Liquidity Problems Are Much Closer Than You Think

investing.com:

In 2019, the Fed cut interest rates and restarted QE despite a healthy economy. Today, inflation is higher than the Fed’s target, economic growth is above historical trends, and financial markets display complacency and exuberance.

Yet, the Fed is talking about cutting rates and reducing QT. The only rationale for them in such an environment must be a concern with potential liquidity problems, as the declining balances in the Fed’s Reverse Repurchase Program (RRP) suggest.

Before discussing RRP and what it might foretell, it’s worth appreciating that a good understanding of the Fed’s policy tools is vital for investors.

Twenty to thirty years ago, very few investors needed to understand the Fed’s monetary plumbing. The Fed was undoubtedly important, but its actions were not nearly as closely followed or impactful as they are now. Investor success, whether in real estate, stocks, bonds, or almost any other financial asset, now hinges on understanding the Fed’s inner workings.

Total debt is growing much faster than the economy’s collective income. To facilitate such divergence and try to avoid liquidity problems, the Fed has increasingly employed lower interest rates and balance sheet machinations (QE). Numerous bank and investor bailouts have also helped.

As the country becomes more leveraged, the Fed’s importance will increase.

A repurchase agreement, better known as a repo, is a loan collateralized by a security. The Fed’s RRP is a loan in which the Fed borrows money from primary dealers, banks, money market funds, and government-sponsored enterprises. The term of the loan is one day.

The program provides money market investors with a place to invest overnight funds.

Think of RRP as money market supply offered to help