Reserve Balances Research Articles

Reserves Were Not so Ample After All

Abstract We show that the likelihood of a liquidity crunch in wholesale US dollar funding markets depends on levels of reserve balances at the financial institutions that are the most active intermediaries of these markets. Heightened risk of an imminent liquidity crunch is signaled by significant delays in intra-day payments to these large financial institutions over the prior two weeks. Our study contributes to the broader dialogue surrounding the Federal Reserve’s ongoing quantitative tightening (QT).

Assessment of Dealer Capacity to Intermediate in Treasury and Agency MBS Markets

We provide an assessment of broker-dealers’ current and future capacity to support the smooth functioning of the Treasury and agency MBS markets, considering increases in Treasury issuance and continued Federal Reserve balance sheet normalization. Drawing on regulatory data analysis, recent research, and experiences with fixed income market functioning, we focus on two types of constraints that are most relevant for dealers’ intermediation activities: regulatory constraints—specifically the minimum Supplementary Leverage Ratio (SLR) requirement at the Bank Holding Company (BHC) level—and internal risk limits—specifically Value at Risk (VaR) limits at the trading-desk level for each dealer.

A tale of two tightenings

Balance sheet policy is now a prominent facet of monetary policy. Based on the U.S. experience between 2017 and 2019, Smith and Valcarcel (2023) show the first period of quantitative tightening (QT1) was markedly different from earlier balance sheet expansions. This paper provides evidence the Federal Reserve's second balance sheet unwind effort that began in January 2022 (QT2) is strikingly different from QT1. We find substantial announcement effects during QT2 for various treasury yields and interest rate spreads, which are largely absent from QT1. At the time of this writing—by February 2023—both episodes have experienced a similar percent reduction in reserve balances. Yet, QT2 shows a stronger market response upon implementation. Not only are the underlying financial conditions different across the two periods, but the conduct of monetary policy in 2022 seems to be different as well. A clearer signaling mechanism for the expectations channel of monetary transmission takes place during QT2 than was apparent during QT1. The liquidity effects that seemed to be so important during QT1 have been largely attenuated during the second episode of balance sheet tightening.

The new monetary policy regime under central bank’s abundant balance sheet: the case of the Federal Reserve

PurposeThe transmission of monetary policy has received considerable attention due to the sizable enlargement of the Federal Reserve’s balance sheet and consequently of the large reserve balances held by the Depository Institutions. This paper aims to investigate whether changes in the quantity of the reserve balances during the so-called normalization period and the COVID-19 crisis put significant pressure on short-term interest rates and specifically on the Effective Federal Funds rate (EFFR).Design/methodology/approachUnder the new monetary policy regime, with two newly administered interest rates, the authors use the spread of the Federal Funds rates and the Interest on Reserve Balances (as a measure of the price of liquidity. With the means of various models such as the structural vector autoregression, the authors investigate, for two different subsample periods, the effectiveness of the monetary policy and the creation of (any) liquidity effects.FindingsThe results showed that when the Fed decreases its balance sheet size, during the normalization period, significant liquidity effects are present meaning that the authorities could influence the stage of the short-term interest rates under the new monetary policy regime. However, this relationship appears to weaken considerably as the level of reserve balances, particularly in response to the COVID-19 pandemic, increases substantially. The authors enriched the findings by highlighting the role of the benchmark repo rate. During the COVID-19 period, and in light of abundant reserve balances, the repo rate reacts more vigorously to a reduction in reserves, whereas an increase in the repo rate seems to exert a strong positive influence on the EFFR.Originality/valueThe findings are very important for the efficiency of the monetary transmission mechanism. An expanded balance sheet is still considered an arcane concept in regard to the structure and its effects on monetary policy implementation. This is one of the only few studies that investigates the effect of the abundant reserve balances on the short-term interest rates for two different in nature subsample periods. It shows as well the interplay between short-term interest rates, secured and unsecured.

