I find this fascinating
Something astounding is happening in the financial system’s plumbing: Investors are parking a record-shattering $2 trillion worth of spare cash overnight at the Fed.
Why it matters: The Fed’s overnight reverse repo facility acts as a critical storm drain for excess cash, carrying effectively the same interest rate as the federal funds rate that the central bank targets. It is what enables the Fed to actually carry out its policy of raising short-term interest rates to fight inflation.
The scale of its usage now shows the complexities in sucking up the money that flooded the economy through the Fed’s pandemic-era stimulus program.
Driving the news: At the Fed’s last policy meeting, officials discussed whether it could be appropriate to consider allowing participants to increase the amount of money they put into the facility each day, if “usage continued to rise,” according to minutes released yesterday. It’s the latest signal that officials don’t see the facility’s size as a problem.
“They have no near-term interest, it seems, in trying to steer money out of it,” Lou Crandall, a money market economist at Wrightson ICAP, tells Axios. “The focus for now is making sure the facility can serve as effectively as an interest rate floor as possible.”
What’s going on: The massive usage of the facility reflects a few moving parts.
The Fed flooded the market with liquidity when the pandemic hit, buying trillions of dollars’ worth of bonds with money that then entered the financial system. Because of that, banks now have more cash than they want.
With banks offering low interest rates, savers have greater incentive to invest cash in money market funds, which invest in short-dated debt like Treasury bills issued by the U.S. government.
But with the budget deficit falling, the Treasury Department is issuing less short-term debt. The outstanding stock of Treasury bills is down more than half a trillion from the end of February, Crandall says.
“The amount of cash in money market mutual funds versus bills out in the market is totally out of whack,” says Thomas Simon, an economist at Jefferies. Thus, money market funds are putting cash in the Fed’s repo facility.Axios Macro By Neil Irwin and Courtenay Brown · Jul 07, 2022