Zoltan Pozsar on What’s Going on in Rates Markets Right Now

money markets so far this year. So you know, just today we have a d two participants placing one point one nine trillion dollars at the FEDS Reverse Repurchase Agreement Facility, the Reverse Repo Facility UM. And I have to say, the US financial system right now is kind of a wash in liquidity, and it has been for some time, and that's causing problems for banks who have to handle all these deposits, problems for money market funds, and of

course problems for the FED. So all this liquidity means that money market rates have basically been pressured lower all year UM, so much so that the FED has actually had to tweak some of its facilities, including the reverse repot facility, back in June to prevent those rates from going even lower and more recently it surprised the market

by introducing a standing repot facility. So we have had a lot of requests to talk about this on all lots, and no surprise, we've had requests to speak to one person in particular, repeat all loots guests, We're gonna be talking to re Sultan Posar, of course, the equobal head of short term interest rates over at Credit Swiss. Sultan, welcome to the show again. Thank you very much for having me back. So I'm trying to think where to start, but maybe you could begin by describing the general state

of liquidity and money markets at the moment. Like when I say the financial system is a wash in liquidity, what exactly do we mean the general What is the general state? The general state is things that haven't happened before are now happening. So so again, let's let's perhaps start with cross curency basis. This is something that we are used to as as being very negative. You know, there is also there's always an excess demand for dollars, and that excess demand for for for dollars has gone

to cross curency basis is pretty much closed. You have some jurisdictions smaller countries for the cross currency basis is even positive Mexico, South Africa, in China's you know, these are these are these are quite unusual things. Library is dormant and in the base still wise is three basis points very tight. People and bill yields are are very low.

And you know, but this, but this is a reflection of the is naturally just you know, too much cash in the system relative to demand for this funny you know, I think, unfortunately, I think we are in a period where things are going to be very different for quite some time relative to how things were over the past five years. I think over the past five years we've had sort of a golden era for stir traders because we've had so many, so many spread moves in the

money markets. You know, the liboiary basis or the cross currency basis has done. You know, the people markets acted out in the past. But if you think about why liquidity was tight as opposed to abundance, they're basically three weeks. You know, the FED stubbed QUEI in twenty fifteen, and then the ECB and the d o J were just starting. So we were in this position where there was an excess supply of euro and a end people didn't know

what to do. The responsed for dollars, so that rope that that special as the dollar in in the xpot market.

Then we had fossil free that was getting rolled out, and so nobody understood that, right, So you had this relative shortage of dogs combined with an ever growing shortage of balance sheet for various parts of basil getting rolled out l C R, SLR GC S. Course, you know, the banks themselves had to learn how to manage these ratios, the market learn how to trade these ratios, and then we had these little idiosyncredic things like money funderform, corporate

text reform, and so these rollways back in the rent some of the most experienced STIR traitors will tell you that they've never traded as much front and basis in their career. You know, some of those careers spent thirty years as they did between twenty fifteen, and so then you fast forward to today. We now have so much liquidity. Uh, and this is this is particularly a case for the US.

Do learn that you know, the FED is doing que faster than than the B O J or the E C B. So so there is, there's just an ample supply view as dollars. Regulations are not getting tighter, if anything, they are getting easier. The FED has become a dealer of less resorts, the swap mindes. We have the standing people facility before banks. We have to standing people facility for foreign central banks. So so this is a very

different environment. And then in the midst of this, you know, a lot of the community, a lot of balance sheets, a lot of excess cassion systems. There's also you know, not as much activity in the world economy that needs to get announced. So if you just think about why foreign banks elsewhere, you know, borrow dollars because they need to finance traight those or or whatnot's death demand is dormant. I think I think capital clothes are a bit more domestic.

