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Fed liquidity infusions

It was previously reported that there have been significant disruptions in repo (repo) agreements with consequent disruptions in the Guaranteed Overnight Funding Rate (SOFR).[1]

Explain

During the market turmoil precipitated by the pandemic, there was a natural injection of liquidity by the Federal Reserve through the repo market.[2] These cash injections also took place to deal with the impact of the Great Recession.[3]

Unexplained

However, there were largely unexplained cash injections by the New York Fed in (i) January / February 2020 (before the pandemic)[4] and (ii) September 2019.[5]

Recent significant reverse repo activity

General rationale

Unlike repos, where the Federal Reserve injects liquidity into the financial system, reverse repo activity typically means optimally functioning liquidity markets with banks, brokers and other participants providing liquidity, reducing temporarily the amount of reserve balances in the banking system. Other participants include, but are not limited to, insurance companies, money market funds, pension funds, and government sponsored businesses (GSEs). It should be noted that reserve balances have recently been reduced for many financial institutions.

April 22-30

Increase in reverse repo activity

As of April 22, reverse repurchase agreements topped $ 100 billion, with the average reverse repo volume of $ 134.7 billion during that period. Participants provided this liquidity at an overnight interest rate of 0%.

Relaxation of existing requirements

On April 30, the New York Fed reduced its existing requirements for reverse repo participants as follows: (i) money market funds having, in the past six (6) months (a) net assets reduced from at least $ 5 billion to $ 2 billion or (b) the average stock of reverse repurchase transactions has been reduced from at least $ 1 billion to $ 500 million, and (ii) the GSE having, during the last three (3) months (a) the average daily outstanding of reverse repurchase transactions of at least $ 1 billion at $ 0 and (b) the average daily outstanding of reverse repurchase transactions the overnight money market shrinks by at least $ 100 million to $ 0.[6] Earlier this year, the New York Fed increased its counterparty limit for reverse repo transactions from $ 30 billion to $ 80 billion per day.[7]

Week of May 3

Increase in reverse repo activity

During that week, the average reverse repo volume was $ 151.4 billion, with overnight interest rates remaining at 0%.

Economic concerns

The US Department of Labor’s Bureau of Labor Statistics (BLS) released a report showing that the nonfarm economy created 266,000 jobs in April. This was considerably less than the million jobs many economists expected.

Week of May 10

Significant increase in Reverse Repo activity

During that week, the average reverse repo volume was $ 208.6 billion, with overnight interest rates remaining at 0%. This represents a 37.8% increase in reverse repo activity compared to the previous week.

Economic concerns

It was announced by the BLS that the Consumer Price Index (CPI) rose 4.2% from April 2020, the highest inflation rate since September 2008,[8] when Lehman Brothers filed for bankruptcy during the Great Recession. The core CPI, excluding volatile food and energy prices, experienced the largest monthly increase since April 1982,[9] during the recession of 1982-82.

Week of May 17

Significant increase in Reverse Repo activity

During that week, the average reverse repo volume was $ 293.3 billion, with overnight interest rates remaining at 0%. This represents a 40.6% increase in reverse repurchase activity from the previous week.

Week of May 24

Significant increase in Reverse Repo activity

During this week, the average repo volume was $ 448.6 billion, overnight interest rates remaining at 0%. This represents a 53.0% increase in reverse repurchase activity from the previous week.

Analysis

Aside from high levels just before the end of the quarter, these levels of sustained repo activity exceeding $ 300 billion have not been seen since the Great Recession.

[1] See the section entitled “Recent Fed Liquidity Infusions ”in“ The End of LIBOR: SOFR Volatility and LIBOR Transition ”, dated November 7, 2019 (the “November 2019 Customer Alert”).

[2] See “The End of LIBOR: Further Market Liquidity Problems in Light of Market Turmoil», Dated March 10, 2020, with Michael Lengel.

[3] See the section titled “Historical Fed / Bank Liquidity Infusions – Great Recession – New York Fed Infusions” in “The end of LIBOR SOFR updates», Dated December 27, 2019.

[4] See The end of LIBOR: SOFR updates“, Dated February 10, 2020, and”The end of LIBOR: SOFR and associated updates, “ dated February 19, 2020.

[5] See the section entitled “Recent Fed liquidity infusions»In November 2019 Customer alert.

[6] See Statement Regarding the Counterparties of New York Fed Reverse Repurchase Transactions.

[7] See New York Fed’s Overnight Repo Agreement Revision Statement dated March 17, 2021.

[8] SeeThe basic consumer price index has increased the most since 1982; Why is the inflation rate important?” in Daily Investor Affairs, Jed Graham (May 12, 2021).

[9] Username.