The rate of interest paid on excess reserves (IOER) is one of the most important tools the Federal Reserve System plans to deploy when it starts to raise interest rates and offsets any resulting market volatility. This proposal tightens the link between changing IOER rates and short-term market rates, making this a more effective monetary-policy tool as well as a more potent remedy to financial instability. Because the FRB is most likely in the near term to raise IOER, the new approach will also increase the return banks receive on these excess reserves, bolstering profitability while also diminishing the pressure on banks to find safe havens for cash holdings.
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