{"id":187085,"date":"2026-04-06T13:01:19","date_gmt":"2026-04-06T13:01:19","guid":{"rendered":"https:\/\/www.newsbeep.com\/us-ny\/187085\/"},"modified":"2026-04-06T13:01:19","modified_gmt":"2026-04-06T13:01:19","slug":"the-fed-has-two-tools-to-influence-money-market-conditions","status":"publish","type":"post","link":"https:\/\/www.newsbeep.com\/us-ny\/187085\/","title":{"rendered":"The Fed\u00a0Has\u00a0Two\u00a0Tools to Influence Money Market Conditions\u00a0"},"content":{"rendered":"

\n Adam Copeland and Owen Engbretson\u00a0<\/p>\n

\t\"Image<\/p>\n

The Federal Reserve\u2019s 2022-23 tightening cycle involved the use of two monetary policy tools: changes in administrative rates and changes in the size of its balance sheet. This post highlights the results of a recent Staff Report<\/a>\u00a0that explores how these tools affect money market conditions. Using confidential trade-level data,\u00a0we find that both tools have significant effects on the pricing of funds sourced through repo. These results suggest that the Fed can manage how financing conditions are affected even as it influences economic conditions. For example, the Fed can lower its administrative rates to loosen economic conditions, while shrinking its balance sheet to\u00a0maintain\u00a0financing conditions in the money markets.\u00a0<\/p>\n

Background\u00a0<\/p>\n

Our\u00a0analysis focuses on Treasury repurchase agreements (repo), a critical financial market used to secure funding and provide liquidity, with an estimated size of\u00a0over $5\u00a0trillion outstanding in the first half of 2024\u00a0(see\u00a0the appendix of this white paper<\/a>). Secured funding trades in the U.S. are often documented as repos, and within repo, trades involving Treasury securities are the dominant type. Using data on Treasury repo, then, provides a representative look at secured funding conditions in the U.S.<\/p>\n

The U.S. Treasury\u2019s Office of Financial Research\u2019s (OFR) centrally cleared repo collection<\/a> provides such data. This collection captures most interdealer trading. Furthermore, a portion of dealer-to-client repo transactions are gathered through the central counterparty\u2019s Sponsored Service program, providing a window on pricing of trades between dealers and their mutual fund and hedge fund clients (see this Staff Report for more details on Sponsored Service<\/a>).<\/p>\n

Dealers are the main intermediaries in secured funding markets, borrowing from cash-rich investors such as money market mutual funds and lending to levered clients such as hedge funds (see this comprehensive report on dealers\u2019 intermediary activities<\/a>). The OFR data allow for the construction of the spreads charged by dealers to intermediate funds, as we observe the repo rate dealers\u2019 charge to lend funds to levered clients as well as the rates paid to borrow funds from mutual funds. The chart below shows the distribution of those spreads for overnight Treasury repo for each quarter from 2020 to 2024.<\/p>\n

Distribution of\u00a0Spreads\u00a0Charged by\u00a0Dealers, by\u00a0Quarter<\/p>\n

\"Sources: OFR centrally cleared repo data collection; authors\u2019 calculations.
Notes: This chart is a box-and-whisker plot of the average daily spreads charged by dealers to intermediate funding among clients by quarter. Spreads are computed as the rate charged by dealers to lend funds to clients in an overnight Treasury repo minus the rate paid by dealers to borrow funds from clients in an overnight Treasury repo. The three lines of the box represent the 25th, 50th, and 75th percentiles of the average daily spread. The lower whisker is equal to the 25th percentile minus 1.5\u00a0times the interquartile range (75th minus 25th\u00a0percentiles). The upper whisker is similarly defined. The plot excludes outside values.<\/p>\n

These statistics suggest that dealers charged wider spreads to intermediate funding with the tightening of monetary policy, which began in March 2022. The chart below displays the changes to monetary policy, both in terms of changes to the Fed\u2019s administrative rate of interest on reserve balances (IORB) and to the Fed\u2019s balance sheet (our measure is the amount of reserves that banks hold at Federal Reserve Banks plus the amount of cash placed at the Federal Reserve overnight reverse repo facility, hereafter Fed liabilities). Over the sample period, IORB increased from 15 to 540\u00a0basis points, with large steps up in 2022. At the end of the sample, in the last half of 2024, there are three decreases in IORB. Fed liabilities are hump-shaped: Starting at about $4\u00a0trillion, they rise steeply in 2021 to almost $6\u00a0trillion. They then stay roughly flat through the beginning of 2023, before steadily falling through 2024, reaching $3.5\u00a0trillion by December 2024.<\/p>\n

Monetary Policy Changes over the Sample Period<\/p>\n

\"Sources: Federal Reserve Bank of New York; authors\u2019 calculations.
Notes: This chart displays the evolution of IORB and the size of Federal Reserve liabilities as measured by the amount of reserves that banks hold at Federal Reserve Banks plus the amount of cash placed at the Federal Reserve overnight reverse repo facility.<\/p>\n

Analysis\u00a0<\/p>\n

Our analysis focuses on how monetary policy affects the cost to dealers to intermediate funding among clients. As intermediaries, dealers face risks, even for short-term trades where funding is secured by high-quality collateral (see\u00a0this Treasury Market Practices Group white paper for a distillation of these risks<\/a>). To mitigate these risks, dealers often hold a buffer of liquid securities, where the cost of holding this buffer should be reflected in the spread charged by the dealer.<\/p>\n

