Dallas Fed's Logan Talks on RRP
Federal Reserve Bank of Dallas President Lorie Logan spoke recently on "Normalizing the FOMC’s monetary policy tools." She says, "Today, I will return to the topics of money markets and the Fed's balance sheet, but from a new perspective as a policymaker and in a very different economic environment.... It's sometimes suggested that the reduction in asset holdings works at cross purposes to the strategy of reducing policy restriction by lowering the fed funds target range. I don't see it that way, for two reasons. First, we are moving the target range toward neutral from above. The policy rate remains restrictive, which is consistent with also creating restriction by reducing asset holdings. Second, we are now normalizing both of our policy tools. Normalizing the fed funds rate means bringing it down from the elevated levels that were needed to restore price stability and returning to a level that will be consistent with sustaining maximum employment and price stability over time. Normalizing our balance sheet means bringing our asset holdings down from the elevated quantity that was necessary to support the economy during the pandemic and returning to a balance sheet size that will be consistent with implementing monetary policy efficiently and effectively. Those two normalization processes work in tandem and are consistent in my view. A number of other central banks are similarly reducing their asset holdings while lowering their policy rates in response to the changing economic outlook. The normalization process will affect both sides of the Federal Reserve's balance sheet. In the rest of my remarks, I will describe key policy considerations that I expect to affect the path of the Federal Reserve's liabilities and assets in the long term, as well as some relatively near-term considerations that may arise along the way." Logan adds, "One sign liquidity remains in abundant supply, and not merely ample, is that money market rates continue to generally run well below IORB. The tri-party general collateral rate (TGCR) on repos secured by Treasury securities has been averaging 8 basis points below IORB. Because reserves and Treasury repos are both essentially risk-free overnight assets -- and reserves are, if anything, more liquid -- the spread of IORB over TGCR indicates reserves remain in relatively excess supply compared with other liquid assets.... And the continuing substantial balances in the Fed's overnight reverse repo (ON RRP) facility provide another sign that liquidity remains more than ample. The ON RRP facility accepts overnight investments from money market funds and certain other market participants at a rate currently 10 basis points below IORB. Thus, the facility reinforces the floor on money market rates created by IORB. Institutional and market frictions can influence investors' choices to place funds in the ON RRP facility versus other instruments. However, should liquidity shortfalls emerge that create meaningful upward pressure on money market rates, I would expect market participants to move cash out of the facility in search of higher returns. For now, the remaining ON RRP balances provide a buffer of additional excess liquidity."
