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My Thoughts on Recent Fed Announcements

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At Mises.org. An excerpt: Now what the Fed announced last week is that it will itselfenter the repo market and be prepared to offer up to .5 trillion in (newly created) US dollars in order to allow institutions to pledge their Treasurys as collateral and borrow such vast sums. But these transactions won’t be overnight loans; instead, the .5 trillion consists of 0 billion bursts of financing in the one-month and three-month repo contracts. The whole point of this Fed intervention was to keep the implicit interest rate in the Treasury repo market down to acceptable levels. In other words, if the Fed had not intervened, then repo rates would have soared. Remember, last September the repo rate suddenly jumped from about 2.2 percent to 6 percent in two

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At Mises.org. An excerpt:

Now what the Fed announced last week is that it will itselfenter the repo market and be prepared to offer up to $1.5 trillion in (newly created) US dollars in order to allow institutions to pledge their Treasurys as collateral and borrow such vast sums. But these transactions won’t be overnight loans; instead, the $1.5 trillion consists of $500 billion bursts of financing in the one-month and three-month repo contracts.

The whole point of this Fed intervention was to keep the implicit interest rate in the Treasury repo market down to acceptable levels. In other words, if the Fed had not intervened, then repo rates would have soared. Remember, last September the repo rate suddenly jumped from about 2.2 percent to 6 percent in two days. That was deemed a crisis at the time, justifying the Fed’s large (and recently expanded) ongoing intervention in the repo markets.

It’s true that when fear grips the world, investors do look to US government debt as a “safe haven.” That’s why US government bond yields collapsed to record lows recently and stock markets are falling: many portfolio managers are switching from equity to fixed-income assets.

But what the spikes in the repo market reveal is that in the very short term, such as a period of 1–90 days, actual cash is king. Right now, asset managers do not at all view a Treasury security “as almost the same thing” as US dollars issued by the Federal Reserve. One way the market communicates such a change in risk appetites is a “skyrocketing” implicit interest rate in the Treasury repo market. People who control actual US cash right now are not as willing to see that transformed into an “equivalent” amount of Treasurys, and so they demand a higher compensation (interest return) to make the asset swap. This is the market process that the Fed is trying desperately to hammer away.

Robert Murphy
Christian, Austrian economist, and libertarian theorist. Research Prof at Texas Tech and author of *Choice*. Paul Krugman's worst nightmare.

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