A rapid fall in bank reserves held at the Federal Reserve, coinciding with an expected shortage of U.S. Treasury bills as the debt ceiling battle looms, has raised concerns from investors about potential stress in financial markets.
As of March 8, bank reserves during the week averaged $2.999 trillion, Fed data show, falling around $1.3 trillion from a peak of $4.3 trillion in December 2021. In the last QT cycle, $1.3 trillion in liquidity was withdrawn in five years.
"If the Treasury is unable to issue bills because of the debt ceiling, then you get more cash into reverse repos and that brings reserves down further," said John Velis, FX and macro strategist at BNY Mellon in New York. That low deposit rate has led to deposit outflows. Deposits have been declining since the second quarter of last year, according to Fed data on banks' assets and liabilities.
"But banks reliant on non-core funding, have deposit concentrations, or large unrealized losses in their securities portfolios could face more pressure in this environment."Deposit outflows, reverse repos, and bank reserves are all inter-related. Deposits are finding their way into money market funds which invest in reverse repos. Higher reverse repo usage, in turn, effectively cuts reserves.
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