January 15, 2020 / 4:07 PM / 13 days ago

Fed's Harker says officials learned lessons from repo turmoil, still mulling standing facility

NEW YORK (Reuters) - The Federal Reserve’s efforts to boost reserves in the banking system helped to calm markets and make the much anticipated year-end period a non-event, and officials are still debating the details of a potential standing repo facility, a top Fed official said on Wednesday.

Philadelphia Federal Reserve Bank President Patrick Harker said one of the main lessons learned from the September rupture in money markets, when short-term borrowing costs spiked up to 10%, was that the amount of reserves needed by banks was larger than the Fed’s estimates. The incident also made it clear that banks are “reluctant” to use the Fed’s discount window to borrow cash when needed, Harker said in remarks prepared for delivery in New York at an event on economic policy.

“Central to this event is the question of why the liquidity did not flow smoothly to where it was needed most,” he said. “Are some of the market’s pipes rusty? Clogged? Are more needed? Has regulation inadvertently contributed to some erosion or blockage?”

The Fed calmed markets by injecting billions of dollars of temporary liquidity into the market for repurchase agreements, or repo. On Tuesday, the central bank said it will continue the operations until at least mid-February, longer than initially expected. The Fed will also continue purchasing $60 billion a month in short-term Treasury bills to grow the level of reserves.

Harker said officials are still mulling over potential tools to help manage liquidity. He said the conversations exploring a potential standing repo facility, which would let banks trade securities such as Treasuries for cash, are “still very much in the discourse, rather than the decision, phase.”

The central bank does not want to become the default provider of liquidity, Harker said in response to a question about the Fed’s hesitation to offer a standing facility, following the delivery of the remarks in New York on Wednesday.

“We don’t want to disintermediate markets. We don’t want to become the market for repo.”

Private-market solutions to manage liquidity may be still be possible, Harker said. What’s more, he noted, the design of a backstop repo facility would be complex.

Fed officials agreed unanimously to leave interest rates unchanged at the December policy meeting after lowering borrowing costs three times last year.

Harker, who becomes a voting member in policy decisions this year as part of the Fed’s rotation, previously said he did not support the September and October rate cuts.

Rates are currently in a “good place,” said Harker on Wednesday, unless there is a substantial change in inflation. He also acknowledged that long-standing low rates creates excessive risk-taking, which can jeopardize financial stability. Concerns about financial stability are one reason rates do not need to be lowered at this time, he said.

Reporting by Jonnelle Marte; Editing by Chizu Nomiyama

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