ON RRP Facility and Bank Reserve

Question

The ON RRP is, to quote Fed of NY, "dropping like a stone". From a balance sheet perspective, i understand that MMF are pulling out their funds out of the RRP facility. Everything else equal, i understand it shoud lead to an increase in bank reserve in the liability side of the Fed as the money from the RRP facility will be transfered to a commercial bank deposit.

However, since the Federal Reserve is currently shrinking its balance sheet, it is not the case. I suppose that (1) on the asset size, the fed reduces its securities holding, on the liability side, the treasury general accound diminish by an equal amount, (2) at the same time, the MMF pulls its fund out of the RRP leading to a decrease in the ONRRP, which is compensated by an equivalent increase in reserve, (3) a commercial bank or an MMF buy a newly issues securities, thus leading to an increase in the size of the TGA and a decrease in bank reserve.

My questions are : 1. am i understanding the process correctly ? 2. why is the ON RRP decreasing before the bank reserve ?

Thanks a lot !

Answer 1

I think you have a decent understanding and you ask the right question at the end. In short, QT reduces the assets of the Fed, which must be balanced by a reduction in their liabilities. It is reasonable to assume that the TGA will fluctuate but remain roughly constant (currently around 750bn), so the question is, how should the reduction be split between the RRP and bank reserves. What has happened is that RRP has taken the brunt of the reduction whereas bank reserves have actually increased. This was not necessarily expected and was a source of some debate prior to the beginning of QT. In retrospect , the mechanism appears to be that MMF have purchased newly issued TBills by reducing RRP balances. Meanwhile, deficit spending by the Treasury results in payments to the banking system , which increases bank reserves held at the Fed. The discussion now taking place is how much longer QT can be sustained whilst keeping bank reserves ample. An example of a recent paper

https://www.home.saxo/content/articles/macro/macro-update-qt-2024-01-11-11012024