U.S. money market rates dropped to about one-year lows as a change in deposit insurance fees makes some banks reluctant to lend securities and the Treasury reduces issuance of bills to avoid exceeding the debt limit.
The average rate for overnight federal funds, known as the fed effective rate, fell to 0.09 percent yesterday, the lowest since June. The rate was 0.18 at the start of the year. The average rate for borrowing and lending Treasuries for one day in the repurchase agreement market fell to 0.028 percent, the lowest since at least May 3, 2010, or as far back as index data is provided by the Depository Trust & Clearing Corp.
The Federal Deposit Insurance Corp. began last week to adjust calculations of U.S. banks’ deposit insurance fees to being on all liabilities rather than just domestic deposits. The Treasury has cut the amount of Supplementary Financing Program bills, or SFPs, it sells on behalf of the Federal Reserve by $195 billion to help avoid exceeding the U.S. debt limit.
“The new FDIC assessment structure, while intended to better protect taxpayers from large bank failures, has distorted activity in the short-term rates markets,” Brian Smedley, a strategist in New York at Bank of America Merrill Lynch, said in an interview. “This change will discourage opportunistic borrowing by insured banks in the fed funds and repo markets in particular, as banks will avoid leveraging their balance sheets unnecessarily to reduce the fees they pay the FDIC.”
The FDIC wants to fund depositor protection while shifting the burden to larger lenders whose reliance on riskier funding may pose greater threats to the financial system. The move came in response to the Dodd-Frank Act’s financial-regulatory overhaul.
The FDIC doesn’t intend to modify the rule and said markets were given amble time to consider the rule before it was implemented and that the adjustment may prove to have positive effects on credit availability, Reuters reported. Greg Hernandez, an FDIC spokesman in Washington, didn’t immediately respond to telephone requests for comment on the fee adjustment.
Six-month Treasury bill rates declined to a record low of 0.1099 percent yesterday. The rate increased about 3 basis points, or 0.03 percentage point today, to 0.14 percent, according to Bloomberg Bond Trader data. Three-month bill rates fell to a 13-month low of 0.03 percent yesterday.
The DTCC index is a weighted average of all general- collateral repo transactions during a day. The DTCC processes about $3.6 trillion in repos transactions daily.
Government securities that can be borrowed in the repo market at rates close to the Fed’s target are said to be trading at the general collateral rate. Since dealers typically use repurchase agreements to finance their holdings, movements in the rates affect the cost of holding the securities in inventory and other interest rates.
The drop in overnight rates has come even with the Fed’s target rate for overnight loans between banks at a record low range of zero to 0.25 percent and as some policy makers call for higher rates.
Philadelphia Fed President Charles Plosser said last week the economy may improve quickly enough that the central bank would need to raise borrowing costs before year-end, while Minneapolis Fed President Narayana Kocherlakota said the funds rate may need to rise 75 basis points by late 2011. St. Louis Fed President James Bullard said the central bank may need to curtail its $600 billion bond purchase program before June.
“The drop in money market rates does not help the Fed,” said Thomas Simons , a government-debt economist in New York at primary dealer Jefferies Group Inc. “As far as their projections on what they can do in a tightening situation -- it certainly doesn’t help them to have less control over what they are doing now.”
The Fed pays banks 0.25 percent on excess reserves held at the central bank. The amount of banks’ excess reserves held at the central bank above required rose to $1.366 trillion from $1.218 trillion a month ago as the Fed’s Treasury purchase program boosted cash in the banking system. The Fed began paying interest on the reserves in October 2008 in an attempt to keep the benchmark U.S. overnight interest rate traded in the market close to the target set by policy makers.
The U.S. will reach its legal debt limit no later than May 16 unless Congress reaches an agreement on the budget, Treasury Secretary Timothy F. Geithner said yesterday. Congress must agree on spending for this fiscal year or risk a government shutdown when current spending authority ends April 8.
The rate on three-month bills rose to 0.07 percent today down from as high this year of 0.1572 percent on Feb. 1 and 0.0913 on March 31. One-month bill rates were at 0.0203 percent.
“The cut in SFP bills and the change in the FDIC assessment fees have sent the front end into overdrive, with rates falling,” said Kenneth Silliman, New York-based head of short-term rates trading at TD Securities Inc. “The threat of destabilization of the money markets is not a positive for the Fed and many money market funds we speak with are growing quite concerned that rates will decline further.”
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