Reverse Repo Overview
We just added the Fed's Overnight Reverse Repurchase Agreement Award rate to our yield curve and time series charts, denoted as "RRP". In context of the term structure of interest rates, RRP is the shortest of short term yields. It is the overnight interest rate awarded by the Fed in exchange for holding collateral. Banks use this facility as a means to generate return on their excess deposits.
The Reverse Repurchase facility is an instrumental tool used by the Fed for keeping short term interest rates within the FOMC's Fed Funds target range. Because the Fed decides the interest rate on the Reverse Repurchase facility, it sets a floor on interests. Without this facility, interest rates could potentially drift below the Fed Funds target range.
The Reverse Repurchase facility is only available to member banks, which includes commercial banks, investment banks, credit unions, and money market funds. It is not available to individuals. In theory, some of the money earned by the banks on their deposits would pass through to the bank's customers in the form of interest, with the bank keeping a spread as profit. However, many of the larger financial institutions lately have been keeping the reverse repo earnings for the firm, and paying depositors a very low interest or nonexistent rate. Investment into money market funds are probably the best way for individuals to capitalize on this Fed tool, albeit indirectly.
The Reverse Repurchase facility is an instrumental tool used by the Fed for keeping short term interest rates within the FOMC's Fed Funds target range. Because the Fed decides the interest rate on the Reverse Repurchase facility, it sets a floor on interests. Without this facility, interest rates could potentially drift below the Fed Funds target range.
The Reverse Repurchase facility is only available to member banks, which includes commercial banks, investment banks, credit unions, and money market funds. It is not available to individuals. In theory, some of the money earned by the banks on their deposits would pass through to the bank's customers in the form of interest, with the bank keeping a spread as profit. However, many of the larger financial institutions lately have been keeping the reverse repo earnings for the firm, and paying depositors a very low interest or nonexistent rate. Investment into money market funds are probably the best way for individuals to capitalize on this Fed tool, albeit indirectly.
The Reverse Repo Facility Balance is Declining
Lately some experts who closely follow the Fed have noted that the utilization of Reverse Repo facility has been declining in recent months. The Treasury Department's fiscal stimulus efforts in 2020 and 2021 led to many individual homes being sent checks directly, which ended up as deposits in the banking system. A good share of this influx of deposits made its way into the reverse repo facility as banks needed a place to put the excess cash on their balance sheet to work.
At it's peak in 2023, the facility had nearly $2.5 trillion. As it's usage declines some believe this is a sign of drying up excess liquidity in the banking system. This could occur for a variety of reasons. Banks may be finding more attractive short term investments for their excess deposits. The customer deposits may be shrinking, causing money to flow out of the banking system into other places. That could be inflationary if not coupled with a decrease of the money supply. If banks are putting their excess deposits to work in longer duration investments, there is an increased potential for stress within the banking system if a large amounts of deposits are unexpectedly withdrawn.
At it's peak in 2023, the facility had nearly $2.5 trillion. As it's usage declines some believe this is a sign of drying up excess liquidity in the banking system. This could occur for a variety of reasons. Banks may be finding more attractive short term investments for their excess deposits. The customer deposits may be shrinking, causing money to flow out of the banking system into other places. That could be inflationary if not coupled with a decrease of the money supply. If banks are putting their excess deposits to work in longer duration investments, there is an increased potential for stress within the banking system if a large amounts of deposits are unexpectedly withdrawn.