United States Government Accountability Office Report to Congressional Requesters October 2016 FEDERAL RESERVE Observations on Regulation D and the Use of Reserve Requirements GAO-17-117 October 2016 FEDERAL RESERVE Observations on Regulation D and the Use of Reserve Requirements Highlights of GAO-17-117, a report to congressional requesters Why GAO Did This Study What GAO Found Section 19 of the Federal Reserve Act The methods by which depository institutions can implement Regulation D requires depository institutions to (Reserve Requirements of Depository Institutions) include maintaining reserves maintain reserves against a portion of against transaction accounts and enforcing a numeric transfer and withdrawal their transaction accounts solely for the (transaction) limit for savings deposits if they wish to avoid classifying those implementation of monetary policy. accounts as reservable transaction accounts. GAO estimates that 70–78 percent Regulation D implements section 19, of depository institutions limit savings deposit transactions. Other methods and it also requires institutions to limit include automatically transferring balances from transaction (e.g., checking) certain kinds of transfers and accounts to savings deposits in order to reduce reserve requirements. Institutions withdrawals from savings deposits to may choose to maintain transaction account reserves against savings deposits to not more than six per month or eliminate the need to enforce the transaction limit. But some institutions GAO statement cycle if they wish to avoid having to maintain reserves against surveyed indicated that they had operational burdens associated with monitoring these accounts. The transaction limit and enforcing the transaction limit (for example, 63–73 percent cited challenges, allows the Federal Reserve to such as creating forms and converting and closing accounts). Available data distinguish between transaction indicate that few customers exceeded or expressed concerns about the limit. accounts and savings deposits for Monetary policy—actions taken to influence the availability and cost of money reserves purposes. and credit (i.e., interest rates)—can be conducted with varying dependence on GAO was asked to review certain reserve requirements. While many central banks around the world use reserve effects of Regulation D. This report’s requirements, some have reduced their reliance on them due, in part, to the objectives include examining associated cost and administrative burdens. GAO reviewed how different central depository institutions’ implementation banks rely on reserve requirements and found a wide range of frameworks, of Regulation D’s requirements, the including those with: (1) different mandatory reserve requirements (as compared effect of the transaction limit on their to the United States), (2) voluntary reserve requirements, and (3) no reserve customers, and central banks’ varying requirements at all. For example, countries with different mandatory reserves dependence on reserve requirements frameworks require maintaining reserves against all deposits, which eliminate the and the monetary policy implications. need to impose limits on transfers and withdrawals from specific accounts. While To examine these issues, GAO the Board of Governors of the Federal Reserve System (Federal Reserve) has conducted a generalizable survey of used reserve requirements to help achieve the interest rate targets it sets in the 892 depository institutions (with a market for reserves (federal funds market), central banks of other developed response rate of 71 percent); analyzed countries such as Canada, Australia, Sweden, and Denmark, among others, do consumer complaint data from federal not rely on reserve requirements. Instead, they use interest rates under their financial regulators; reviewed federal direct control to restrict interest rates from moving outside of a targeted range statutes and regulations, Federal (corridor operating approach). Reserve System publications, and academic literature; and interviewed The authority for the Federal Reserve to pay interest on reserves has reduced regulatory agency officials, some of the costs associated with reserve requirements in the United States. representatives from banking and One of the alternatives to the current reserve requirement framework that GAO credit union associations, and examined would require legislative change to further reduce some of these costs depository institutions selected based and burdens. Other approaches, while proven feasible for some foreign central on institution type and size. banks, have implications for the conduct of monetary policy (e.g., require the pursuit of a corridor operating approach). Given the differences in financial The Federal