Credit Stress: Repos Behaving Badly

This report from Bloomberg:

Rates in the $7 trillion-a-day market for borrowing and lending securities show that the logjam in credit markets is approaching the level seen after the March collapse of Bears Stearns Cos.

Securities that can be borrowed at interest rates close to the Federal Reserve’s target rate for overnight loans between banks are called general collateral. Notes and bonds that are in the highest demand in the repurchase, or repo, agreement market are called “special” by traders because rates on loans secured by these securities are lower than the general collateral rate.

The CHART OF THE DAY shows the spread of the general collateral repo rate below the Fed’s target rate of 2 percent. The gap, which averaged 0.06 percentage point in the 10 years prior to August 2007, when subprime mortgage losses spread, is now 1.25 percentage points. A wider spread indicates a greater scarcity of Treasuries. The spread reached 2.05 percentage points on March 19 after the central bank engineered the takeover of Bear Stearns by JPMorgan Chase & Co.

“Clearly we are in a high-risk premium mode, just as we were in March,” said Piyush Goyal, an interest-rate derivatives strategist at Barclays Capital Inc. in New York. “Lack of investor confidence, exacerbated by quarter-end concerns, has tilted the repo markets in favor of the collateral owners.”

Aha, the last TAF auction was on the 22nd, the next isn’t for a week plus. Unless the Fed staggers the dates of the increase in the facility, we won’t see relief from it for a bit. I see no press release on the Fed’s website, despite the report on Bloomberg. Weird.

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  1. Anonymous

    IMHO, Paulson needs to be fired, as does Bernanke and Cox; they all can be replaced by minions and underlings. IMHO, this would help market stability and generate confidence in the future, as Congress investigates this systemic collapse. The damage done by these people connected to SIFMA, mirrors the synthetic derivative meltdown on wall street, thus in order to rid America of this cancer, we need to start with these tumors and then work to root out corruption.

    RE: Welcoming Paulson to the Cabinet, Bush praised the economy under his own watch. “The American economy is powerful, productive and prosperous, and I look forward to working with Hank Paulson to keep it that way.”

    “He’s earned a reputation for candor and integrity and when he’s confirmed by the Senate he will be a supburb addition to be Cabinet,” Bush said.

    Snow has been Treasury secretary since February 2003. He took over for Paul O’Neill, who was forced to resign because of policy disagreements with the White House.

    Snow has been a loyal proponent of the administration’s economic policies, traveling the country as a salesman for Social Security reform and an overhaul of the tax code. But his standing suffered as both proposals stalled.

  2. aw70

    What a miss a bit from this blog and most other commentaries is one fairly important distinction, that might also have a bearing on the validity of the $700bn relief bill, or any other measure that is currently being contemplated.

    There are two events out there, one of them is certain to happen, and one *might* happen.

    The first is the unwinding of a good part of the current vastly over-leveraged financial system, with entails a huge amount of damage that has already been, and will continue to be done, to primarily the U.S. economy. This will happen, no matter what the U.S. or any other government tries to do. No-one has the power to stop that now. Nor should they, since this is only as bad as it is because the day of reckoning w/r to massive debt accumulation of U.S. households and companies has been put out far too long.

    The second, as of now still optional, event is the complete destruction of the global financial system due to uncontrolled knock-on effects from event #1.

    The second can be averted if and only if the huge corrective descent of the U.S. economy can be done as an at least semi-controlled descent – lots of small bumps on the way downward, lots of pain, but no huge implosion. If you see things that way, measures that are by all sane criteria a) inefficient and b) inane like the Paulson bailout plan might – just might – make a bit more sense. It does not matter so much how wrong it is when considered by “normal” standards, the point where normalcy can be restored in short order is long gone. The main goal is to prevent a huge systemic meltdown, and to do that one stopgap measure at a time. Afterwards, one can think about re-assembling the pieces, and it was worth it if there still is a global financial system afterwards.

