What is IORB?

Interest on Reserve Balances (IORB) is the interest rate the Federal Reserve pays to depository institutions on the cash reserves they hold in their accounts at the Fed. As of the current framework, IORB is set at the top of the federal funds target range and serves as the primary mechanism for steering the effective federal funds rate. Previously known as IOER (Interest on Excess Reserves), the rate was renamed to IORB in July 2021 when the Fed eliminated the distinction between required and excess reserves.

Before 2008, the Fed did not pay interest on reserves and controlled the federal funds rate through daily open market operations that fine-tuned the supply of reserves. After the financial crisis, massive quantitative easing flooded the banking system with trillions in excess reserves, making the old framework unworkable. The Fed needed a new tool to put a floor under the funds rate, and IOER (now IORB) filled that role. Since banks can earn IORB risk-free by simply parking cash at the Fed, they have no incentive to lend in the fed funds market at a rate below IORB.

In practice, the effective federal funds rate trades slightly below IORB because the main borrowers in the fed funds market are Federal Home Loan Banks, which are not eligible for IORB. They lend to banks at a small discount to IORB, and those banks pocket the spread. This "leakage" below IORB is normal and expected. The overnight reverse repo facility (ON RRP) provides a second floor by offering non-bank institutions a rate (typically set 5 basis points below the bottom of the target range) at which they can lend cash to the Fed.

IORB has significant fiscal implications. With reserves in the trillions, the Fed pays tens of billions of dollars annually in interest to banks. When the funds rate was at 5.25-5.50%, the Fed paid roughly $180 billion per year in IORB, contributing to the Fed's operating losses since its interest expenses exceeded the income on its bond portfolio. This dynamic, while operationally necessary, has drawn political scrutiny. Understanding IORB is essential for grasping how modern monetary policy implementation works and why the Fed's balance sheet size directly affects its financial position.