You know, the the FX hedge cloths are not as dominant as they the relative value hedge funds a kind of checked out at the moment because there's not a lot of opportunities and so you know, there's you know, the best reflection of of all these sex cases you mentioned is all this one point actually, and that is of cash that's sitting in the report facility that you literally want to think about as money the system doesn't need, either because it doesn't have the balance sheet for it,

or because there's no use or outfit for that money. All right, This brings me to my next question, because I think a lot of people when they hear that the system is a washing liquidity, there's all this excess cash, a lot of people wouldn't necessarily think that's a bad thing. And yet you know, clearly this is something that the Fed at least has been responding to. Um I mentioned that it tweaked the reverse reboth facility and then it

started the standing repo facilities. What exactly is the problem here? Well, I wouldn't say that it's a problem. I think that the way I think that the way all this is clearing in the system is actually quite do you beutiful and kind of hastlement and problem free? I think you're the only person that would describe us as beautiful. Well, look, I think it's beautiful because you know, the designed the system basically, so you know, I mean, you put you

put reserves in. You know, the central bank is a balance sheet, and then someone has to hold the liabilities of central bank, and we have a beautiful mechanism where you know this money is going to flow through the past path of reefs, resistance to whoever has the balance and so and so that's what we're seeing. And again you know the reverse reple facility. You literally want to think about there as foam on the runway, So it doesn't matter how big a plane you're gonna eventually crashed

on the runway. There's a lot of foam there, so the impact is not going to be painful. So what do I mean by that? You know, people people talk about let's find let's find some some you know, stread opportunity we can trade in the money. Maybe there's gonna be a run on teather and you know that that tater is going to have to sell you know, sixty billion dollars of commership or something like that. I mean, you know, there these ideas floating out there because we

don't really have a lot of ideas to trade. So what would happen in such a scenario? Nothing? I mean on money fund complex that has one point two trillion dollars stashed away at the at the reverse ory earning five basis points whatever this location you go hav in the CP market from someone having to sell sixty billion dollars commercial paper hypothetically is going to be scooped up and they will be asking for more opportunities like that, right, So this is this is just exper cash that will

be there too to get deployed to to harvest whatever spread having affex swamps or or or spy or live

or or so so that's a lot. Now people often bring up, you know, this is a problem for the banks, but again this is not really a problem for the banks, because you know, the banks now have again and I think it's quite beautiful a mechanism whereby if in the morning they have cash coming in that they don't have the balance sheet for, they can just push that cash away in the afternoon, you know, and so that money that that that comes in in the morning and swells

the bank's balance sheets to push it away into the money funds and the money funds can taste it at the reverse people facility. You know, this is a mechanism that enables the system to kind of clear and and get around the balance sheet bottlenecks. And you know, the reverse triple facility has no limits. I mean, it's eighty

billion dollars per counter party. We are, you know, some distance away still from some some accounts maxing out the kind of party limit, but you know, the set indicated that they can base the kind of party cap to to a much higher number. So so really there's there's there's no limits to you know, this system is well designed, it's well built, it's working, and it's doing what it's

supposed to do. And frankly, I think, you know, all this money that's going into money funds and ultimately it is getting deployed in the in the reverse report facility, you want to think about it two ways. You know, there's two things happening. Number one, we have massive bill paidowns that are happening at the moment, because that's something

to talk about. But you know, there's these bill paidowns and so money funds are losing the current asset that they have in their existing book of business and then they have cash coming and then they need to places somewhere else. And that's the RRP facilities. So that's just a rotation within within these money fund portfolios. The other is new money that into the money funds, and that new money is the money that the large banks are are pushing away because they don't have the balance sheet

for them. And so there is something very very interesting happen, which is which is that at any given point in time, when the bank gets a new deposits, especially under COVID, it's either a new deposit because there is q WE happening.

And it's how you know, when q WE have, the pasites get created in the banking system, but those are low quality deposits, become institutions sold a bond to the Fed and got that institutional hot money that doesn't really have a lot of value from the perspective of the bank.

So the banks are pushing that stuff away. And then there's also still a lot of stimulus happening, you know, unemployment insurance text you're going out, we have COVID payments, we have all sorts of payments that the government is still making to the households. Those are the good deposits. So if you have a banking system that is balance constrained, then the largest banks are balancing extreme in the US.

