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The Fed’s Steadiness Sheet Runoff and the ON RRP Facility


A 2017 Liberty Avenue Economics submit described the steadiness sheet results of the Federal Open Market Committee’s choice to stop reinvestments of maturing securities—that’s, the mechanics of the Federal Reserve’s steadiness sheet “runoff.” On the time, the in a single day reverse repo (ON RRP) facility was pretty small (lower than $200 billion for many of July 2017) and was not talked about within the submit for the sake of simplicity. In the present day, in contrast, take-up on the ON RRP facility is way bigger (over $1.5 trillion for many of 2022). On this submit, we replace the sooner evaluation and describe how the presence of the ON RRP facility impacts the mechanics of the steadiness sheet runoff.

Simplified Steadiness Sheets

Within the exhibit beneath, we describe simplified steadiness sheets for the Fed, the Treasury, banks, and cash market funds (MMFs). We solely present the steadiness sheet objects which can be important for understanding the mechanics associated to the Fed’s actions. In a follow-up submit, we take into account the function of levered nonbank monetary establishments and households.

  • On the Fed’s steadiness sheet, the asset aspect comprises Treasury securities; on the legal responsibility aspect, there are reserves held by banks, money balances held by the Treasury in its “checking account” on the Fed (the Treasury Basic Account, or TGA), and ON RRP balances held by MMFs.
  • On the Treasury’s steadiness sheet, the asset aspect comprises balances within the TGA; on the legal responsibility aspect, there are Treasury securities.
  • On banks’ steadiness sheet, the asset aspect comprises Treasury securities and reserves held on the Fed; on the legal responsibility aspect, there are deposits held by MMFs (for instance, transaction deposits in addition to in a single day and time period deposits positioned in wholesale funding markets).
  • On MMFs’ steadiness sheet, the asset aspect comprises Treasury securities, deposits at banks, and investments within the ON RRP facility; on the legal responsibility aspect, there are MMF shares held by households. In distinction to banks and the Treasury, MMFs can’t maintain balances in a Fed account; nonetheless, MMFs have entry to the ON RRP facility (MMFs with ON RRP entry accounted for roughly 80 p.c of MMF belongings below administration on the finish of 2021).
Image of four tables: Federal Reserve, Treasury, Banks and MMFs with two columns representing assets and liabilities.

We begin by exhibiting what occurs when Treasury securities held by the Fed mature, the Fed doesn’t reinvest the proceeds of the maturing securities, and the Treasury doesn’t difficulty new securities. On this case, depicted within the subsequent exhibit, the Treasury pays the Fed with money from the TGA because the securities mature. The Fed holds fewer belongings (its holdings of Treasury securities lower) and has fewer liabilities (money held by the Treasury on the Fed decreases), so the dimensions of its steadiness sheet decreases.

Image of four tables: Federal Reserve, Treasury, Banks and MMFs with two columns representing assets and liabilities.

For the rest of the submit, we assume that when $1 value of Treasury securities held by the Fed matures, the Treasury points $1 value of recent securities, so the dimensions of the Treasury’s steadiness sheet stays unchanged. To make issues easy, we assume that new securities are issued similtaneously outdated securities mature.

Banks Buy Newly Issued Securities

We now take into account what occurs when newly issued Treasury securities are bought by banks (see exhibit beneath).

Two transactions happen concurrently:

  • As within the earlier exhibit, the Treasury repays the Fed for the maturing securities, which reduces the TGA steadiness and the Treasury securities held by the Fed by the identical quantity. In all subsequent displays on this submit, the sequence of transactions contains this step of the Treasury repaying the Fed. Within the curiosity of simplicity, we gained’t point out this step once more.
  • Banks buy the brand new securities issued by the Treasury, with banks transferring balances to the Treasury in trade for the securities. As banks switch cash to the Treasury, the TGA steadiness goes again to its unique stage.

On the finish of this course of, the dimensions of the Fed’s steadiness sheet has decreased with a discount of Treasury securities on the asset aspect and reserves on the legal responsibility aspect; the Treasury’s steadiness sheet is unchanged; and the dimensions of banks’ steadiness sheet is identical however the composition of belongings is completely different (increased holdings of Treasury securities and decrease reserves).

Image of four tables: Federal Reserve, Treasury, Banks and MMFs with two columns representing assets and liabilities.

