The Federal Reserve Bank of New York will begin publishing a new metric designed to present a clearer picture of what banks are paying for funding, which may give regulators a new tool to set policy.
The New York Fed will start releasing the new rate, called the overnight bank funding rate, sometime in the first few months of 2016, a group of economists wrote in a blog post this week. The rate will be based on the federal funds rate, which is the rate at which banks trade money held at the Fed, and the so-called Eurodollar rate, which is the cost of U.S. dollars held by foreign banks.
The rate "will provide a new measure of overnight U.S.-based bank funding costs," the N.Y. Fed economists wrote in a blog post published Monday. "Since it is based on a larger set of transactions than other existing rates, it will offer market participants a more comprehensive gauge of overnight unsecured borrowing costs for U.S.-based banks."
The rate should allow banks and researchers to get a more accurate picture of funding costs, but it is not clear whether the new rate is part of the Fed’s efforts to reform Libor, or the London interbank offered rate.
The Federal Reserve is one of a number of organizations, including the Bank of England and the European Central Bank, that have been trying to reform Libor since 2008, when it was revealed that banks had been manipulating the benchmark for years.
There are about $300 trillion worth of financial instruments based on Libor. Part of the problem with Libor is that it is based on banks’ estimates of their funding costs, rather than their actual transactions, making it susceptible to gaming, experts say.
The overnight funding rate was not created as a Libor replacement, but in February, the Fed’s Alternative Reference Rate Committee, which was set up to study Libor alternatives, began considering whether it would make a good benchmark. They have not yet reached a conclusion, based on records of their meeting minutes.
The new rate will give policymakers a clearer picture of banks’ costs of funding, but it’s not likely to be used as a Libor-like benchmark, said Darrell Duffie, a Stanford University professor who has written extensively on Libor and chaired a group set up by the Financial Stability Board to study rate reform.
He argues that it will be "more representative" of actual funding costs that the current federal funds rate. However, Libor is based on three- and six-month funding rates, while the overnight funding rate is much more short-term, so it’s unlikely to be adopted as a replacement benchmark, Duffie said.