You know, this is also a mechanism that enables these banks to take all these deposits as they are coming in and then at the end of the day make a choice as to this is good quality, this is bath quality. So the good quality I want to make room for him at Talantreet and I want to retain it.

And it's bad stuff. I just want to push away into the money fund because it's absolutely no value from from from a liquidity perspective, and so it's actually a facility that helps the banks to cherry pick of the posits they want old and so it works, it works, and you know, you know, we often think about the RP facility as the floor underpinning the basement of money market trades, and it's and it's a floor to money market trads too, So I think it's big, but it's

doing as it's supposed to do. And frankly, absolutely no difference between you know, treasuries cash banans being at one and a half Julian or the reverse reposacility being at one and a half Julian. It's it's the same thing. It's just there's a different mechanisms through which the system was it So if the reverse were facility is successful in the sense that you know, it's setting the floor on interest rates um and it's soaking up this excess on liquidity in the system. Why did the FED fuel

the need to start paying interest on it? So you know, interest used to be zero and then in June the FED raised it to five basis points. And here I think I should note that this is actually a call that you got wrong, right, you You weren't expecting them to raise that interest. So what's going on there? And what's your take on that? Yes, that that's that's a call.

That's a call I get wrong. Look, I think I would say it's an extreme aversion to negative interest rates in the us UM which I basically which I basically misread. You know, the interest on the reverse people was raised to five basis points because I mean, look, the backdrop part this is, you know, if you're the FED, you have two groups talked to all the time, the banks and the money fund The banks are telling you I

can't take any more to passes because I'm cool. You know, I have an SLR and I have an SLAR constrained. You know, the reserves haven't been exempted from the SAR. I'm not going to take the money funds are telling you what. I'm not going to take the money either, because you know the rps are zero. I have certain fixed costs, variable costs that are a function on my assets under management. So I need to be able to make a buck, you know, if I take new money.

You know, my my argument was basically, you can money fund could ultimately charge charge the end investors a fee for or for taking their money. I think it would be the end of the world. Um, because at the end of the day, the FET cares about the constellation of the administered of the of the of the overnight rates that it's looking at, which are all inter bank grates. You know, FET funds, euro dollars, soper repo, all that stuff. But you know, the FET shouldn't really care about the

rate two end investors. Right, there's a big difference between rates to end investors and inter bank rates. Because that was my prior and so, as you said, I was wrong. But what did we learned from this from this episode of being wrong. I think what we've learned is that, you know, the FED care is not only about these inter bank rates, but the FED also cares about rates to end investors. They are averse to even bill yields going negative in episodes other than a master prisis you

know last March. They don't want money fund fields to be negative. They don't want the positive rates in the banking system to be to be negative. So so they basically just raised the r a period to five basis points. I think the money funds got an asset that is sufficient for them to which yields enough for them to be able to cover their costs to even charge the feed to investors, and for the end investors to end up with with a with a with a positive field.

So I think I think the you know, the short answer is there's that extreme aversion the negative. It's just something beyond the the US. I'm kind of amused that so many people complain about the FED manipulating interest rates and meanwhile the FED is concerned about private actors manipulating

interest rates downwards to a to a negative level. So one of the reasons Joe and I love having you on the show Resultan is because you do this research that is incredibly granular, where you talk about, you know, the individual incentives for each bank, why they do the

things that they do. You just touch on it, you know, with the Federal Reserve, the idea that the FED is absolutely loath to have negative rates in the headlines basically, Um, can you walk us through exactly how banks are thinking about various forms of cash like instruments at the moment. So you know, when we say the system is a washing liquidity, that liquidity kind of comes in different formats.

