WSJ REPO
For the first time in more than a decade, the Federal Reserve injected cash into money markets Tuesday to pull down interest rates and said it would do so again Wednesday after technical factors led to a sudden shortfall of cash.
The pressures relate to shortages of funds banks face resulting from an increase in federal borrowing and the central bank’s decision to shrink the size of its securities holdings in recent years. It reduced these holdings by not buying new ones when they matured, effectively taking money out of the financial system.Separately, the Fed’s rate-setting committee began a two-day policy meeting Tuesday at which officials are likely to lower the federal-funds range by a quarter-percentage point to cushion the economy from a global slowdown, a decision unrelated to the funding-market strains.
The federal-funds rate, a benchmark that influences borrowing costs throughout the financial system, rose to 2.25% on Monday, from 2.14% Friday. The Fed seeks to keep the rate in a target range between 2% and 2.25%. Bids in the fed-funds market reached as high as 5% early Tuesday, according to traders, well above the band.
The New York Fed moved Tuesday morning to inject $53 billion into the banking system through transactions known as repurchase agreements, or repos. The bank said Tuesday afternoon it would inject up to $75 billion more on Wednesday morning, but many in the market were looking beyond that decision. “The market will be waiting to see if the Fed makes this a more permanent part of the playbook,” said Beth Hammack, the Goldman Sachs Group Inc. treasurer.
Fed policy makers set their target range to influence a suite of short-term rates at which banks lend to each other in overnight markets—but those rates are ultimately determined by the markets. If various operations in the markets fail, the fed-funds rate can deviate significantly from the target.
In the short run this likely affects only market participants who borrow in the overnight markets, but if the strains last long enough it can affect the rates other businesses and consumers pay.
Such deviations also undercut the Fed’s ability to keep the economic expansion on track through monetary policy, such as by lowering rates to provide a boost and raising them to prevent the economy from overheating.
Rising rates in overnight lending markets “are clearly not desirable because they impede the transmission of monetary policy decisions to the rest of the economy,” said Roberto Perli, an analyst at Cornerstone Macro.
The Fed likely will continue to provide funding to ensure the smooth operation of the repo market for some time, although it isn’t clear how long that might be, analysts said Tuesday. “This is in every way, shape and form an emergency measure,” said Gennadiy Goldberg, a fixed-income strategist at TD Securities.
There wasn’t evidence Tuesday of credit-market dislocations or other transactions that have followed past periods of distress. Instead, the pressures that sent the fed-funds rate higher were related to monetary and regulatory changes that created shortages of funds for banks.
The New York Fed hasn’t had to intervene in money markets since 2008 because during and after the financial crisis, the Fed flooded the financial system with reserves—the money banks hold at the Fed. It did this by buying hundreds of billions of dollars of Treasurys and mortgage-backed securities to spur growth after cutting interest rates to nearly zero.
Reserves over the last five years have been declining, after the Fed stopped increasing its securities holdings and later, in 2017, after the Fed began shrinking the holdings. Reserves have fallen to less than $1.5 trillion last week from a peak of $2.8 trillion.
The Fed stopped shrinking its asset holdings last month, but because other Fed liabilities such as currency in circulation and the Treasury’s general financing account are rising, reserves are likely to grind lower in the weeks and months ahead.
In addition, brokers who buy and sell Treasurys have more securities on their balance sheets due to increased government-bond sales to finance rising government deficits.
Then on Monday, corporate tax payments were due to the Treasury, and Treasury debt auctions settled, leading to large transfers of cash from the banking system.
Meanwhile, postcrisis financial regulations have made short-term money markets less nimble. This didn’t matter as much when the banking industry was awash in reserves and could absorb the kind of swings witnessed this week. These days, “the market doesn’t respond to temporary deposit flows as efficiently or fluidly,” said Lou Crandall, chief economist at financial-research firm Wrightson ICAP.
