Federal Reserve Board releases results of survey of senior financial officers at banks about their strategies and practices for managing reserve balances

November 2021

Senior Financial Officer Survey

B O A R D O F G O V E R N O R S O F T H E F E D E R A L R E S E R V E S Y S T E M

Summary

In November 2021, the Federal Reserve conducted a Senior Financial Officer Survey (SFOS) to gather views systematically from a number of banks on reserve management experiences in recent months, expectations for balance sheet management in the months ahead, wholesale funding market activity, and the potential for additional investment in high-quality liquid assets (HQLA).1 In addition, the survey gathered views on the Federal Reserve's recently established standing repurchase agreement (repo) facility (SRF).

As in previous surveys, the November SFOS was distributed to 80 banks, representing a wide range of asset sizes and business models. The Federal Reserve distributed the survey to senior financial officers at these banks on November 5, 2021, with replies due by November 19, 2021.2 Responses were received from 79 banks, comprising 45 domestic banks and 34 foreign banking organizations (FBOs).3 In aggregate, respondents' banks held roughly three-fourths of total reserve balances in the banking system at the time of the survey.

Key takeaways from the survey included the following:

• Close to one-half of the survey respondents reported that their bank had taken actions to reduce either the level or growth in its reserve balances in the last six months.
  -Among these respondents, a concern about net interest margins and an increase in the expected return on alternative HQLA investments relative to the interest on reserve bal- ances (IORB) rate were the factors most commonly cited as important or very important in the decision to take such actions. Among respondents who rated these factors highly, most reported that increased holdings of other assets, including other Level 1 HQLA, non-Level 1 HQLA, and non-HQLA assets, were an important or very important com- ponent of their bank's reserve management strategy.
  -Among respondents who reported that a concern about net interest margins or a desire to preserve or decrease balance sheet size was an important or very important factor that prompted their bank's actions, the most commonly reported important or very impor- tant liability adjustment actions were allowing outstanding wholesale funding liabilities to mature without replacement and reducing deposit rates on non-operational deposits.
• About one-fourth of respondents reported that their bank had taken actions to reduce the level or growth of its entire balance sheet in the last six months.
• Looking ahead, about 40 percent of respondents reported that they expect their bank to take actions to reduce the level or growth of its reserve balances in the next six months.
• Almost 40 percent of the respondents whose bank is not already a counterparty to the SRF reported that their bank has expressed or intends to express interest in becoming a counter- party. Among these respondents, the factors that were most commonly reported as impor- tant or very important in explaining the interest in the SRF were that the SRF comple- ments the discount window as a backstop liquidity source, that the respondent's bank holds

1. HQLA, including Level 1 HQLA, are defined in section 249.20 of Regulation WW (Liquidity Risk Measurement Standards).
2. Respondents were asked to specify the reserve holding entities that were covered in their survey responses.
3. The FBOs consisted of U.S. branches and agencies of foreign banks as well as one U.S. commercial bank that exhibited reserve management behavior more akin to this group than to similarly sized domestic banks.

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2 November 2021 Senior Financial Officer Survey

a large amount of eligible securities so an additional liquidity source would be beneficial, and that the SRF would provide increased short-term monetization capacity for the bank's HQLA portfolio. Among the respondents whose bank is not interested in becoming a counterparty to the SRF, the factors most commonly reported as important or very important to that outlook were that the respondent's bank does not need an additional source of liquidity and that the respondent's bank is not set up to transact as a cash borrower on the tri-party platform and the incremental cost of establishing and maintaining this capacity exceeds the benefit of being an SRF counterparty.

The remainder of this summary is organized into three parts that reflect the structure of the survey, and the summary is followed by a detailed tabular presentation of responses.4

Part I: Reserve Balance Management Strategies and Practices

(Questions 1-4)

The questions in Part I asked respondents about the actions and plans that affect their bank's reserve balances and overall balance sheet.

