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No, The Fed Did Not “Give” $1.5-Trillion To Banks

What the Fed did do was promise banks — if they put up their own collateral — it’d help them stop a train wreck

We can’t overemphasize the importance of the Federal Reserve’s action. Even though we keep seeing it written off as failing to inspire the markets. And the way it’s being depicted by many in our Twitter feed — that it could’ve been better used to forgive student loan debt — is simply not accurate.

Here’s how the Fed describes what it’s doing, which it calls “Repo Agreements” (it sounds complicated, by really it isn’t):

In a repo transaction, the Desk purchases Treasury, agency debt, or agency mortgage-backed securities (MBS) from a counterparty subject to an agreement to resell the securities at a later date. It is economically similar to a loan collateralized by securities having a value higher than the loan to protect the Desk against market and credit risk. Repo transactions temporarily increase the quantity of reserve balances in the banking system.”

In other words, it’s a very short term loan. And banks aren’t getting anything but access to a quick fix of cash to tide them over and help them balance their books at the end of crazy days. Which they don’t get to keep. And in exchange, the Fed is requiring them to put up assets that are worth more than the cash. So it never really becomes the bank’s money to hang on to. And unless there are huge bank defaults — which this is a step in trying to prevent — the U.S. taxpayer loses nothing.

Is it an example of “socialism for the rich, harsh capitalism for everyone else”, as normally responsible former Labor Secretary Robert Reich asserts in a Tweet that’s now been liked and shared tens of thousands of times? (And seemingly more than that in our feed!) No. In fact, part of the reason Alexander Hamilton fought so hard to establish the Federal Reserve was his strong belief (with which other founding fathers didn’t agree), that the central bank was necessary to expand and preserve capitalism. And that’s what we’re seeing in action now.

Reich’s further suggestion, that the same money could be used to wipe out student loan debt is ridiculous. It’d be like saying to students: “We know you and your friends are short on cash and there’s nobody around who can Venmo you right now. So we’ll let you tap into us for cash tonight, but you have to pay it back tomorrow, otherwise we own your car and your parents’ house.” Not 100% what’s going on, but you get the idea.

And we’re not arguing against Congress providing massive cash and debt relief to students and many others. Just that handing out money willy-nilly is not what’s going on here with the Fed.

The fact that the stock market “STILL WENT DOWN” shortly after the Fed’s move is kind of beside the point. Yes, if it boosts confidence and props up prices for more than a couple of minutes that would be a nice side effect. But that’s not why the move is so important.

In fact, that unprecedented move may be completely necessary anyway to hold the banking system together, even if it has no impact on stocks. And that may be part of why it didn’t.

Especially with a President blundering his way through a crisis and continually sending mixed messages. All the while claiming: “a 78% Approval Rating, the highest on record”, and rewriting history to somehow blame President Obama for the Coronavirus response. But those are both distractions. At the same time, this is a time when we can’t afford distractions! And a Treasury Secretary talking about a “light at the end of the tunnel”, which nobody yet sees.

So to sum up: the Federal Reserve is putting a huge amount of cash out on the table, but isn’t giving it to anybody.

If banks are having temporary trouble balancing their books at the end of a tumultuous day, they now have somewhere to turn other than other banks who might be in similar predicaments. Now they can come and do a quick-and-clean deal with the Fed and grab some cash — even a lot of cash — in exchange for a bigger amount of collateral, on a very short-term basis. And then if they then need to do it again, they can.

So that’s both reassuring and alarming:

  • Reassuring because the Fed’s doing all kinds of things to show it’s got the back of the American economy to the extent that it can, while the President and Congress (and Treasury Secretary Mnuchin!) work out a coherent set of emergency measures (and perhaps eventually, emergency measures on top of those emergency measures).
  • Alarming because it presumably means banks are having trouble balancing their books at the end of the day given all this turbulence. Or if it isn’t happening already, the Fed sees a spine-chilling chance of that happening soon.

So support from the Fed most likely won’t end there. The Fed will start buying U.S. Treasury Securities too in order to try to help markets out. It may cut interest rates again (Trump’s demanding that — interesting slip that he Tweeted not doing so is putting America at a “physiological disadvantage”), but that may have a muted effect and at some point there’s only so low they can go. All that stuff supports banks too, but it also supports American consumers in the form of lower mortgage rates for instance. (But who’s really thinking about buying a home now?) It may or may not support financial markets. That all depends on the scale, and whether Congress and the President seem to be on the ball about helping stabilize the economy too.

Written by

Peabody award winning journalist. Streaming media pioneer. Played @ CBGB back in the day. Editor-In-Chief "The Chaos Report" www.thechaosreport.com

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