System:

We have audited the balance sheets of the Board of Governors of the Federal Reserve System (the Board)        as of December 31, 2006 and 2005, and the related statements of revenues and expenses and changes in        cumulative results of operations, and cash flows (hereinafter referred to as "financial statements") for the        years then ended, and have issued our report thereon dated April 17, 2007.

We conducted our audits in accordance with auditing standards generally accepted in the United States of        America and the standards applicable to financial audits contained in *Government Auditing Standards*,        issued by the Comptroller General of the United States. Those standards require that we plan and perform        the audits to obtain reasonable assurance about whether the financial statements are free of material        misstatement.

 The management of the Board is responsible for establishing and maintaining effective internal control. In        planning and performing our 2006 audit, we considered the Board's internal control over financial        reporting as a basis for designing our auditing procedures for the purpose of expressing our opinion on the        financial statements. We limited our internal control testing to those controls necessary to achieve the        objectives described in *Government Auditing Standards*. The objective of our audit was not to express an        opinion on the effectiveness of the Board's internal control over financial reporting. Accordingly, we do        not express an opinion on the effectiveness of the Board's internal control over financial reporting.

 A control deficiency exists when the design or operation of a control does not allow management or        employees, in the normal course of performing their assigned functions, to prevent or detect misstatements        on a timely basis. A significant deficiency is a control deficiency, or combination of control deficiencies,        that adversely affects the Board's ability to initiate, authorize, record, process, or report financial data        reliably in accordance with generally accepted accounting principles such that there is more than a remote        likelihood that a misstatement of the Board's financial statements that is more than inconsequential will not        be prevented or detected by the entity's internal control.

 A material weakness is a significant deficiency, or combination of significant deficiencies, that results in        more than a remote likelihood that a material misstatement of the financial statements will not be prevented        or detected by the Board's internal control.

 Our consideration of internal control over financial reporting was for the limited purpose described in the        third paragraph above and would not necessarily identify all deficiencies in internal control that might be        significant deficiencies or material weaknesses.

 In our 2006 audit, we noted a matter described in Exhibit I involving internal control over financial        reporting that we consider to be a significant deficiency. We believe that this significant deficiency is not a        material weakness. Exhibit II presents the status of the prior year finding.

The Board's response to the findings identified in our audit is presented in the Exhibit I. We did not audit        the Board's response and,  accordingly, we express no opinion on it.

 We noted certain additional matters that we have reported to the management of the Board in a separate        letter dated April 17, 2007.

 This report is intended solely for the information and use of the Board's management, the Office of        Inspector General, the U.S. Government Accountability Office, and the U.S. Congress and is not intended        to be and should not be used by anyone other than these specified parties.

 April 17, 2007

KPMG LLP KPMG LLP, a U.S. limited liability partnership, is the U.S. member firm of KPMG International, a Swiss cooperative.

##  Exhibit I

 BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

 Significant        Deficiency        December 31, 2006

###  Improvement Is Needed in Internal Controls        over Financial Reporting

Management is responsible for developing and        maintaining effective internal controls to provide reasonable assurance        that the Board has the ability to initiate, authorize, record, process,        and report financial data reliably in accordance with generally        accepted accounting principles. Internal controls help ensure that        reliable and timely information is obtained, maintained, reported, and        used for decision making.

 Appropriate internal controls should be        integrated into each policy and procedure established by the Board to        direct and guide its operations. Monitoring the effectiveness of        internal controls should occur in the normal course of business        throughout the year. Periodic reviews, reconciliations, or comparisons        of data should be included as part of staff's regularly assigned        duties. In addition, periodic assessments should be integrated into        management's continuous monitoring of internal controls to help provide        assurance that weaknesses in the design or operation of internal        control, which could adversely affect the Board's ability to meet its        financial reporting objectives, are prevented or detected in a timely        manner.

 Board management is committed to improving its internal        control environment as demonstrated by its ability to resolve prior        year findings.

 The following paragraphs discuss weaknesses noted        in the Board's internal control over financial reporting that could        adversely affect the Board's ability to produce accurate and timely        financial statements. None of these deficiencies individually would be        considered a significant deficiency. However, the combination of these        deficiencies is considered to be a significant        deficiency.

