What I Learned This Week

Is the Fed losing control of interest rates? What are the implications?

The turmoil in the money markets, spike in repo rates and widening gap between the Fed Funds Rate (FFR) and Interest Rate on Excess Reserves (IOER) are all signs of a shortage of dollar liquidity and mounting stress on balance sheets in the banking system, as demand for overnight lending intensifies. (See the May 23rd and August 15th WILTWs.) The spike in the overnight repo rate to well over 8% on Tuesday exceeded the highs at the very beginning of the GFC in 2007 (see chart below), as well as last December’s elevated market turmoil. And, the gap between the FFR and IOER blew-out to 20 basis points on Tuesday, up from its recent levels of 2-3 basis points, as the FFR rose above the Fed’s tar…

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