Steering interest rates amidst large structural surplus liquidity: a tale of three central banks

Abstract This paper focuses on as to how three central banks, viz. the United States Federal Reserve (US Fed), the European Central Bank (ECB) and the Reserve Bank of India (RBI), steered interest rates in the face of large surplus liquidity. This study finds that it is challenging to steer the interest rate in the middle of the corridor when there is large surplus liquidity. However, the floor of the policy corridor (the ECB and the RBI) and the interest rates on excess reserves (the US Fed) prevented overnight interest rates from collapsing. As such, the relationship between interest rates and surplus liquidity was found to be non-linear, i.e. beyond a certain threshold, surplus liquidity had no material additional impact on interest rates.