The Fed allows banks to make deposits with it in an operation known as reverse repo, usually overnight. The Fed provides Treasury collateral and pays a very small interest rate - after all, it’s not a deposit taking institution and only provides this service as a sort of last minute choice to tide over banks’ books in their day to day money market operations. Normally, banks have much better places to put their cash to use, and certainly at better than 0%.
In the last two weeks, however, Fed reverse repo amounts have ballooned to $394 billion as the chart from the FT shows. The Fed is paying 0.00% interest. Think about it... banks choose to get nothing, zero, nada for their excess cash - they can’t find a willing and creditworthy overnight (O/N) borrower in the institutional money market to pay even a tiny bit more - emphasis on creditworthy. The heaviest users of overnight depo are margin borrowers against all sorts of “suitable” collateral: stocks, bonds, commodities... even cryptos. Keep this in mind..
Yes, as the chart title says, you may interpret the situation as a “cash glut”. However, there is also another possibility: banks are becoming weary and cautious of lending to “the Street”, aka they are pulling in their risk horns. Maybe the Archegos snafu has rang a warning bell. Also, it could be that savvier speculators are cutting back on their leverage and paying down margin loans.
Either way, what is going on is not so much a cash glut as an increase in risk aversion. Last week’s cryptocrash is only going to heighten caution, for sure.
Yet another way to look at this is from the Fed’s perspective: it is currently pumping out some $95 billion in new dollars per month net (ie after maturities etc), so the $400 billion it has to “accep back” via reverse repo represents over 4 months of “printing”. Clearly, this is money the economy is not capable of absorbing, it just doesn’t need it. To make a simile, it’s like throwing so much water to a thirsty horse that you may end up drowning it.
"The Fed has ramped up balance sheet expansion. Total assets have jumped by $92.2bn in the past week, most since March, to hit fresh ATH of $7,922.8bn as Powell keeps printing press rumbling. Fed balance sheet now equal to 36% of US's GDP vs ECB's 76.6%." https://t.co/p7VoM6MDec
ReplyDeleteThe ECB balance sheet (assets) is at approx. 60% of Eurozone GDP 😉
ReplyDeleteTrue, wonder what he referred to with the 76.6 number... I found 64%.
DeleteOk, so what's the worst that can happen here? The number goes to one trillion... nobody cares? Or? Thanks! I'm really curious what this means to the real world...
ReplyDeleteThe real world would most likely be in a deep recession if that number reached 1 trillion because it would imply that real world business have ceased to be creditworthy.
DeleteIt is a form of “tapering” through the back door. If removes money from the system, and if it keeps rising the Fed will simply go further and start reducing the amount of QE. There is no sense in “printing” $100 billion per month and releasing it to the economy only to see it coming right back as reverse repo.
DeleteBut repo money is returned back to the system once the repo expires, no Hells?
DeleteYes it’s not a permanent drain... but it keeps on increasing in size.
Deletehttps://www.scmp.com/economy/china-economy/article/3134768/chinas-factories-decry-surge-raw-material-prices-they-cut
ReplyDeletei am not talking big principles here, just trying to understand the mechanics.
ReplyDeletecan the following happen?
fed buy treasury X; fed reverse repo it to bank; bank sells X to fed; fed reverse repo it to bank; bank sells X to fed; repeat add infinitum...
Fed buys X and holds it, thus adding permanently to money supply. Money goes to banks who now can lend it out. If they can’t or won’t, they deposit the money back to the Fed via reverse repo, thus reducing money supply, if only overnight. This is a bit of a stealth tapering... read today’s post, coming up... 🙂
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