The Effects of CBDC on the Federal Reserve's Balance Sheet

We propose a parsimonious framework to understand how the issuance of central bank digital currency (CBDC) might affect the financial system, the Federal Reserve's balance sheet, and the implementation of monetary policy. We show that there is a wide range of outcomes on the financial system and the Federal Reserve's balance sheet that could reasonably occur following CBDC issuance. Our analysis highlights that the potential effects on the financial sector depend critically on how the Fed manages its balance sheet. In particular, CBDC could in principle put substantial upward pressure on the spread of the federal funds rate and other wholesale funding rates over the interest rate on reserves unless the Fed expanded its balance sheet to accommodate CBDC issuance.

Predicting the Federal Funds Rate: A Linear Regression Analysis

In this research, we aim to utilize linear regression estimated by ordinary least squares (OLS) to construct a predictive model for the federal funds rate in the U.S.. It is a crucial instrument of implementing monetary policy, including financial institutions, investors, and policymakers. To construct the model, we will obtain data on various economic and financial indicators that affect the federal funds rate. This will include macroeconomic variables such as inflation and GDP growth, as well as financial market indicators such as the yield on government bonds and the reserve balance level held by Federal Reserve banks. We will then use this data to fit a linear regression model and evaluate its performance using various statistical metrics. Once the model has been developed, we will use it to make predictions about future federal funds rate actions and determine the leading causes of these movements. Additionally, we will test the model's accuracy given changes in the underlying data and assumptions. The findings of this study will be helpful to a wide range of academic and practical audiences and will offer insightful information on the factors affecting the federal funds rate.

Gross capital inflows, the U.S. economy, and the response of the Federal Reserve

In recent years, there has been a surge in capital inflows to the United States' treasury and corporate bond markets from other countries. How do these inflows affect economic activity in the United States? Does the Federal Reserve respond to such shocks? To address these important issues, we employ a sign-identified structural vector autoregressive (SVAR) model to see the effects of these types of capital inflows. Our results suggest that the U.S. economy and the Federal Reserve's balance sheet respond differently to shocks to these inflows. In particular, gross inflows to U.S. treasuries are contractionary while inflows to corporate debt are expansionary. Moreover, the Federal Reserve shrinks its balance sheet in response to shocks to gross capital inflows to U.S. treasury securities with little to no response to inflows to corporate securities. Interestingly, we find that the bulk of the Fed's response to both shocks is systematic. In this manner, the Federal Reserve's response to these shocks played only a minor role in the evolution of macroeconomic aggregates following such shocks.

Distribution of Potential Resources, Reserves and Use of Coal in Indonesia

Indonesia has abundant coal resources and is a well-known mining sector as a producer and exporter of coal. Even though Indonesia has adequate coal reserves, the ever-increasing energy needs pose challenges in meeting domestic and export needs. Therefore, this study aims to analyze the potential of coal resources and reserves in Indonesia, their utilization in the electricity sector, and find solutions for sustainable use of non-renewable energy. This research uses the method of literature study or literature search. The data sources used are accredited academic journals and related publications, as well as secondary data from the Geological Agency of the Ministry of Energy and Mineral Resources [ESDM] and Recapitulation of Coal Reserve Balance in Indonesia. The results of this study classify coal resources and reserves based on SNI 5015 - 2019 classification. There are several categories, such as inferred coal resources, indicated coal resources, measured coal resources, probable coal reserves, and proven coal reserves. Geologically, economically valuable coal deposits are found in Sumatra and Kalimantan. Coal quality can be classified based on calorific value, such as low, medium, high, and very high calories. With a better understanding of available coal resources, it is hoped that sustainable solutions for future energy needs will be developed.

Market Reactions to the Federal Reserve's Balance Sheet Normalization Plans

ABSTRACT: This paper focuses on interpreting the stock market's reactions to Federal Reserve announcements about its balance sheet normalization plans, applying the methodology developed with Francesco Bianchi and Sai Ma. The results indicate that the stock market declines after announcements, suggesting perceived inflexibility in statements about balance sheet normalization, but many of the large reactions to these announcements can be ascribed to forces that move the stock market but not the broader economy.

