Fed's RRP Usage Plummets Below $300 Billion Mark Amid Market Volatility

The New York Federal Reserve's data shows that the usage of the Federal Reserve's overnight reverse repurchase (RRP) tool fell below $300 billion on Tuesday for the first time since mid-2021.
Tuesday saw a total of 60 participants place $292 billion in the Fed's RRP tool. This figure is a mere fraction of the record $2.554 trillion set on December 30, 2022.
The RRP tool serves as a reservoir for idle funds from non-bank institutions, including banks, government-sponsored enterprises, and money market mutual funds, which park cash here to earn interest (currently, the RRP rate is 5.3%). It also functions as a cushion for bank reserves.
Market participants have been closely monitoring the RRP usage levels recently.
Amid recent financial market turbulence, some have warned that the decline in RRP usage may signal that excess liquidity has been drained from the financial system, and bank reserves may not be as abundant as central bank policymakers believe.
Since June, the Federal Reserve has slowed its balance sheet reduction pace by reducing the amount of maturing bonds it holds that it does not reinvest, easing potential pressure on money market rates.
However, the recent speed at which RRP usage has declined is concerning. Including Tuesday’s drop, the RRP tool's usage has fallen for four consecutive days, with a cumulative decline of over $120 billion during this period. It has also hit the lowest level in more than three years, dating back to May 2021.
The downward trend in the tool’s usage has been apparent since late July, coinciding with the onset of market volatility.
Furthermore, some industry insiders suggest that numerous RRP counterparties may be redirecting funds from the Fed's RRP tool to the higher-yielding overnight repo market. In this market, banks and financial firms such as hedge funds borrow short-term cash against collateral like government bonds or other debt securities.
Scott Skyrm, EVP at Curvature Securities, noted, "When investors sell off risk assets, they usually turn to cash, which typically gets funneled into the repo market."
Wrightson's chief economist Lou Crandall observed that last Friday’s surge in U.S. Treasury prices may have increased market financing needs, prompting money funds to inject cash into the private repo market.
Skyrm and Crandall's insights highlight that, in scenarios where equity markets are plunging, a shift toward the repo market rather than the Fed’s RRP tool might explain the slightly soft repo rates observed on Monday, which could persist through the week.
The evolving dynamics around the Fed’s RRP tool and the broader liquidity landscape warrant close attention, particularly given their potential implications for money markets and financial stability.
As financial actors adjust their strategies in response to changing market conditions, the intersection of bureaucratic interest rates, financial market liquidity, and investor behavior remains a critical area of observation.