Blog Posts

Manufacturing Demand

Published on March 11, 2024 by Premium

Tweaking regulations to encourage more bank involvement would be an easy private sector solution to financing the anticipated surge in Treasury issuance. While Fed purchases are the ultimate backstop to any market, a modest adjustment to Basel III leverage calculations would save them the trouble. Capitalizing on the deep unpopularity of proposed regulations, ISDA is recommending a permanent exemption of Treasuries from Basel III leverage calculations. This simple change would boost liquidity across markets and

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Normalizing Composition

Published on March 4, 2024 by Premium

Governor Waller kicked off a post-QT discussion by proposing to increase the share of bills in the Fed's Treasury portfolio, a significant change that in effect extends QT beyond its official end date. Fed holdings of bills have varied significantly over the years, from a third of their Treasury portfolio pre-GFC to below 5% today. Waller suggests that the shift would reduce Fed operating losses and offer more flexibility in the event of future asset

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Recycling Money

Published on February 26, 2024 by Premium

A structurally large fiscal footprint is a strong tailwind for credit as it is likely to keep nominal GDP growth elevated for the foreseeable future. Fiscal spending recycles money by taking from those who are less likely to spend and giving to those who are more likely to spend. In practice, the Federal government is largely funded by a small fraction of high income earners and increasingly from wealthy investors. The recipients of its expenditures

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Higher (Real Rates) For Longer

Published on February 20, 2024 by Premium

The recent bout of higher inflation prints and resurgent labor market strength changes the timing and number of rate cuts, but does not change the direction of monetary policy. Fed officials note the risks between their employment and inflation mandates are more balanced, so they are increasingly mindful of potential overtightening. Fed officials have widely articulated a framework that views policy through the lens of real interest rates and a neutral rate that is little

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Sea Change

Published on February 12, 2024 by Premium

The CBO's latest budget forecast show a persistently large fiscal deficit that likely still understates the trajectory of public finances. CBO projections are based on current law and show a fiscal deficit that will remain around 5% of GDP for the foreseeable future. This structural change is largely driven by rising retirement related spending and interest expense, both of which are politically very difficult to change. Using the CBO projections as a baseline, future deficits

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Levering Up

Published on February 5, 2024 by Premium

The large supply of Treasuries continues to be absorbed by the cash-futures basis trade, but new research is revealing some of the drivers behind the trade that shed light on its potential limits. Circumstantial evidence suggest that the cash-futures basis trade has surged to all time highs in line with ongoing growth in coupon issuance. While the trade depends on the capacity and willingness of dealers and hedge funds, it also depends on continued investment

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Passing the Buck

Published on January 29, 2024 by Premium

The Treasury has an opportunity to lobby the Fed for an earlier QT taper by both rapidly draining the RRP and pushing up repo rates through further increases in net bill issuance. While Congress determines the size of the fiscal deficit, the Treasury and Fed together determine the supply of duration to private investors. The Fed has increased the overall level of issuance to private investors through quantitative tightening, but Treasury has cushioned the market

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Token Resistance

Published on January 22, 2024 by Premium

Fed officials are unlikely to meaningfully push back against the market's aggressive pricing of rate cuts regardless of the rise of risk assets. Real rates remain at cycle highs from declining inflation expectations even as recent inflation data is very close to 2%. Fed officials perceive financial conditions to be restrictive even with six rate cuts priced in the market, and are also concerned with potentially overtightening. The high degree of uncertainty and the Fed's

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The QT Debates

Published on January 16, 2024 by Premium

Fed officials are planning to taper QT, but have expressed a range of views that place a taper anywhere from this quarter to much later. In the absence of a rise unemployment, the path of QT will be guided by the amount of liquidity in the financial system. However, Fed officials have expressed disagreement on which components of liquidity to emphasize. They have focused on RRP levels, reserve levels, or the consolidated level of the

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Doves Ascendent

Published on January 8, 2024 by Premium

Monetary policy going forward will be increasingly biased towards rate cuts as both inflation has declined and employment growth appears to be slowing. Policymakers set policy with an eye towards a trade-off between employment and inflation, with the balancing of risks dependent upon the policymaker's values. The record of the current Fed leadership and political donations of Fed staff indicate a left leaning preference, suggesting an emphasis on employment over inflation. While the Fed is

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