Conjoncture

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Over the past four years, the US Federal Reserve has reduced the surplus central bank reserves that it had  
built up under its quantitative easing programme. Over the same period, the Basel 3 banking regulations have,  
however, significantly increased banks’ demand for central bank liquidity. Before Basel 3, all reserves in  
excess of “required reserves”, in the monetary policy sense of the term, were, justifiably, treated as excess  
reserves. Since the new liquidity rules have come into force, only those reserves in excess of the regulatory  
constraint may be so treated. Although US banks have so far limited the initial effects of the reduction in  
reserves on their liquidity ratios, notably at the cost of increased dependence on the Federal Home Loan  
Banks, it would appear that the first signs of tension in liquidity are beginning to show.  
p.3  
p.10  
Monetary policy and aggregate  
reserves  
Adjustment strategies to the  
reduction in reserves  
2
Conjoncture // December 2018  
economic-research.bnpparibas.com  
Over the past four years, the US Federal Reserve has reduced the surplus central bank reserves that it had built up under its quantitative  
easing programme. Over the same period, the Basel 3 banking regulations have, however, significantly increased banks demand for  
central bank liquidity. Before Basel 3, all reserves in excess of “required reserves, in the monetary policy sense of the term, were,  
justifiably, treated as excess reserves. Since the new liquidity rules have come into force, only those reserves in excess of the regulatory  
constraint may be so treated. Although US banks have so far limited the initial effects of the reduction in reserves on their liquidity  
ratios, notably at the cost of increased dependence on the Federal Home Loan Banks, it would appear that the first signs of tension in  
liquidity are beginning to show.  
The six years of quantitative easing conducted by the Fed resulted in an recent years but larger than before the financial crisis. It will reflect the  
unprecedented expansion of its balance sheet, and (automatically) in needs of the banking system in terms of reserves and the Committee’s  
the amount of reserves held by depository institutions. When the decisions about how to implement monetary policy in the future. In June  
programme came to an end, in October 2014, these had peaked at 2017, the FOMC expected to “learn more about the underlying demand  
more than USD 2,820 billion, from barely USD 90 billion before the for reserves during the process of balance sheet normalization.  
programme began. Since then, monetary policy measures (repo  
transactions, Fed balance sheet reduction programme), combined with  
the upward trend in currency in circulation and issues of Treasury bills,  
have reduced this stock by more than USD 1,000 billion. Meanwhile, the  
Constraints on central bank liquidity have increased significantly as a  
result of the Basel 3 banking regulations . Before Basel 3, all reserves  
3
in excess of required reserves, in the monetary policy sense of the term,  
4
were, justifiably, treated as excess reserves . Banks without sufficient  
Fed’s balance sheet has shrunk by USD 360 billion since the ending, a  
reserves to meet the minimum requirement had to borrow from the  
year ago, of the full reinvestment of maturing debt in its securities  
5
central bank (open market operations) or from other banks on the Fed  
1
portfolio. Now the Fed’s balance sheet and bank reserves stand at  
Funds market. But demand for reserves at the central bank has  
USD 4,150 billion and USD 1,760 billion respectively, which are  
historically high levels by pre-crisis standards.  
6
increased as a result of Basel 3 (Pozsar, 2016 ). Since the introduction  
of the Liquidity Coverage Ratio (LCR), banks have been required to  
Even so, there is some debate about the desirable level over the long hold reserves (or more generally high-quality liquid assets) not only in  
term of the Fed’s balance sheet and reserve balances. The Federal proportion to the deposits registered on their balance sheets but more  
7
Open Market Committee (FOMC) has not provided detailed targets in broadly in proportion to their debts falling due within 30 days . Reserves  
this area. It has simply indicated that under the Fed’s slimming at the central bank may therefore exceed the volume required under  
programme “securities holdings will continue to decline in a gradual and monetary policy (required reserves) but nevertheless be insufficient with  
predictable manner until the Committee judges that the Federal a view to the overall liquid asset requirement. As has been highlighted  
8
Reserve is holding no more securities than necessary to implement by Randal Quarles , Vice Chair for Supervision at the Fed, the  
2
monetary policy efficiently and effectively ”. The supply of reserve challenge for monetary authorities is now to evaluate the extent to  
balances will gradually be reduced to a level “appreciably below” that of  
which LCR will affect the total demand for reserves and thus the size of  
the Fed’s balance sheet over the long term.  
