MBS Pricing Snapshot

"Interest On Excess Reserves" or IOER, is the interest banks earn for keeping more than the required amount of deposits in reserve at the Fed. Removing or cutting IOER has been discussed as one of the potential tools in the Fed's quantitative easing arsenal. The theory or assumption is that if the Fed stops paying interest on excess deposits, then Banks will be "forced" to "put that money to work" elsewhere, thus stimulating more lending.

But this is increasingly seen as a bullet that's less likely to be used in the near future, not only due to limited efficacy, but also because it could be more advantageously used in reverse to drain liquidity whenever the need finally arises. The following is from the NY Fed's economics blog today and discusses the "limited efficacy" part of the argument:

"The European Central Bank recently lowered from 0.25 percent to zero the interest rate it pays on funds that Eurozone banks hold on deposit with it. On the same day, Denmark’s central bank began charging banks 0.20 percent (that is, paying a negative interest rate) on certain deposits. These events have led commentators to ask what would happen if the Federal Reserve were to reduce the interest rate that banks in the United States earn on funds in their reserve accounts from its current level of 0.25 percent. In particular, some people wonder if lowering this rate would lead banks to hold smaller deposits at the Fed and instead lend out some of these “idle” balances. In this post, we use the structure of the Fed’s balance sheet to illustrate why lowering the interest rate paid on reserve balances to zero would have no meaningful effect on the quantity of balances that banks hold on deposit at the Fed."

Full Story:

10yr yields traded in a narrow 2.4bp range overnight in average volume to arrive at the domestic open in slightly better territory than Friday's latest levels. Fannie 3.0 MBS are 5 ticks better than their Friday close at 103-06 and stock futures are 3-4 points higher in the S&P.

In the news, the WSJ's Hilsenrath notes that this Friday's Jackson Hole speech from Bernanke will be tantamount to "closing arguments" for further Fed easing and in a separate speech overnight, Chicago Fed Pres Evans continues to advocate for ZIRP (zero interest rate policy) until unemployment falls below 7 per cent.

The other critically important central bank policies currently up for debate got even more attention overnight as Bundesbank's Weidmann noted that ECB bond-buying risked becoming addictive despite a separate report in a German paper noting that the German Finance Ministry was considering easing their stance on ECB buying. Even the ex ECB pres Stark chimed in to note his opposition to the proposed buying as well as the recently confirmed plans to target specific yields in peripheral debt.

Data was largely uneventful with a slightly weaker than expected sentiment reading in Germany failing to inspire much movement, though even less was seen with this morning's slightly stronger than expected Chicago Fed Midwest Manufacturing Survey. There's no further economic data in today's session. With the pivotal events more than a week away, and with the reaction trade to last week's FOMC Minutes having played out already, markets are in "watch and react" mode--more fore headlines on these first two days of the week, whereas the following two will offer more by way of econ data.