Andy Kessler wrote an interested article in the Wall Street Journal today, “The Fed Squeezes the Shadow Banking System,” which, of all things, discussed the Repo market. I have some comments on the article which should be interesting:
- In traditional economics text books, we learned there was a money multiplier when banks took in deposits and made loans – those funds filtered back into the economy a number of times over. In a traditional banking system economy, it was the bank loans which caused the velocity of money to increase. These days, the velocity of money is more a function of the Repo market, which finances the shadow-banking system. This is interesting and I’d like to see if there is a formal economic study on it.
- Question: What’s the opposite of Quantitative Easing (QE)? Answer: The Fed (or government) selling debt into the markets and taking in cash. Well, isn’t that exactly what the Treasury does on a weekly basis? So if you believe QE is money creation, shouldn’t you believe that net new Treasury issuance is money destruction? The Fed, through it’s QE programs, injects $85 billion into the economy each month. In theory, they’re “creating” $85 billion in new money. However, since QE2 began three years ago, the market has had to absorb a net $2 trillion in new U.S. Treasury issuance. So hasn’t the Treasury been “destroying” money faster than the Fed created it? The QE programs, combined with net new Treasury issuance, have really just slowed down the distortions in the economy which would have been created by so much Treasury issuance.
- Right now the ultra low, near 0% overnight general collateral rates cannot be blamed on QE. At least not yet. The overnight funding market just passed the April seasonal collateral shortage period, so that may be contributing to near 0% rates. However, the Treasury’s net new issuance of $84 billion Treasurys on May 31 and June 3 will determine whether there’s a continuing collateral shortage or not. The 0% GC Repo rates will have to extend into mid-June before I believe the QE programs are moving GC rates down instead of overhang from the seasonal collateral shortage.