If I understand correctly, the Fed rejected The Narrow Bank because if it had existed, a large share of the money currently used to buy Treasuries would have gone directly to the Fed to earn the IORB rate. Less demand for Treasuries = lower prices = higher interest rates, and that would have disrupted monetary policy. Is that correct
If the Narrow Bank had existed, Money Market Funds (MMFs) would no longer lend to banks below the IORB Rate (they would just park their money at the IORB Rate).
This would leads to two related outcomes the Fed wanted to avoid :
1) Less liquidity in banks (i.e., from less cheap lending from MMFs)
2) The loss of a signal from the Federal Funds Rate (since it would always be above the IORB rate instead of below it, it'd lose it's usefulness of a signal that tells us whether there's liquidity in the banking system)
At the highest level the point is that a monetary policy tool would become impotent - specifically the IORB - ON RRP corridor would cease to be useful.
A similar, but even stronger argument would exist if all the sudden everyone could earn IORB pass through (e.g., via yield bearing stablecoins). But instead of the corridor becoming impotent, all of monetary policy could !
If I understand correctly, the Fed rejected The Narrow Bank because if it had existed, a large share of the money currently used to buy Treasuries would have gone directly to the Fed to earn the IORB rate. Less demand for Treasuries = lower prices = higher interest rates, and that would have disrupted monetary policy. Is that correct
Not exactly, here's a TLDR that might help,
If the Narrow Bank had existed, Money Market Funds (MMFs) would no longer lend to banks below the IORB Rate (they would just park their money at the IORB Rate).
This would leads to two related outcomes the Fed wanted to avoid :
1) Less liquidity in banks (i.e., from less cheap lending from MMFs)
2) The loss of a signal from the Federal Funds Rate (since it would always be above the IORB rate instead of below it, it'd lose it's usefulness of a signal that tells us whether there's liquidity in the banking system)
At the highest level the point is that a monetary policy tool would become impotent - specifically the IORB - ON RRP corridor would cease to be useful.
A similar, but even stronger argument would exist if all the sudden everyone could earn IORB pass through (e.g., via yield bearing stablecoins). But instead of the corridor becoming impotent, all of monetary policy could !