ENP Newswire -
Release date- 07082014 -
The research examines the relationship between monetary policy operations that supply reserves to the banking system and the trading of such reserves within the interbank market. The financial crisis prompted radical changes in how official operations are conducted which directly provided unlimited liquidity to a large number of banks for longer term to maturity than ever before. This paper explores the effect of this on the interbank market
The main findings of the research are as follows:
During the period from 2003 to 2007 reserve requirements were quite static while there is evidence of progressive improvement in the efficiency of the interbank repo market. This released capital for longer term lending.
The rise in interest rates in the immediate pre-crisis period gave rise to a contraction in repo market activity.
The relaxing of reserve auction conditions in the pre-Lehman crisis period improved the allocation of reserves across banks but didn't significantly improve interbank market conditions. This also led to divergence in the weighted average auction rate from a level consistent with interest rate policy.
The move to fixed-rate full allotment auctions after the
While the new reserve auction arrangements solved a liquidity problem for banks without access to interbank markets, it also took away incentives for them to engage in structural improvements to help them access longer term funding and new equity capital.
Reintroducing a variable rate auction with a sufficiently liberal supply of reserves would prevent actual funding rates deviating too far from the monetary policy rate. This would allocate reserves better and incentivise banks that end up bidding higher in auctions to make structural changes to improve their access to cheaper reserves in the interbank market.
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OCTOBER 31, 2014
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