Bloomberg published an article entitled, "T-Bill Deluge Risks Draining Bank Reserves, St. Louis Fed Warns." They tell us, "As the US Treasury borrows heavily in the bills market, the Federal Reserve may find it has to pause its efforts to shrink its balance sheet to ensure the banking system remains stable, according to the St. Louis Fed. The US Treasury has sold about $1 trillion of bills since June after the government suspended the debt ceiling. The cash to buy this government debt can come from at least two places instead: bank accounts, or money market funds. Recently money market funds have been holding back on buying the bills, because they can often earn more by just parking their money at the Fed, using ... ON RRP."
The piece explains, "If too much money instead comes from the banking system, lenders could find themselves with too few reserves to meet regulatory requirements, Federal Reserve Bank of St. Louis ... wrote in a research note.... That could force the central bank to halt its quantitative tightening program, known as QT. 'There is a risk that ON RRP balances remain sizable and bank reserves represent the majority of the contraction of Fed liabilities as QT continues,' economists Amalia Estenssoro and Kevin Kliesen <b:>`_wrote. 'In this case, regulatory banking constraints could start binding sooner than expected.'"
It continues, "That risk isn't just academic: the decline in the Fed's ON RRP facilities seems to have stalled. And bank reserve scarcity has caused problems in the past, most notably in September 2019, when the Treasury increased borrowing and the Fed stopped buying as many Treasuries for its balance sheet. Overnight financing rates for Treasury securities -- widely relied upon by Wall Street banks -- spiked then, and the Fed ultimately intervened by re-starting purchases of the securities to add more reserves to the system."
It adds, "Wall Street strategists estimate the Treasury has another $600 billion of T-bills to issue between now and the end of the year. That probably won't fully deplete the ON RRP in the second half of the year, according to the economists. The St. Louis Fed economists said that in the last bout of quantitative tightening, about five years ago, bank reserves needed to be equal to about 7% of nominal gross domestic product to prevent money market rates from spiking. Given current GDP, that would amount to about $1.9 trillion of reserves."
The Federal Reserve Bank of St. Louis' publication, "The Mechanics of Fed Balance Sheet Normalization <i:https://research.stlouisfed.org/publications/economic-synopses/2023/08/23/the-mechanics-of-fed-balance-sheet-normalization>," states, "The Federal Open Market Committee (FOMC) began reducing the size of the Federal Reserve's balance sheet in June 2022. This policy, termed balance sheet 'normalization' or 'quantitative tightening' (QT), is designed to drain excess liquidity from the banking system. QT is the opposite of quantitative easing (QE). This essay looks at where the Fed stands in terms of QT and what should be considered going forward."
It states, "Today, there are three distinct domestic Fed counterparties that affect the level of reserve balances: banks, non-banks, and the US Treasury. Because each entity faces different market, regulatory, and policy constraints, each independently helps distribute system liquidity given the Fed's chosen aggregate liquidity level. Banks demand reserves to meet internal and regulatory liquidity constraints. These demands change over time as the financial system expands and regulations change. Understanding banks' needs is important to ensure the Fed does not drain too many reserves as it continues QT."
The paper comments, "Non-banks interact with the Fed through their overnight reverse repurchase (or repo; ON RRP) balances. Many large non-bank institutions (e.g., government-sponsored enterprises and money market funds) have access to the Fed's ON RRP facility where they can deposit funds to earn the RRP offering rate. Including non-banks as Fed counterparties was necessary because they are now a larger part of the financial system than banks. This meant a shift in Fed liabilities from bank reserve balances to the ON RRP facility. Take-up at the facility drains reserve balances.... The Fed's ON RRP facility increased from roughly zero in the spring of 2021 to $2.55 trillion at the end of December 2022 due to year-end effects, and 2.37 trillion by the end of March 2023. The Fed has to watch how take-up at the facility will evolve, as a quick shift into (out of) the facility could drain (boost) reserve balances."