3
L. Quignon, Basel III, the money multiplier and monetary policy, BNP Paribas,  
Conjoncture 13-12, December 2013.  
4
By virtue of the required reserve coefficient, depository institutions must hold  
reserves with the central bank equivalent to a proportion of their deposits.  
5
or from non-banks with an account with the Fed  
Z. Pozsar (2016), What excess reserves?, Global Money Notes #5, Economic  
6
Research Credit Suisse, April 2016.  
7
See Box 1 for a more precise definition. Some banks are also subject to the  
1
Figures at 21 November 2018.  
Addendum to the Policy Normalization Principles and Plans:  
Comprehensive Liquidity Analysis and Review (CLAR) liquidity stress tests.  
R. Quarles, Liquidity Regulation and the Size of the Fed’s Balance Sheet,  
2
8
https://www.federalreserve.gov/newsevents/pressreleases/monetary20170614c.  
htm  
Remarks at Hoover Institution Monetary Policy Conference, May 2018 :  
https://www.federalreserve.gov/newsevents/speech/quarles20180504a.htm  
3
Conjoncture // December 2018  
economic-research.bnpparibas.com  
Simon Potter, Executive Vice President of the Federal Reserve Bank of  
New York, recently indicated that for the time being there are no visible  
9
signs of an insufficiency of reserves at the aggregate level . Since the  
Variations in central bank deposits are to an extent exogenous, a  
function of monetary policy and the financial behaviour of non-bank  
agents. We will examine the various non-conventional measures used  
by the Fed over the last few years. First, the Fed’s securities purchasing  
programme increased aggregate bank reserves (1.1), before the full  
reinvestment of maturing debt stabilised them (1.2). Later, repo  
transactions (1.3) and finally the ending of the full reinvestment of  
beginning of the year the interest rate at which central bank deposits  
have traded (the Effective Federal Funds Rate or EFFR) has certainly  
risen, taking it close to the Interest on Excess Reserves (IOER) rate.  
This increase has not, however, resulted from an increase in demand  
for Fed Funds so much as additional issuance of Treasury bills, which  
has pushed traditional lenders of Fed Funds (the Federal Home Loan  
Banks) towards the repo markets. According to Potter, evidence of a  
scarcity of central bank liquidity will only be manifested when there is a  
significant increase in lending at above IOER rates on the unsecured  
overnight markets, or when there is a clearer day-to-day relationship  
between shifts in the IOER-EFFR spread and in the stock of reserves.  
1
1
maturing debt (1.4) began to reduce aggregate reserves .  
The effects. The Fed’s quantitative easing (QE) policy from December  
On the scale of the banking system as a whole, trends in central bank  
reserves are exogenous, a function both of monetary policy decisions  
and of portfolio choices in the non-bank sector (1 part). Over the past  
2
008 to October 2014 consisted of three waves of securities purchases  
(
US Treasury debt, agency debt securities and mortgage backed  
rst  
securities MBS issued by the Fannie Mae and Freddie Mac  
mortgage guarantee agencies ). This resulted in an expansion of the  
ten years, the Federal Reserve has adjusted its supply of reserves  
through a range of non-conventional means. The first such resulted in a  
considerable increase in supply, with subsequent measures serving to  
stabilise and then restrict it. On the margin of monetary policy, the  
financial behaviour of non-bank agents has resulted in an increase in  
the money circulating in the economy and in deposits from the Treasury  
and foreign central banks held at the Fed. Overall, the aggregate  
12  
central bank’s balance sheet both in its securities portfolio (on the asset  
side) and reserve balances of depository institutions (on the liability side,  
Chart 1). Banks’ reserves at the Fed thus moved into a significant  
surplus relative to required reserves (the minimum levels in monetary  
policy terms). Domestic banks acted as intermediaries for their clients in  
QE, with the result that these purchases also contributed to a sharp  
increase in deposits on the liabilities side of bank balance sheets13.  
1
0
availability of reserves has now been reduced as a result .  
The issue of the ‘necessary’ level of reserves is not simple at first sight.  
