bank system
- Thread starter sugar01
- Start date
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
sugar01 Wrote:
-------------------------------------------------------
> This question is a tricky one. When banks put
> reserves beside cash on their balance sheet, there
> do so the balance sheet looks fancy. In reality,
> there do not touch their required reserves.
> @Kilimanjaro is right when he says excess reserves
> can be turned into cash, but holding excess
> reserves is generally considered costly and
> uneconomical as no interest is earned on the
> excess amount, so there do not hold it at all.
>
> Banks get interest on marketable securities so
> there hold that, and turn that into cash when
> needed.
>
> See http://en.wikipedia.org/wiki/Excess_reserves
> for more information on excess reserves.
That's why they are loaned to other banks to earn interest at the fed funds rate.
-------------------------------------------------------
> This question is a tricky one. When banks put
> reserves beside cash on their balance sheet, there
> do so the balance sheet looks fancy. In reality,
> there do not touch their required reserves.
> @Kilimanjaro is right when he says excess reserves
> can be turned into cash, but holding excess
> reserves is generally considered costly and
> uneconomical as no interest is earned on the
> excess amount, so there do not hold it at all.
>
> Banks get interest on marketable securities so
> there hold that, and turn that into cash when
> needed.
>
> See http://en.wikipedia.org/wiki/Excess_reserves
> for more information on excess reserves.
That's why they are loaned to other banks to earn interest at the fed funds rate.
- Thread starter
- #5
@ Kilimanjaro you are correct. But remember, we are looking for a liquidity stand point.
Liquidity is the ability to turn a current asset into cash at a short period of time at ease.
If bank A loans out its excess reserve to bank B who is in need of cash, what are the chances that bank A will be able to get that amount back in a short period of time. If bank A decides to go borrow Bank�s C�s excess reserves for cash, that is no longer an Asset, but a Liability.
It will be much easier for bank A to sell it marketable security in the money market than it will be chasing bank B for its money back.
Please comment
Liquidity is the ability to turn a current asset into cash at a short period of time at ease.
If bank A loans out its excess reserve to bank B who is in need of cash, what are the chances that bank A will be able to get that amount back in a short period of time. If bank A decides to go borrow Bank�s C�s excess reserves for cash, that is no longer an Asset, but a Liability.
It will be much easier for bank A to sell it marketable security in the money market than it will be chasing bank B for its money back.
Please comment
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
When you say convert to cash, you mean sold?? Correct?? You can't only look at liquid in terms of time -- for example, a T-Bill is more liquid than a 2 time deposit. Liquidity is also characterized by the market demand. If there is no demand for T-bills and more demand for longer term securities -- then the longer termed securities are more liquid because there's demand.
Also, securities are instruments that are bought and sold with and for cash. Reserves are not. They are actually cash, and cash doesn't earn interest so reserves won't earn interest (mainly because of Reg Q). There is no need to liquidate reserves, they are already cash balances. If we're looking at a bank's balance sheet which is, as with all balance sheets, categorized in terms of liquidity -- reserves are listed as cash or cash equivalents. There is never a benefit to holding cash, for example the 20 in your pocket doesn't earn interest, but if it were 20 dollars on your debit card then it is a reserve. Wait bad example, what I'm trying to say is that if not for Regulation Q, banks would earn interest on their deposits of cash. The difference between the Fed and your local bank is that your local bank doesn't require that you have a minimum balance. The Fed requires banks to have a minimum balance of cash which are its reserves.
Also, securities are instruments that are bought and sold with and for cash. Reserves are not. They are actually cash, and cash doesn't earn interest so reserves won't earn interest (mainly because of Reg Q). There is no need to liquidate reserves, they are already cash balances. If we're looking at a bank's balance sheet which is, as with all balance sheets, categorized in terms of liquidity -- reserves are listed as cash or cash equivalents. There is never a benefit to holding cash, for example the 20 in your pocket doesn't earn interest, but if it were 20 dollars on your debit card then it is a reserve. Wait bad example, what I'm trying to say is that if not for Regulation Q, banks would earn interest on their deposits of cash. The difference between the Fed and your local bank is that your local bank doesn't require that you have a minimum balance. The Fed requires banks to have a minimum balance of cash which are its reserves.
