Fed Ending Term Repos Reflects Liquidity Feast for Dealers

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The Federal Reserve’s decision to discontinue its regularly scheduled term repos reflects a financial system that is now awash in liquidity.

The New York Fed said its one-month term repos set for Feb. 2 and Feb. 9 will be the last regularly scheduled operations, according to a statement, citing the “sustained smooth functioning” of short-term U.S. dollar funding markets. Primary dealers last submitted bids to the offering in June. Overnight repo operations will continue.

Fed Ending Term Repos Reflects Liquidity Feast for Dealers

The Fed reintroduced repo operations in September 2019 in a bid to keep control of short-term interest rates and bolster bank reserves when a spike took overnight repos as high as 10%. Since the central bank started conducting large scale asset purchases to support markets and an economy devastated by the pandemic, reserves have become abundant and the deluge of cash now threatens to push short-term rates outside the Fed’s desired target range.

“This is just the usual fine tuning of liquidity,” said Priya Misra, head of global rates strategy at TD Securities. “When repo spikes were a concern, the repos were a life saver. Now the Fed is dealing with another problem, too low of a repo rate.”

The drop in costs in funding markets on Tuesday defied a traditional monthly pattern and could portend further front-end distortions as 2021 wears on. The rate on overnight repurchase agreements sank as low as 0% before stabilizing around 0.08% on Tuesday, according to Curvature Securities, while ICAP pricing indicated that at one point there were offers below zero.

The Fed has already hinted that it could intervene should reserves flood the market. Lorie Logan, executive vice president at the New York Fed, said in a speech last month the central bank is prepared to tweak its interest on excess reserves rate if downward pressure on rates were to emerge. The rate was set at 0.10% back in March.

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