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Fed's Cash Infusion Was Less Than Met the Eye: By John M. Berry
By John M. Berry
Aug. 14 (Bloomberg) -- The amount of cash the Federal Reserve injectedinto the U.S. banking system on Aug. 9 and 10, and its importance, havebeen widely misunderstood.
Each day banks are open, the people working at the New York FederalReserve Bank's ninth floor Open Market Desk do the same thing: supplyenough money to the U.S. banking system to keep the overnight lendingrate close to the Fed's 5.25 percent target.
Aug. 9 and 10 were different only in degree, and in the attention theFed called to the action in a statement issued on the latter day.
There was no hint of an interest rate cut -- nor is there likely to beunless conditions in world financial markets worsen considerably andthreaten continued economic growth in the U.S.
``In current circumstances, depository institutions may experienceunusual funding needs because of dislocations in money and creditmarkets,'' the Fed statement said. In other words, the demand for fundsto lend might drive the rate above the desired 5.25 percent level, andthe Fed promised to supply enough cash to hold it down.
The desk added $24 billion on Thursday and $38 billion on Friday.However, just stating those figures tends to exaggerate theirimportance. For instance, as recently as Aug. 2, $17 billion had beenadded and everyone yawned.
Furthermore, by the end of the yesterday essentially all the additional liquidity injected to calm markets had been withdrawn.
Repurchase Agreements
The New York Fed, acting on behalf of the entire Federal ReserveSystem, adds cash by entering into repurchase agreements with a groupof so-called primary dealers. From the dealers the bank buys Treasurysecurities, federal agency debt and mortgage- backed securitiespartially or entirely guaranteed by the government, such as thoseissued by Fannie Mae and Freddie Mac, for a set period -- often asshort as overnight.
The cash paid to the dealers then finds its way into the banking system.
Routinely, a substantial amount of cash is added each Thursday for a14-day period. Half of last Thursday's injection was of that type. Theother $12 billion was left in the banking system just overnight, thatis, the New York Fed returned the securities on Friday and took backthe cash.
Even in the calmest of times it's no easy task to figure out exactlyhow much needs to be added, and Friday was particularly difficult. Thelending rate jumped around, ranging from zero to just over 6 percent,as the desk found it necessary to step in three times, adding $19billion at 8:25 a.m., another $16 billion at 10:55 a.m. and finally $3billion at 1:50 p.m., according to the New York Fed.
All that $38 billion was returned to the Fed yesterday.
Calming Markets
With markets under far less pressure, that money was replaced by newagreements of just $2 billion, much less than the usual daily total.
So the Fed actions were truly temporary and just intended to calmmarkets. In contrast, a cut in the 5.25 percent lending rate target, astep which many analysts have urged the Fed to take, would have a muchgreater, longer lasting impact.
It was only a week ago today that the Federal Open Market Committeereaffirmed that target and said it was more concerned that inflationwon't moderate as expected than that economic growth would becomeexcessively weak. Moderate growth still was seen as the most likelycourse for the economy over coming quarters, the committee said.
On Aug. 10, after the markets closed, Macroeconomic Advisers releasedits latest economic forecast, one very similar to the collectiveforecast of Fed officials.
The new predictions include gross domestic product expanding at about a2.5 percent annual rate in the second half of this year, rising toabout a 2.75 percent rate early next year.
Core Inflation
``Core inflation is projected to remain stable at the upper end of theFed's `comfort zone' of about 2 percent for core personal consumptionexpenditure inflation and 2.25 percent for the core consumer priceindex inflation, as well-anchored inflation expectations and agradually rising unemployment rate offset upward pressure on growth oflabor costs,'' the company's explanation of the forecast said.
The core measures of inflation exclude food and energy items. The corePCE price index is the Fed's preferred inflation measure.
In language similar to that in the Aug. 7 FOMC statement, MacroeconomicAdvisers also said, ``Recent credit-market turmoil has skewed risks tothe downside around this forecast.''
Obviously the rush to shed risky investments triggered by losses insubprime mortgage-backed securities isn't over. Fed officials will bewatching what happens next and will respond to disorderly marketconditions, with those folks on the Open Market Desk their front-linetroops.
Bailing out ailing hedge funds or propping up the stock market isn't on their agenda, however.