Reserve and other federal systems across the globe, it is unclear whether the practices used by other banking regulators provided technical nations would translate to the United States. Moreover, lowering or eliminating comments on a draft of this report, reserve requirements would raise a number of operational and technical issues which we incorporated as appropriate. for monetary policy implementation. For example, lowering or eliminating reserve requirements could introduce the need to manage potential volatility in short-term View GAO-17-117. For more information, interest rates. Therefore, minimizing the burdens associated with reserve contact Lawrance L. Evans, Jr. at (202) 512- 8678 or [email protected]. requirements would have to be weighed against the costs and monetary policy implications of any alternative framework when considering changes. United States Government Accountability Office Letter Contents Letter 1 Background 4 Regulation D Is Designed to Facilitate the Implementation of Reserve Requirements for the Implementation of Monetary Policy 9 Depository Institutions Implement Regulation D’s Requirements in Various Ways 25 Relatively Few Customers Exceeded or Expressed Concerns about the Regulation D Transaction Limit 40 Options to Reduce or Eliminate Reserve Requirements Have Monetary Policy Implications 46 Agency Comments and Our Evaluation 61 Appendix I Objectives, Scope, and Methodology 62 Appendix II Estimates from GAO Survey of Depository Institutions on Regulation D 67 Appendix III The Role of Reserve Requirements over Time 136 Appendix IV Monetary Policy Implementation without Reserve Requirements 143 Appendix V Comments from the National Credit Union Administration 148 Appendix VI GAO Contact and Staff Acknowledgements 149 Tables Table 1: Regulation D Reserve Ratios for Calculating Reserve Requirements, as of January 21, 2016 10 Table 2: Reserve Requirements since Passage of the Monetary Control Act of 1980, 1980–2016 12 Page i GAO-17-117 Regulation D Table 3: Convenient Transfers and Withdrawals from Savings Deposits Subject to Regulation D’s Six-Transaction Limit, as of May 2, 2016 17 Table 4: Summary of Selected Survey Responses for Depository Institutions, 2015 30 Table 5: Reserve Requirements for Selected Central Banks, 2015Q3 47 Table 6: Illustrative Analysis of the Importance of Reserve Requirements across Monetary Policy Operating Procedures 50 Table 7: Reserve Requirements Frameworks 58 Table 8: Does your institution enforce the Regulation D six- transaction limit? (Question 1) 67 Table 9: Do you currently use a retail sweeps/deposit reclassification program to sweep funds from nontransaction accounts to transaction accounts to exempt customers from the six-transaction limit of Regulation D? (Question 2) 69 Table 10: Do you currently voluntarily hold reserves to exempt customers from the six-transaction limit of Regulation D for the nontransaction accounts that you offer? (Question 3) 70 Table 11: Do you currently use a retail sweeps/deposit reclassification program to sweep funds from transaction accounts to reduce transaction account reserves? (Question 4) 72 Table 12: High interest rate environment (question 4A) 72 Table 13: Level of transaction (checking) account balances (e.g., balances grow into a higher required reserve tranche) (question 4A) 73 Table 14: Other (question 4A) 73 Table 15: Provide hard-copy or online Regulation D disclosures before the account is opened (question 5a) 74 Table 16: Email Regulation D disclosures after account is opened (question 5b) 75 Table 17: Mail Regulation D disclosures after account is opened (question 5c) 75 Table 18: Make a courtesy phone call (question 5d) 76 Table 19: Other (question 5e) 76 Table 20: Not Applicable; we do not open accounts by other means, including over the telephone or by email. (question 6) 77 Page ii GAO-17-117 Regulation D Table 21: Email Regulation D disclosures after account is opened (question 6a) 77 Table 22: Mail Regulation D disclosures after account is opened (question 6b) 78 Table 23: Verbal disclosure over the phone (question 6c) 78 Table 24: Make a courtesy phone call (question 6d) 79 Table 25: Other (question 6e) 79 Table 26: Which of the following methods do you use to monitor accounts for compliance with the Regulation D six- transaction limit? (Question 7) 80 Table 27: Do you notify customers of the number of transactions made before their account reaches the Regulation D six- transaction limit? (Question 8) 81 Table 28: Mail Letter (Question 8A, a) 82 Table 29: Transactions count (tracker) provided in online account activity (Question 8A, b) 82 Table 30: Text alerts (question 8A, c) 83 Table 31: Email alerts (question 8A, d) 83 Table 32: Over the phone with customer (question 8A, e) 84 Table 33: