Repo: I Blame The Fed

I have not had time to dig into them, but I have run across arguments to the effect that the upset in the repo market is the result of the amount of debt outstanding. This seems incorrect, other than in some trivial sense (e.g., if there were no Treasury securities outstanding, the hypothetical repo rate would be dead stable).

As always, the simplest solution is to blame the central bank. In a very practical sense, the general collateral repo rate is the risk-free overnight rate that matters the most for the economy right now, since it is the price anchor for valuation of the risk-free curve, which then goes into generic asset pricing. Even mortgages - which are allegedly bank-financed - are priced off of the MBS market. The Fed Funds rate is somewhat of an anachronism, but it has a very useful property for the Fed. By using the interbank rate as a target, it can pretend that the Treasury risk-free curve is a "market" rate.

However, Fed officials' desires to obfuscate reality for political purposes caught up on them, and repo rates threw up all over their target. They either have to let that happen, or admit that repo rates are what matters under current institutional arrangements. (As a reader of Minsky would underline, those arrangements change.)

Since there are about 250 working days in a year, divide any overnight rate movements by 250 to get a feel of their economic significance. "Nothingburger" seems to be an apt summary of developments so far.

My fearless prediction is that the Fed will make some changes to their operating procedures, and everybody can go back to ignoring the governmental repo markets once again.

(Note: this article is deliberately short since I am supposed to be editing my text.)

(c) Brian Romanchuk 2019