    Personally, I am not convinced that this is a good explanation, but the people at the helm are not unintelligent. Nor are they under-motivated to do something, because it might get very ugly for them on a very personal level if they fail. And they have much more information than anyone else, so things that might look stupid from a “normal” perspective might make a bit more sense from their viewpoint.

    What do you guys think?

  3. Anonymous

    If you want to restore confidence, enforce the rule of law and things such as accounting standards. Get credit default swaps on an exchange. Force the banks to declare their Level 3 assets. Liquidate the ones that are insolvent. Sure there will be tens of thousands of layoffs, but life goes on. End all the housing subsidies, and let house prices fall. Claw back the obscene bonuses from all the bankers. Tax anyone making over 1 million a year at 90% until this thing is over.

  4. Anonymous

    I generally agree with aw70 (that we’re in for a lot of pain but we need to limit the collateral damage). At the same time, I would rather test the limits of the system a little more. Basically, we could do some controlled explosions (like raising rates on new home mortgages by removing some of the support provided by Fannie and Freddie) but have some medics near by in case there are too many casualties (like being prepared to dump a lot of capital in the remaining banks). Quicker is probably better in the long run, just as long as the collateral damage is not too great (i.e., we need our hard-won social institutions to remain steady).

  5. Anonymous

    aw70 wrote: “And they have much more information than anyone else, so things that might look stupid from a “normal” perspective might make a bit more sense from their viewpoint.”

    Why not finally come clean with what they know? Might it be better than the “economy is still strong” message one day that switches to the “armageddon if this bill doesn’t pass” message the next?

    They seem to assume we are stupid as well. I may be, but I believe Yves, Calculated Risk, Krugman, et. al. are not.

    I agree we should try to take the slow route to price discovery, but the policy makers are ignoring the voters. We’re in the information age. The standard media message making no longer applies. If they want us on board with the message, talk about it and get it in front of the voters and tell the hundreds of experts with questions why this solution is better than the Swedish style solution or the RTC solution.

  6. cc

    Anonymous said: ” Tax anyone making over 1 million a year at 90% until this thing is over.”

    yes yes.. I so agree.. As one of the comments above anonymous claims there is no normalcy left.

    OK.. I say then go get our money back from the private equity folks and all the “money sitting on the sidelines”. Force the private money by some emergency legislation to fill this gap. I would guess a lot of private money was made off of the “funny money” financial system in the U.S. of the last 10 years. Extraordinary measures for extraordinary times..

    If we can try to manufacture a stock market rally with a short selling ban then we can legislate and implement emergency clawbacks. Only then as an American citizen will they get my support behind this bill.

  7. Anonymous

    Too much easy money chasing to few good assets for too long. The banker boyz got busy creating some really nifty Ponzi schemes to create profits out of a mountain of debt.
    That mountain of debt was built on the back of the american consumer and we are tapped out. OOPS.
    Money/debt stops coming in, and the scheme collapses. Bubble goes POP.
    Assett values that were bobbing along riding on a tidal wave of loose money are reverting to the mean. Some smart people out there say a 50% hair cut is in order. Or more, because these things like to overcorrect.
    Hair on fire boy Paulson can’t stop it.
    Negative interest rates and a FED slop trough of billions didn’t do it. This was just the strong arm tactics of desparate men.
    There is no easy button for this train wreck, times are going to be tough.

  8. Anonymous

    Agree with Anon 5.39.. Return to basic fundamentals which is starting to happen in the mortgage lending business with stronger credit and down payment requirements. If you want to create TRUST then the system has to have standards of conduct that is applied across the board rather then today’s rather insane financial structure which rewards speculation an excess pay for the top.

  9. Anonymous

    Treasury Secretary Paulson and Federal Reserve Chairman Bernanke have lost the people’s trust and for the good of the country, both should resign.

  10. Anonymous

    Anon 5:39 said “Liquidate the ones that are insolvent. Sure there will be tens of thousands of layoffs, but life goes on.”

    Liquidating “the ones” assumes there will enough solvent institutions left to constitute a working financial system. As such, you might be overly optimistic. For instance, say MS and GS and C are “insolvent” and need to be liquidated? Do you go ahead and do that?

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