So you know, you can have US treasuries, you can have agency nbs, um, you can have excess reserves that banks get from the FED. And I'm wondering, like, how are banks thinking about that mix at the moment. Well, Um, it's a it's it's it's a simple it's a simple answer. At various points over the past five years. You know, these liquidity portfolios are always are always being up. So you know, whatever is the yield st that's that's what

the banks do with that liquidity. Look. Uh, sometimes you know they lend into the reple market because it feels better than underserves at the FED. Interest on reserves is always there is the starting point, of course. Uh. Sometimes you lend in the f X spot market because yields are much better there. And in both of these cases, you know, the opportunity set is pretty it's pretty bad. I mean, you know REPO is well below I O or as I said, you know, the relative value you

hedge from community. It's kind of checked out at the moment because there's there's not a lot of you know, bond basis opportunities um to to to put on and to the funds. So so the report market is is very quiet. The fx pop market. Similarly, when you look at you know, the the very front and points in the fx S pop market for these tanks are active tom next spot next points implied yields are just the

basis point above io. We are, I mean, we've never seen things this tide since pots of peoples rolled out. So this is this is uh, this is again what we started the conversation with. It's too much, too much security, not a demand for this cash. Sometimes, you know, the fx S pop market and the report market will also each other and so the fex pop market can pull the report rates up. But so money markets again or doormant.

So if you're a bank portfolio, you cannot truly do anything but go out and when you go out the curve, you will be looking at other age curity, which is which is mortgages, mortgages and treasuries, and then you know you can you can buy these treasuries which offer a spread over row I s or can buy it out right, you can buy it, buy it an asset spot. But

basically treasury securities are the frontier. And when you look at when you look at the bank h portfolios, you will you will see that you know, they have they have added a lot of treasury securities under the pandemic. And so you know, good for you as government because they have a lot of paper that they that they need to issue. But that's basically where the money is

going at the at the moment. I think I think it would also be interesting to kind of dig into, you know, some bank by bank examples of ending in this department, because you know, when we talk about banks, it sounds like it's plural, right, because there's a lot of banks. But actually what's happening is that there's only two banks really that have done all the heavy lifting in terms of in terms of buying all these treasuries, and and that those two banks are Hip Morgan and

Bank of America. These are these are two of the most important creditors to the US government at the moment, other than other than the set up of course, you know, but but these are two banks that that approached their their bond buying strategy completely differently. And you know what I will say now is you know some of the things that have been said at at these banks earnings calls and so it's not not an inside d or

anything like that. You know, the Bank of America's management has mentioned a number of times and they're on their earnings calls that they are they are happy with the fact that they have called the bottom in rates during the third quarter of twenty twenty. They have been slowing all their access security into into the mortgage markets ever since. So they have this programmatic buying of treasury securities and they are always in the market regardless of of abew.

That was simply because you know, that's a bank that has that has a management philosophy where look, there is no low demands, but these deposits keep coming in. So we're a bank. So if the deposits are coming in but there's no law demand, we have to do something with this excess case. So we just you know, buy securities. If households and corporations don't borrow, but the government does.

You know, we're just underprid that. JP Morgan is a bit more different because they always have you know, strong views about rates, and so Jamie Diamonds letter to shareholders and he basically said, kilds are moving higher, elation is coming that is going to have to chase down this the patience. The yields are going higher, so we will hold off on spending all the fact hundred billion dollars of reserves that we have a FED until yield will higher.

And so you know they didn't spend any of this money. Bank of America has been programmatic buying. I guess the question from here going forward, is JP Morgan going to adapt to a world where and this is this is a good segue into into the standing people facility and this idea of dealer of last resort. You know in my writings and I think I mentioned this one it's

called too before. JP Morgan was always the lender of next to last resorts of the system, right because before the FED would stop in, you know, they had always the most amount of reserves in the system. So whether it was the FX swap market that was acting out or the report market, you know, it was JP Morgan lending into it. On the margin, there was value. There was a lot of value in having all these sex as cash because uh, you know, as Warren Buffett would say,

