The Ignored Cause of the Ignored Crisis in the Repo Market : Economics


If October’s quarterly corporate tax deadlines really caused September’s repo crisis by tying up funds, then surely the passing of that crucial date would relieve the Fed of the responsibility of acting as that market’s insurance policy by January. Instead, the Fed committed last week to stay in the market until at least mid-February.You know, it’s really frustrating seeing pretty much all discussion surrounding the Fed and monetary policy in general be so aggressively ignorant, even from people who are ostensibly supposed to have a clue.The line:then surely the passing of that crucial date would relieve the Fed of the responsibility of acting as that market’s insurance policy by Januaryjust shows that the authors of this piece don’t really understand the why of that tax deadline being important, they’ve just heard that was supposed to be the reason and went from there.The why is important, though, because it’s not the deadline itself that was important, it’s what happened to the collected funds afterward that is.The Fed isn’t just the monetary authority and reserve bank for the whole banking system, it’s also the fiscal agent of the US Treasury. The Fed’s balance sheet contains, in addition to the reserves on deposit from the nation’s banks, the Treasury’s General Account where it deposits funds from tax collection and bond sales.Prior to 2008 the Treasury’s rolling balance with the Fed was negligible (<$10 billion on rolling basis): Treasury Funds were usually kept in commercial banks because they paid higher interest rates. After 2008, the TGA balance jumped to the $40-60 billion range. After 2015 it jumped again, peaking at over $400 billion in Oct. of 2016.This is important because, holding the Fed’s balance sheet constant (which it does — it targets the size of its balance sheet independently of fiscal policy), increases in the size of the TGA directly drain reserves from the balances of depository institutions, decreasing the monetary base. In the early part of the decade this wasn’t so big a deal: The Fed operated a monetary system of ‘ample’ reserves, banks were being paid to maintain large excess reserve balances (IOER) and the Fed maintained a very large balance sheet as a result of QE1, 2, and 3. Banks could absorb drops in total reserve levels without drastic problem. Indeed, the TGA dropped drastically and came back up several times in this period. Each time this happened it was like a hammer blow to the banking system but the amble reserves operating system could handle them.By 2019, though, the Fed had been decreasing the size of its balance sheet for more than a year (from ~$4.5 trillion in Jan 2018 to ~$4 trillion in Jan 2019 to the nadir of ~$3.75 trillion at the end of August). At the same time, the TGA balance had plummeted from a local peak of $400 billion at the beginning of May 2019 to a trough of $125 billion at the end of August.Then it skyrocketed to $335 billion by the beginning of October, as corporate taxes due were paid to the Treasury and transferred from reserves held by depository institutions on the Fed’s balance sheet to the TGA on the Fed’s balance sheet. Reserves held by depository institutions — which had been on a long run downward trend as a result of the Fed’s balance sheet ‘normalization’ policy — plummeted by $150 billion in a few days. The repo market (where banks sell Treasury securities for reserves and promise to buy them back the next morning so they can meet reserve requirements) experienced a dramatic increase in its interest rate because the reserve position of the some of the largest participants suddenly grew precarious (as a result of post-financial crisis rules surrounding ‘too big to fail’ institutions, they have much higher de facto reserve requirements than many other banks) and they stopped lending.This ended up being important because the repo market had, in the last ten years, become the primary overnight liquidity market after the FF market became moribund (mostly because of IOER). Drastic increases in repo rates threatened the Fed’s control over its policy rate (high repo rates would eventually pull its policy rate out of its target range), so the Fed intervened. It continues to intervene because the TGA balance continues to be elevated.Now, there’s a lot more context here, but that’s the basics of it. That the authors of this article are confused as to why the Fed is still involved in the repo market displays for all to see that they are not even aware of these basics. What the hell do they think gives them the right to comment in public on this matter if they don’t even know the fundamentals?


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