A simple model of interbank trading with tiered remuneration

TL;DR

This paper introduces a simple model of interbank trading with tiered remuneration, explaining how tiering policies influence market rates and trading activity, and demonstrating their effectiveness in maintaining higher trading volumes.

Contribution

It presents a basic, testable model of interbank markets with tiered remuneration, highlighting its ability to reflect market rates and sustain trading activity.

Findings

Tiered remuneration can keep market rates within a specific range.

The model can be tested with actual market data.

Tiering helps maintain higher trading volumes.

Abstract

Many countries have adopted negative interest rate policies with tiering remuneration, which allows for exemption from negative rates. This practice has led to higher interbank trading volumes, with market rates ranging between zero and the negative remuneration rates. This study proposes a basic model of an interbank market with tiering remuneration that can be tested with actual market data because of its simplicity and can indicate the level of the market rate created by the different exemption levels. By generalizing the model, we found that a tiering system is also suitable for maintaining a higher trading activity, regardless of the level of the remuneration rate.