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FRM Part II · FRM Exam Part II · Monetary and Fiscal Policy: Safeguarding Stability and Trust

A risk manager reviews a central bank's corridor system for overnight rates. The deposit facility rate is 3.0% and the marginal lending facility rate is 4.0%. Which statement best describes how this corridor affects market overnight rates?

Overnight market rates should generally stay between 3.0% and 4.0%. Banks can always deposit surplus funds at the central bank for 3.0% and borrow at 4.0%, so those standing facilities create a floor and ceiling around market rates.

  1. AOvernight rates should generally trade between 3.0% and 4.0%, since banks can place or borrow at the central bank at those ratesCorrect
  2. BOvernight rates must always equal 3.5%, the midpoint of the corridor
  3. COvernight rates can fall below 3.0% because banks cannot access the deposit facility
  4. DOvernight rates are unaffected by the corridor since it only applies to foreign currency

Explanation

A bank would not lend in the market below what it earns at the deposit facility, nor borrow above the marginal lending rate, so those rates act as floor and ceiling. The midpoint is not binding, and the facilities are open to banks in domestic currency.

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