The surge in repo rates began Monday afternoon, well after the vast majority of trading in the market for overnight loans typically takes place, investors, traders and analysts said. The origin of the demand for cash was unclear, as traders seeking cash could have been acting on their own behalf or as intermediaries for other parties, one trader said.
Unexpected bids seeking cash entered the market at a time traders said was uncomfortably close to the 3 p.m. deadline for settling trades.
Scott Skyrm, a repo trader at Curvature Securities LLC, said he had seen cash trade in the repo rate as high as 9.25% Tuesday. “It’s just crazy that rates could go so high so easily,” he said.
On his trading screens, Mr. Skyrm said he could see traders with collateral securities that they were trying to exchange for cash. The rates they were offering would start to rise until an investor with cash available to trade would begin accepting bids, gradually driving repo rates down until investors had exhausted their cash, he said. Then rates would resume their climb.
While temporary technical factors could explain why cash would be in high demand this week, they didn’t explain the market volatility, Mr. Skyrm said. “It seems like there’s something underlying out there that we don’t know about,” he said.
Bank executives have warned that regulatory changes, such as a rule that requires banks to hold enough high-quality liquid assets to fund cash outflows for 30 days, could lead to funding strains.
“If you all are selling corporate bonds one day, and you want JPMorgan to take on—finance $1 billion—I can’t, because it’ll just immediately affect these ratios,” said JPMorgan Chase Chief Executive James Dimon at a banking conference this month. “It won’t hurt you very much in good times. Watch out when times get bad and people are getting stressed a little bit.”
One question is what steps the Fed’s rate-setting committee might take to improve its control of the crucial plumbing that transmits its policy decisions to the broader economy.
Over the past year, the committee has occasionally lowered a separate interest rate paid to banks on reserves held at the Fed, which could reduce banks’ desire to place reserves with the Fed and thereby increase liquidity in other short-term lending markets. The Fed could consider another such tweak on Wednesday, though analysts said it would amount to a temporary patch.
This week’s funding strains create new urgency to take two other steps that have been under consideration this year.
In June, officials debated becoming more involved in supporting the repo market by creating a new standing facility that would reduce volatility in its participants’ demand for cash. Officials didn’t reach a final decision.
Eventually, Fed officials will allow the central bank’s balance sheet to grow again by purchasing Treasury securities to offset growth in liabilities, which would prevent reserves from falling further.
Traders are scrambling to discern what caused an unexpected rate spike in a vital but murky part of the financial system—the market for repurchase agreements, known as repo.
What is the repo market? A repo is when one party lends out cash in exchange for a roughly equivalent value of securities, often Treasury notes. This market exists to allow companies that own lots of securities but are short on cash to cheaply borrow money. And it allows parties with lots of cash to earn a small return while taking little risk, because they hold the securities as collateral.
A key feature is that the cash borrower agrees to repurchase those securities at a later date, often as soon as the next day, for a slightly higher price. That difference in price determines the repo rate. Repo rates can rise for a number of reasons, but they do so particularly when there is a shortage of cash in the system, making borrowers willing to pay more to get their hands on it.
Who is involved in it? Repo is a vital cog in how Wall Street works and a major way that investors big and small—including anyone who owns a money-market savings account—could earn interest. The lenders of securities in the repo market are often hedge funds and Wall Street broker-dealers that have large portfolios but need money to fund their day-to-day trading. The cash providers tend to be money-market funds or other asset managers that want a place to invest their cash on a short-term basis at little risk.
Why are we talking about repos now? Repo rates are normally aligned closely to the Federal Reserve’s federal-funds rate, which currently sits between 2% to 2.25%—and is similarly a short-term rate between financial institutions. But the rate on repos briefly and unexpectedly surged Monday past 5% and then soared again Tuesday, according to Refinitiv, raising the possibility of a funding crunch and catching traders off guard.
What is the link between the federal funds market and the repo market?
