23 Not only will this system likely mean that banks’ binding constraint on reserve levels will be different from before the crisis, but also that bank behavior when reserves decline will likely be different. For example, in comparison to the 14-day maintenance period I mentioned earlier under Regulation D, many of these new constraints are measured quarterly, while some are measured daily for certain purposes. This means that signs of reserve scarcity may emerge differently and on a different timescale than they would have in the old system. Moreover, banks 20  For example, there has been an expansion of access to centrally-cleared repo, through the introduction of the GCF Repo Service’s Centrally Cleared Institutional Triparty Service (CCIT), which opened the centrally-cleared triparty repo market to institutional cash lenders, and the growth of activity in the centrally-cleared bilateral repo market by institutions being sponsored by members of the Fixed Income Clearing Corporation’s (FICC) Government Securities Division. Separately, some foreign banking organizations that had been active borrowers in the offshore Eurodollar market have shifted their borrowing in favor of domestic deposits that are economically similar to Eurodollars. 21 Kroeger, McGowan, and Sarkar (2018) provides detailed background on behavior of the pre-crisis framework. 22 The Regulation D reserve requirement is still binding for many smaller banks.
As we move forward, we will continue to learn about demand for reserves and other Federal Reserve liabilities and market functioning, and may adjust the specifics of the plan as appropriate. What Does All of This Mean for SOFR? That’s a lot on monetary policy, interest rates, reserves, and repos. But before I close, I’d like to emphasize an important point about a particularly important repo benchmark rate, and that’s the Secured Overnight Financing Rate, or SOFR. SOFR is the reference rate that the Alternative Reference Rates Committee (ARRC) has selected as the preferred replacement for LIBOR. At the same time that we saw turmoil in the repo market, we saw a temporary spike in SOFR. As market participants make preparations to transition away from LIBOR, they’re understandably watching SOFR very closely. There are a few things I’d like to highlight with respect to SOFR. First, a temporary spike is not surprising, given that SOFR reflects rates on real-world transactions. Second, the very fact that we saw a spike in SOFR is an indication of how representative of its underlying market it is. It’s based on actual transactions, rather than judgment (like LIBOR), which is part of what makes SOFR so robust. Third and final, is that in the vast majority of use cases, the relevant metric for SOFR is an average over time. Focusing on overnight SOFR isn’t particularly useful in this context, as financial contracts will generally refer to an average of SOFR over many weeks or months.