The first part of the first question asked respondents whether their bank had taken actions to reduce or increase the level or growth of its reserve balances in the last six months. Close to one-half of the respondents-37 of 79, almost all of them from domestic banks-reported that their bank had taken action to reduce either the level or growth of its reserve balances. An equal number of respondents, predominantly from foreign banks, reported that their bank took no action to adjust the level or growth of its reserve balances, while a small number reported that their bank took actions to increase the level or growth of its reserve balances.

In the second part of the first question, the 37 respondents who reported their bank had taken actions to reduce the level or growth of its reserve balances in the last six months were asked to rate the factors that prompted these actions. Of these respondents, about 60 percent (22 of the 37) reported that a concern about net interest margins was an important or very important factor and about 55 percent (20 of 37) indicated that an increase in the expected return on alternative HQLA investments relative to the IORB rate that banks earn on their reserve balances was an important or very important factor. In addition, 35 percent of these respondents (13 of 37) reported that a desire to preserve or decrease balance sheet size was an important or very important factor.

The third part of the first question was answered by the 25 respondents who reported that an increase in the expected return on alternative HQLA investments relative to the IORB rate or a concern about net interest margins was an important or very important factor that prompted their bank's actions to reduce the level or growth of its reserve balances. These respondents were asked to rate the importance of certain asset adjustment actions as components of their bank's reserve management strategy over the last six months. Majorities of these respondents reported that increased holdings of other Level 1 HQLA (such as Treasury securities), non-Level 1 HQLA (such as mortgage-backed securities and corporate bonds),

4 For the most part, the instructions and survey questions presented in each table are the same as the ones distrib- uted to the respondents, with minor adjustments to enhance clarity. As not all respondents answered every ques- tion, the number of respondents answering each question is reported in the accompanying data tables.

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and non-HQLA assets (such as commercial loans) were important or very important actions; these actions were cited by 14, 15, and 14 respondents, respectively.

The fourth part of the first question was answered by the 32 respondents who reported that a concern about net interest margins or a desire to preserve or decrease balance sheet size was an important or very important factor that prompted their bank's actions to reduce the level or growth of its reserve balances. These respondents were asked to rate the importance of certain liability adjustment actions as components of their bank's reserve management strategy over the last six months. Among these respondents, the most commonly reported important or very important actions were allowing outstanding wholesale funding liabilities to mature without replacement and reducing deposit rates on non-operational deposits; these actions were each cited by 17 respondents.

The first part of the second question asked respondents whether their bank had taken action to reduce the level or growth of its entire balance sheet in the last six months. About one- fourth of respondents-21 of 79-reported that their bank had taken such action, with the remainder reporting that their bank had not taken such action.

In the second part of the second question, the 21 respondents who reported their bank had taken action to reduce the level or growth of its entire balance sheet in the last six months were asked to rate the factors that prompted such action. No specific factors were cited as important or very important by a majority of these respondents.

The first part of the third question asked respondents whether they expect their bank to take actions to reduce or increase the level or growth in its reserve balances in the next six months. Over 50 percent of the respondents-44 of 79-reported that they expect their bank to not take specific actions to adjust the level or growth in its reserve balances. Another 40 percent of respondents-33 of 79-reported that they expect their bank to take actions to reduce the level or growth in its reserve balances, while the remaining few respondents reported that they expect their bank to take actions to increase the level or growth of its reserve balances.

In the second part of the third question, the 33 respondents who reported that they expect their bank to take actions to reduce the level or growth of its reserve balances in the next

six months were asked to rate the likelihood that their bank would take specific actions in this regard. Among these respondents, the actions most commonly reported as likely or very likely included encouraging clients to place funds in alternative liquid investments and allowing outstanding term wholesale funding liabilities (for example, negotiable certificates of deposit or commercial paper) to mature without replacing, each cited by 14 respondents.

The fourth question provided respondents with an opportunity to share any additional information relevant to their bank's reserve or balance sheet management strategy. Twenty-three respondents provided substantive comments. Most of the comments reinforced or elaborated on views that had already been expressed. Some respondents provided more context for their bank's reserve and balance sheet management strategies, but these comments did not have common themes.