WASHINGTON–With the Federal Reserve’s FedNow instant payments system set to go live this month, and with a number of corporate and individual credit unions ready and waiting, one new report is cautioning it could “fan the flames” for the kind of deposit flight recently seen at three banks that failed.
Under the current ACH system, banks have benefitted from the availability of cash over the several days it takes many transactions to settle. But as several sources who spoke to the Wall Street Journal indicated, the speedier transfers carry another potential cost for banks.
“In addition to losing revenue from the time between a payment’s initiation and settlement, banks now have to worry about deposit flight outside of business hours,” the report stated.
‘Challenge’ to Century-Old Model
Noor Menai, chief executive of Los Angeles-based lender CTBC Bank USA, noted for the Journal how the March banking-sector crisis suggests cash can leave far quicker than bankers assumed, especially in the new era of banking apps.
“People aren’t paying enough attention to the century-old business model around midsize banking—it is absolutely challenged,” Menai said. “There is no borrowing cheap anymore.”
As CUToday.info has previously reported, the new era has also challenged every assumption made by financial assumptions, including credit unions, around the “stickiness” of deposits, creating risk when money is borrowed at low rates and then lent out for longer periods of time.
Banks have traditionally assumed customer deposits were sticky—meaning they were less likely to be withdrawn at the first sign of trouble. That assumption allowed bankers to comfortably borrow cash at low rates and lend for long periods at higher rates.
Pulling Cash ‘With Ease’
“But instantaneous transactions allow customers to pull cash with ease, and without notice. That threatens smaller banks and likely requires stiffer cushions to mitigate adverse scenarios, according to Menai, an advisory council member of the Federal Reserve Bank of San Francisco, the Journal said. In response, regulators are expected to propose tougher capital rules for banks before year-end.
“FedNow’s launch comes at a precarious time, during the Fed’s year-plus effort to raise interest rates and quell inflation,” the Journal analysis stated. “Banks are competing with money-market funds and other higher-yielding products for deposits, and paying up to borrow elsewhere. U.S. commercial-bank deposits were down $705 billion in June from a year ago.”
The Fed Responds
A Fed spokesperson told the Journal banks are expected to contain deposit flight by carefully managing risks, and that they have flexibility in implementing FedNow, including limiting transaction sizes, controlling transfer volumes in different periods and restricting access for certain clients.
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