#### Recording Accounts Payable,        Accrued Liabilities, and Prepaid Expenses

 During 2006,        the Management Division identified and processed transactions and        journal entries to reclassify/and or correct several transactions that        were initially coded to a different general ledger account or recorded        in a different accounting period. We noted that the original        transactions were initially reviewed and approved by a        supervisor, and all the required changes were not identified during        this initial review as follows.
        - Two disbursements          totaling $11,230, of the 115 disbursement transactions tested totaling          $18,473,927, were initially recorded in different general ledger          accounts or were 2007 transactions that were recorded as 2006          transactions. One transaction for $5,980 was identified and adjusted          during management's review prior to year end, and one transaction for          $5,250 was corrected as a post closing entry.
        - Two          accounts payable transactions totaling $45,709, of the 21 accounts          payable invoices tested totaling $2,969,595, were received in 2006 for          services to be provided in 2007. These were initially recorded as          accounts payable in 2006. Both transactions were corrected as a post          closing entry.
        - One prepaid expense totaling $11,927,          of the 19 prepaid expenses tested totaling $1,758,579, was a 2007          invoice that was paid in 2006 and was initially recorded as 2006          expense. This was subsequently identified and adjusted during          management's review prior to year end.

 We commend the        Board for identifying most of these entries prior to year end. However,        the Board should strengthen its procedures for posting and reviewing        all entries to ensure initial posting to the proper accounts and        accounting period.

#### Posting Accrued Annual        Leave

We noted that the annual leave accrual was        overstated by $301,600 at December 31, 2006, because the annual leave        report did not reflect the proper year end information for all        employees. The Board subsequently recorded a post closing entry to        reflect the appropriate amounts.

####  Billing of Accounts        Receivable

 We noted that the Board did not record a        year-end receivable from the Bank for International Settlements (BIS)        for $157,317 representing services performed in 2006. Although the        invoice for the 2006 services was not finalized, recorded, and        submitted until 2007, this amount should have been recorded as a        receivable at December 31, 2006. As a result of our audit, the Board        recorded a post closing entry for this amount.

#### Monitoring Miscellaneous Receivables

 During        our audit, we noted that the Board does not have specific policies and        procedures for monitoring miscellaneous receivables related to        relocation expenses to determine if amounts are considered collectible        and appropriately recorded. As a result of our audit, the Board        recorded post closing entries to write off three accounts receivables        amounting to $105,599 for relocation expenses that were not considered        collectible.

####  Recording Property Transactions

During our audit of property and equipment, we noted that the        Board inappropriately processed property and equipment additions and        adjustments as follows.
        - Two assets purchased for          $113,016 in 2006 were recorded at an acquisition value of $109,259. As          a result, the asset was overstated by $3,757.
        - Three          assets valued at $329,375 were put into service with the incorrect          in-service dates. As a result, the 2006 depreciation expense was          overstated by $25,700.
        - One asset was placed in service          on March 1, 2006 for $811,756, but did not have any depreciation          recorded in 2006. As a result, the Board's depreciation expense was          understated by $20,294.
        - Three adjustments related to          22 assets acquired via trade-in were overstated on the depreciation          schedule in 2005. As a result, depreciation for 2005 was overstated by          $27,294 and correspondingly understated by the same amount in          2006.

 During our physical inspection test work of        property and equipment, we noted that one of the 22 items inspected,        valued at $76,744, was included on the asset listing for the Board's        contingency site, although it was physically located in the Board's        Washington, DC, facility. Our inspection also found that the asset tag        number for one item valued at $7,042 was not identified in the Board's        financial system.

####  Recording Financial Statement        Disclosures

 During our audit, we noted instances where        the Board needs to improve its preparation and review process for the        financial statements as follows.
        - Assets traded in          for other assets were incorrectly recorded as  Proceeds from          Disposals  and  Capital Expenditures  in the Statement of          Cash Flows. The entries, totaling $159,519, represent non-cash          transactions and should not have been included in the  Proceeds          from Disposals  or the  Capital Expenditures  sections of          the Statement of Cash Flows.
        - In Footnote 4,  Property and Equipment,  Construction in Process was          initially reported as zero, and in the corresponding roll-forward          schedule, the balance was $360,966. 
        - In Footnote 7,  Accumulated Postemployment Benefit Plan,  the Board initially          understated the accrued postemployment benefits costs for FY2006. The          Board originally reported $1,828,000. However, this amount did not          reflect the external actuary's revised calculation, which resulted in          an upward adjustment of $134,000.

 The Board subsequently        made all necessary adjustments in the financial statements.

