Lee AdlerThey’ve been threatening to do it for two years, and finally pulled the trigger. The Fed’s captured media barely gave it lip service, with a brief mention here and there. A sharp eyed Liquidity Trader subscriber, Chet, called my attention to this well hidden tidbit yesterday.
Here’s the relevant part of yesterday’s announcement by the NY Fed.
Under the SRF, the FOMC directed the Open Market Trading Desk (the Desk) at the Federal Reserve Bank of New York to conduct overnight repo operations with a minimum bid rate of 0.25 percent and with an aggregate operation limit of $500 billion, effective July 29, 2021. As with the Desk’s existing repo operations, the SRF will be cleared and settled on the tri-party repo platform. Treasury, agency debt, and agency mortgage-backed securities will continue to be accepted. All other terms will be the same as the existing overnight repo operations.
Primary dealers will continue to be counterparties for repo operations under the SRF. The SRF counterparties will be expanded to include additional depository institutions.
Chet wrote:
Why do they need this? Are the money markets who normally participate in the private repo market perceiving counter party risk? Even if the collateral they get overnight or term is pristine?I am watching all the CNBC talking heads right now, they don’t have a clue. They should be reading your newsletter on Macro Liquidity.
Without Chet, I may have missed that Fed release. It was not part of the FOMC statement, but was noted in a separate release at the same time as the usual Fed statement. It was designed to either be ignored, or at least under emphasized.
In that, they succeeded. Did anyone ask about it at the press conference? Yes, Mike Derby of the Journal asked a one line throwaway about it, and Powell gave a throwaway answer:
Derby: So I wanted to ask you about the standing repo facility and get your sense of what you think it will do for market trading conditions.
Powell: So, on the standing repo facility, what is it going to do? So it really is a backstop. So it’s set at 25 basis points so out of the money, and it’s there to help address pressures in money market — money markets that could impede the effective implementation of monetary policy. So, really, it’s to support the function of — functioning of monetary policy and its effectiveness. That’s the purpose of it. And it’s set up with that purpose in mind.
What a useless crock of shit that answer was.
I had not given much thought to the SRF recently, because I have always felt it was a non-issue. The Fed has always made unlimited amounts of repo funding available on an ad hoc basis when crisis demanded, so why would this matter?
Chet’s question made me revisit my thinking and I sent him this response.
I’ve long said that the idea for a Standing Repo Facility is smoke and mirrors. What’s the difference between it and offering them on an ad hoc basis when required, as they’ve always done? But I think I see their rationale for it. And it’s not what they say it is, of course.
Right now, there’s too much cash in the system from the Treasury paydowns, so it’s currently a moot point. But when that cash is gone in a few months, if the Fed opts not to take up the additional Treasury supply by increasing QE to absorb it, then the dealers will need to resort to repo to finance it.
[Additional note: Otherwise bond prices would fall and yields would rise.]
I guess the difference is that if they call it a “standing” facility, that means permanent. And that’s almost as good as outright QE to the dealers [because they would never have to pay it back], except that the cost would be variable, and would rise, if the market tightens.
Another thought is that by having this, it gives the Fed the backstop it needs to pretend to taper QE [emphasis added]. No question that something will be required to absorb the Treasury issuance. If it’s not outright QE, then it will be the SRF.
At this point the SRF is a non-issue. If they ever start to use it, we’ll have to see if the dealers redeploy enough of it to keep the markets levitated. As I said in the Lindsay Williams podcast interview (Bond Yields Down, Inflation Up, Here’s Why), there are simply too many variables that will come into play beyond the next 3-4 months to make an accurate forecast [beyond that length of time] now.
Thanks for alerting me to this! I wasn’t paying attention at all today. I was out exploring Warsaw!
To sum up, there’s currently no need for this facility. But when the Treasury runs out of cash (timing analyzed here) Congress will raise or suspend the debt ceiling, and the Treasury will start issuing more debt. If the Fed wants to keep bond yields down, it will need to buy more of that new debt, or fund it in some other way. There’s no way it could taper its purchases if it wants to hold yields stable. If it doesn’t buy more paper, then they hope that the SRF will do the trick.
If it doesn’t they would either have to let Treasury prices fall, and yields rise, up to a point. That point is the level that triggers a crash. You can forget about the Fed ever tapering purchases other than a token show trial for a month or two. To seriously reduce their purchases would be an act of financial mass murder.
They will either need to increase their purchases (more QE whoopee) or do repo, lots and lots of repo. The $500 billion they have initially set will be gone in a few months. Then they’ll go to a trillion, then who knows.
It’s all so sordid. But I’m not here to moralize about why this is so gat-danged wrong. We’re only interested in the practical effects of Fed policy on the prices of stocks and bonds. I analyze that and give you the look ahead for the time frame that’s reasonably foreseeable in the Liquidity Trader Money Trends reports. If you are a new subscriber, you can try them risk free for 90 days.
