• Fed to beat a faster retreat from repo market

    14 Feb 2020 | Economic News


 The Federal Reserve is accelerating the pace of its withdrawal from short-term funding markets, even as investors’ demand for the central bank’s cash remains elevated.



The New York arm of the Fed announced on Thursday that it will further cut the size of its interventions in the repo market, where investors exchange high-quality collateral such as Treasuries for cash. It is the latest step in its attempt to wean investors off the funding it has provided since short-term borrowing costs spiked in September.



The new plan reduces the maximum amount the Fed will lend overnight each day from $120bn to $100bn — a change that will kick in on Friday. Moreover, the Fed will limit the amount it will lend in the form of two-week loans to $25bn as of Tuesday, from its current $30bn offering, and pare that amount even further in early March. At that point, the Fed will lend a maximum of $20bn on a two-week basis.



Analysts were primed for the shift, thanks to numerous reminders from chairman Jay Powell and other Fed officials in recent weeks that the central bank seeks to gradually transition away from active interventions in the repo market. The reductions were somewhat sharper than some had expected, however.



Mr Powell said this week in testimony to Congress that he expects the amount of bank reserves — or cash held at the central bank — to return later this year to a level sufficient to avoid a repeat of September’s cash crunch. It is widely thought that the repo market went haywire five months ago because reserves had dropped too low and banks were holding back from short-term lending.



The Fed has been buying $60bn of short-dated Treasury bills each month to increase the amount of cash in the system, and therefore reserves. Banks currently hold $1.58tn in reserves at the Fed — up from $1.3tn in September.



“The optics are good,” said Lou Crandall, chief economist at Wrightson Icap, of the new schedule of Fed lending activity, which he said represented a suitable pace for scaling back intervention.



Demand for the Fed’s cash remains high, however, with the four most recent two-week loans generating demand roughly two times the $30bn that was on offer. Analysts have attributed the elevated amount of bids to the fact that the rate at which the Fed is providing its funding has been relatively low, less than 1.6 per cent on average.



As such, Mr Crandall said he expects to learn a lot more about the market when the size of the two-week offering drops to $20bn.



“It may give us more information on how much demand there is,” he said.



Reference: Financial Times


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