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David vs Goliath or James McAndrews vs Federal Reserve (#GotBitcoin?)

TNB USA asks federal court to order regional reserve bank to open an account that the bank needs to carry out its business strategy. David vs Goliath or James McAndrews vs Federal Reserve

A new bank is suing the Federal Reserve Bank of New York, saying it is unfairly preventing the firm from pursuing a novel business strategy.

TNB USA Inc.—run by a former top New York Fed staffer—said its primary business activity will be to enable large institutional money-market investors to earn higher interest rates from the Federal Reserve than they could otherwise, according a complaint filed in federal court Friday. Such investors include pension funds, companies and other entities managing large sums of money.

But first TNB, based in Connecticut, needs to open an interest-bearing account at the New York Fed, like those held by many large banks.

The Fed hasn’t granted or rejected TNB’s request, a process begun in August 2017, or provided a formal reason for not acting. TNB alleges in its court filing that New York Fed officials were prepared to open the account, but the Fed’s Washington-based board of governors blocked it because of unspecified “policy concerns.”

The plaintiffs said in the lawsuit they attributed the decision to the board chairman, Jerome Powell, based on their conversations with New York Fed officials.

TNB is asking the U.S. District Court for the Southern District of New York to order the New York Fed to open the account. The suit cites a 1980 law saying such accounts shall be available to any qualified depository institution that receives deposits other than trust funds.

The New York Fed declined to comment. A spokesman for the Fed board said, “We are aware of the lawsuit and are reviewing it.”

TNB’s chairman and chief executive, James McAndrews, worked for the Fed for 28 years, mainly at the New York Fed, including his last six as its head of research until 2016. During that time Fed officials developed their current system for setting short-term interest rates, which is key to TNB’s business model. Mr. McAndrews left the regional reserve bank to pursue the launch of TNB.

TNB has obtained temporary approval to operate as a bank from Connecticut’s banking authority but doesn’t plan to make loans or provide any retail banking services for individuals.

Instead, its “sole business will be to accept deposits from the most financially secure institutions” and place that money in an interest-bearing Fed account, “permitting depositors to earn higher rates of interest than are currently available to nonfinancial companies and consumers,” the filing said.

TNB’s customers will primarily be institutional money-market investors, but it would also accept deposits from foreign central banks, the filing said.

If TNB could open a Fed account, its deposits there would earn a rate currently set at 1.95%. This is the rate paid on money, called reserves, parked at the central bank by deposit-taking private-sector banks. Fed officials expect to raise this rate along with other short-term interest rates in coming years to keep the economy expanding on an even keel.

Under the Fed’s current system for setting rates, institutional money-market funds cannot earn this rate on reserves. Instead, they can participate in a Fed program that now pays an interest rate of 1.75%.

TNB’s business model would enable the money-market investors to earn the higher rate on reserves, minus a profit for the firm. Its name stands for “the narrow bank,” a riff on its narrow business model, according to the suit.

The Fed, by not allowing TNB to open a bank account, is “discriminating against small, innovative companies” and “privileging established too-big-to-fail institutions,” the complaint said.

The goal of the bank is to “provide institutional investors higher rates on safe deposits than are currently available on the market. This will increase rate competition” in the banking sector, Mr. McAndrews said in an interview.

When he was at the New York Fed, Mr. McAndrews provided some research support when Fed officials created their current rate-setting regime.

Some analysts familiar with TNB’s plans say the firm has the potential to revolutionize a banking industry where many depositors see little return on their cash, but its business model raises some policy questions.

The Fed, for example, is currently shrinking its holdings of cash and securities that grew substantially during the financial crisis, but hasn’t decided how big its balance sheet will be when it stops.

If TNB were successful, and if its strategy were copied by other firms, the Fed’s holdings would grow as TNB and other such firms deposited investors’ money at the central bank.

So would the amount of interest the Fed pays to banks, which totaled $29.2 billion last year. Some lawmakers and other critics have said these payments are a subsidy to banks, but Fed officials defend them as a crucial monetary-policy tool.

The Fed needs to make some fundamental decisions about how it operates before it lets companies like TNB to do business, said Lou Crandall, chief economist with Wrightson ICAP.

Andrew Levin, a former top Fed staffer and currently a Dartmouth College economic professor, said the Fed’s current rate-setting system is designed to attract deposits—with the 1.95% interest-on-reserves rate drawing them from banks and the 1.75% rate paid on its reverse-repurchase program drawing them from money-market investors. Through this program, the Fed sells a Treasury security to a participating firm and agrees to buy it back the next day with interest.

He said the Fed should welcome banks like TNB, adding they would make monetary policy work better because they would draw more from money-market investors. “The Fed should be excited about it and try to foster it,” he said.

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