I’ll give the Federal Reserve this, their TAF program has succeeded in bringing down US Dollar LIBOR rates relative to Treasuries and Fed funds. I did not doubt that they could succeed at doing this; my main concern is what happens when they stop doing this. Flooding the short end of the yield curve with liquidity has overwhelmed those seeking permanent liquidity cheaply, by offering large amounts of temporary liquidity cheaply, and saying that the program could become a regular part of the Fed’s policy tools.
So, the most recent auction priced out at 3.95%, well below the Fed Funds target of 4.25%, and below where Fed Funds have averaged recently, which is around 4.15%. Why borrow at Fed funds if the TAF is available? The TAF can accept a wider array of credit instruments as well. Why even give a second thought to the discount window at 4.75%, if the same collateral can be financed by the TAF? Granted, the rate was above the expected fed funds rate for the next month, but using that as a guideline is tantamount to surrendering control of the money supply to the Fed Funds futures market.
Looks like a win for the Fed, at least in the short run. The long run could be a different story. The old rule of Walter Bagehot was for the central bank to unlimitedly lend against secure assets at a penalty rate in a crisis. In this case, it is lending against less than top-quality assets at what is a bargain rate. In the long run, that is a recipe for monetary and price inflation. Though longer-dated TIPS don’t reflect that future consumer price inflation, I expect that they eventually will.
And why borrow from the TAF when the FHLB’s have been so generous?
According to Richard Iley from BNP Paribas,
“FHLB advances totalled an annualised
USD 746bn in Q3 or 5.3% of GDP. Given this
GSE-financed wall of liquidity, it is little wonder
that the Fed’s new improved discount window
failed to elicit much response last year.”
If memory serves me correctly I thinks CFC availed itself of $50 billion through this facility, last year alone.
The FHLB is the shadow Discount Window. If the TAF funds are priced at 3.95% it means there is plenty of money sloshing about.
I keep forgetting about the FHLBs… that’s a good point, though the FHLBs typically charge fair rates on their advances. They aren’t non-profits.
Being that the Fed hasn’t injected much of any net liquidity as of the last few months – in that TOMO operations have, when combined with the TAF, come out around even – and being that TOMO stop out rates haven’t been at 4.25 much of the time recently, being often below 4.25, can we still say that there exists a risk of inflation as you assert? Granted, TAF has allowed for more flexible collateral. Perhaps this is the primary effect.
The Federal Reserve has also gone easier on certain leverage requirements, which is the main reason why the monetary aggregates have grown faster than the monetary base.
Hi David, Great site.
though the FHLBs typically charge fair rates on their advances. They aren’t non-profits.
Check out FHLB Boston’s rates. Some of the rates are below Fed funds rate.
http://www.fhlbboston.com/rates/advances/index.jsp
That’s true, but the FHLBs fund cheaper than those advance rates, at least for now.