Chapter 25
Fed Watching and
Policy
Implementation
©2000 South-Western College Publishing
Asymmetrical Directive
FOMC directive that implies
the Fed is more prepared to
move policy in one direction
than in another
2
Symmetrical Directive
FOMC directive that implies
the direction of the next policy
move is equally likely to be up
or down
3
Total Reserves
Total
Reserves
Demanded
Buffer
against check
clearing
needs and
other
uncertainties
Transactions
deposits

Excess
Reserves
+
Required
Reserves
Reserve
Ratio
=
Total
Reserves
Supplied
=
Borrowed
Reserves
(discount
window)
+
Nonborrowed
Reserves
=
=
Total
Reserves
Components
Deposits at
the Fed
+
Vault Cash
4
Exhibit 25 - 1
Reserve Need
The projected amount of
reserves to be supplied or
withdrawn by open market
operations to maintain or reach
the existing levels of
borrowings and the fed funds
rate prescribed by the policy
directive
5
Retail Sweep Accounts
Retail accounts with balances
swept out of deposit accounts
subject to reserve
requirements into savings
accounts that are not subject
to reserve requirements
6
Calculation of Demand and
Supply of Reserves
•Two-week maintenance period
•Two-week computation period
•Lagged reserve accounting
7
Maintenance Period
The period in which banks
are required to hold
reserve assets
8
Computation Period
The period during which the
actual amount of required
reserve assets that must be
held during the maintenance
period is determined
9
Lagged Reserve Accounting
•Began July 30, 1998
•reserve maintenance period
begins 30 days after the
beginning of the two-week
computation period
10
Bank Reserves Equation
The equation showing the relationship between
reserves and other items on the Fed’s balance
sheet:
DF=reserve balances of depository institutions with the Fed,
C=currency outside the Fed, TD=treasury deposits, OL=other liabilities,
GS=government securities held, IR=Gold and SDRs, L=discount loans, F=float,
OA=other assets
DF + VC =
R = GS + IR + L + F + OA
– C – TD – OL
11
Outright Transactions
Open market purchases
that supply reserves or
open market sales that
withdraw reserves
12
Temporary Transactions
Short-term transactions that
include:
•System repurchase agreements
•Matched sale-purchase
transactions
13
System Repurchase
Agreement
Agreement arising when the
Fed Trading Desk buys
securities on a self-reversing,
temporary basis in order to
supply reserves on a
temporary basis
14
Matched Sale-Purchase
Transactions
(or Reverse Repurchase Agreements)
The Fed’s simultaneous sale
and purchase of securities for
delivery the next day or in a
few days to withdraw reserves
on a temporary basis
15
Watching the Fed
1. Watch the data the Fed watches
2. Remember the Fed reacts to
economic events and does not
anticipate them
3. Pay more attention to what the
Fed does, not what it says
4. Keep in mind the Fed prefers to:
- act covertly
- adjust policy gradually
16
A Guide to Open Market Operations
I. Fed Activity - No Fed buying or selling on this
day.
Translation - The Fed is not expected to intervene.
Implication - A reserve add or intervene drain is
not required. Or it can be accommodated later
when more information is available or market
conditions begin to more clearly reflect or indicate
the need.
Exhibit 25 - 2
17
A Guide to Open Market Operations
II. Fed Activity - The Fed uses matched sales.
Translation - Trading Desk sells Treasury
securities to primary dealers. Buyers agree to sell
them back at a specified time, usually the next day,
which temporarily absorbs reserves.
Implication - A reserve drain is required, which
may mean either (a) the drain is consistent with
prevailing Fed policy and necessary to prevent
undesired fed funds rate declines, or (b) the Fed has
eased.
Exhibit 25 - 2 cont.
18
A Guide to Open Market Operations
III. Fed Activity - The Fed engages in system
repurchase agreements.
Translation - The Trading Desk provides funds
(reserves) in exchange for Treasury securities with
an agreement that dealers will repurchase them,
usually the next day, which temporarily increases
reserves.
Implication - Reserves must be added, may mean
either (a) the increase is consistent with prevailing
policy, necessary to prevent undesired fed funds
rate increases, or (b) the Fed has eased.
Exhibit 25 - 2 cont.
19
A Guide to Open Market Operations
IV. Fed Activity - The Fed makes outright sales.
Translation - Permanent transaction has occurred
with no resale agreements. The Fed sells Treasury
securities in the open market, absorbing reserves,
Bills only are sold.
Implication - Reserves are drained out of the
banking system. Such a move is usually not
associated with a change in policy, but conducted
seasonally and occasionally when underscoring a
policy move toward restraint.
Exhibit 25 - 2 cont.
20
A Guide to Open Market Operations
V. Fed Activity - The Fed makes outright purchases.
Translation - Opposite of an outright sale has
occurred. The Fed buys securities in the open market
with no repurchase agreements on the part of the
sellers, injecting reserves permanently.
Implication - Reserves are permanently added. The
action is usually not associated with policy
implications. Conducted seasonally to provide for
economic growth. Can occasionally signal policy
moves toward easing.
21
Exhibit 25 - 2 cont.