We term this cost the liquidity risk premium and note that this premium should vary with the opportunity cost of holding cash. Changes in monetary policy, both in terms of IORB and Fed liabilities, change the opportunity cost of holding cash. Our main empirical exercise, then, is to estimate how changes in both IORB and Fed liabilities influence the spreads charged by dealers to intermediate funds. The identifying assumption of this analysis is that the decision to change rates or Fed liabilities is exogenous to the spreads charged by dealers, a plausible assumption for this period of analysis when the Fed wanted to move from abundant to ample reserves.<\/p>\n

Our main results are that both an increase in IORB or a decrease in Fed liabilities raises the liquidity risk premium, driving up the cost of intermediating funding. The estimates imply that a one standard deviation increase in IORB, or 226 basis\u00a0points, drives up the liquidity risk premium by 2.1 to 3.5\u00a0basis points. A one standard deviation increase in Fed liabilities ($750\u00a0billion) drives down the premium by 1.6 to 2.5\u00a0basis points. These are economically significant effects, as evidenced by the fact that the average spread dealers charge clients to intermediate funding in the sample period is 7.5\u00a0basis points.<\/p>\n

The cumulative impact of each monetary policy tool on the liquidity risk premium is illustrated in the chart below. The estimated cumulative effects naturally mirror their respective monetary policy tools, although the magnitudes slightly differ because of the estimated nonlinear effects. For example, a $1\u00a0billion change in Fed liabilities has a larger estimated effect on the liquidity risk premium when IORB is low compared to when IORB is high.<\/p>\n

Estimated Cumulative Effect of Monetary Policy on the Liquidity Risk Premium<\/p>\n

\"Source: OFR centrally cleared repo data collection; author\u2019s calculations.
Notes: This chart displays the cumulative effect of monetary policy on the liquidity risk premium as implied from the estimated results, where the cumulative effect is set to zero at the beginning of the sample. A decomposition is also provided, separately showing the effect of changes to IORB and Fed liabilities on the liquidity risk premium.<\/p>\n

Takeaway\u00a0<\/p>\n

Over the last monetary tightening period,\u00a0the Fed\u2019s\u00a0increase in\u00a0IORB\u00a0and decrease in Fed liabilities both\u00a0drove up\u00a0the opportunity cost of money, pushing\u00a0up the liquidity risk premium.\u00a0A\u00a0key\u00a0insight from the results is the possibility of a wider range of outcomes on how the Fed impacts the\u00a0money markets.\u00a0For example, in a hypothetical situation where the economy needs support and the level of financial sector leverage is concerning, the Fed has tools available to offset both issues: lowering interest rates and decreasing its liabilities.\u00a0Lowering rates would bolster the economy through the usual channels, and a large enough decrease in\u00a0Fed liabilities\u00a0would result in a widening of the\u00a0spread\u00a0dealers charge clients to intermediate funds, dampening overall financial sector leverage. We can\u00a0quantify\u00a0those effects on the liquidity risk premium.\u00a0Using the values of rates and Fed liabilities at the end of the sample period, our results imply that a\u00a0100-basis-point decrease in\u00a0IORB\u00a0and\u00a0a $400\u00a0billion decrease in Fed liabilities would have largely\u00a0offsetting\u00a0effects on the liquidity risk\u00a0premium.\u00a0<\/p>\n

\"Portrait:<\/p>\n

Adam Copeland<\/a>\u00a0is a financial research advisor in the Federal Reserve Bank of New York\u2019s Research and Statistics Group.\u00a0\u00a0<\/p>\n

\"Owen<\/p>\n

Owen Engbretson is a research analyst in the Federal Reserve Bank of New York\u2019s Research and Statistics Group.<\/p>\n

\n How to cite this post:
Adam Copeland and Owen Engbretson\u00a0, \u201cThe Fed\u00a0Has\u00a0Two\u00a0Tools to Influence Money Market Conditions\u00a0,\u201d Federal Reserve Bank of New York Liberty Street Economics, April 6, 2026, https:\/\/doi.org\/10.59576\/lse.20260406<\/a>
\n BibTeX: View<\/a> | Download\n <\/p>\n

@article{AdamCopelandandOwenEngbretson\u00a02026,
\n author={Adam Copeland and Owen Engbretson\u00a0},
\n title={The Fed\u00a0Has\u00a0Two\u00a0Tools to Influence Money Market Conditions\u00a0},
\n journal={Liberty Street Economics},
\n note={Liberty Street Economics Blog},
\n number={April 6},
\n year={2026},
\n url={ https:\/\/doi.org\/10.59576\/lse.20260406}
\n}<\/p>\n

Disclaimer
The views expressed in this post are those of the author(s) and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System. Any errors or omissions are the responsibility of the author(s).<\/p>\n","protected":false},"excerpt":{"rendered":"Adam Copeland and Owen Engbretson\u00a0 The Federal Reserve\u2019s 2022-23 tightening cycle involved the use of two monetary policy…\n","protected":false},"author":2,"featured_media":187086,"comment_status":"","ping_status":"","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[6],"tags":[9,11,10],"class_list":{"0":"post-187085","1":"post","2":"type-post","3":"status-publish","4":"format-standard","5":"has-post-thumbnail","7":"category-new-york","8":"tag-new-york","9":"tag-new-york-headlines","10":"tag-new-york-news"},"_links":{"self":[{"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/posts\/187085","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/comments?post=187085"}],"version-history":[{"count":0,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/posts\/187085\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/media\/187086"}],"wp:attachment":[{"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/media?parent=187085"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/categories?post=187085"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.newsbeep.com\/us-ny\/wp-json\/wp\/v2\/tags?post=187085"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}