The Federal Reserve has stopped buying Treasury bills, but not necessarily for good. Roberto Perli, the New York Fed official who runs the central bank’s day-to-day market operations, said on Tuesday that the Fed’s Reserve Management Purchases are not on a preset course and will be adjusted to the market’s liquidity needs. That leaves the door open to restarting them if the financial system needs more cash.
Perli, manager of the System Open Market Account, made the comments in closing remarks at a New York Fed event on Treasury market issues. He said the Fed’s toolkit for controlling short-term interest rates had been working very well: rate control has been strong, reserves have stayed in what the Fed considers the ample range, and its bill purchases ran smoothly. He also described the bank’s reserve forecasting as robust, and said offering a centrally cleared version of its standing repo operations would bring clear benefits for policy implementation.
To most readers, that sounds like very little happened. But these remarks deal with the plumbing that makes the Fed’s interest rate decisions work, and they matter for anyone trying to interpret headlines about the Fed’s balance sheet. Here is what they mean.
What bank reserves are, and what “ample” means
Reserves are the balances commercial banks hold in their accounts at the Fed. Banks use them to settle payments with one another and to meet liquidity requirements. The Fed controls the total supply through the assets it buys and sells, although other flows move it too.
Since 2019, the Fed has run what it calls an ample reserves framework. Before the 2008 financial crisis, reserves were kept scarce and the Fed fine-tuned their supply almost daily to steer rates. Now it keeps enough reserves in the system that normal day-to-day swings don’t jolt short-term rates. If reserves fall too far, rates can jump unpredictably, so the aim is to stay comfortably above that danger zone without supplying far more than the system needs.
How the Fed keeps rates inside its target range
The Fed sets a target range for the federal funds rate, the rate banks charge each other for overnight loans. In an ample reserves system, it hits that range mainly through rates it sets directly rather than by adjusting the quantity of reserves.
The interest the Fed pays banks on their reserve balances acts as an anchor, because banks have little reason to lend cash in the market for less than the Fed pays them. The overnight reverse repo facility, open to a wider group including money market funds, helps set a floor under market rates. At the top end, the standing repo operations let eligible firms borrow cash against Treasuries at a fixed rate, which should cap sudden spikes.
When Perli says the Fed has kept very strong interest rate control, he means market rates have stayed where the Fed intends within that range.
What Reserve Management Purchases are
Reserves don’t stay constant. They fall when the Treasury builds up cash in its account at the Fed, for example around tax deadlines, and as demand for physical currency grows over time. Left unchecked, these drains can push reserves toward scarcity.
Reserve Management Purchases, which began in December last year, are the Fed’s response. By buying Treasury bills, the Fed adds reserves to the banking system and keeps them in the ample range. It recently cut the pace of purchases to zero after concluding the system had the liquidity it needed. Perli’s point was that this pause is no different in spirit from every other adjustment the New York Fed’s trading desk has made since the programme started. It is a setting, not an end point.
Why this isn’t quantitative easing
This is the key distinction, and the easiest to misread. Bill purchases enlarge the Fed’s balance sheet, which looks on the surface like the quantitative easing of the post-crisis and pandemic years. The purpose and design are different.
Quantitative easing involved buying large amounts of longer-dated Treasuries and mortgage-backed securities to push down long-term borrowing costs and support the economy. Reserve Management Purchases focus on bills, which mature within a year, and are sized to meet the banking system’s need for reserves rather than to change financial conditions. They are technical by design and are not meant to stimulate the economy. The Fed’s policy stance is still set through its target range for the federal funds rate.
Why reserve forecasting matters
To decide how much to buy, the Fed has to forecast how reserves will move, which means projecting flows it doesn’t control, such as the Treasury’s cash balance, use of the reverse repo facility and demand for currency. A badly wrong forecast can let reserves slip below ample without warning.
The clearest example came in September 2019. Corporate tax payments and the settlement of new Treasury debt drained reserves at the same time, overnight repo rates spiked sharply and the federal funds rate briefly moved above its target range. The Fed responded with emergency repo operations and then began buying bills to rebuild reserves, an episode that shaped today’s approach.
Perli said the New York Fed’s forecasting process is robust and generally quite accurate, and that misses over the past four years have been a very small fraction of total reserves and easily absorbed by the ample reserves framework. In effect, the Fed is telling markets it can keep reserves close to where it wants them without risking a repeat of 2019.
Central clearing and the standing repo operations
Perli’s final point concerned how the standing repo operations are structured. At present, these trades are not centrally cleared. Central clearing would route them through a clearinghouse that sits between the Fed and the borrowing firm.
The main appeal is balance sheet efficiency. When trades are centrally cleared, dealers can often net offsetting positions, reducing the cost to their balance sheets of using the facility. That could make firms more willing to tap it during periods of market stress, which is precisely when the Fed wants it used as a backstop. Perli framed the benefits strictly from an implementation perspective and did not announce any change.
What to watch
Perli’s remarks describe a Fed that believes its framework is working and wants to keep its options open. For markets, the practical signals are:
- A restart of bill purchases would indicate the Fed sees liquidity tightening, not a move toward easier monetary policy.
- Short-term funding rates, particularly repo rates around the end of September quarter-end and around tax dates, relative to the Fed’s target range. Upward pressure there is the earliest warning that reserves are getting tight.
- Any formal step toward offering centrally cleared standing repo, which would strengthen the Fed’s backstop for money markets.
This article was written by Eamonn Sheridan at investinglive.com.