Those policy concerns may be tied to the potential impact the narrow bank could have on the fed funds rate itself, some market participants speculate. As other short-term assets become more attractive alternatives, the rate at which commercial banks make overnight loans to each other from the reserves they keep on deposit at the central bank will likely climb.
The potential for upward pressure on the fed effective rate comes at a particularly hairy time for officials, who in recent months have already begun to see it drift toward the top of their target band. In June they took the unprecedented step of lowering the IOER rate relative to the upper bound of the range in order to tighten control over their key monetary-policy setting tool.
Still, surging Treasury-bill supply and the central bank’s balance sheet unwind have helped shrink the gap between fed funds and the IOER rate to just a single basis point, the narrowest since 2009, and TNB would likely hamper any efforts to widen it out again.
Liquidity Lure
Fed officials may also be concerned about potential capital flight from money-market funds to narrow banks during times of stress, and their ability to weather prolonged periods of high short-end rates relative to the IOER rate, according to Mark Cabana, head of U.S. short-term interest rates at Bank of America Corp.
Recent spread compression is a drag on the narrow bank’s business model, McAndrews conceded, as it reduces the marginal benefit for depositors. Yet he expects institutional investors to be drawn to TNB regardless. He sees them being lured by the convenience and liquidity of being able to park cash at the Fed, and he’s confident the company is viable even in the current rate environment.
JPMorgan’s Roever, for his part, said TNB could see ample demand from depositors should it get Fed approval.
“There’s a lot of cash in the world that needs to be put to work in a given day,” Roever said. “The narrow bank potentially gives investors an option that they might not otherwise have access to.”
This article provided by Bloomberg News.