- Thread starter
- #7
@ Kilimanjaro, great point, but you got me kind of confused. I have a good link that talks about bank liquidity http://stlouisfed.org/col/director/alco/whatyouneedtoknow.htm
A couple of points that got me off guard
a) You said that �cash doesn't earn interest so reserves won't earn interest� Banks do get returns for their Excess reserve loaned to other banks once this loans are paid back. This is why its costly and uneconomical to hold them.
b) You said �There is no need to liquidate reserves, there are already cash balances.� Reserves are part of cash balance on Bank�s A balance sheet, but Bank A�s excess reserve is a liability on Bank�s B, C�s�. balance sheet, and Bank A�s required reserve is a liability on the Central�s bank balance sheet.
Remember, wxy�s questions was: what bank�s assets is most liquid? Liquidity is a bank�s ability to generate cash quickly using it current asset at a reasonable cost.
It will be difficult for Bank A to raise cash quickly to cover unexpected �liquidity shocks,� such as large deposit withdrawals or heavy loan demands from their reserves, if these reserves appear on other banks balance sheet as liabilities.
P.S
I kinda of like topic relating to Money and Banking
A couple of points that got me off guard
a) You said that �cash doesn't earn interest so reserves won't earn interest� Banks do get returns for their Excess reserve loaned to other banks once this loans are paid back. This is why its costly and uneconomical to hold them.
b) You said �There is no need to liquidate reserves, there are already cash balances.� Reserves are part of cash balance on Bank�s A balance sheet, but Bank A�s excess reserve is a liability on Bank�s B, C�s�. balance sheet, and Bank A�s required reserve is a liability on the Central�s bank balance sheet.
Remember, wxy�s questions was: what bank�s assets is most liquid? Liquidity is a bank�s ability to generate cash quickly using it current asset at a reasonable cost.
It will be difficult for Bank A to raise cash quickly to cover unexpected �liquidity shocks,� such as large deposit withdrawals or heavy loan demands from their reserves, if these reserves appear on other banks balance sheet as liabilities.
P.S
I kinda of like topic relating to Money and Banking
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
A) Banks earn a return if they decide to loan excess reserves. They don't have to, they can purchase securities that earn a higher rate of return. While it is not financially sound to hold excess reserves, banks do hold excess reserves in order to convert them into instruments that produce greater returns. But, before these reserves become loans or securities they are reserves and reserves are cash deposits -- sounds redundant but it leads to your next question.
B) It is not difficult at all. This is *THE* market. If a bank runs short on reserves then it borrows from another bank. Which borrows from another bank, and another bank and so on and so on. Even if you run out of banks to borrow from, which is unlikely, they can borrow from the Fed. All of this is done via Fedwire (I think that's it), which means the availability of funds is a day. Whereas with instruments that have to be sold, no matter the instrument, there is the issue of float. The sale may occur instantly, but the availability of funds -- or the actual exchange or conversion to cash -- takes anywhere from two days to 30 days (if I remember correctly).
B) It is not difficult at all. This is *THE* market. If a bank runs short on reserves then it borrows from another bank. Which borrows from another bank, and another bank and so on and so on. Even if you run out of banks to borrow from, which is unlikely, they can borrow from the Fed. All of this is done via Fedwire (I think that's it), which means the availability of funds is a day. Whereas with instruments that have to be sold, no matter the instrument, there is the issue of float. The sale may occur instantly, but the availability of funds -- or the actual exchange or conversion to cash -- takes anywhere from two days to 30 days (if I remember correctly).
- Thread starter
- #9
@ Kilimanjaro, again, great points but the more I read the more I get a little confused
a) What I understand from paragraph one is that even though it does not make sense for banks to hold excess reserves, they do for unseen liquidity risk?
Like my economics professor will say, excess reserves are like Hot Potatoes. Banks want to get rid of them as fast as possible as there can looses prospective millions within one day. They get rid by either by buying securities or giving it out as loans. In my opinion, a bank that holds excess reserves in case of emergency will not be so profitable in the long run.
b) From what I understand from paragraph two is that if banks runs short of reserve there can borrow from other banks or from federal reserves?
You are correct when you say it�s impossible to run out of banks to borrow from. But remember the secret word here �ASSET.� Once they borrow, to satisfy this unforeseen liquidity risk, this cash received is no longer an ASSET but a big LIABILITY they have to payback
If it takes 30days to get the cash from selling my security in the money market, it better fits the concept of liquidity. If the concept of liquidity allows banks and firms to borrow from other banks and the federal government to meet unforeseen liquidity risk, then this will be a different case. From my knowledge, Banks have standby brokers who are constantly buying and selling securities in the money market
Again if you think am incorrect, I really want to hear from you. Learning is fun
a) What I understand from paragraph one is that even though it does not make sense for banks to hold excess reserves, they do for unseen liquidity risk?