Panel on Shrinking the Federal Reserve Balance Sheet

Panel on Shrinking the Federal Reserve Balance Sheet

Substitutability between Balance Sheet Reductions and Policy Rate Hikes: Some Illustrations and a Discussion

This note explores the substitutability between policy rate hikes and reductions in the size of the Federal Reserve's balance sheet for the removal of policy accommodation. We do so using a version of the FRB/US model augmented to incorporate the effects of changes in the Federal Reserve's asset holdings on term premiums.

The Effects of Federal Reserve's Quantitative Easing and Balance Sheet Normalization Policies on Long-Term Interest Rates

The Effects of Federal Reserve's Quantitative Easing and Balance Sheet Normalization Policies on Long-Term Interest Rates

OPTIMUM UNIT COMMITMENT SOLUTION OF A POWER SYSTEM BASED ON SALP SWARM ALGORITHM

This paper presents an algorithm to solve the unit commitment problem in a power system. The proposed algorithm employs the Salp swarm algorithm technique to search the optimum unit schedule for a particular daily demand pattern and specific time horizon. Different constraints are taken into consideration, transition cost (start-up and shut down )cost, mean-up time, mean-down time, spinning reserve, and power balance. The proposed algorithm is applied to 10-units and 26-unit. The obtained results are compared with other methods. It reveals the robustness of the proposed algorithm in terms of minimizing overall running costs.

Global Stablecoins: Monetary Policy Implementation Considerations from the U.S. Perspective

<ns3:p>This note explores the potential effects of the widespread adoption of a global stablecoin (GSC) on key aggregate financial sector balance sheets in the United States. To do this, we map out cash flows of GSC transactions among financial sector entities using a stylized set of 't-accounts'. By analyzing these individual transactions, we infer aggregate and compositional effects on U.S. commercial banking sector and Federal Reserve balance sheets. Through this lens, we also consider how these balance sheet changes could affect monetary policy implementation, the demand for central bank reserves, and the market for U.S. dollar safe assets.</ns3:p>

Unconventional Monetary Policy and the Search for Yield

We use U.S. syndicated loan market data to examine how banks responded to the unprecedented injection of reserves by the Fed over several rounds of quantitative easing (QE). We show that higher reserves boost bank lending. To establish a causal interpretation for this finding, we construct a novel instrument for the bank-level exposure to QE by using confidential data on daily bank reserves. Next, we identify a mechanism that can explain this link. We show that the connection between banks' reserves and lending volume depends upon the net return that banks enjoy on reserve balances. Our findings demonstrate that the search for yield component of the risk taking channel — wherein banks increase risk-taking to achieve nominal profitability targets during periods of low interest rates — is also a relevant consideration for policymakers during massive reserve injections.

Reserves Were Not So Ample After All

The Federal Reserve's balance-sheet normalization, which reduced aggregate reserves between 2017 and September 2019, increased repo rate distortions, the severity of rate spikes, and intraday payment timing stresses, culminating with a significant disruption in Treasury repo markets in mid-September 2019. We show that repo rates rose above efficient-market levels when the total reserve balances held at the Federal Reserve by the largest repo-active bank holding companies declined and that repo rate spikes are strongly associated with delayed intraday payments of reserves to these large bank holding companies. Intraday payment timing stresses are magnified by early-morning settlement of Treasury security issuances. Substantially higher aggregate levels of reserves than existed in the period leading up to September 2019 would likely have eliminated most or all of these payment timing stresses and repo rate spikes. Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Redistribution of Wealth Through Cross Border Financial Transactions: A Closer Look

