Halister News

(Bloomberg) -- Fed’s future policy framework may “hang in the balance” of the next chair since there could be a shift away from the current “floor regime” that relies on IOER and RRP, which would further tighten funding conditions, BofA strategists Mark Cabana and Olivia Lima say in note. 

• If Chair Yellen or Governor Powell leads the Fed, they may be in favor of maintaining the floor
• Contenders like Warsh or Taylor “would likely favor a ‘corridor’ system that relies on a scarcity of reserves that would reduce IOER usage, increase fed funds trading activity, and require frequent open market operations to adjust reserves”
  • A shift away from IOER may result in a lower reserve level, “notably tighter” funding conditions, and greater volatility in U.S. money markets
• Funding conditions should tighten in 2018 as the debt ceiling is resolved and the pace of the Fed’s runoff accelerates; Treasury’s cash balance estimated to increase to $350b-$400b in early 2Q amid tax receipts and higher bill supply
  • Fed is projected to have $381b in Treasury, agency MBS roll off its portfolio in 2018, with the runoff pace accelerating to $90b in 2Q and $115b each in 3Q and 4Q
• $400b-$500b of reserve drains expected in 2019 and 2020, driven by $425b and $337b Fed portfolio reduction and growth in currency in circulation (estimated to avg ~5%/year); also expect lower RRP usage as the balance sheet shrinks
• Reserve scarcity may be evident during 2020 or early 2021, which may push Libor and fed funds/OBFR rates higher

To contact the reporter on this story: Alexandra Harris in New York at aharris48@bloomberg.net To contact the editors responsible for this story: Boris Korby at bkorby1@bloomberg.net Greg Chang