The LCR constraint was introduced in 2015 against a background of  
abundant central bank liquidity, which therefore naturally represented a  
substantial proportion of portfolios of liquid assets. In the third quarter of  
The mechanics. If the banks themselves had sold their securities  
portfolios, QE would simply have resulted in a substitution of assets on  
their balance sheets (securities against reserves at the Fed), with no net  
effect on the size of their balance sheets (Example 1, Figure 1 p.20).  
However, between the end of the third quarter of 2008 and the fourth  
quarter of 2014, it was mainly US ‘households’ (the household sector  
includes hedge funds and private equity funds in US statistics), states  
and local government, non-bank financial institutions (notably the GSEs,  
2018, after four years of contraction in aggregate reserves, central bank  
liquidity still accounted for more than 40%, on average, of liquid assets  
under LCR of the eight biggest US banks (2nd part). The adjustment  
strategies adopted since 2015 (substitution of liquid securities for  
reserves, reduction in the use of short-term market debt) have, so far,  
helped offset part of the reduced availability of reserves. Analysis also  
shows that American banks are receiving increasing levels of support  
from the Federal Home Loan Banks. Although it is hard to say whether  
or not reserves are still ‘sufficient’, it does appear that we are seeing the  
first signs of pressure on liquidity, albeit outside the Fed Funds market,  
which runs contrary to the expectations of monetary authorities.  
1
1
See also J. Ihrig, L. Mize and G. Weinbach (2017), How does the Fed adjust  
its securities holdings and who is affected?, Finance and Economics Discussion  
Series, Divisions of Research & Statistics and Monetary Affairs, Federal  
Reserve Board, and D. Leonard, A. Martin and S. Potter (2017), How the Fed  
changes the size of its balance sheet, Liberty Street Economics, July 2017.  
1
2
Fannie Mae and Freddie Mac are the two big Government-Sponsored  
Enterprises (GSEs) placed under the protection of the US Treasury since  
September 2008. C. Choulet., The fate of Fannie Mae and Freddie Mac is not  
yet sealed, BNP Paribas, Conjoncture 18-03, March 2018.  
9
S. Potter, US Monetary Policy Normalization is proceeding smoothly, Remarks  
1
3
at Banque de France, October 2018:  
In a previous article we analysed the various reasons why domestic banks  
https://www.newyorkfed.org/newsevents/speeches/2018/pot181026  
The ability of banks to protect their liquidity ratios is diminished all the more  
as the reduction in the Fed’s balance sheet comes against a background of  
rising rates. The current increase in long-term interest rates depresses the value  
of securities held on bank balance sheets (notably Treasuries), and thus the  
value of the stock of liquid assets.  
(US-chartered banks and US branches of foreign banks) modified the ‘natural’  
effect of QE on their balance sheet, resulting in a shift in the ownership structure  
of reserves with the Fed with no equivalent distortion of the structure of  
customer deposits on the liabilities side of their balance sheets. C. Choulet., QE  
and bank balance sheets: the American experience, BNP Paribas, Conjoncture  
15-07, July-August 2015.  
1
0
4
Conjoncture // December 2018  
economic-research.bnpparibas.com  
pension funds and money market funds) and non-residents who Treasury issue automatically increases its debt and its current account  
1
9
reduced their holdings of Treasury and/or agency securities (Charts 2 with the central bank, at least temporarily (Stage 2, Figure 2).  
and 3). As these agents (with the exception of the Government-  
Sponsored Enterprises  GSEs) do not have accounts with the Fed,  
Reserve balances of depository institutions with the Fed  
these transactions transited through bank balance sheets: in settlement  
USD bn  
Reverse repo operations,  
currency in circulation growth  
3
2
2
000  
500  
000  
of its purchases (increase of securities as assets on its balance sheet),  
the Fed credited the current accounts of banks (increasing excess  
reserves of the banks as liabilities for the Fed and assets for the banks)  
whilst the banks credited their customers’ accounts (increase in  
deposits as liabilities at the banks Example 2, Figure 1). All other  
things being equal, the Fed’s quantitative easing therefore tended to  
increase the size of resident bank balance sheets by increasing their  
current accounts with the Fed and their liabilities to customers.  