you know, cash has option value. So if you're a bank portfolio, and especially if you're JP Morgan and your heart of the financial system, you need to have that cash to be able to kind of lend into these money markets. Location right now, that opportunity that is extremely poor. I mean, the only the only thing, the only thing that gets people excited here and turned, which is which is just pretty depressing by the way, so all year there's nothing to do with the year in turn, you

have to kind of handicap that. But so that opportunity is pool. Fields were supposed to go higher, but they didn't. They went lower. You know, we have a taper announcement. Fields didn't do anything on the back of that. So I think it would be very interesting to see during the second half of the year how this posture at at this that this bank is going to change going forward, because if Fields are not moving higher, they're basically giving up a lot of net interest income that other banks

are earned. And so it was just very interesting. You know, there there is this theory out there that bank demand for treasuries to satisfy the liquidity requirements has been one of the factors, you know, maybe even a very important factor in keeping yields very low um And you know, this was sort of a mystery in markets um over the summer and in the spring, Why our treasury yields so low when it looked like the US economy was actually recovering. How how big a factor do you think

bank demand has been when it comes to yields. It's not it's not in the numbers. I mean, you just don't see. You just don't see any kind of level shift in in thanks buying more treasuries. So you know they will have the cold reports out in a couple of beeks, but but I doubt that there's anything increase in bank buying because you noticed from the v P a number. So you just just don't see any of that. I mean, you know, the one thing I would point to is, you know some of the there's two things.

You know that it's always about clothes and technical so

to speak. And then there is the narrative. I mean, you know, the delta variant get a little out of hand, and you know articles about that kind of started to percolate proughly when when yields have started to really, so I think I think a lot of this is party partlet of virus and the delta variant, but also t g A moss were coming down, right, So so all this cache was coming into the system, and when when large amounts of money are coming into the system, there's

always some leakage because you know, people think about d g A comes down, so there's fewer bills. All that money goes to RP, yes, most of it, but some of it leads and so someone who was in bills probably went into an aggregant bond fund and that aggregant bond fund had to kind of deployed that money coming in, and so there was some bit for for fixed to come. So so I think I think it's a combination of

those two. But it's definitely not been the bank portfolios that that caused that caused the really it was certainly not uh JP Morgan because they were kind of waiting for the others the other things to happen, you know. So Okay, well, um let's talk about the standing repo facility then. Um, you know, when the FED announced that there were a lot of different interpretations over what exactly it's meant to be doing so. You know, on the one hand, some people were saying it's supposed to prevent

more blow ups in the repo market. Um. But then there were some other people who were saying, it's basically paving the way for the end of QUEI and allowing the FED to start the taper. So how are you viewing it? Yes, so, so the latter one was, you know, the view that I that I subscribed to as well, Look, we don't need a standing repo now there's so much money in the system that we won't need it for

the next five years in in the aggregate sense, you know. Um, so the standing repo facility I think it's going to be I would say, we are see the impact. I mean, you have to standing people. There's one for three actually, if you want to think about its actually one is there for the dealers that should be able to replace funding. They need to mediate um between the and the cash providers. The cash providers blow away from the dealers that is going to step in and so the dealers to find

standing repurposes just the term. But again I tend to think about these in terms of types events that have accessed. So there's the dealers then there will be the bank port folios large and small that can that cannot buy. And then you have the FEMA report facility, which is which is the same for for foreign central backs. So that's that's that's one one BA gold block, so to speak.

I also want to say the same day that the SET announced sending report facility, the G thirty also issued a report, part of which was basically recommending that we also need a standing group of but we need to

make this available to anyone who owns treasury collateral. And so there was always these two views about who should we make who should get access to the standing group, and so I always thought, you know, the the the issue with opening up for everyone is that, you know, it's just it's just a very broad system, right so you know, if it's hedge funds to how do you draw the line you're letting the little ones and the

big ones. If it's asset managers, again, how do you how do you design the criteria for access and haircuts and whatnot, and so so that's cumbersome. Then if you think about what the FET did, it's actually it's actually a beautiful middle ground because you know the dealers, of course they always deal with bank portfolios and foreign central bx. What are they? I mean, they are half the by side.

