Reuters: Wall Street banks see green light from Fed on reserves – sources

Wall Street banks believe they are getting a green light from supervisors to hold more Treasury debt and less cash after last month’s volatility in overnight lending markets, three industry sources told Reuters.

That change could help boost liquidity in the overnight lending markets, because Treasury bonds are a common type of collateral pledged by companies and investors in exchange for cash.

Banks have complained for years that the U.S. Federal Reserve can be painfully prudent with its view that Treasury bonds are not the same as ordinary dollars when used as a liquidity buffer.

In recent weeks, they have intensified efforts to get Fed officials and examiners to soften their stance, and initial signs suggest the industry may finally be getting a warmer reception.

In private conversations with senior bankers, supervisors have attempted to make banks more comfortable with using excess reserves to lend in repo markets rather than hold onto more cash, sources familiar with the discussions said.

The Fed declined to comment on conversations with regulated entities.

Banks hold regular meetings with Fed supervisors, who provide broad guidance on how to interpret regulations but do not offer formal instructions, people familiar with the matter say. Rather than be prescriptive about how to manage reserves, supervisors identify shortcomings and provide general feedback on capital plans put forward by the institutions.

Bankers previously came out of that process understanding that the Fed preferred them to hold cash rather than Treasury bonds in times of stress, industry sources said. A struggling bank looking to offload large volumes of Treasury bonds may need to do so at a deep discount, which is a worry for regulators.

“Banks have been to some extent instructed by their supervisors, at least through the years, that there is a preference or even a requirement … that the banks hold high levels of excess reserves,” said Bill Nelson, a former senior Fed official who is now chief economist for the Bank Policy Institute, which lobbies for larger banks.

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