|
Information > Financial Terms > This page Federal Funds Literally, "FUNDS AT THE Fed," i.e., immediately
available funds at a Federal Reserve bank.
Sources of federal funds include excess reserves (reserve balances
at a Federal Reserve bank in excess of legal reserve requirements) of
member banks, checks on the U.S. Treasury's or foreign balances at a Federal
Reserve bank, and checks drawn in payment for purchases by the Fed of
U.S. government securities. The principal sources of demand for federal
funds are member banks deficient in required reserves (see LEGAL
RESERVES) and using federal funds as a fine very short-term (as short
as one day) adjustment in reserve position, and other member banks (e.g.,
a major New York City member bank which announced the policy in 1964)
which deliberately use federal funds as a source of additional reserves
for earning assets, a situation feasible at times of tight money but high
money rates. Nonbank demand
for federal funds is principally from U.S. government securities dealers
to finance their inventories; there is also participation by foreign banks
and their agencies and domestic noncommercial bank financial institutions. Intermediaries in the market for federal funds,
bringing together buyers and sellers of federal funds, consist of some
banks and brokers in New York City, correspondent banks, and similar interbank
contacts. In addition, there
is direct contact between buyers and sellers of federal funds. The standard unit of trading in federal funds
among the larger banks is $1 million, and among the smaller banks, $200,000. The straight one-day transaction in federal funds is unsecured
and involves the accounting shift of reserve balances on the books of
the Federal Reserve bank, the selling bank's reserve balance being debited
and the buying bank's reserve balance being debited and the buying bank's
reserve balance being credited.
These entries are reversed on the following day, the interest involved
being paid by separate entry. Secured
transactions in federal funds, secured by U.S. government securities,
are often found among the smaller banks, in lieu of repurchase agreements.
Purchases of federal funds by national banks are not indebtedness
subject to the general limitation on a national bank's borrowing (not
over capital stock unimpaired plus 50% of unimpaired surplus fund), pursuant
to Comptroller of the Currency's Ruling 7518.
Nor is such a purchase of federal funds subject to the general
10% limit on loans to any one single borrower (10% of the bank's capital
and surplus), pursuant to the Comptroller of the Currency's Ruling 1130. Federal Funds Rates Since member banks have recourse to borrowing
from the Federal Reserve banks, it would be supposed that the discount
rate would serve as a ceiling on federal funds rates.
Rates on Federal funds, however, may go above discount rates of
Federal Reserve banks because in periods of tight money and deficiencies
in reserves member banks may already have borrowed from the Fed or may
wish to avoid doing so, and also because some banks may use borrowed federal
funds as a source of funds for earning asset expansion.
Federal funds rates as guides to monetary policy: The table appended herewith gives the ranges
of market rates on federal funds in recent years. BIBLIOGRAPHY Board of Governors of the Federal Reserve System.
Annual Report. Federal Reserve Bulletin.
Various issues. GOODRIEND, M.
"A Model of Money Stock Determination with Loan Demand and a Banking
System Balance Sheet Constraint."
Federal Reserve Bank of Richmond Economic Review, January/February,
1982. GOODFRIEND, M., and HARGRAVES, M.
"A Historical Assessment of the Rationales and Functions of Reserve
Requirements." Federal
Reserve Bank of Richmond Economic Review, March/April, 1983. HUMPHREY, T.M., and KELEHER, R.E.
"The Lender of Last Resort:
A Historical Perspective."
Cato Journal, Spring/Summer, 1984. RINGSMUTH, D.
"Custodial Arrangements and Other Contractual Considerations." Federal Reserve Bank of Atlanta Economic Review, September,
1985. |