The US Repo market has a big liquidity problem. People seem to think this is a good pro-Bitcoin/crypto argument but is it? Let's talk about what's going on and why. This is an important market for the USD to stay stable here and around the world.
What is the Repo Market?
Repo stands for repurchase so the Repo market is a market of repurchase agreements, usually between banks. Bloomberg did a nice primer last month on the Repo market that I'll be using liberally here. It's a good read, go check it out. The Wall Street Journal has a great intro video on the Repo market too.
Most Repo agreements are overnight loans of cash or short term government securities so banks can maintain their required reserve liquidity requirements. Even with fractional reserve banking, a bank must still keep a certain amount of cash or liquid assets available at all times. When they risk running short of the minimum requirement, they go to the Repo market for a short term fix.
Often banks lend to other banks OR mutual funds, hedge funds and other institutions sitting on cash will offer it up in the Repo market as a way to earn a little interest on that money while waiting for their next investment opportunity or order for redemptions.
Interest rates are very low for this market since many of the loans are overnight with the cash returned the next day. Most of the time repo rates are under 3%. The Federal Reserve has put in a price floor ensuring a minimum interest rate in the repo market by stepping in to do repo transactions. But then, in September, something weird happened. Check out this chart of repo rates from Trading Economics.
Notice the spike of up to 6.94% in September. What happened?
A lack of dollars in the market for the securities and other collateral people put into the repo market is what happened. The result with less cash meant the interest rates went up. The Federal Reserve then promised to inject $30 billion per day to increase liquidity in the market for 4 weeks. Now that's even higher. Lawrence McDonald, the author of the Bear Traps Report, shows the Fed's activity in the repo market in this tweet.
The Sept 19th announcement was a permanent (or 'term') Fed repo financing facility of $30 billion and a temporary additional facility increasing the total facility size to $75 billion. Then, instead of only 4 weeks of this, it was extended to 8 weeks and now the permanent term facility is up to $45 billion daily with a total facility size of $120 billion.
So there is a liquidity problem and the repo market is being propped up by the Fed.
What is Really Going On?
Travis Kling of the Ikigai Fund describes it best with this tweet.
The statement talks about money market pressures. This ZeroHedge article talks about how this 'not QE (Quantitative Easing or money printing by the Fed)' really is money printing to prop up the market.
The WSJ video, which I encourage you to watch called the lenders Karen and the borrowers Mark. Karen was unwilling to lend her cash at the typical market rate until the Fed intervened. The video talks about 2 financial deadlines that could be why this happened:
- Sept 16th was the deadline for banks to submit their quarterly tax payments. This means the banks would need cash to pay that out and maintain their reserve requirements. It also means banks that would lend in the repo market didn't have the funds to do so because of this obligation.
- The same day, Sept 16th is when $78 billion in Treasury securities were supposed to settle. That's more money taken out of the cash market because it's been converted into Gov't securities instead.
Others are blaming a rule put in since the financial crisis called the Liquidity Coverage Rule or LCR. This rule, different than the required reserves a bank must maintain, requires banks to hold at least some funds at the Fed at ALL times. The Fed believes that this extra cash on hand will help prevent a huge liquidity crisis when something bad happens.
The Fed does NOT want to get rid of this rule. They believe it's important. So important, Fed Chairman Jerome Powell said he would rather the Fed step in to the market and provide some of this liquidity itself if liquidity is an issue instead of getting rid of the LCR. And based on the tweets above, you can see that's what they did. The Fed has now promised to purchase T Bills to give the market liquidity until AT LEAST Q2 2020, based on the WSJ video and their reporting.
One of the best analysts of the repo market is also one of the best legal minds in the cryptoeconomy, Caitlin Long. She's a must follow if you own any cryptocurrency and is one of my 10 Accounts on CryptoTwitter You Need to Follow. She states it plainly that QE4 by the Fed just started.
The demand for these TBills is so high, the Fed purchase for them is 4x oversubscribed. In other words, some institutions really needed the liquidity badly and wanted to sell their TBills to the Fed.
Is this Good for Bitcoin?
I'll be the first to say that these explanations offered about why this rate spike happened in the opaque but important Repo market are mostly a bunch of crap. There are big structural liquidity problems in the USD market. The problems are so big that even when KNOWN payments are coming due there is still an issue. We are only just getting exposed to those market issues now.
We are supposed to be in a huge economic expansion where everything's awesome, yet there's a shortage of money? Again? The central bank balance sheet is growing, again, meaning more Fed intervention and more printing of USD. Here's the trend for the last year.
One of the biggest pro-Bitcoin arguments is about seigniorage, or the right to print money. Everyone alive today has only seen state-issued currencies until Bitcoin came along. But it wasn't always this way. Gold was a standard for money. The Roman Catholic Church made lots of banking and currency advancements too. Yet only Bitcoin (or maybe another cryptocurrency that doesn't rhyme with Zebra) has the opportunity to be money that people can easily access and use that's not issued by a government. Bitcoin is based on math.
Until recently, I didn't think that Bitcoin would or even could become a global reserve currency or even as part of a basket of currencies once complete USD domination of global currencies fades. And that day of the USD fading is closer than most people think it is. But now I do think that Bitcoin, along with the USD, EUR and maybe the CNY will become part of a basket of currencies where one currency (the USD) no longer completely dominates everything.
Now if you believe this argument as I do now, then you need to be stacking those sats (stacking those satoshis) and buying more at whatever intervals, amounts, and risk levels that are appropriate for you because at the current price of $7474 we have a market value of $134 billion for Bitcoin.
Bitcoin can't become a part of a reserve basket without doing at least a 10x from here to have a market value of $1 trillion or more. There are $10 trillion USD in existence and there's $1 trillion (in USD) worth of Euros in circulation today. Both the ECB and the Fed are printing more money so those numbers will only continue to grow. It's not silly to think that Bitcoin would be worth at least $1 trillion to be considered for partial reserve currency status meaning a price of $75,000 each. When the next halving occurs in the late Spring, the inflation rate of the USD and EUR will be higher than the inflation rate of Bitcoin, even with blocks of new coins released every 10 minutes.
But I am not a prognosticator on price. My point is this liquidity issue in the repo market when everything is still in economic expansion mode only shows that governments will continue to mismanage and debase their currencies. Bitcoin is a hedge against that and it gets the government out of your money. And who knows how bad the next recession will be?
And that is why the Repo market, which is supposed to work smoothly in the background of the US financial markets but currently is not working so well is a bullish sign for Bitcoin.