Like my economics professor will say, excess reserves are like Hot Potatoes. Banks want to get rid of them as fast as possible as there can looses prospective millions within one day. They get rid by either by buying securities or giving it out as loans. In my opinion, a bank that holds excess reserves in case of emergency will not be so profitable in the long run.
b) From what I understand from paragraph two is that if banks runs short of reserve there can borrow from other banks or from federal reserves?
You are correct when you say it�s impossible to run out of banks to borrow from. But remember the secret word here �ASSET.� Once they borrow, to satisfy this unforeseen liquidity risk, this cash received is no longer an ASSET but a big LIABILITY they have to payback
If it takes 30days to get the cash from selling my security in the money market, it better fits the concept of liquidity. If the concept of liquidity allows banks and firms to borrow from other banks and the federal government to meet unforeseen liquidity risk, then this will be a different case. From my knowledge, Banks have standby brokers who are constantly buying and selling securities in the money market
Again if you think am incorrect, I really want to hear from you. Learning is fun
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
Ok, I think we're starting to unnecessarily complicate the issue.
Here are two questions, 1) when banks buy securities what do they use and 2) when banks sell securities where do the funds go??
Whether they make loans to other banks or buy securities is irrevelant, they do so using reserves. Which essentially makes reserves "money", there is no conversion needed.
Here are two questions, 1) when banks buy securities what do they use and 2) when banks sell securities where do the funds go??
Whether they make loans to other banks or buy securities is irrevelant, they do so using reserves. Which essentially makes reserves "money", there is no conversion needed.
Going back to the original question,
6. �Bank managers should always seek the highest return possible on their assets.� Is this statement:
a. true
b. false
c. uncertain
4. your own answer, explain.
The answer is FALSE. It's not ROA, it's not ROE. It's RAROC (Risk-adjusted return on capital). The presence of the word "always" in the question makes it false, not uncertain. Besides RAROC bank managers also have to look at asset-liability mangement issues (timing of maturities, interest rate spread matching, duration etc.) In a bank you can't just look at the asset side of the balance sheet.
For the first question my answer is it's a stupid question. Physical capital (buildings, equipment) is not liquid. Commercial loans are somewhat liquid, but they are not quoted on an open exchange. If by securities, they mean exchange traded instruments, then these are the most liquid of the group.
As far as reserves - this is the stupid question part. Reserves from an accounting perspective are liabilities, not assets. If they mean cash on deposit with the Fed as part of statutory requirements, it's cash that cannot be touched without changing the compostion of the balance sheet which probably can be done with greater ease than selling off physical assets so I'd put reserves second to last.
Killimanjaro - I don't think that it's correct to say that banks buy loans or securities using reserves. I would completely avoid the use of the term reserves in this context. They do it with funds sourced from the right side of the balance sheet in the same way that any company does. It can be from Short-term debt (depositors checking/savings/money market accounts, CD's, borrowing in the interbank market), or it can be from longer term debt issuances or from equity capital. From a practical funds flow perspective, over time they also do it with cash sourced from the maturity of a loan or security (one loan gets paid back, they take the cash and lend it out again, or a 1-year treasury bond matures and they buy a new one)
Money is fungible - you can't really match dollar-for-dollar what liability was used to purchase which asset.
Hope this makes sense (and helps)
6. �Bank managers should always seek the highest return possible on their assets.� Is this statement:
a. true
b. false
c. uncertain
4. your own answer, explain.
The answer is FALSE. It's not ROA, it's not ROE. It's RAROC (Risk-adjusted return on capital). The presence of the word "always" in the question makes it false, not uncertain. Besides RAROC bank managers also have to look at asset-liability mangement issues (timing of maturities, interest rate spread matching, duration etc.) In a bank you can't just look at the asset side of the balance sheet.
For the first question my answer is it's a stupid question. Physical capital (buildings, equipment) is not liquid. Commercial loans are somewhat liquid, but they are not quoted on an open exchange. If by securities, they mean exchange traded instruments, then these are the most liquid of the group.
As far as reserves - this is the stupid question part. Reserves from an accounting perspective are liabilities, not assets. If they mean cash on deposit with the Fed as part of statutory requirements, it's cash that cannot be touched without changing the compostion of the balance sheet which probably can be done with greater ease than selling off physical assets so I'd put reserves second to last.