To contact the writer of this column: John M. Berry in Washington at jberry5@bloomberg.net
Last Updated: August 14, 2007 00:10 EDT
By John M. Berry
Aug. 14 (Bloomberg) -- The amount of cash the Federal Reserve injectedinto the U.S. banking system on Aug. 9 and 10, and its importance, havebeen widely misunderstood.
Each day banks are open, the people working at the New York FederalReserve Bank's ninth floor Open Market Desk do the same thing: supplyenough money to the U.S. banking system to keep the overnight lendingrate close to the Fed's 5.25 percent target.
Aug. 9 and 10 were different only in degree, and in the attention theFed called to the action in a statement issued on the latter day.
There was no hint of an interest rate cut -- nor is there likely to beunless conditions in world financial markets worsen considerably andthreaten continued economic growth in the U.S.
``In current circumstances, depository institutions may experienceunusual funding needs because of dislocations in money and creditmarkets,'' the Fed statement said. In other words, the demand for fundsto lend might drive the rate above the desired 5.25 percent level, andthe Fed promised to supply enough cash to hold it down.
The desk added $24 billion on Thursday and $38 billion on Friday.However, just stating those figures tends to exaggerate theirimportance. For instance, as recently as Aug. 2, $17 billion had beenadded and everyone yawned.
Furthermore, by the end of the yesterday essentially all the additional liquidity injected to calm markets had been withdrawn.
Repurchase Agreements
The New York Fed, acting on behalf of the entire Federal ReserveSystem, adds cash by entering into repurchase agreements with a groupof so-called primary dealers. From the dealers the bank buys Treasurysecurities, federal agency debt and mortgage- backed securitiespartially or entirely guaranteed by the government, such as thoseissued by Fannie Mae and Freddie Mac, for a set period -- often asshort as overnight.
The cash paid to the dealers then finds its way into the banking system.
Routinely, a substantial amount of cash is added each Thursday for a14-day period. Half of last Thursday's injection was of that type. Theother $12 billion was left in the banking system just overnight, thatis, the New York Fed returned the securities on Friday and took backthe cash.
Even in the calmest of times it's no easy task to figure out exactlyhow much needs to be added, and Friday was particularly difficult. Thelending rate jumped around, ranging from zero to just over 6 percent,as the desk found it necessary to step in three times, adding $19billion at 8:25 a.m., another $16 billion at 10:55 a.m. and finally $3billion at 1:50 p.m., according to the New York Fed.
All that $38 billion was returned to the Fed yesterday.
Calming Markets
With markets under far less pressure, that money was replaced by newagreements of just $2 billion, much less than the usual daily total.
So the Fed actions were truly temporary and just intended to calmmarkets. In contrast, a cut in the 5.25 percent lending rate target, astep which many analysts have urged the Fed to take, would have a muchgreater, longer lasting impact.
It was only a week ago today that the Federal Open Market Committeereaffirmed that target and said it was more concerned that inflationwon't moderate as expected than that economic growth would becomeexcessively weak. Moderate growth still was seen as the most likelycourse for the economy over coming quarters, the committee said.
On Aug. 10, after the markets closed, Macroeconomic Advisers releasedits latest economic forecast, one very similar to the collectiveforecast of Fed officials.
The new predictions include gross domestic product expanding at about a2.5 percent annual rate in the second half of this year, rising toabout a 2.75 percent rate early next year.
Core Inflation
``Core inflation is projected to remain stable at the upper end of theFed's `comfort zone' of about 2 percent for core personal consumptionexpenditure inflation and 2.25 percent for the core consumer priceindex inflation, as well-anchored inflation expectations and agradually rising unemployment rate offset upward pressure on growth oflabor costs,'' the company's explanation of the forecast said.
The core measures of inflation exclude food and energy items. The corePCE price index is the Fed's preferred inflation measure.
In language similar to that in the Aug. 7 FOMC statement, MacroeconomicAdvisers also said, ``Recent credit-market turmoil has skewed risks tothe downside around this forecast.''
Obviously the rush to shed risky investments triggered by losses insubprime mortgage-backed securities isn't over. Fed officials will bewatching what happens next and will respond to disorderly marketconditions, with those folks on the Open Market Desk their front-linetroops.
Bailing out ailing hedge funds or propping up the stock market isn't on their agenda, however.
To contact the writer of this column: John M. Berry in Washington at jberry5@bloomberg.net
Last Updated: August 14, 2007 00:10 EDT
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