The federal funds market is a market for unsecured, overnight loans of reserves between banks and some other parties. Reserves are the money that banks hold with the Fed. In order to settle payments and other transactions, banks compensate one another with reserves. If they need reserves, they borrow them from other banks. The rate at which they borrow is the federal-funds rate, and the Fed aims to keep it in a narrow range. (When the Fed cuts “interest rates,” this is the rate it is lowering.) The Fed has a unique position in the repo markets: When it lends money in repo transactions, it is lending newly created reserves. By entering the repo market, the Fed can thus add more reserves, making them more plentiful and thus easier to borrow.
What caused the repo move? No one really knows precisely what happened. But traders pointed to a number of things happening at once that might have caused securities lenders to suddenly be willing to pay far more to get their hands on cash.
For one, Monday marked the deadline for companies to submit their quarterly federal tax payments. That sucked cash out of vehicles like money-market funds as companies transferred it from their accounts to the Treasury. Monday was also the day Treasury Department auctions of $78 billion in debt were scheduled to settle, meaning that $78 billion in cash was turned into securities.
Together, the factors could have “caused a shortage in cash in the system, causing a huge spike in overnight rates,” said Thomas di Galoma, managing director and head of Treasury trading at Seaport Global Holdings, in an email. Another theory: For whatever reason, traders were unprepared for what should’ve been an anticipated crunch in cash. “Term repo rates showed no bump earlier this month to bridge over the obvious one-day pressures that were due on Monday,” writes Jim Vogel, interest-rate strategist at FTN Financial.
Why does it matter? Whenever repo rates come under sharp and unexpected pressure, investors are going to question whether the cause was something short-term and mechanical, or whether there is a more serious source of stress in the market. That could be a surge in perceptions of risk or a major drain on cash, such as big trading losses.
“Whether this is a one-off day explained by a convergence of distinctive factors, or evidence that more troubling developments are afoot, will be a crucial question for short rates in coming days,” BMO Capital Markets analysts said in a note.
What does it have to do with the Federal Reserve? Given the linkages in short-term funding markets, a surge in repo rates can be an indicator that the Fed needs to intervene more directly in the market to keep the federal funds rate in its target range.
The Federal Reserve Bank of New York sought to stabilize the market Tuesday by offering its own repo trades at target rates, despite running into technical difficulties. Whether the Fed should be acting more aggressively to keep rates low is a hotly debated topic, with even President Trump often weighing in, arguing that the Fed isn’t doing enough.
The repo spike could increase calls on the Fed to do something more drastic, such as buying Treasury bonds again. Don’t be surprised if the Fed ends up fielding questions about the whole repo episode at the end of its two-day policy meeting Wednesday. “Longer term, our teams believe that more has to be done to address the growing liquidity mismatches as the frequency of monthly/quarterly spikes in overnight funding appears to be growing,” Wells Fargo analysts said in a note.
Rate cut
WASHINGTON—Federal Reserve officials said little about what would prompt them to resume interest-rate cuts when they signaled a pause following last month’s rate reduction.
In cutting rates for the third time since July, Fed policy makers at the October meeting worried that weakness in manufacturing, trade and business investment could threaten the economic expansion by triggering cutbacks in hiring and consumer spending, according to minutes of the policy meeting, released Wednesday.
“Risks to the outlook associated with global economic growth and international trade were still seen as significant despite some encouraging geopolitical and trade-related developments,” the minutes said.
They showed last month’s decision to cut rates had less support than earlier moves and that most officials thought that they should shift to a wait-and-see stance in the weeks or months ahead.
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“Most participants judged that the stance of policy…would be well calibrated” after last month’s rate cut, according to the minutes. The Fed lowered its short-term benchmark to a range between 1.5% and 1.75%.
At his October news conference, Fed Chairman Jerome Powell said new information that prompted a “material reassessment” of the outlook would be needed to cut rates again.
The written account of the most recent meeting and public comments from officials since then indicate “they’re hoping that what they’ve done cumulatively is enough to offset some of the downside risks, but it doesn’t seem to me that they’re very convinced of that,” said Kathy Bostjancic, chief U.S. financial economist at Oxford Economics.
