Although Chair Powell may feel that current monetary policy is in a “good place”, the Fed will still be busy this holiday season monitoring the market in which they use to set the stance of policy: the short-term funding market. As we approach year-end, we want to re-visit the drivers of the September funding saga where borrowing rates in the repo market (secured short-term loans backed by Treasuries) spiked to ~10%. When reviewing the factors that contributed to the dislocation at the end of Q3, it is clear that the problem was caused by not one sole factor alone. While the exacerbating factor may have been idiosyncratic in nature, there are a few important structural challenges in the market which have been underlying contributors to funding dislocations.
The Fed has responded to the stresses in September in a few different ways. We believe some solutions will be more successful than others in addressing the contributing factors listed above.
The Fed’s Response:
So where does this leave us as we head into year-end? We think the Fed’s actions have assuaged some concerns about short-term funding but risks still remain.
What to watch in December:
For now, the Fed can relax in the comfort of monetary policy being in a “good place” but they must remain on high alert as it pertains to funding markets during the festive winter season.