Ultimately QE in the US resulted in growth in the monetary base  
QE3  
1500  
QE2  
Full reinvestment of maturing  
debt halted, Treasury general  
account swells  
QE1 Extension  
1
000  
500  
0
Fed loans to  
banks and start  
of QE1  
14 15  
(
narrow money) and also in total money supply .  
2
006  
2008  
2010  
2012  
2014  
2016  
2018  
Chart 1  
Source: Federal Reserve  
Breakdown of Treasuries by holder sector, 2008-2014  
The effects. In October 2014, the Fed ended its securities purchasing  
programme. In order not to upset the interest rate markets, it  
nevertheless maintained its programme 16 of full reinvestment of  
maturing debt and thus stabilised the size of its balance sheet (Chart 4).  
Taken in isolation, this approach had no impact on bank reserves at the  
Fed.  
Change in holdings, % points  
12  
%
50%  
0%  
0%  
20%  
0%  
of Treasury outstanding  
1
8
6
4
2
0
0
4
3
1
0
-
-
-
%
-
-
2
4
10%  
20%  
30%  
Full reinvestment of maturing Treasuries  
-6  
Sept. 2008  
Dec. 2014  
Spread  
-8  
-10  
The mechanics. As it is not authorised to subscribe directly for  
Treasury issues, the Fed renewed its portfolio of Treasuries by  
swapping maturing for newly issued securities 17 . The maturing of  
-40%  
Treasuries reduces the value of the securities portfolio in the Fed’s  
assets and the Treasury General Account (TGA) held at the Fed18  
Chart 2 Sources: Federal Reserve, BNP Paribas  
Breakdown of agency MBS by holder sector 2008-2014  
(
Stage 1, Figure 2 p.20). Without new issuance, outstanding Treasury  
debt would gradually reduce, as would its account at the Fed. Any new  
%
of MBS outstanding  
Change in holding, % points  
25  
3
2
1
0%  
0%  
0%  
20  
5
1
1
1
4
5
10  
5
The monetary base includes notes and coins and reserves at the central bank.  
This would have been less notable if only the banks, the GSEs (which have  
0%  
0
accounts with the Fed) and non-residents (whose deposits are not included in  
money supply) had sold securities. Moreover, second level effects could have  
either reduced or amplified the direct effects of QE on money supply. For  
example, if a US hedge fund had sold 100 units of securities to the Fed and  
invested the additional deposits created in securities issued by a non-resident,  
non-financial company, this would have resulted in a reduction of the effect.  
Conversely, if a non-resident had sold 100 units of securities to the Fed and  
invested the cash received in securities issued by a resident (thus increasing its  
deposits), this would have amplified the effect. Liquidity circulating between  
agents, who are the final owners of the deposits created by QE, is not directly  
identifiable.  
-
5
-
10%  
-20%  
30%  
-10  
-
15  
Sept. 2008 Dec. 2014 Spread  
-20  
-25  
-
Chart 3  
Sources: Federal Reserve, BNP Paribas  
1
1
1
6
7
8
Begun in August 2010  
Non-competitive bids to Treasury auctions  
We ignore interest payments, which constitute revenue rather than principal.  
19  
Perhaps very temporarily if the funds raised are immediately used to finance  
public spending.  
5
Conjoncture // December 2018  
economic-research.bnpparibas.com  
The Fed's balance sheet  
USD bn  
Other liabilities  
5
4
4
3
3
2
2
1
1
000  
500  
000  
500  
000  
500  
000  
500  
000  
The effects. At the margins of its programme for the full reinvestment of  
maturing debt, the Fed has conducted transactions which, whilst not  
affecting the size of its balance sheet, reduced banks’ current accounts.  
In September 2013, with the aim of regaining control of short-term  
Deposits held by GSEs & CCPs  
Treasury general account (TGA)  
Reverse repo & Term deposit facility  
Reserve balances held by banks  
Currency in circulation  
Total  
2
1
interest rates , the Fed introduced two tools designed to reduce excess  
liquidity: the Term Deposit Facility (TDF) and the Reverse Repurchase  
Agreement Facility (RRP facility). In 2015, it also extended its reverse  
repo transactions with foreign central banks (FRRP). These measures,  
combined with the increase in currency in circulation, the additional  
issuance of Treasury bills and new constraints on margin calls from  
clearing houses 22 , reduced reserves by around USD 570 billion  
between October 2014 and October 2017 (Charts 5 and 6). As other  
liabilities replaced bank reserves, the Fed’s balance sheet remained  
unchanged over this period (Table 1).  
