Repo-Market Cure May Take $500 Billion of Fed Treasuries Buying

(Bloomberg) -- It may take as much as $500 billion in Treasury purchases by the Federal Reserve to fix all of the cracks exposed last week in the more than $2 trillion U.S. repo market.

Estimates from analysts at TD Securities, Morgan Stanley, BMO Capital Markets and Pictet Wealth Management range from roughly $200 billion to half a trillion dollars. They’re not alone. Two former Fed officials said Thursday that the central bank might need to do $250 billion of outright Treasury purchases to prevent further pain in U.S. money markets.

There’s a growing consensus that the central bank’s daily efforts to restore order in the short-term funding market are falling short of what’s needed: a much larger effort to build up a substantial buffer of bank reserves. Expectations are growing that the Federal Open Market Committee will announce large-scale Treasury purchases at its Oct. 29-30 meeting in Washington.

“The daily operations are more like a Band-Aid that address the symptoms of reserve scarcity rather than the cause,” TD senior rates strategist Gennadiy Goldberg said by phone. “They don’t address the reason for the spike -- the shortage of excess reserves -- and the only way to fix this would be for the Fed to grow the asset side of its balance sheet.”

Policy makers are already slated to discuss expanding their balance sheet at next month’s two-day meeting in Washington, Fed Chairman Jerome Powell and Vice Chairman Richard Clarida said this month. Should officials announce a program in October, they’ll need to characterize it as a “technical adjustment” to avoid any confusion over whether it’s actually a form of quantitative easing, said Pictet economist Thomas Costerg.

He said he expects a $400 billion plan because the Fed is likely “to tilt bigger rather than smaller, as they need a ‘wow’ effect after the relative timidity of what the New York Fed put on the table in recent days.”

Such a program would not be without its side effects: Morgan Stanley’s London-based global head of currency strategy, Hans Redeker, says it has the potential to weaken the U.S. currency. That’s because when excess reserves go up, “the dollar goes down,” he said by phone Thursday.

--With assistance from Susanne Barton.

To contact the reporter on this story: Vivien Lou Chen in San Francisco at vchen1@bloomberg.net

To contact the editors responsible for this story: Benjamin Purvis at bpurvis@bloomberg.net, Nick Baker, Mark Tannenbaum

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