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| New York Fed president John Williams told the FT:'The thing we need to be focused on today is not so much the level of reserves [held at the Fed], it’s how does the market function' © Bloomberg |
Joe Rennison and Brendan
Greeley in New York SEPTEMBER 21 2019
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The Federal Reserve Bank of
New York is examining why banks with excess cash failed to lend to the
overnight money market, following a week that revealed cracks in the US’s
financial plumbing.
John Williams, president of
the New York Fed, on Friday questioned the hesitance of the banks in an interview
with the FT. “The thing we need to be focused on today is not so much the level
of reserves [held at the Fed],” he said. “It’s how does the market function.”
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| Lorie Logan. senior vice-president at the New York Federal Reserve© Bloomberg |
Overnight borrowing rates rose
as high as 10 per cent on Tuesday morning, prompting the New York Fed to
intervene in the overnight repurchase, or repo, market for the first time since
the financial crisis, injecting cash in an effort to unblock the system.
It has since repeated the
operation every morning, helping ease pressure in the market, and announced on
Friday that it would also offer up to $90bn in two-week long loans to further
reduce strain ahead of the end of the third quarter.
Some market participants have
claimed that the week’s volatility arose from a shortage of cash in the
financial system, stemming in part from the unwinding of the Federal Reserve’s
post-financial crisis intervention. However, Fed officials are focused on the
role of the banks.
Mr Williams and Lorie Logan,
senior vice-president in the markets group at the New York Fed, said officials
were looking at why cash failed to move from banks’ accounts at the Fed into
the repo market, where banks and investors borrow money in exchange for
Treasuries to cover short-term funding needs.
Ms Logan pointed to the
concentration of excess cash at a small number of banks as one potential issue.
“Reserves are concentrated,
the excess reserves relative to the minimum level each bank is demanding is
concentrated,” she said. “And the key question is how those reserves, as the
level was coming down, would get redistributed, and how smooth that redistribution
process would be.”
Fed officials expected some
pressure in the market this week as a result of corporate tax payments and
Treasury settlements, which would drain cash out of the system. As it monitored
short-term lending markets, the New York Fed paid particular attention to the
amount of reserves available.
Ms Logan said the expectation
had been that as repo rates rose, banks would withdraw excess cash held at the
Fed and lend it into the repo market to earn the higher rate of interest.
Instead, the New York Fed had to step in to provide that cash as banks remained
on the sidelines.
In recent years, the markets
desk at the New York Fed has been conducting surveys and holding regular
conversations with banks to determine their “lowest comfortable level of
reserves”. In a speech this year, Ms Logan flagged the difficulty of making
such estimates, and the possibility that reserves could be distributed
inefficiently among banks.
JPMorgan Chase and Citigroup,
both large holders of excess reserves, declined to comment. Bank of America was
not immediately available for comment.
A person at one US bank said
that while it been “net lenders into the market” this week, they “have to make
economic decisions for the company”. That means that the cost and return of
deploying cash in the repo market is assessed relative to the cost and return
of using funds for other things, like investing in currencies overnight.
On Friday, the New York Fed
said that it would expand its interventions beyond overnight loans after the
lending rate for two-week funds rose sharply — to 2.7 per cent, up from 2.35
per cent in previous days.
Analysts described the spike
as an indication that investors were anticipating a fresh financing squeeze at
the end of the quarter, when companies and traders settle their accounts. The
new two-week loans will be offered by the New York Fed next week in three
operations on Tuesday, Thursday and Friday.
Friday’s overnight repo
auction by the New York Fed saw a lower level of demand from borrowers than the
previous two days. Bids came in at $75.6bn, down from $84bn on Thursday and
$80bn on Wednesday. On Tuesday, the first day on which the $75bn overnight repo
facility was offered, the New York Fed saw $53bn of bids.
The overnight repo rate
receded to 1.95 per cent on Friday.
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