Federal Reserve: A Nod Of Confidence

The Federal Reserve's decision to remove a Covid-crisis-induced emergency measure for banks has important ramifications. It shows that the Fed is confident on US banks, and the system. It also suggests comfort on the rise in market rates to date. It in fact could be construed as a moderate tightening in policy. Here, we explore SLR reversion implications.

The Fed makes a bold statement by removing a key emergency measure employed to support the banks and the system

A year ago the Federal Reserve gave US banks a break by allowing them to exclude holdings of Treasuries and excess deposits from the supplementary reserve ratio (SLR), a ratio that places a limit on bank balance sheet extensions (relative to capital). That was good through to 31 March 2021. Logically, the thought process was that the Fed would extend this. This was based on the clear preference of the Fed to date to keep emergency policies in place, as a precautionary measure. In the event the Fed has decided to let the SLR break roll off, so that from 1 April onwards we revert to the pre-crisis state.

Ahead of this, there were soundings from across Wall Street alluding to concern that the Fed was considering an adjustment to the SLR break. There were warnings in some quarters that if the Fed did so that US banks would have to stop taking deposits. While this is indeed technically a possible outcome, it is unlikely to be an actual outcome. Some anticipation of the Fed’s decision can also be gleaned from the selling of Treasuries from banks seen in recent weeks. In that sense the outcome was not a complete surprise. We had thought that the Fed would extend, but we were also quite clear that this was far from a conviction view, because of the many nuances surrounding the measure.

This is quite an important move from the Fed on a couple of counts. First, it must go down as the first easing of exceptional policy undertaken by the Fed off their own bat. We know that they wound down various emergency facilities at end 2020, but this was as a result of the US Treasury taking capital underpinnings away from them. In fact the Fed objected to this, even though many of the facilities were in decline anyway, as things were very much on the mend. Second, it is a signal that the Fed is quite comfortable with the workings of the system, and the banks. In fact, the 3mth Libor rate as a catch-all measure of banking stress tells the same story, as it remains comfortably in sub-20bp territory (below the Fed’s 25bp fund rate ceiling).

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Disclaimer: This publication has been prepared by the Economic and Financial Analysis Division of ING Bank N.V. (“ING”) solely for information purposes without regard to any ...

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