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In this episode of Bitcoin MagazineFor the “Fed Watch” podcast, we, your hosts Christian Kerols and Ansel Lindner, are back from a well-deserved respite. We started the show with memories of the Bitcoin 2021 conference two weeks ago. This was the first time we had met in person. Maybe next time, we’ll record a podcast together live from the conference.
We also talked about the current price action of Bitcoin and the amazing last two weeks of Bitcoin which is not yet represented in the price. Of course, El Salvador and Tabroot are very bullish on Bitcoin, but we also gave an upside to the crackdown on mining in China.
Our main topic for this episode is debriefing from the case of reverse repo and the latest FOMC meeting. In the statement From last week by Chairman Powell, the Federal Reserve left its key monetary policy stable. However, there were several changes, one minor and two major.
The slight change was to cut the points. At each FOMC meeting of the Federal Reserve, members place points on the chart where they expect the federal funds rate to be in the future. From this point chart, as shown below, market participants form their expectations about future Federal Reserve policy and also draw conclusions about current market conditions.
Those are the basic things, and we cover that quickly in this episode, but then we get into more meaty changes. The first was a 5 basis point (BPS) (0.05%) increase in interest on excess reserves (IOER). This move was likely to continue to participate in the quantitative easing (QE) that attracts primary dealers. When banks engage in quantitative easing, they sell Treasuries to the Federal Reserve and receive the reserves. These are idle reserves, as we have mentioned many times in the past.
They don’t do much of anything except sit in the Fed and collect the IOER. However, these reserves are calculated on the balance sheets of banks as an investment in accordance with international Basel III rules. Since the market is short of collateral which we will talk about next, quantitative easing does not make sense for the banks. Banks need this guarantee. Why would they sell it to the Fed? Well, because IOER. They raised it to ensure that banks had an incentive to continue participating in quantitative easing.
The next major announcement was a 5 basis point increase in reverse repo rates. We’ve taken our time and covered this topic in depth, from explaining what repo agreements are and why money market funds might want to participate in them. Our goal was to show how money market funds, banks, and the market in general got into this mess. It is too complex and long to cover in this short writing, you must listen to get the full conversation.
Currently, the total amount of Federal Reserve reverse repo is an all-time staggering $791 billion. Without knowing anything about this market, you can tell that something is wrong. Market participants in this market include money market funds and banks, among other large entities. What they’re doing is putting dollars in the Federal Reserve in exchange for collateral.
There are three main forces behind this dramatic rise: first, the market is flooded with money through government stimulus, and second, the US Treasury itself has been spending below its $1.2 trillion account balance and has also flooded the market with dollars while not issuing much money. – Bills of exchange as usual, and third, quantitative easing drains collateral from the system. These things combine to create a severe lack of guarantees.
The 5 basis point rise in the reverse repo rate is very significant as it jumps from the open market rates on T-bills (one to three month bonds). Why would anyone who can buy a three-month Treasury bill get 4 basis points when they can buy back with the Fed and get 5 basis points per second? All of these treasury bills rates were supposed to rise to a minimum of 5 basis points (BPS). But they didn’t. Even today, a week later, bills are three months shorter and 4 basis points shorter, and reverse repo volume continues to rise.
The Federal Reserve is trapped. It would be great to see what’s next. Stay tuned on “Fed Watch: Bitcoin And Macro” and we will keep you updated on all developments.