You know, if you think about the by side from the dealer's perspective, you know, it's the insurance companies, it's the asset managers, the hedge funds, and the bank portfolio and the foreign central banks. So basically two very important actors.

From from the bias, I've got access to the sustanding pople facility, which means that in the next crisis, and there will be an ex crisis because there's always are that there always are you know, they will be able to go to the FED to turn bonds into into liquidity, whether you're a foreign center bank or a banquet bo you and that's going to be a massive help for everyone else in the system because the dealers won't have to deal with these accounts because they can go to

the FED directly, and so everybody else is going to have more more balance sheet that um that the dealers can that the dealers can provide to them. So this is this is how the countours of the next basis is going to play out. Observation number one, Observation number two. You know why now look I think, I think anyone anyone that has because you're a foreign central bank, now you need sixty billion dollars less in liquidity because you

know that the FED will give it to you. So if you if you if you think about the typical effects manager, it has some liquid assets in money markets, has some longer term securities and treasuries of mortgage. That that money market did is basically, you know, you just leave money on the table because that's your liquidity insurance. That's the money that you can spend on short order

if something unexpected happen. You can now allocate sixty billion less UH to those types of instruments because if and when that licurity event, the feed is going to be able to provide to you that acurity on demand for a fixed price. Then you know, these liquidity events always less like a week or two weeks or a month maybe at most, and then the flows changed. But you know, it's a it's a nice it's a nice tool to have, and you can also know that you know the fet

is not going to be opportunistic. You know, if not, it might not be the case if you if you want to raise the petulity in the market because you will be with dealers. Dealers can charge your price. If you're doing this, the world can get out. You know, it's it's it's not supposed to, but you know people always started like calls on accounts read one account is selling.

I would I would also say that you know, this report facility, even though it's going to be more expensive than the market, because it's priced a little bit wider than the market design, there will be an an an limited premium that foreign central banks are are willing to pay up for because because they can just raise their

these they're really anonymous thing. You know, if you remember China selling uh you know back sixteen all those treasuries and cause some backuping dealer in the increason what threads around. I would even say that those episodes probably are going to be less painful going forward because you just go to the FED and so instead of selling those treasuries into spine and stand, get those dollars to your interventions in the in the in the in the local currency market.

So so I think this is this is going to smooth things. I would also say since the standing report facility was announced, we've had a ten year auction and a five year auction that has gone extremely you know, well especially the ten uere auction, and we've seen a foreign participation at those and at those auctions so which

was a record participation by foreign official accounts. So so I think here's a liquidity tool, and the foreign center banks are saying thank you, and they are are underwriting the deficits the resultant. You know, if you think about five large central banks each allocating sixty billion dollars experts treasuries, that's that's three hundred billion dollars, don't know, half a

taper or something like that. So you know, foreign central banks, I think over time they will change their behavior all the little less security and lend a little longer to the US government because the other arm of the U. S Government is going to fund their liquidity. So that's

that's fun. The bank portfolios to be able to apply starting at piver one for for access to this facility, and you know, the bank portfolios, I think, I think this is not going to be as big a deal for for the big banks like Japer, Morgan and Bank of America because because they are they are a league of their own. But you know, there is twenty thirty or so regional banks, smaller banks that also will qualify.

Then I think it's an overlooked fact that a lot of these smaller banks also have a lot of access reserves that they accumulated over the past years. Um. I think I think that number. Um, I don't have it on top of my head, but it's something like four

billion dollars. They can also spend some of these activity on treasury securities and mortgages because they know that, you know, the fat is there at twenty five pass points, Chances are I will never need that activity, right, So if there's a spread in buying treasuries, you should just you

should just do that. So so so I think this is going to move the needle a lot, uh in terms of making treasuries collateral in general, more attractive, more attractive than cash, which is again if you look at the side, guys, that's precisely that's precisely what you need. This is this is generating demand. This is generating demand