Killimanjaro - I don't think that it's correct to say that banks buy loans or securities using reserves. I would completely avoid the use of the term reserves in this context. They do it with funds sourced from the right side of the balance sheet in the same way that any company does. It can be from Short-term debt (depositors checking/savings/money market accounts, CD's, borrowing in the interbank market), or it can be from longer term debt issuances or from equity capital. From a practical funds flow perspective, over time they also do it with cash sourced from the maturity of a loan or security (one loan gets paid back, they take the cash and lend it out again, or a 1-year treasury bond matures and they buy a new one)
Money is fungible - you can't really match dollar-for-dollar what liability was used to purchase which asset.
Hope this makes sense (and helps)
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
Super I:
Funds from the right side of a bank's balance sheet go directly into its reserves at the Fed. The primary method of payment in this country is by check. Checks are cleared at the Federal Reserve banks which add or subtract the amount from the drawee bank's reserve account to the drawer bank's reserve bank account.
Funds from the right side of a bank's balance sheet go directly into its reserves at the Fed. The primary method of payment in this country is by check. Checks are cleared at the Federal Reserve banks which add or subtract the amount from the drawee bank's reserve account to the drawer bank's reserve bank account.
Killamanjaro -
It's been a long time since I looked at that stuff, so I will defer to you if you're very sure. My impression was always that not every bank maintained a relationship/account with the fed, but that many smaller and foreign banks (basically the majority of banks) used other large domestic banks to maintain the primary account that they cleared/settled their payments thru.
Do you agree with my other points re the original questions?
It's been a long time since I looked at that stuff, so I will defer to you if you're very sure. My impression was always that not every bank maintained a relationship/account with the fed, but that many smaller and foreign banks (basically the majority of banks) used other large domestic banks to maintain the primary account that they cleared/settled their payments thru.
Do you agree with my other points re the original questions?
I would take six to be a trick question.
Banks face constraints with regulatory capital. Depending on the type of investment or loan made, the bank must hold a particular quantity of capital, determined by the probability of default, LGD, and other economic capital considerations. Banks don' allocate funds based on "the highest return possible", they try to make the investment which gives the best risk adjusted return on capital, or return over the required allocation of capital.
So for 6, I would narrow it down to either False, or Provide your own answer, as I just did.
Liquidity Order (Most Liquid to Least Liquid)
1. Securities (depends whether Held to Maturity of Available for Sale). Restrictions on HTM make them less liquid than commercial loans.
2. Commercial Loans
3. Physical Capital
4. Reserves (This one has me stumped. It depends on whether they are held by the fed as required, or whether they are excess. If they're excess, they are the most liquid, assuming securities are htm)
Banks face constraints with regulatory capital. Depending on the type of investment or loan made, the bank must hold a particular quantity of capital, determined by the probability of default, LGD, and other economic capital considerations. Banks don' allocate funds based on "the highest return possible", they try to make the investment which gives the best risk adjusted return on capital, or return over the required allocation of capital.
So for 6, I would narrow it down to either False, or Provide your own answer, as I just did.
Liquidity Order (Most Liquid to Least Liquid)
1. Securities (depends whether Held to Maturity of Available for Sale). Restrictions on HTM make them less liquid than commercial loans.
2. Commercial Loans
3. Physical Capital
4. Reserves (This one has me stumped. It depends on whether they are held by the fed as required, or whether they are excess. If they're excess, they are the most liquid, assuming securities are htm)
Super I,
All state member institutions own shares of Federal Reserve Bank stock. This excludes national banks, and state non members. foreign banking organizations (FBO's) are regulated through the Fed due to the Gramm Leach Bliley Act. Many banks do not hold reserve accounts with the Fed, as they are not member banks.
All state member institutions own shares of Federal Reserve Bank stock. This excludes national banks, and state non members. foreign banking organizations (FBO's) are regulated through the Fed due to the Gramm Leach Bliley Act. Many banks do not hold reserve accounts with the Fed, as they are not member banks.