####  Recommendations

 To strengthen internal        controls over financial reporting, we recommend that the        Board:
        - Strengthen the control process over the          initial input and review of disbursement transactions to ensure that          they are properly coded and recorded in the general ledger. We also          recommend that management conduct periodic training for all relevant          personnel, including end users, to help ensure the proper use of          general ledger accounts. 
        - Enhance the process for          determining the accrued annual leave to ensure that the reports          generated include the appropriate amounts as of the end of the          reporting period. The process should include matching a selection of          employees' leave balances and other information included in the report          to data in the Board's Human Resources system. 
        - Implement policies and procedures that require the calculation          and reconciliation of amounts due from BIS on a regular basis. Once          amounts due are determined, the applicable adjustments should be          promptly recorded in the general ledger. 
        - Enhance its          policies and procedures to include a documented periodic review and          analysis of all accounts receivables, to determine if an allowance is          required or if the amounts should be written off. Further,          management should also review the accounting treatment required          for all transactions. 
        - Strengthen its policies          and procedures to improve communication between the divisions and the          accounting staff to ensure the appropriate accounting entries for          property transactions are recorded timely in the general ledger. The          communications should include, but not be limited to: when the asset          was placed in service, the cost of the asset, the asset's location and          tag number, and any additional information necessary for the accounting          division to make the appropriate entries. The Board should also enhance          its review and approval procedures over property transactions to ensure          that the appropriate entries have been recorded. 
        - Strengthen its process over the preparation and review of the          financial statements to ensure information is accurately          reported. 

###  Management's Response 

KPMG offers six recommendations aimed at strengthening the        Board's internal controls over financial reporting. In its discussion        of these recommendations and the supporting audit findings, KPMG does        not consider any individual finding to be a significant deficiency. In        combination, however, KPMG concludes that the audit findings represent        a significant deficiency. While management does not concur with this        conclusion, we do agree that KPMG's recommendations will strengthen the        Board's system of internal controls, and we will implement the        recommended actions.

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##  Exhibit II

| Reported Issue                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Prior Year Recommendation                                                  | 2006 Status |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------|-------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| 1. Establish policies and procedures for processing year-end accounts payables and accruals to include the requirements for management to review and approve all entries and supporting documents before they are recorded. Management should also perform a review of the year-end accounts payable listings and subsequent disbursements to ensure that the transactions reported at year end are appropriately stated. Further, a reconciliation of the GSA account should be performed timely, to identify any discrepancies on the invoices received. | Significant Deficiency (see revised comment in Exhibit I).                 |
| 2. Confirm the data used by the actuary in the pension liability calculation prior to recording the entries in the general ledger.                                                                                                                                                                                                                                                                                                                                                                                                                         | Completed.                                                                 |
| 3. Implement recommendations made by the OIG in their report titled `Evaluation of Service Credit Computations.' This would include performing periodic reconciliations of the census data between the Board's system and the data used by the actuary; reducing or eliminating the number of data transcriptions; requiring automated verifications for all census data transmissions; and updating the existing service credit form to clearly document all prior government service.                                                                    | Substantially resolved. See revised comment in the 2006 management letter. |

KPMG LLP        2001 M Street. NW        Washington, DC 20036 

Independent Auditors' Report on Compliance and Other Matters

To the Board of Governors of the Federal Reserve System:

We have audited the balance sheets of the Board of Governors of the Federal Reserve System (the Board)        as of December 31, 2006 and 2005, and the related statements of revenues and expenses and changes in        cumulative results of operations, and cash flows (hereinafter referred to as "financial statements") for the        years then ended, and have issued our report thereon dated April 17, 2007.

 We conducted our audits in accordance with auditing standards generally accepted in the United States of        America and the standards applicable to financial audits contained in *Government Auditing Standards*,        issued by the Comptroller General of the United States. Those standards require that we plan and perform        the audit to obtain reasonable assurance about whether the financial statements are free of material        misstatement.

 The management of the Board is responsible for complying with laws, regulations, and contracts applicable        to the Board. As part of obtaining reasonable assurance about whether the Board's financial statements are        free of material misstatement, we performed tests of the Board's compliance with certain provisions of        laws, regulations, and contracts, noncompliance with which could have a direct and material effect on the        determination of the financial statement amounts. We limited our tests of compliance to the provisions        described in the preceding sentence, and we did not test compliance with all laws, regulations, and        contracts applicable to the Board. However, providing an opinion on compliance with those provisions was        not an objective of our audit, and accordingly, we do not express such an opinion. 

 The results of our tests of compliance described in the preceding paragraph, disclosed no instances of        noncompliance or other matters that are required to be reported under *Government Auditing Standards*.

 This report is intended solely for the infonnation and use of the Board's management, the Office of        Inspector General, the U.S. Government Accountability Office, and the U.S. Congress and is not intended        to be and should not be used by anyone other than these specified parties.

 April 17, 2007

KPMG LLP KPMG LLP, a U.S. limited liability partnership, is the U.S. member firm of KPMG International, a Swiss cooperative.

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