5
00  
0
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018  
Chart 4  
Source: Federal Reserve  
Full reinvestment of loan repayments  
The mechanics. Unlike the maturing of a Treasury security, the  
repayment of a mortgage loan used as an underlying instrument in an  
MBS is spread over time and gradually reduces the value of the MBS.  
Mortgage holders may also make early repayment due to sale of the  
property or a renegotiation or repayment of the debt. The pattern of  
repayment of principal and indeed of interest payments is therefore less  
predictable. Repayment flows transit through the original lending bank  
The Term Deposit Facility (TDF)  
The mechanics. This measure consists of offering banks the ability to  
convert their reserves into term deposits for a number of days (Figure 4  
p.21). This has no effect on the balance sheets of either the central  
2
3
bank or the banks . Thanks to an attractive yield, the sums converted  
reached USD 400 billion in December 2014 and again in February 2015.  
Transactions to convert reserves into term deposits have become rarer  
since then.  
2
0
to the holder of the MBS via the MBS issuer (a GSE) .  
The repayment by the household reduces its debt and its deposits  
(
Stage 1, Figure 3 p.21). The commercial bank (which originated the  
loan but no longer carries it on its balance sheet) makes a transfer from  
its account with the Fed to that of the MBS issuer (the GSE which  
carries the loan on its balance sheet). The bank’s reserves are reduced,  
those of the GSE increased. The GSE then transfers the funds to the  
account of the investor who holds the MBS (the Fed in this example).  
The GSE’s reserves are reduced. Ultimately, the repayment of the loan  
results in a reduction in the Fed’s balance sheet, in the bank’s reserves  
and in deposits. The full reinvestment of the repayment cancels out  
these effects. Subscription for a new loan of a value equivalent to the  
repayment made increases the deposits and debts of the household  
21The unprecedented expansion of banks’ reserves with the Fed depressed  
money market interest rates. From 2008, the Fed paid interest on banks’ excess  
reserves (0.25%). The interest rate (IOER) serves as a floor for the effective  
Fed Funds rate as banks have no interest in lending their central bank reserves  
at a rate lower than IOER. However the GSEs, which have accounts with the  
Fed but are not able to receive interest on them, continued to lend liquidity at a  
rate lower than the IOER and thus dragged interest rates back down again. The  
volumes traded on the Fed Funds market remained modest due to weak  
demand from the banks.  
(
Stage 2, Figure 3). The bank sells the loan to the GSE. This sale  
results in a transfer from the GSE’s account to that of the bank. The  
GSE issues an MBS secured in part on this loan (Stage 3, Figure 3).  
The Fed subscribes to this issue and credits the GSE’s account. After  
reinvestment, the value of the Fed’s MBS portfolio and the current  
account of the GSE with the Fed are unchanged, as are the commercial  
bank’s reserves.  
2
2
Since February 2014, the biggest clearing houses have been able to hold an  
interest bearing account with the Fed. Their deposits are recorded under the  
heading “Other reserves with Federal Reserve Banks” alongside GSE reserves.  
2
3
In order to make them more attractive than at the time of the launch in  
September 2013, in October 2014 the Fed opportunistically adjusted the details  
of term deposits available to banks under the TDF. Initial offers fell foul of  
banking regulations. Following the finalisation of the LCR standard in  
September 2014, which indicated that a share of term deposits can be used to  
meet the inclusion criteria, provided that early withdrawal is possible, the Fed  
announced that from October it would offer 6-, 7-, and 8-day deposits, but this  
time with early withdrawal rights. This change allowed banks to make use of the  
facility without damaging (or improving) their LCR.  
2
0
To simplify explanations, we assume that repayment and reinvestment take  
place on the same date. We also ignore the transitory effects of repayments and  
reinvestment on the account of the Fed’s custodian bank (JP Morgan) and the  
effect of interest payments.  