for for for treasury securities from two very important buyers. Yeah, this is something I wanted to ask you about because there was this concern around who will actually buy treasury securities and agency mbs. So you know, mortgage bonds issued by the g s c s when the FED starts to taper QUEI and you're suggesting that it's I guess a non issue now because of the standing repot facility. Is that right? Yes? I think this is a This is the question of who will buy is a very

important question um in retrospect. Who buys on the margin. It's it's always very simple, you know, like but in real time and you need to figure out who's going to buy in the next Uh. That's what people, you know, confused. It's just kind of hard to be But look, if we were to tell here's a brief history of of rates and funding markets for the past five years, okay, and it's you know, we always talked about the marginal buyer in this program because you know, like life is

on the margin. Everything in market margin, So who's the marginal buyer? Twenty to twenty seventeen, it was the Asian fects hedged buyers that were extremely important and and we're closed. So they were buying the treasuries they were sparking and for dollars. Europeans were doing the same, and so that that that they were the marginal buyers and then the prose curency bass blew out and then they you know, had their trial by fires there. Demand kind of changed

a little bit after that. Then you had a bond basis that opened up. The set started to creates the curve gradually platin so it's it was all the r V hedge funds um and they funded everything in the repo markets. And then we had that repo market episode

in September. The FEDS started to rebuild the liquidity buffer of the system that build purchases and Lemic came and basically, you know that was that was a moment where even though you were building up the licurity buffer of the system and you were going back to this access reserves regime, you didn't do it fast enough, and the pandemic forced your hand and basically the feed needed to take out all the all the r V hedge funds from these

bond based positions because they couldn't fund fund these positions. And then and then the bank portfolio stepped in and they became the dominant buyers of treasury. So this is the span of six years. You know, foreign fex hedge to counts funding in the FEX bod market, relative value, hedge funds funding in the report market. Um. And now we have you know, the bank portfolios supported with a standing report facility in case there is a need for it,

and so who is going to buy going forward? I think I think the bank portfolios will be a very important part of the picture because that's where the excess cash is. We we just basically broadened and incentivized slightly broader set of banks and foreign central banks to do the same that that JP Morgan and Bank of America have been doing ever since the beginning of the pandemic. So so I think we are we are basically puttering

up and and appealing to a certain buyer base. That's that's that's going to be doing the bidding of the government. And also keep in mind, you know, we are also in an environment where loan loan demand is very weak and a bank needs to land that the bank bank has has has capital, and that that needs to be deployed.

And so I think and another another very important thing to keep in mind is that when you think about the lending process, you know, a bank makes a loan to be it's the past, it's the kind of tradition that's the way things supposed to work. I guess that's traditional. But the other version of this is a bank pis of treasury security and creates a deposit when they when they do that, and it's and the and then the

government is going to spend all that moody. So if you think about this infrastructure built, for example, you know, normally it's all the private sector building stuff. But when the private sector is building stuff, you know, some developer goes to a bank. You know, you want to build HUDs And Yards, you go to a bank, you take out of finances, okay, And so the bank made alone, created a deposit, and the developer of Hudson Yards is

going to spend it to all the contractors. And so that's what that looks like on the balance sheet of the banking system. If it's the government doing infrastructure projects, they will borrow the money and they will send it to the little contractors to build whatever. So then all of a sudden, it's not loan deposits, but it's treasury securities the deposits. And probably we will see a lot more of this type of lending going forward than we

have seen. You know, this pure form of the old old type of landing which is all which is all loan based, you know, this is this is basically the future I think. I think the banks will be buying a lot more treasuries and and a lot more mortgage backed securities, and the fact that this strip of facility is there to help in occasional liquidity hiccups, uh without a stigma. I think I think it's going to be

a huge incentive. It's always about incentives, you know. Again in retrospect, it's always simple, as I said, over the past five years, were the most important marginal buyers that were going forward, it will be the banks, And that means that it's also going to be a very stable form of funding government because it's all going to be

