Exchange Settlement balances held by banks with the Reserve Bank of Australia are poised to slump to little more than $200 billion as banks repay their Term Funding Facilities by the middle of the year.
The RBA then projects ES balances will decline to roughly $70 billion by 2028, drastically reducing the size of the Reserve Bank’s balance sheet. This compares with a post-pandemic peak in ES balances of in excess of $450 billion.
“The unwinding of unconventional monetary policies is leading to a decline in Exchange Settlement balances” Christopher Kent, assistant governor for financial markets explained in a speech to a Bloomberg Australia Briefing in Sydney yesterday.
Kent used the speech to outline a material shift in the RBA’s approach to “the future system for monetary policy implementation – that is, the method by which the Reserve Bank controls the cash rate.”
The RBA board, Kent said, at its meeting this month endorsed plans “to move to an ‘ample reserves’ system with full allotment repurchase agreement (repo) auctions for our Open Market Operations.”
The Bank of England, the European Central Bank and the Swedish Riksbank have announced they will be operating similar systems.
An ample reserves system, Kent said, is one “in which banks’ demands for reserves are satisfied via open market repo operations at a price near the cash rate target, in what are known as full allotment auctions.
“Together with the floor provided by the ES rate, these operations should keep the cash rate close to target.
“Setting the price of reserves in this way is in contrast with the scarce and excess reserve systems, where the central bank sets the quantity of reserves in order to affect the price.
“Under the ample reserves system, the supply of reserves can rise and fall in line with changes in demand, with minimal effects on the cash rate and other money market rates.
“The board sees a number of advantages with this new approach” Kent said.
“Since the supply of reserves from the RBA will respond to changes in demand, we do not need to accurately estimate demand nor control the quantity of reserves.
“In short, it is simpler to operate than a scarce reserves or excess reserves system.
“An ample reserves system also reduces the risk of unnecessary volatility or disruption to conditions in money markets. Similarly, it is more resilient to any future expansion in the RBA’s balance sheet if, for example, there was a need to address extreme stresses affecting bond markets, such as at the onset of the pandemic.
“That said, in this system, banks will still need to ensure they manage their liquidity carefully, including by obtaining sufficient liquidity at OMOs.”