Meanwhile, the bar for raising interest rates was so high “that the possibility wasn’t even seriously discussed,” said Roberto Perli, an analyst at Cornerstone Macro.
Investors expect the Fed to hold rates steady at its next meeting on Dec. 10-11, and futures markets see a roughly 50% probability of one more rate cut by the middle of next year, according to CME Group.
Fed officials raised short-term interest rates four times last year to guard against undesirable levels of inflation or financial bubbles. They have cut rates this year because of a slowdown in business investment and global growth amplified by the U.S.-China trade war.
Hopes for a trade truce last month boosted investor optimism that the economy can avoid a downturn. But the Trump administration and Beijing have struggled to complete a partial deal this month after reaching what the White House billed as an “agreement in principle” on Oct. 11.
The Fed has been divided since the summer over the proper tactics to employ in an environment of heightened uncertainty, slowing global growth and historically low interest rates.
Two regional reserve bank presidents have dissented from every vote this year to lower rates, instead preferring to leave them unchanged. Another three presidents without a vote have indicated that they didn’t support the decision last month.
The minutes showed two more officials who supported a cut viewed it as a “close call.”
Mr. Powell and other senior Fed officials have argued against waiting to see the economy slow sharply before lowering interest rates, particularly because historically low interest rates leave the central bank with less firepower to counteract a downturn by cutting rates to spur growth.
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“The idea of ‘keeping your powder dry,’ which is how it’s often expressed—’Don’t do things now. Save it for when you really need it.’—I think it’s actually a mistake,” Federal Reserve Bank of New York President John Williams said during a moderated discussion in Washington on Tuesday.
Because it can take one year or longer for monetary policy to influence spending and investment decisions, “you really do need to be pre-emptive,” he said.
Separately, some officials called out concerns related to financial risks, including declining capital buffers at some banks and potentially rosy assumptions around business debt, according to the minutes.
President Trump has criticized the Fed for not reducing rates more aggressively this year. In recent weeks, including at a White House meeting with Mr. Powell on Monday, he has said the U.S. should have lower interest rates than other countries, including those in Europe with negative rates.
The Fed says it sets monetary policy independent of political considerations.
Fed officials ruled out the use of negative rates anytime soon at last month’s meeting. They examined the approach as part of broader contingency planning the central bank has conducted this year.
“All participants judged that negative interest rates currently did not appear to be an attractive monetary policy tool in the United States,” the minutes said.
Officials saw the benefits of negative rates abroad as mixed, and they worried that introducing them in U.S. capital markets would create “significant complexity or distortions to the financial system,” the minutes said.
Mr. Powell last week told lawmakers that negative rates wouldn’t be appropriate for the U.S. Abroad, such rates reflect very weak growth and inflation prospects, he said.
Rather than experiment with negative rates to stimulate the economy in a potential downturn, the minutes showed officials were more receptive to a program that explicitly caps the yield on short-term Treasury securities by committing to make substantial purchases, sometimes called yield-curve control.
The Federal Reserve releases the minutes of its Oct. 29-30 meeting on Wednesday at 2 p.m. EST, shedding light on its decision to cut interest rates and signal a wait-and-see policy stance.
Officials reduced their benchmark rate by a quarter percentage point for the third time since late July but raised the bar for another cut at their next meeting on Dec. 10-11.
The meeting last month followed an unscheduled one via videoconference on Oct. 4 when officials discussed and subsequently agreed on a plan to rebuild bank deposits held at the Fed, known as reserves. An account of that videoconference call will likely be included in Wednesday’s minutes. Here are four things to watch:
Material Reassessment
Fed officials lowered their benchmark rate last month to a range between 1.5% and 1.75% and modified their postmeeting statement to signal a low likelihood of a fourth consecutive rate cut in December.