It adds, "The Treasury can have a large impact on the Fed's balance sheet, as history shows. During the 2023 debt ceiling impasses, the Treasury General Account (TGA) sharply declined, from $296 billion in late April to $48 billion by the end of May. When the TGA declines, reserve balances tend to increase. During the 2023 debt ceiling impasse, reserve balances increased by $173 billion and ON RRP take-up declined by $70 billion. With the resolution of the debt ceiling impasse in June, the Treasury began issuing debt again and the TGA balance was rebuilt to $432 billion by August 14, 2023. Meanwhile, reserve balances as well as the ON RRP facility take-up fell by $86 and $455 billion, respectively. As money market mutual funds buy US Treasury bills that are now yielding more than the ON RRP offer rate, non-banks' funds are migrating from the facility to Treasuries."
In other news, CNBC recently published, "Coinbase takes stake in stablecoin firm Circle, shuts down joint venture as it sees 'regulatory clarity'." It tells us, "Cryptocurrency exchange Coinbase is taking a stake in Circle, the issuer of the USDC stablecoin, signifying a closer relationship between the two crypto heavyweights. The two companies also said they will close down the Centre Consortium, a private governance organization for USDC, as they now see 'regulatory clarity' on stablecoins. 'Reflecting Coinbase's belief in the fundamental importance of stablecoins to the broader crypto economy, Coinbase is taking an equity stake in Circle,' Coinbase said in a blogpost.... 'This means that Coinbase and Circle will now have even greater strategic and economic alignment on the future of the financial system. Coinbase is committed to the long term success of the stablecoin ecosystem and USDC, specifically.'"
The piece comments, "In March, USDC fell significantly below its peg after the collapse of Silicon Valley Bank, a major lender to the tech industry. Circle was a customer of SVB and held $3.3 billion of its cash reserves with the bank. The coin subsequently regained its $1 peg after U.S. regulators closed SVB down, took control of its deposits and worked to restore customers' access to their money."
It states, "Circle launched its own U.S. dollar version of what's known as a 'stablecoin' in 2018. The fintech company, which shelved plans to go public via a combination with a special purpose acquisition company in December, is a core player in the $124.1 billion stablecoin market. USDC currently accounts for about 21% of the entire stablecoin market, with more than $26 billion worth of tokens in circulation. Tether is the largest stablecoin by far with a market value of $82.8 billion and an almost 67% share of the entire market."
They say, "Circle set up the Centre Consortium in 2018 to help guide policy thinking around stablecoins.... Stablecoins have come under greater scrutiny from regulators over the past year following the collapse of terraUSD, a major stablecoin which relies on a complex algorithm to hold its $1 value. Officials have likened the assets to unregulated money market funds and have proposed bringing them under similar rules that govern banks and payment companies."
The piece concludes, "Circle said that, as well as bringing in Coinbase as an investor and shutting down the Centre Consortium, the company plans to launch USDC on six new blockchains between September and October. Blockchains are like the underlying, decentralized ledgers on which digital currencies are issued and traded. Circle didn't name the blockchains it was looking to launch USDC on, but said the move would bring the total blockchains USDC is available on to 15 in total, as the firm looks to 'continue accelerating USC's momentum with developers around the world.'"
For more, see these Crane Data News stories: "CNBC on PayPal, Paxos' Stablecoin" (8/10/23), "NY Fed on "Runs on Stablecoins" (7/19/23), "USDC Stablecoin Breaks the Buck on SVB; MarketWatch on Debt Ceiling" (3/13/23), "Morningstar on Ultra-Short Bond Funds; Regulators on Stablecoin Risks" (2/27/23), "New Paper on Stablecoin Pegs, Runs; WSJ on Pensions' Thin Cash Levels" (12/29/22), "BlackRock Debuts Circle Reserve Fund, Treasury MF for USDC Stablecoin" (12/1/22).
