The Diffusion of Bank Reserves in the U.S.

The Federal Reserve implements monetary policy using an ample reserves system, which does not require active management of the total quantity of reserves to maintain interest rate control. The distribution and the diffusion of reserves across banks, and groups of banks, is a key factor in determining the (minimum) ample level of reserves consistent with that objective. If large portions of the outstanding amount of reserves can become effectively "trapped" in segments of the banking system, then the total level of reserves needed to achieve the intended objective may be higher. We propose a Markovian framework to study the weekly flow of reserves across groups of banks between 2010 and 2024. We group banks according to types (foreign and domestic, large and small) and Fed districts. The diffusion process depends on how reserves flow in and out of the system. We compute counterfactuals which shed light on the way the distribution of reserves would adapt to plausible changes in conditions. In general, the distribution of reserves tends to be highly persistent during periods of abundant reserves, but redistribution intensifies when reserves reach lower (yet, still ample) levels.