Decline in Demand for Federal Reserve’s Overnight Reverse Repo Facility

by webmaster

The demand for the Federal Reserve’s overnight reverse repo facility has decreased from its peak value of nearly $2.6 trillion in December, following the June U.S. debt-ceiling deal.

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The Key Role of the Fed Facility

For the past two years, the Federal Reserve facility has played a crucial role in the functioning of financial markets. In response to the COVID-19 pandemic, as global central banks implemented measures such as reducing benchmark rates and conducting asset purchases to stabilize struggling economies, this program provided stability.

A Safe Haven for Investors

During this time, the Fed facility attracted money-market funds and institutional investors seeking risk-free yield opportunities. The demand for this facility reached its highest point in December 2022, with an overnight usage of nearly $2.6 trillion as liquidity flooded the markets.

Spikes and Retreats in Demand

The demand for the overnight reverse repo facility experienced another surge in March 2023, triggered by concerns of a broader regional banking crisis following the collapse of Silicon Valley Bank. However, this trend was short-lived as the Federal Reserve introduced an emergency facility for banks to access liquidity and prevent forced asset sales. Additionally, the June U.S. debt-ceiling deal resulted in a substantial increase in Treasury issuance at some of the highest yields seen in years, further impacting the demand for the Fed facility.

Continued Decrease in Demand

The Federal Reserve’s aggressive pace of rate hikes has contributed to the ongoing decline in demand for the overnight reverse repo program. As a result, short-term Treasury yields have been on the rise.

Treasury Rates and Inflation Concerns

The latest data from FactSet shows that the 6-month Treasury bill rate TMUBMUSD06M stands at 5.5% on Monday, while the one-year Treasury yield TMUBMUSD01Y is at 5.4% and the 2-year rate TMUBMUSD02Y is at 4.85%. Alongside these, the benchmark 10-year Treasury yield remains close to 4%.

Meanwhile, the overnight rate for the Fed’s reverse repo has reached approximately 5.05%, falling within the central bank’s targeted range of 5% to 5.25% aimed at combating inflation. In view of this, Cleveland Fed President Loretta Mester suggests that the central bank might need to implement further rate hikes in order to achieve its annual inflation target of 2%.

To replenish its depleted coffers caused by the ongoing battle over raising the U.S. debt ceiling, the Treasury Department has introduced a substantial influx of new bills. Barclays researchers have noted that this move has enabled the Treasury’s cash balance to surpass $500 billion.

Turning to the stock market, Monday’s trading session saw a mixed performance as investors anxiously awaited the release of inflation data from the monthly consumer-price index scheduled for Wednesday. The Dow rose around 130 points (or 0.4%), the S&P 500 remained flat, while the Nasdaq Composite Index experienced a slight decline.

Read: Inflation rates will keep cooling, consumers say — except in one notable area

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