Bank of America (NYSE: BAC) Merrill Lynch economist said that the Federal Reserve must now start focusing on the interest rate that it pays on reserves as its primary monetary-policy tool.
This target rate is the rate at which banks loan each other money over night and is generally referred to as the Federal Reserve’s benchmark rate. The rate will generally fluctuate on any given day depending upon short-term money market trading and activities by the Federal Reserve to manipulate the rate up or down. The overnight Fed funds rate has remained at around 0.12% for the last month.
Paying interest onto reserves has been suggested by some Federal Reserve officials as a means of draining liquidity from the financial system to help stop fears of inflation when the economy’s engine picks up speed.
However, Bank of America doesn’t expect this shift to happen after Wednesday after the fed’s first two-day meeting of the year. Harris said that Bank of America is likely to keep the Federal funds range where it’s at now until March of 2011. Harris also believes the target range will increase to 0.75% to 1.00% by the end of 2011.
The transition to announcing a range of rates has moved the firm’s predictions for 3-month treasury bill rates to 0.5% at the end of this year and to 1.45% by the end of 2011.
