Reverse Repo and Bailouts – April 2023

By 2022, money market funds have deposited $1.7trn in the fed’s overnight reverse-repo facility. They agree to buy a security from the fed and resell it back later at a given price (usually higher). But the rates on overnight transactions have jumped from 0.05% in February 2022 to 4.8% today, offering better rates and higher-quality collateral than private loans. Reuters says  “The reverse repo facility takes in cash from eligible financial firms in what is a de facto loan from the Fed.” Although the fed is achieving its goal of sapping interest from private sector lending which will in turn lower inflation, it is unaware that its reverse-repo facility and emergency credit lines that pay the face value of held-to-maturity bonds are both propping up bad banks and reducing their deposits, which may in turn exacerbate the economic fallout further rather than letting Silicon Valley Bank fail (as opposed to bailing it out). The federal reserve is on a track of increased meddling in the economy, going further than its mandate of lowering inflation and maximizing employment.  If interest rates go up even more, there could be more bailouts, for example Bank of America: Barrons says: “the $109 billion of unrealized losses in the held-to-maturity bond portfolio at Bank of America compare with $175 billion of year-end tangible common equity.” Businesses should be allowed to fail. Capitalism works for companies that are shrewdly managed with competent people, not for those who crash their business into the ground. Around the world debt needs to be reined in, budgets needs to be balanced, there needs to be less meddling. Propping up bad companies with bad management will only add to a recession time-bomb.

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