Potter Defends Repo Limits
Simon Potter, executive vice president of the Federal Reserve Bank of New York spoke Tuesday on "Interest Rate Control during Normalization," and recent changes to the Overnight RRP test exercise. He said, "To further examine how ON RRPs might best be structured to supplement IOER in controlling the fed funds rate while limiting the potential for unintended effects in financial markets, the FOMC recently directed the Desk to make several changes to the design of its ON RRP operations. In particular, as of September 22, the maximum bid limit per counterparty was raised from $10 billion to $30 billion, an overall size limit of $300 billion per operation was imposed, and an auction process was introduced to determine the interest rate on the operation and allocate take-up when the sum of bids exceeds the new $300 billion limit. The $30 billion individual bid limit was informed by evidence on the desired investments of counterparties that had bid at the previous maximum of $10 billion, and it took into account the size of assets under management of our counterparties. For almost all counterparties, the $30 billion limit is unlikely to be binding in any circumstances. The $300 billion overall limit was above total demand observed over the first year of testing, with the exception of the operation conducted at the end of the second quarter of this year." He continued, "So what are the benefits of moving from a structure with individual caps alone to one with an aggregate cap as well? One benefit is that, in limiting the overall take-up but not individual take-up, an aggregate cap should produce a more efficient allocation of usage among counterparties than would a system of individual caps. Further, an aggregate cap should better balance efficient control of money market rates under normal conditions with the risk of a destabilizing surge in use of the facility in times of stress. The reduced risk of a surge in use in a system with an aggregate cap comes from the fact that take-up across counterparties is not perfectly correlated. As a result, an aggregate cap that binds at some frequency can be set below the sum of individual caps that would bind for at least one of the counterparties at the same frequency.... The Federal Reserve has been closely analyzing the results of the ON RRP operations conducted under these new testing parameters in order to further its understanding of how an ON RRP facility should be structured during the normalization process. As many market participants anticipated the aggregate cap did bind on quarter end. The auction procedure went smoothly and while rates did trade soft on the quarter end, this was only a temporary phenomenon and there was no evidence of market disruption from the unfilled bids at the auction." The Wall Street Journal also covered his speech in, "N.Y. Fed's Simon Potter: Reverse Repos Effective in Setting Rate Floor." Finally, the Fed released the Minutes from its Sept. 16-17 FOMC meeting, saying, "Participants agreed to consider potential additional revisions to the ON RRP exercise at future FOMC meetings."
