The Federal Reserve’s most important tool for setting interest rates absorbed a record $475bn of money from financial institutions in its last monetary operation of 2015, in another sign that one of the central bank’s main methods of draining liquidity from the financial system is working.
The New York Fed said that the US central bank had awarded $474.59bn in one-day fixed-rate reverse repurchase agreements to 109 counterparties in an auction on Thursday, more than a third higher than the previous record set at the end of the second quarter in 2014.
The agreements allow qualified financial groups — including traditional banks and money market funds — to park cash at the Fed overnight in exchange for Treasury securities and 0.25 per cent interest.
Analysts and economists have characterised the reverse repo facility, which controls the lower bound of the Fed’s target rate, as crucial to its ability to set short-term rates, and as among the central bank’s most potent tools.
Earlier this month the Federal Reserve pulled off a historic move, lifting its benchmark rate for the first time in nearly a decade from a range between 0 and 25 basis points to 25-50 basis points.
In its effort to ensure a smooth rate rise, the markets desk of the New York Fed said in December that it stood ready to offer $2tn of Treasury securities on its balance sheet as collateral for the overnight operations, removing a $300bn daily cap.
Ward McCarthy, an economist with Jefferies, said that he had been concerned before the lift-off about the Fed’s ability to control its target rate.
“This concern was related to the lack of concrete detail about the post-lift-off structure of the [reverse repo programme] and the possibility that it would not be able to absorb a sufficient amount of reserves to keep the fed funds rate above the lower bound of the target range,” he said.
“With two weeks having passed since the lift-off announcement, it does not appear that the Fed is having any trouble keeping the effective fed funds rate between 25 and 50 basis points.”
The $475bn awarded on Thursday matures on January 4, when markets reopen following the new year holiday, and compares to $277bn taken at an auction on Wednesday.
Banks tend to participate in the reverse repo programmes to improve the snapshot of their balance sheets at quarter- and year-end, ahead of stress tests undertaken by financial regulators.
The overnight reverse repo facility works in concert with the Fed’s interest on excess reserves programme, in which the central bank pays interest on cash banks park in its coffers.
However, since the interest on excess reserves programme is limited to approved banks, not all lenders in the federal funds market have access to the 0.5 per cent rate — the current ceiling of the Fed’s target range.