6
Conjoncture // December 2018  
economic-research.bnpparibas.com  
Tools for draining excess liquidity through Sept. 2017  
of its client (Example 2, Figure 5). All other things being equal, on  
completion of the transaction the bank’s reserves are reduced.  
USD bn  
Reserve balances of depository institutions with the Fed  
TDF+RRP+FRRP+TGA+GSE & CCP accounts (inv. scale)  
USD bn  
0
2900  
2700  
2500  
2300  
2100  
1900  
1700  
The Fed balance sheet: from one liability to another  
1
3
4
6
7
9
50  
Value  
As at  
As at  
21/11/18  
USD billion  
03/09/08  
00  
50  
00  
50  
00  
From  
03/09/08  
to  
From  
15/10/14  
to  
From  
18/10/17  
to  
Change  
USD billion  
1
5/10/14  
18/10/17  
21/11/18  
Fed’s balance  
sheet  
9
39.5  
+3,578.1  
-1  
-362.5  
4,154.1  
of which:  
1050  
2018  
Sources: Federal Reserve, BNP Paribas  
2013  
2014  
2015  
2016  
2017  
Currency in  
circulation:  
8
36.7  
+459.6  
+179.4  
+288.9  
+127.1  
+120.8  
-97.4  
1,706  
250.8  
Chart 5  
Reverse Repo  
(RRP and  
FRRP)  
The Fed's balance sheet and reserve balances of banks  
41.7  
00 USD bn  
0
Treasury  
General  
Account  
2
5.6  
0.3  
+95.8  
+7.8  
+94.7  
+71.1  
+121.2  
-7.7  
317.3  
71.5  
GSE and CCP  
accounts  
-
-
-
-
200  
400  
600  
800  
Other  
50.7  
+19.3  
-17.2  
-1.8  
51  
Bank reserves  
4.5  
+2,816.2  
-565.6  
-497.6  
1,757.5  
Change in bank reserves since Oct. 2014  
Table 1  
Source: Federal Reserve  
-
-
-
1000  
1200  
1400  
Change in the Fed's balance sheet since Oct. 2014  
Reserves drained by increasing other liabilities (currency in circulation, TGA,  
GSE & CCP deposits, RRP, FRRP & TDF facilities)  
The Fed carried out the majority of its reverse repo transactions (via  
banks) with money market funds (MMFs), the only organisations with an  
2
014  
2015  
2016  
2017  
2018  
2
4
incentive to take part . On average, between September 2013 and the  
end of 2017, some USD 120 billion in cash was ‘loaned’ to the Fed  
under RRP; the daily average reached USD 145 billion during 2017.  
These transactions resulted in a marked reduction in deposits in MMF  
assets (Chart 7, collateral effect of the LCR standard, see below). In  
Chart 6  
Sources: Federal Reserve, BNP Paribas  
Reverse Repo operations (RRP)  
The mechanics. This second liquidity reduction measure consists of  
conducting reverse repo transactions on Treasuries (sale with obligation  
to buy back) at a fixed rate and at capped amounts with an expanded  
list of counterparties (banks, primary dealers, GSE and money market  
funds). By using this facility a bank or non-bank makes a secured loan  
2018, secured lending by MMFs to the Fed fell significantly. Increased  
issuance of Treasury bills pushed up the repo rates on the triparty  
market, luring GSEs away from the Fed Funds market (see below) and  
the MMFs away from the less well remunerated reverse repos of the  
Fed (Chart 8).  
(
cash against Treasuries) to the Fed. As with security purchases by the  
Fed, the repo transaction passes through the balance sheet of a bank  
unless the counterparty is a GSE), whether it is the Fed’s final  
(
counterparty (Example 1, Figure 5 p.21) or not (Example 2, Figure 5).  
As a result of the operation, the size of the central bank’s balance sheet  
is unchanged, but the composition of its debt is modified (repo instead  
of reserves) and the account of its counterparty is debited. When a bank  
enters into a repo transaction with the Fed, the transaction results  
simply in an exchange of assets on its balance sheet (repo against  
reserves), with no effect on the overall size of its balance sheet  
2
4
Whilst the interest rate on these operations remains below the IOER rate on  
excess reserves, banks have little incentive to participate. The facility might of  
course be of interest to those looking for very high-quality collateral to refinance  
themselves or meet initial margin requirements. However, at a prudential level,  
excess reserves and Treasuries (and repos guaranteed by Treasuries) are  
treated equally (receiving the most favourable treatment). Although the RRP  
interest rate is similar to IOER for non-banks, the involvement of the GSEs  
(notably the Federal Home Loan Banks, see Note 40) is limited for regulatory  
reasons. Thus the programme involves mainly (i.e. at more than 80%) money  
market funds, giving them a high-quality counterparty and collateral and making  
it easier for them to satisfy SEC requirements.  