Contrary to existing literature, here we consider the foreign exchange reserve balance of a particular country as an indicator of how much goods, services and/or physical asset the country has transferred to the rest of the world in exchange of some fiat foreign currencies. On the other hand, the reserve balances of the rest of the world denominated in the currency of that particular country can be considered as the amount of goods, services and/or physical assets that the particular country has received from the rest of the world in exchange of its own fiat currencies. Hence, if we subtract the second quantity from the first one, we get an estimate of the extent of net non-monetary wealth that the particular country has transferred so far to the rest of the world in exchange of some fiat foreign money. We calculate the amount of net non-monetary wealth (thus defined) transferred to and from some major economies stemming from cross border financial transactions and analyze their long term and short term dynamics using VECM. The main objective of this study is to give a new perspective to what we conventionally mean by foreign exchange reserve of a country: Instead of assuming the reserve balance of a country as an asset we consider it as a measure of gross wealth (i.e., goods, services and physical asset) the country has transferred so far to other countries around the globe in exchange of some paper currencies with no intrinsic value.

Reserves Were Not so Ample after All

The Federal Reserve's balance-sheet normalization, which reduced aggregate reserves between 2017 and September 2019, increased repo rate distortions, the severity of rate spikes, and intraday payment timing stresses, culminating with a significant disruption in Treasury repo markets in mid-September 2019. We show that repo rates rose above efficient-market levels when the total reserve balances held at the Federal Reserve by the largest repo-active bank holding companies declined and that repo rate spikes are strongly associated with delayed intraday payments of reserves to these large bank holding companies. Intraday payment timing stresses are magnified by early-morning settlement of Treasury security issuances. Substantially higher aggregate levels of reserves than existed in the period leading up to September 2019 would likely have eliminated most or all of these payment timing stresses and repo rate spikes.

Reserve balances, the federal funds market and arbitrage in the new regulatory framework

We study demand for reserves and trading dynamics in the federal funds market in the context of two banking regulatory changes: the widening of the FDIC assessment base and the introduction of the Basel III regulatory ratios. Using a novel panel of FDIC fee rates, we show that the widening of the assessment base changed the relative funding costs and incentives for banks to hold reserves. We document that foreign banks, not subject to the FDIC fee, experienced positive conditions for arbitraging between borrowing funds in the federal funds market and holding those funds in their reserves accounts to earn interest on excess reserves. As a result, foreign banks increased their reserve holdings and federal funds borrowing relative to domestic banks, contributing to a change in the distribution of reserves in the banking system and in the composition of banks’ balance sheets. Furthermore, we find that since the implementation of the Basel III leverage ratio, foreign banks have engaged in window dressing, with reserves and federal funds borrowing temporarily declining on reporting days. We introduce a model that incorporates the new regulatory framework and derive testable hypotheses to support our findings. Results suggest that: 1) following the implementation of the FDIC rule, the share of reserves over assets held by domestic banks was 4.5 percentage points lower than the share held by foreign banks. 2) after the public disclosure of the Basel III leverage ratio, foreign banks’ reserves on reporting dates relative to the period average dropped by 18.3 percentage points compared to domestic banks.

U.S. Banks and Global Liquidity

We characterize how U.S. global systemically important banks (GSIBs) supply short-term dollar liquidity in repo and foreign exchange swap markets in the post-Global Financial Crisis regulatory environment and serve as the "lenders-of-second-to-last-resort". Using daily supervisory bank balance sheet information, we find that U.S. GSIBs modestly increase their dollar liquidity provision in response to dollar funding shortages, particularly at period-ends, when the U.S. Treasury General Account balance increases, and during the balance sheet taper of the Federal Reserve. The increase in the dollar liquidity provision is mainly financed by reducing excess reserve balances at the Federal Reserve. Intra-firm transfers between depository institutions and broker-dealer subsidiaries within the same bank holding company are crucial to this type of "reserve-draining" intermediation. Finally, we discuss factors that contributed to the repo spike in September 2019 and the subseque nt response of U.S. GSIBs to recent policy interventions by the Federal Reserve.