The Banking Liquidity Crisis Begins

“Among the tools used by the Federal Reserve System to achieve its monetary policy objectives is the temporary addition or subtraction of reserve balances via repurchase and reverse repurchase agreements in the open market.” – NewYorkFed.org

Last week the Federal Reserve responded to a bout of volatility in the money markets by injecting $30 billion in cash into the U.S. banking system in the form of repurchase agreements to primary dealers.

Who are primary dealers? They are the top 24 Wall Street firms that do business directly with the Federal Reserve.

At their essence, these repurchase agreements are a collateralized loan with a 1-65 day maturity and are held with general securities collateral and a 2% interest rate. In reverse repurchase agreements the elite firms loan to the Federal Reserve. These types of moves create liquidity for both the Federal Reserve and the top 24 on Wall Street because they create currency out of thin air.

The $30 billion in loans we are seeing this week are 14-day term repurchase agreements. But looking closer, that $30 billion was on top of the $75 billion in overnight repurchase agreement operations. Overnight the Federal Reserve creates billions in liquidity for these large firms due to a very small amount of market turbulence.

The Federal Reserve started doing this three weeks ago to add large-scale liquidity into the financial system, and analysts have agreed that the demand for funding will likely remain high as we go into quarter-end and banks conserve cash on their balance sheets to meet reporting requirements. Makes you wonder how "healthy" our economy is.

“The N.Y. Fed will conduct overnight repo operations, worth at least $75 billion, daily through Oct. 10. It will hold two more 14-day term operations, worth at least $30 billion, on Thursday and Friday,” reported Reuters’ Richard Leong the last week of September.

The Federal Reserve has not used these tools at this rate since the height of the global credit crisis a decade ago. So, why are they using them again? Because they are trying to stave off the next crisis by drenching out financial markets with liquidity via currency.

What will happen when the currency sky does fall?

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