(
Example 1, Figure 5). Where the Fed’s counterparty is a non-bank (for  
instance a money market fund), the commercial bank debits the account  
7
Conjoncture // December 2018  
economic-research.bnpparibas.com  
Repos vs deposits on the balance sheets of MMFs  
asset side) and the composition of the Fed’s debt is changed (repo  
instead of reserves). When the foreign central bank chooses to sell  
securities to increase its deposits (Example 2, Figure 6), the effects are  
identical to the previous example with the sole difference that it is the  
deposits of the financial clients of the commercial bank (hedge funds for  
example) that are reduced, rather than those of the foreign official  
sector.  
USD bn  
1
200  
000  
Security repurchase agreements  
Deposits  
1
800  
600  
400  
200  
0
Surge in Fed reverse repos  
USD bn  
700  
600  
500  
400  
R e verser e p u r c h aseagr eemen ts,o f w hich:  
RRP (with money market funds)  
2004  
2006  
2008  
2010  
2012  
2014  
2016  
2018  
Foreign RRP (with foreign officials)  
Chart 7  
Source: Federal Reserve  
Rate structure  
Rate in %, end of month  
300  
00  
2
2
1
0
,5  
100  
IOER rate  
0
2
Effective Federal Funds Rate (EFFR)  
Repo rate in the triparty market  
Reverse repo rate (RRP)  
2
011  
2012  
2013  
2014  
2015  
2016  
2017  
2018  
Chart 9  
Source: Federal Reserve  
,5  
1
The Fed does not publish continuous information on the interest rates  
for these transactions. It only provides the average rates for the first  
quarter, first half and first nine months of each year when it publishes its  
,5  
(
unaudited) quarterly financial statements. We have extrapolated  
0
estimates on quarterly yields on the basis of these data. It appears that  
these transactions offer a very attractive return, above the rate paid on  
RRP and the one-month T-bill yield (Chart 10), such that it encourages  
foreign central banks to reduce their holdings of short-dated Treasuries  
in order to take full advantage of it (Chart 11). These securities could  
have been sold to financial institutions such as hedge funds or private  
equity funds whose non-operating deposits are less well remunerated  
2
014  
2015  
2016  
2017  
2018  
Chart 8  
Source: Macrobond  
Reverse repo transactions with foreign central banks (FRRP).  
The mechanics. The Fed releases relatively little information about  
these transactions. Even so, their contribution to reducing excess bank  
reserves has been far from negligible for some years now (Pozsar,  
(
or even penalised) on the balance sheets of banks (collateral effect of  
the LCR standard, see below), or to MMFs that have been required to  
increase their exposure to government debt (since the reforms of  
2
5
2
016 ). Having doubled between the end of 2014 and the end of 2015,  
average outstanding amounts have stood at USD 240 billion since early  
016 (Chart 9). As is the case with reverse repos with MMFs, these  
26  
2
014 ).  
2
transactions pass via the balance sheets of commercial banks. When a These transactions resulted in a sort of sterilisation of liquidity in the  
foreign central bank has deposits with a resident bank, the transaction current accounts of foreign central banks. In the absence of a reduction  
consists simply of an asset swap on its balance sheet (repo for deposits, in the interest rate paid, they will constitute a natural limit to the  
Example 1, Figure 6 p.22). The balance sheet of the commercial bank is reduction in the Fed’s balance sheet.  
reduced (reduction in deposits on the liabilities side and reserves on the  
2
5
26  
C. Choulet, US money market funds and US dollar funding, BNP Paribas,  
Ecoflash, 16 July 2018.  
Z. Pozsar (2016), A tool of their own, The foreign RRP Facilty, Global Money  
Notes #4, Economic Research Credit Suisse, February 2016.