Friday, December 18, 2015

Fed Raises Target Funds Rate But Little Else

Well, it is finally done.  Federal funds traded yesterday at 0.35 percent, up from 0.11 to 0.13 where it had been prior to this week.   How did this happen?  The Fed now pays 0.50 % on excess reserves deposited (by commercial banks) at the Fed.  It makes you wonder why anyone lends reserves to anyone else at less than 0.50 %.

In the good old days, the textbooks say, the Fed would raise the target on the funds rates by making reserves scarce (open market sales of treasuries were cited as the appropriate mechanism).  Scarcity in the funds market would then spill over into money markets and all rates would rise accordingly.  That was in the good old days.

This week's raise seems to have affected no other rates in the money market arena -- cd rates are unchanged, bill rates, treasury note issues all seem to have lower yields at the end of the week than earlier in the week.  So, besides funds and temporarily repo rates, of what significance is the Fed's raising its target funds rates.  Answer: apparently, zero.

Prime rates all jumped, but the prime rate is not a market determined rate and is often completely unrelated to the actual lending rates paid by prime customers.  This is probably just backdoor gouging by the commercial banks of their smaller customers.  No serious large lender would be impacted by a change, of any kind, in the announced prime rate.

Listening to Janet Yellen explain what the Fed was up to was interesting.  She thinks 2 percent growth is a sign of a good economy.  She did reference, indirectly, the strangling impact of Dodd-Frank on commercial lending.  She sees inflation as a major problem down the road.  Has no plans to reduce Fed's $ 3 trillion balance sheet.

So much for the Fed.  They have made the federal funds rate irrelevant.  Who cares what their target rate is?

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