(Bloomberg) — In addition to the main rate cut, the Federal Reserve cut rates on a facility used to monitor the benchmark as it aims to keep U.S. financing markets functioning smoothly.
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Officials cut the overnight reverse repurchase agreement rate from the lower end of the target range by 5 basis points, according to their policy statement on Wednesday. Together with the Fed’s reduction in the overall target for the Fed Funds rate to 4.25% to 4.50%, the new guidance rate is 4.25% – in line with the lower bound for the first time since 2021.
Financial institutions currently have about $132 billion in cash stashed away in the Fed’s overnight RRP facility, which offers money market investors an alternative investment to help create a floor under overnight interest rates, according to the New York Fed. That compares with a peak of $2.55 trillion at the end of 2022.
On Wall Street, the balances at the facility are used to measure how much excess liquidity there is in the U.S. financial system — and therefore how much further the Fed can continue to reduce its balance sheet through a process known as quantitative tightening. The central bank said on Wednesday it will continue to shrink its balance sheet.
The downward shift was announced in the minutes of the Fed’s November meeting, in which policymakers revealed they saw value in a possible “technical adjustment” so that the RRP rate would be equal to the lower end of the Federal Reserve’s target range. Funds interest.
Market watchers have said the move is likely to put downward pressure on money market rates and further impact the amount of money held at the Fed facility.
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Officials last tinkered with the tools when it raised rates on the RRP facility in June 2021, as the glut of dollars in short-term funding markets exceeded the supply of investable securities and depressed interest rates despite the stability of the the Fed’s main benchmark. At the time, there was $521 billion in cash on the overnight RRP facility.
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Dallas Fed President Lorie Logan had said in a speech in October that if balances in the facility do not decline as the repo rate moves closer to the rate on reserve balances, it may be appropriate to cut the RRP rate .
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Nearly all strategists expected a move to shift both the Secured Overnight Financing Rate and the Tri-Party General Collateral Rate downward by at least 3 to 4 basis points, although it is possible that the RRP cut would be fully passed on to the repo market. . However, there is no consensus on whether this will impact where the fed funds rate falls within the target range.
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RBC strategists said part of the Fed’s desire to return the RRP rate to “normal” would be to potentially protect fed funds volumes and prevent unwanted volatility in the effective fed funds rate.
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However, if the fed funds rate also turns lower, fed funds volumes could increase, according to TD Securities strategists, as the adjustment would result in a wider spread over the yield on reserve balances (IORB).
