Is the Interest Rate Corridor an Effective Instrument to Dampen the Accumulation of Excess Reserves and the Inter-bank Rate Volatility?

Is the interest rate corridor an effective instrument to dampen the accumulation of excess reserves and inter-bank rate volatility? Yes, it is. We find that the interbank rates volatility is dependent on excess reserves regimes. The overnight forex rate volatility increases more compared to the South African overnight rate (Sabor) in response to positive shocks to banks’ excess reserves. Positive shocks to banks’ excess reserves explain a larger variation in the overnight forex rate volatility compared to the Sabor rate volatility. In addition, the estimated threshold for the excess reserves of R100 billion has a statistical and economic significance in the response of the inter-bank rates and their volatility. The Sabor and overnight forex rate volatilities decline in the low excess reserves regime compared to the high excess reserves regime. Thus, there is a direct relationship between the level of excess reserves and the inter-bank rate volatility. Lowering the level of excess reserves below the R100 billion threshold will assist in lowering the volatility in the Sabor and overnight forex rates. Furthermore, the results of the transition function imply that the interest rate corridor floor allows the South African Reserve Bank to separate the interest rate policy (monetary policy stance) from the liquidity policy. This means that policymakers can gradually phase in the autonomous use of the deposit rate to manage bank liquidity or excess reserves. This gradual phasing in of the autonomous use of the deposit rate to manage bank liquidity or excess reserves can take the approach of tiering excess reserves and use the estimated threshold as a guideline.