Talking With Rob Kirby About Central Bank Operations
We’ve read and heard that Central Banks (CBs) in the world injected liquidity into the banking system on Thursday and Friday of upwards of $300-400 Billion. I asked Rob Kirby, financial columnist on Financial Sense Online and Le Metropole Cafe and owner of Kirby Analytics to answer some questions about the CBs efforts.
Mover Mike: I have a question about the “temporary” injection of liquidity by the central banks over the last two days. The central banks inject cash by buying bonds, repos, how does that money come back out? What happens to a three day repo at the end of the three days? So far it looks like all the CBs have injected about $300 Billion. Is it in the system permanently? If not aren’t we back to the same circumstances as before the injections?
Rob Kirby: When the Fed conducts Open Market Operations they are classified under 2 broad headings:
TOMO – Temporary Open Market Operations
These purchase and resale agreements [hence the name Repo] typically range in duration from 1 – 14 days. A One day Repo would have the Fed purchase collateral [Treasury Bond, Agency Bond or Mortgaged Backed Sec.] from the dealer’s inventories TODAY [at an implied yield] and have them sell it back to them tomorrow. This provides the dealer with temporary [overnight – 14 days] cash to fund their businesses.POMO – Permanent Open Market Operations
These are outright purchases of bills, bonds and/or notes from the dealer’s inventories and constitute permanent additions to money supply.
Lately, the Fed has been adding via TOMO – a combination of 1 day or over-the-weekend Repos in conjunction with multi-day Repos. What was interesting in yesterday’s three rounds of over-the-weekend Repos [apart from the fact that a virtually unprecedented 3 open market operations were conducted in the same day] was the stop-out / average rate at which the third round [3 billion worth] of Repos were conducted. In this action, the Fed was providing overnight funding to the dealers at an average rate/cost of 5.127 %. THEIR TARGET FOR FED FUNDS IS 5.25 %.
Mover Mike: What would indicate the FED is flooding the system, besides POMO, of permanent injections that are hard to get back out?
Rob Kirby: Actually, when you look at “liquidity add” by the Fed – it is useful to view the Repo add pool in aggregate. For instance, the Fed conducted 12 billion in 14 day Repos on Thursday and followed that up with 38 billion of over-the-weekend Repos on Friday. So – net in aggregate – there is 50 billion worth of ‘cash’ in the banking system that did not exist on Wednesday. Now, of course, the 38 billion added on Friday ‘runs off’ on Monday. But then the question of how much the Fed will add on Monday and for how long? This also begs the question, if the outstanding “temporary” Repo pool never really diminishes – is it really temporary?
You are correct though – POMO or permanent adds to the system are very difficult to reverse with creating much market turmoil [like raising reserve requirements]. Permanent adds tend to be much much smaller in size [there is an assumed multiplier effect of something in the neighborhood of 10x to any POMO add. That is to say 2 billion in POMO would be akin to 20 billion worth of overnight or temporary add.
Mover Mike: One more question, Jesse has a chart of Treasury Repos, are these also TOMOs and I see the total outstanding is near $40 Billion Any thoughts on Treasury Repos?
Rob Kirby: No particular comment other than to say there was 38 billion in Mortgaged Backed Securities done Friday, Thursday’s 12 billion worth of 14 day Repos had an Agency component plus a Mortgaged Backed component of perhaps another 5 billion or so.
So the CURRENT total aggregate Repo pool I estimate is more like
40 billion Treasury (estimate)
50 billion MBS (estimate)
just a guess 20 or so billion Agency
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110 Grand Total (estimate)
That’s a lot of money.
If I was a betting man – the financial markets are being groomed for an imminent [emergency] rate cut by the Fed.
Nothing could be more gold bullish and Dollar negative.
Ok Mover Mike, in layman’s terms, what does this infusion of FED cash and your prediction of an interest rate decrease mean for the U.S. economy?
Robert, I’ve seen comments that our use of debt is akin to heroin addiction. Instead of the FED making the economy go cold turkey, it is enabling our behavior by the injection of more credit and the immediate lowering of interest rates. Both ways end badly. But, I believe, we are in a situation of inflate or die. We are headed initially for lower interest rates, a collapsing dollar, then much higher inflation, higher interest rates and soaring Gold, higher than even the most optimistic estimates.