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
"Note. Required reserves must be held in the form of vault cash and, if vault cash is insufficient, also in the form of a deposit maintained with a Federal Reserve Bank. An institution that is a member of the Federal Reserve System must hold that deposit directly with a Reserve Bank; an institution that is not a member of the System can maintain that deposit directly with a Reserve Bank or with another institution in a pass-through relationship. Reserve requirements are imposed on commercial banks, savings banks, savings and loan associations, credit unions, U.S. branches and agencies of foreign banks, Edge corporations, and agreement corporations."
http://www.federalreserve.gov/monetarypolicy/reservereq.htm
Yes, your other points I agree with entirely.
http://www.federalreserve.gov/monetarypolicy/reservereq.htm
Yes, your other points I agree with entirely.
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
Davey Wrote:
-------------------------------------------------------
> 4. Reserves (This one has me stumped. It depends
> on whether they are held by the fed as required,
> or whether they are excess. If they're excess,
> they are the most liquid, assuming securities are
> htm)
Required reserves don't necessarily have to be held at the Fed. They can be vault cash. I'm still not understanding why cash isn't considered the most liquid asset.
-------------------------------------------------------
> 4. Reserves (This one has me stumped. It depends
> on whether they are held by the fed as required,
> or whether they are excess. If they're excess,
> they are the most liquid, assuming securities are
> htm)
Required reserves don't necessarily have to be held at the Fed. They can be vault cash. I'm still not understanding why cash isn't considered the most liquid asset.
So Killimanjaro,
I go back to my original post, and your response:
"Funds from the right side of a bank's balance sheet go directly into its reserves at the Fed. The primary method of payment in this country is by check. Checks are cleared at the Federal Reserve banks which add or subtract the amount from the drawee bank's reserve account to the drawer bank's reserve bank account."
You seem to disagree with me and say that loans and securities are bought by reserves, which I still think is primarily not true. Only required reserves are on deposit with the Fed (directly or on a pass-thru basis as you noted). At the end of the day, if a bank has excess cash over and above what they need for their daily reserve requirement they lend it out in the interbank market so that they have no excess or idle cash (or borrow it if they are short).
Also, I forgot to note that for the types of transactions that we are talking about (corporate loans, securities purchases )checks are absolutely not the primary method of payment. It's wire transfer without question.
I go back to my original post, and your response:
"Funds from the right side of a bank's balance sheet go directly into its reserves at the Fed. The primary method of payment in this country is by check. Checks are cleared at the Federal Reserve banks which add or subtract the amount from the drawee bank's reserve account to the drawer bank's reserve bank account."
You seem to disagree with me and say that loans and securities are bought by reserves, which I still think is primarily not true. Only required reserves are on deposit with the Fed (directly or on a pass-thru basis as you noted). At the end of the day, if a bank has excess cash over and above what they need for their daily reserve requirement they lend it out in the interbank market so that they have no excess or idle cash (or borrow it if they are short).
Also, I forgot to note that for the types of transactions that we are talking about (corporate loans, securities purchases )checks are absolutely not the primary method of payment. It's wire transfer without question.
killamanjaro
New member
- Jun 18, 2026
- 0
- 0
Super I Wrote:
> Also, I forgot to note that for the types of
> transactions that we are talking about (corporate
> loans, securities purchases )checks are absolutely
> not the primary method of payment. It's wire
> transfer without question.
-- This is true. Actually, let me clarify what I said -- the primary method of payment in this country is via checks and I stated it in a particular context involving an individual. After checks, in terms of volume, are ACH and wire transfers. In terms of value, wire transfers represent about 90 percent. So you are right again.
*BUT*
Wire tranfers, or Fedwire, go through the Federal Reserve. Checks, that comprise 9 percent of the value of transactions, go through the Federal Reserve. Even the remaining 1 percent of value transferred by ACH -- goes through the Federal Reserve.
Edited 1 time(s). Last edit at Thursday, June 22, 2006 at 04:45PM by killamanjaro.
> Also, I forgot to note that for the types of
> transactions that we are talking about (corporate
> loans, securities purchases )checks are absolutely
> not the primary method of payment. It's wire
> transfer without question.
-- This is true. Actually, let me clarify what I said -- the primary method of payment in this country is via checks and I stated it in a particular context involving an individual. After checks, in terms of volume, are ACH and wire transfers. In terms of value, wire transfers represent about 90 percent. So you are right again.
*BUT*
Wire tranfers, or Fedwire, go through the Federal Reserve. Checks, that comprise 9 percent of the value of transactions, go through the Federal Reserve. Even the remaining 1 percent of value transferred by ACH -- goes through the Federal Reserve.
Edited 1 time(s). Last edit at Thursday, June 22, 2006 at 04:45PM by killamanjaro.