The minutes could offer hints about what conditions would open the door wider to more cuts and how broadly shared these views were last month. New York Fed President John Williams told reporters Tuesday that a sustained downturn in inflation or global factors that cause the economy to slow down more than expected could both build a case to cut rates again.At his news conference, Fed Chairman Jerome Powell underscored that shift when he said the Fed’s stance was likely to be appropriate unless developments “cause a material reassessment of our outlook” for moderate growth and a strong labor market. In response to questions, he indicated that the Fed was unlikely to raise rates soon.
Committee Dynamics
The rate-setting Federal Open Market Committee approved last month’s rate cut on an 8-2 vote. At least three nonvoting reserve bank presidents have indicated that they didn’t support the decision. Another reserve bank president indicated that he was comfortable with a cut so long as the central bank signaled the wait-and-see stance that Mr. Powell adopted.
Growing resistance to rate cuts didn’t prevent Mr. Powell from getting a third rate cut in October, but it could infuse the written account of the meeting with a so-called hawkish tone.
Balance Sheet
October proved an especially active month for the Fed’s balance sheet policy. The central bank stopped shrinking its holdings in August when it began buying up to $20 billion a month in Treasurys to replace expiring mortgage bonds. On Oct. 11, the Fed said it would start buying $60 billion a month in very short-term Treasury debt to rebuild the level of reserves in the system.
Those purchases could decline over time and will last at least into the second quarter of next year. They are designed to replace the daily cash injections the Fed has been conducting since strains emerged in money markets in mid-September.
The minutes could show whether officials reached conclusions about why the level of reserves proved inadequate to handle cash payments that flowed from the private sector to the government on Sept. 16, triggering the market dysfunction.
The minutes could also reveal whether any other permanent fixes are in store, including a new money-market facility that would make it easier for banks to exchange reserves for Treasury securities at all hours. Officials debated the pros and cons of such a standing repurchase facility in June but had not resumed the discussion before last month’s meeting.
Framework Review
Fed officials are in the middle of a yearlong review of their monetary policy strategies, tools and communications. The effort began with an extensive public roadshow, but it has now moved into the behind-closed-doors phase of deliberations.
Officials conducted a deep dive into possible alterations to their inflation-targeting framework in September, and the October meeting minutes could show whether they continued those discussions and, if so, what progress they made. The September discussion didn’t show a strong consensus toward a particular set of changes. Mr. Powell said after last month’s meeting that a conclusion wasn’t likely to be announced before the middle of next year.
Animating the review is the uncomfortable prospect that the Fed could head into the next downturn with historically low short- and long-term interest rates, leaving the central bank with much less ability to stimulate growth. A policy framework that is more relaxed about higher inflation could boost nominal interest rates and provide a way to deliver a little more stimulus in a downturn.
Fed officials are also more outspoken about their desire to keep inflation at their 2% target. Since the target was adopted in 2012, inflation has reached it only for several months in 2018 while holding below the target the rest of the time.
ZIRP breaks the tax code (by AEI stooge)
While recent comments by Federal Reserve Chairman Jerome Powell indicate that the Fed hopes to avoid resorting to negative interest rates during the next recession, without them the central bank’s ability to stimulate growth may be limited. Should negative interest rates one day become a reality in the U.S., the tax code will need to be amended. Otherwise, not only will consumers be forced to pay to “invest” their savings, but savers will face higher taxes.
According to Bloomberg.com, 30% of all bonds, some $17 trillion world-wide, have negative interest rates today. With negative central-bank policy rates in Europe and Japan, and President Trump pressuring the Fed to lower rates further, former Fed Chairman Alan Greenspan predicts that negative U.S. rates are inevitable.
Should the Federal Reserve set rates below zero, banks will have to pay the Fed to hold their reserves—in other words, bank reserves will “earn” a negative interest rate. Because the Fed’s operating surplus reverts to the U.S. Treasury, negative interest rates are effectively a new federal tax levied by the Fed on banks.