sticky deposits. So I'm a little bit concerned, just from a a very like self interested financial journalist perspective, that you're laying out a financial system that seems quite smooth and seems like kind of unlikely to end up in a massive blow up that you know, someone like me can write lots of articles about um which in some ways, you know, money markets and the repo market was always supposed to be a boring area of the financial system that just worked, but then it exploded in two thousand

and eight, and then we've had various explosions since then. Is there anything interesting coming up in in Repo that we should be watching out for, like, you know what what should be getting us excited? Because you've described it as this beautiful system and very smooth in terms of functioning. Yes, um, well, as as I said it, it's quite depressing in my market. Um. And you know, just just like you would like to

write about interesting things. You know, people want to put on put on trades about you know, spread though ups and whatnot. Um, yes, look you're right. I mean you know, the the Dealer of Last Resort was missing from the picture institutional, you know, like that's why we had that September Time nineteen episode. Um, the spot lines are now there standing, people cilities there, and the FET is doing this dealer of last Resort thing on both sides of

its balianship. Right, So the FET is keeping interest rates from going too low with the reversaryport facility. It's it's keeping reports from gowerring too high. And and you know the FX spot market from from from blowing up the spot lines and so yes, this is a very this

is a very stable era of the system. I would say that we are we are looking forward to but but but I would also say that, you know, this was a five year learning process of the FED, right because what were the past five years about the past five years were about. You know, we had financial reform, we had Basil three, bank balance spits are less flexible, you know, uh, you know, all all the things that happened over the past five years. And so the FED

was still thinking. I would say that the Great Financial Crisis was a it was a one off, and the things we had to do then hopefully they will never have to do again. And so here we are today where some of the things that the set they during your Great Financial crisis, some of the things that the FED did last March March, they became institutionalized and they are now standing facilities. So they are definitely going to

take the edge off of of a funding markets. And so whether this is good or bad, what this means is that the frontier is shifting elsewhere because whatever problems they will have is probably going to happen and in some in some other jurisdiction. But I think dollar funding markets are are are are going to be much more stable,

much more stable going forward. Things will be very quiet until we get to a point where the banking system again is liability constraints because there's just so much cash in the system that you know, the banks you're not going to have any problem funding problems to the foreseeable future. And you know, as band Bernanke said at the end of the first three Qui episodes, you know, the first balance is very big, and over time the economy and the banking system is going to grow into this big

balance shot. I think in a similar vein is probably going to take a few more in in in treasury securities and in a few more trillions. It's before before all this access access cash gets get soaked up. But again once that, once that type type security environment arrives, I think abouts and suspenders around how we are going to deal with that types are are indeed just going to to make things um less, less spectacular and spread

the while still be less spectacular than they were. It's been benefiting and and and the beginning of the pandemic. I think it's an end of an era. Yeah, it sounds like a much more boring system awaits us a less spectacular system Sulton, it's great having you on as always. Thank you so much. Okay, thank thanks for thanks for thanking.

So i' don't have that much to add to what Salton just said, And of course it's always weird doing this when I'm basically talking to myself, but I do think the end of an era idea is an interesting one, and it does feel like we've seen a sort of step change in the repo market, given that we now

have these two facilities. As Alton said, you have the reverse repot facility that is putting a floor under rates, and then you have the standing facility that's basically putting a ceiling on rates, And it just feels like, I don't know, the system is going to be much more constrained or much more controlled, much more steady going forward. So I guess we'll have to wait and see what happens. Um. You know, with a new system, there's always the chance

that you do see new risks develop. Um, So maybe there's something out there that no one has seen yet and we will get a chance to write something about it one day. Okay, this has been another episode of the All Thoughts podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway. Joe isn't here, but of course you can follow him on Twitter at The Stalwart. You can also follow our producer Laura Carlson at Laura M. Carlson. And you can follow Bloomberg's head of podcast Francesco Levi

at Francesca Today. Thanks for listening.