Managing the Fed’s Liftoff and Transmission of Monetary Policy

IMF Working Papers, September 23, 2015

Source details

Canonical URL: Managing the Fed’s Liftoff and Transmission of Monetary Policy

In recent years, many money and repo rates in the United States have been between zero and 25 basis points.
The paper addresses:
- (i) whether the Fed can control short–term rates as it starts to tighten; and
- (ii) what are the advantages and disadvantages of using asset sales versus a large reverse repo program (RRP).
A large RRP by the Fed will deprive the financial system of the money pool (i.e., GSEs and money market funds) as the Fed will directly absorb the money on to its balance sheet.
A large RRP will "rust the financial plumbing" that connects the money pool to collateral suppliers.
Some asset sales may be preferred to a large RRP because this will result in a market-determined repo rate and will allow the Fed to reach its monetary policy liftoff objectives with minimal footprint on market plumbing.
The paper also discusses the cost of issuing short tenor T-bills relative to a large RRP in a rising rate environment.

Current short-term money and repo rates have been between zero and 25 basis points.
Control of short-term rates as tightening begins is a central question for the Fed.
Large-scale RRP implications:
- Direct absorption of money onto the Fed’s balance sheet removes the money pool (GSEs and money market funds).
- Removal of the money pool adversely affects the plumbing linking money providers to collateral suppliers.
Asset sales implications:
- Can produce a market-determined repo rate.
- May achieve liftoff objectives with less disruption to market plumbing than a large RRP.
Cost comparison:
- The paper examines costs of issuing short tenor T-bills versus employing a large RRP in a rising rate environment.

Evaluate trade-offs between asset sales and a large RRP when planning liftoff:
- Consider market plumbing impacts of a large RRP on GSEs and money market funds.
- Consider benefits of market-determined repo rates via asset sales to minimize footprint on market plumbing.
Assess the relative cost of short tenor T-bill issuance against carrying out a large RRP under rising rates.