Banks will respond to negative rates by trying to reduce the tax they pay and by passing the expense to customers. They will replace their reserves with high-quality, liquid bonds like Treasurys, indirectly shifting the Fed’s bank-reserve tax to savers by driving down Treasury yields, potentially below zero. They will also pass the reserve tax on to bank depositors, initially by imposing negative interest rates on large corporate deposits. Retail depositors may eventually face negative deposit rates if policy rates are significantly negative for an extended period.
When corporate treasurers first faced negative deposit rates in Switzerland and Denmark, they looked for new places to park their cash balances. With no penalty for overestimating and prepaying corporate tax liabilities, corporations overpaid their taxes and subsequently claimed large tax refunds. The tax rules unintentionally provided a free safe alternative to bank deposits. Overwhelmed with corporate tax payments and large refund demands, tax authorities changed the rules to prohibit corporations from overpaying their taxes.
The U.S. tax code, like most national tax codes, presumes interest rates are positive.
For corporations, interest expenses are deductible within limits. Negative interest rates would create an interest expense on corporate cash holdings that would presumably be deductible as a business expense. But what happens to consumers if Fed policy pushes bond yields negative and causes banks to start charging interest on deposit savings?
For individuals, interest earnings are taxed and, except for a few special exemptions, interest expenses aren’t generally deductible. Exceptions include home mortgages and margin loans used to finance the purchase of stocks or other specific qualified investment expenditures within limits.
If negative interest rates are treated as a consumer interest expense, current law wouldn’t allow this expense to be deducted when calculating taxable income. Congress will have to amend the law to recognize negative interest as an explicitly deductible expense for individuals. Not doing so will indirectly impose a new federal tax on retail depositors.
The tax implications of negative rates for bondholders may be less severe. When a bond is purchased at a premium over maturity value, if the premium is sufficiently large, the bond’s yield is negative. The premium is amortized over the life of the bond and expensed to offset periodic bond interest payments within limits. Any excess amortization that cannot be used to offset interest payments is carried forward until maturity and used to calculate a loss that can be deducted from taxable income.
Special tax rules for “below market” bonds and loans might raise additional issues if interest rates turn negative. These special rules exist to prevent businesses from disguising employee compensation in subsidized loans terms rather than paying reportable wage income. Below market instruments charge no interest, or charge an interest rate below the applicable federal rate as calculated by the Internal Revenue Service using Treasury yields.
Suppose a business gives an employee a $100,000 loan that requires the employee to pay back $95,000 at year-end. The implied interest rate on the loan is minus 5%. If the IRS determines that the applicable federal rate for the loan should be 3%, IRS rules require the lender to recognize $8,000 in interest income. The transaction is treated as if the borrower paid the lender $103,000 at maturity, of which $8,000 was gifted back to the borrower. Unless tax rules are appropriately modified to account for negative Fed policy rates, the IRS’s below-market bond rules could subject savers to an additional income-tax liability.
Fed research notwithstanding, the truth is that the effect of negative interest rates on the economy and growth are far from clear. It is clear, however, that negative rates potentially impose a new, indirect tax on savers that may not be offset in federal income tax bills unless IRS rules are modified to ensure that savers aren’t taxed twice.
88 BIL MORE REPOS BABY
The Federal Reserve Bank of New York added $88.45 billion in temporary liquidity to the financial system on Friday.
The intervention was in the form of overnight repurchase agreements, or repos. The central bank took all the securities it was offered.
Fed repo interventions take in Treasury and mortgage securities from eligible banks in what is effectively a short-term loan of central-bank cash, collateralized by the securities.
The Fed has been intervening in the markets in the current fashion since mid-September, when short-term rates unexpectedly shot up on a confluence of factors, although it has used similar operations for decades to manage short-term rates.
The Fed’s interventions are aimed at ensuring that the financial system has enough liquidity and that short-term borrowing rates remain well-behaved, with the central bank’s federal-funds rate staying within the 1.5%-to-1.75% target range.
