In this advisory, we note key points to consider as the policy framework reshapes bank funding strategies in concert with an array of unprecedented market drivers both domestically and internationally:

  • U.S. G-SIBs non-operational, non-core deposits will shift to MMFs and other cash-equivalents.  When interest rates rise, non-interest-bearing deposits will join them in a dramatic shift to MMFs and other products. 
  • Treasury’s Office of Financial Research (OFR) concludes this could cause liquidity risk for banks and redemption risk for asset-management products over time and even cause severe spikes if interest rates become increasingly volatile.  The SEC has responded to pressures like those from OFR by accelerating work on MMF liquidity risk.  We do not think this will move fast enough or satisfy Treasury and the FRB, but the FRB’s tools to address funding-market realignment on its own are limited.
  • The Bank of England’s approach to changes in bank funding does not anticipate structural market change because it assumes that banks can pass on higher funding costs.  These higher costs raise monetary-policy and systemic-risk concerns in the U.K. and EU that we believe also apply in the U.S.  However, it will be far more difficult for U.S. banks simply to pass funding costs through to borrowers due to the significant and growing share non-banks play in key financial sectors. 
  • U.S. funding cost hikes will be larger than those in most other nations because of the application of the G-SIB leverage ratio and the pending G-SIB capital/liquidity surcharge.  U.S. liquidity-risk rules are also tougher than global ones and come into effect faster.  As a result, funding-market restructuring will be greater, faster, and pose more near-term systemic risk.
  • A top strategic priority for large banks is to develop alternative funding products through asset-management and related activities.  This will not address monetary-policy or systemic-risk concerns, but preserve client relationships.  Over time, it will be vital for large U.S. banks – regional ones as well as G-SIBs – to develop these alternative funding channels to preserve their role as financial intermediaries outside commoditized, securitized sectors.  However, there is significant policy risk to this strategic response if the FRB tries to shut down this realignment out of fears it is merely regulatory evasion.

The conclusions laid out above build on our assessment last week of systemic-risk drivers based in part on the 2014 report from the Office of Financial Research (see Client Report SYSTEMIC74).  The new paper from the Bank of England reinforces our analysis, with the Wall Street Journal story today validating conclusions FedFin laid out as early as March in papers prepared for the OCC and Federal Reserve

Please let us know if you need direction to FedFin reports and analyses in this arena or if you have questions and comments by sending an email to or call us at 202-589-0880.