Highlights of domestic open market operations during 1998

The Trading Desk at the Federal Reserve Bank of New York uses open market operations to implement the policy directives of the Federal Open Market Committee (FOMC). The FOMC expresses its short-term objective for open market operations as a target level for the federal funds rate--the interest rate at which depository institutions lend balances at the Federal Reserve to other depository institutions. To keep the federal funds rate near the level specified by the FOMC, the Desk uses open market operations to bring the supply of balances at the Federal Reserve into line with the demand for them. In 1998, the level of balances that depository institutions were required to hold at the Federal Reserve continued to decline, to historic lows. The primary reason for this was the ongoing proliferation of retail "sweep" programs, which transfer depositors' funds from transaction accounts that are subject to reserve requirements into other deposit accounts that are not. In past years, declines in required balances had been associated with greater volatility in the federal funds rate because depository institutions have less flexibility in managing their daily balance positions. However, through the first three quarters of 1998, the funds rate behaved much as it had in 1997, even though required balances were lower. In the final quarter of 1998, funds rate volatility rose when market participants evinced greater concerns about the credit quality of their counterparties at a time of increased uncertainty in financial markets.