MMFs Buy Newly Issued Securities

We subsequent take into account what occurs when newly issued Treasury securities are bought by MMFs. MMFs can fund their purchases by withdrawing deposits at banks, decreasing their investments within the ON RRP facility, or a mixture of the 2. The subsequent exhibit reveals what occurs if MMFs use each deposits and ON RRP investments to buy Treasury securities.

A number of transactions happen concurrently:

  • MMFs purchase new securities from the Treasury, which holds the proceeds on the Fed, returning the TGA steadiness to its stage earlier than the Treasury securities held by the Fed matured.
  • MMFs’ deposits at banks lower as MMFs use them to buy a portion of the Treasury securities. Banks facilitate the acquisition, transferring reserve balances to the TGA whereas debiting the accounts that MMFs have on the banks.
  • MMFs cut back their investments within the ON RRP facility to fund the acquisition of the rest of the Treasury securities. ON RRP balances decline and the TGA steadiness will increase by an equal quantity.

Banks’ steadiness sheet shrinks, with decrease deposits on the legal responsibility aspect, and decrease reserves on the asset aspect. The scale of MMFs’ steadiness sheet is unchanged, however its composition on the asset aspect has modified: the rise in Treasury securities holdings is offset by a lower in deposits held at banks and investments within the ON RRP facility.

Since MMFs can solely purchase newly issued Treasury securities if they’re Treasury payments or floating price notes, solely when these securities are issued in massive quantities will MMFs be capable of take up a big fraction of the Fed’s steadiness sheet discount. Furthermore, the extent to which MMFs are prepared to purchase Treasury securities will depend on how the charges on these securities evaluate to the charges paid on various belongings corresponding to financial institution deposits and ON RRP investments. Lastly, since a big fraction of the MMF business—particularly authorities funds—can’t put money into financial institution deposits, it’s possible that a big proportion of purchases of Treasury securities by MMFs could be financed by way of decreased investments within the ON RRP facility.

Image of four tables: Federal Reserve, Treasury, Banks and MMFs with two columns representing assets and liabilities.

Banks and MMFs Buy Newly Issued Securities

Lastly, we illustrate the case the place a number of the new Treasury securities are bought by banks and a few by MMFs. The subsequent exhibit reveals what occurs when banks and MMFs every buy half of the brand new issuance, and MMFs buy the securities by drawing down a mixture of deposits at banks and investments within the ON RRP facility. The outline of the transactions akin to the exhibit is much like those described above and left as an train for the reader.

Image of four tables: Federal Reserve, Treasury, Banks and MMFs with two columns representing assets and liabilities.

Conclusions

On this submit, we up to date an earlier submit illustrating the steadiness sheet mechanics of a runoff within the Fed’s holdings of Treasury securities for example the impact of the ON RRP facility. In all instances, the Fed’s steadiness sheet decreases because the Fed doesn’t reinvest the proceeds of its maturing Treasury securities. On the legal responsibility aspect of the Fed’s steadiness sheet, the lower could stem from both a discount of reserves held by banks or a discount in ON RRP take-up or a mixture of each. Related mechanics happen when company mortgage-backed securities mature and banks buy the newly issued securities, as was famous on this Liberty Avenue Economics submit. Because the displays on this submit present, the runoff of the Fed’s safety holdings has potential implications for the steadiness sheets of a spread of monetary market members.

Marco Cipriani

Marco Cipriani is an assistant vp within the Federal Reserve Financial institution of New York’s Analysis and Statistics Group.

James Clouse is a deputy director within the Division of Financial Affairs on the Board of Governors of the Federal Reserve System.

Lorie Logan

Lorie Logan is an government vp within the Federal Reserve Financial institution of New York’s Markets Group.

Antoine Martin

Antoine Martin is a senior vp within the Financial institution’s Analysis and Statistics Group.

Will Riordan

Will Riordan is an assistant vp within the Financial institution’s Markets Group.

How one can cite this submit:
Marco Cipriani, James Clouse, Lorie Logan, Antoine Martin, and Will Riordan, “The Fed’s Steadiness Sheet Runoff and the ON RRP Facility,” Federal Reserve Financial institution of New York Liberty Avenue Economics, April 11, 2022, https://libertystreeteconomics.newyorkfed.org/2022/04/the-feds-balance-sheet-runoff-and-the-on-rrp-facility/.


Disclaimer
The views expressed on this submit are these of the authors and don’t essentially replicate the place of the Federal Reserve Financial institution of New York or the Federal Reserve System. Any errors or omissions are the duty of the authors.

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