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Will New Liquidity Rules Contribute to Higher Deposit Interest Rates?

It's a well known fact that deposit rates will be moving higher in the coming years because the Federal Reserve will be increasing the federal funds rate. Another factor is coming into play that might force some banks to increase CD rates and other interest rates to attract deposits. New liquidity rules voted on this week will require banking organizations to increase their holdings of high quality, liquid assets (HQLA).

The new rules are designed to prevent the short term funding problems we saw during the financial crisis. The rules were finalized Wednesday by the Federal Reserve, the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency.

Banks will eventually have to hold safe assets worth 100 percent of their cash outflows for 30 days. Banks will need more cash on hand and increase their holdings of U.S. Treasuries that they can liquidate quickly if they need cash. Banks that don't have enough liquid assets right now will need to raise money and will probably raise the money through deposits.

Attracting these new deposits will force these banks to increase their CD rates, savings rates and money market rates. The new rules were proposed last fall by regulators and they estimate banks would need to increase "high quality" assets by $200 billion and eventually having $2 trillion of these assets on hand.

These new liquidity rules are expected to depress bank earnings but are needed because short term credit markets froze when the financial crisis hit in 2008. Banks, Wall Street firms, financial institutions and companies couldn't secure short term funding to operate. These new rules will force these institutions to have more of a cash cushion to ride out any future financial crisis.

The rules apply to banking organizations with $250 billion or more in total consolidated assets or $10 billion or more in on-balance sheet foreign exposure and to these banking organizations' subsidiary depository institutions that have assets of $10 billion or more. These banks will be required to be fully compliant with the rule by January 1, 2017.
Author: Brian McKay
September 5th, 2014