MNI INTERVIEW: Standing Repo Back In Fed Focus When Covid Ebbs

The Federal Reserve will likely revive an internal debate over whether to set up a standing repo facility to address proper market function after the Covid pandemic has passed, and perhaps as early as this year, St. Louis Fed Senior Vice President David Andolfatto told MNI.

The alarming seizure of U.S. Treasury markets normally deemed ultra safe last March revived concerns about vulnerabilities posed by regulatory changes post-2008 crisis that were causing banks to hoard reserves despite the Fed's new ample reserve regime.

While central bankers are still in crisis fighting mode with the Covid pandemic raging, some return to post-vaccination normalcy later this year will bring the issue back to the fore, Andolfatto said.

"People will return to this March event and start once again talking about the need for facilities of some sort," he said in an interview last week.

DEBATE POSTPONED

A standing repo facility would allow permissioned dealers to exchange Treasuries for bank reserves on demand, at a penalty rate.

"If somebody wants to sell a 30-year off-the-run Treasury at a discount price -- why not have a Treasury or the Fed standby with a facility and say, 'listen, you don't have to go crazy, we'll accept your 30-year off-the run Treasury," said Andolfatto. "And here's the haircut. It's a preannounced, administered haircut." So I do think that there are going to be discussions like that going on."

Dealers and some Fed officials discussed a standing repo faciling in early 2019 as the central bank was revising its monetary policy implementation framework, but questions over how the tool would work in practice slowed the policy debate.

Andolfatto said regulators initially believed modest reforms to the massive money market fund industry may have been sufficient to stem potential market ructions. But the March panic indicated otherwise.

"There was a feeling that these regulations would be sufficient to prevent events like this, but evidently not. So I do hear a discussion again -- 'Might it be a good idea for the Fed to -- this could be done with the Fed and the Treasury together -- to open up a facility?'"

Treasury market function was severely impaired in March as the Covid pandemic took hold and investors dashed for only the shortest-term, most cash-like securities, dumping even longer-dated U.S. government bonds. The crash forced the Fed to intervene with several emergency lending facilities and a new QE program of USD120 billion per month that remains in place today.