Since the large interventions started, money-market rates have been functioning smoothly. The Fed is using temporary operations to tamp down on any possible volatility, while purchasing Treasury bills to build up reserves in the banking system. It hopes that by buying Treasury bills it will be able to cut back on repo interventions at the start of next year.
The Fed currently expects to buy Treasury bills through the middle of next year.
BUMY DECEMBER BABY
Don’t rule out another bumpy New Year’s Eve in the funding markets.
After the Sept. 16 surge in repo rates that spurred the Federal Reserve to inject cash into the money markets for the first time in over a decade, a key question has been whether the rates could surge again.
Several one-off culprits, including corporate tax payments, were cited as reasons the system was short of cash in September. But another contributing factor was regulatory limits on big banks’ ability to splash cash into the market at a moment’s notice.
Late last week, investors were updated on the latest assessments of systemic importance at major banks. Based on those scores, which are calculated by regulators based on data reported by banks, some of the nation’s biggest banks are heading into year-end potentially needing to scale back activity such as lending even more sharply than this time last year, when repo rates also surged.
How much capital top banks must hold against their assets is partly determined by a quantitative assessment of their global systemic importance, or G-SIB score. As a bank’s score rises, its capital requirements jump up in half-percentage point increments, sometimes called “buckets.”
This gives lenders a strong incentive to stay just below key score thresholds. For a bank the size of JPMorgan Chase or Bank of America, being just one point into the next bucket could translate into a sudden $5 billion or $10 billion jump in capital that the bank is required to have, according to analysts at Goldman Sachs.
In October, JPMorgan Chief Financial Officer Jennifer Piepszak said of the bank’s G-SIB score: “We will manage it like we do any scarce resource.”
G-SIB scores are weighted toward the fourth quarter. For some inputs to the score, it is their position on Dec. 31 that matters. As a result, banks often spend much of the year at or even above the line of the next-highest bucket to maximize their available balance sheet, before scaling back at year-end.
The result is that banks are hyper-attuned to the impact of any new activity in the fourth quarter. Last Dec. 31, the repo rate jumped from below 3% to as high as 6%, a move widely attributed to G-SIB score-induced caution.
Based on Nov. 22 data, JPMorgan’s third-quarter score has risen to 751 from 738 a year earlier, putting it further above the 730 line, which corresponds to a jump from a capital surcharge of 3.5% to 4%, according to analysts at Morgan Stanley. JPMorgan intends to be in the 3.5% bucket at year-end, Ms. Piepszak said in October.
Goldman Sachs and Bank of America are also slightly above their relevant lines, while they were slightly below this time last year. Citigroup is closer to the top of its bucket than last year.
There are mitigating considerations. Some banks, including Morgan Stanley and State Street, have lowered their scores relative to last year. And as Stuart Graham of Autonomous Research points out, banks can tweak more than just how many repo loans they make, like managing derivative exposures or the mix of assets in their trading books.
Still, there is just more of that to do this year, which is not a good portent. “JPMorgan must play Scrooge,” Mr. Graham titled a note on the subject.
This all comes on top of other regulations that require banks to hold high levels of extremely liquid assets at all times, which banks have argued further constrain their ability to respond to moments of market stress.
Fortunately, the Federal Reserve seems aware of the risks. On Monday, a Fed operation offering $25 billion of longer-term repo funding that extends into January received nearly $50 billion worth of bids. After that, the Fed said it would increase the minimum size of the next longer-term repo operation on Dec. 2.
“The repo market is very nervous about year-end rates,” said Scott Skyrm, executive vice president at Curvature Securities. “The Fed clearly sees there is market demand.”
But there remains a risk that the market could be caught off guard, as it was in September, by just how much liquidity is needed in the face of overlapping regulations and any unexpected market shocks that happen to come along.
Capital rules are there for a reason, and market participants and politicians can debate how they should be optimized or how banks ought to manage around them. But there is little doubt that they have consequences. Nothing good happens at a New Year’s Eve party when you take away the punch bowl.
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