Fed funds are unsecured loans of reserve balances at Federal Reserve Banks between depository institutions. Banks keep reserve balances at the Federal Reserve Banks to meet their reserve requirements and to clear financial transactions. Transactions in the fed funds market enable depository institutions with reserve balances in excess of reserve requirements to lend them, or “sell” as it is called by market participants, to institutions with reserve deficiencies. Fed funds transactions neither increase nor decrease total bank reserves. Instead, they redistribute bank reserves and enable otherwise idle funds to yield a return. Technical details on fed funds are described in Regulation D.

Participants in the fed funds market include commercial banks, thrift institutions, agencies and branches of foreign banks in the United States, federal agencies, and government securities dealers. Many relatively small institutions that accumulate reserves in excess of their requirements lend reserves overnight to money center and large regional banks, and to foreign banks operating in the United States. Federal agencies also lend idle funds in the fed funds market.

Other financial institutions serve as intermediaries in the market by borrowing and lending funds on the same day, usually channeling funds from relatively small to large depository institutions. Several broker firms that neither borrow nor lend funds arrange transactions between lenders and borrowers in order to earn commissions.

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