The emergency bailout of the interbanking “repo” market on Friday, Oct. 31, was caused by a liquidity crisis whose origin is far from being tackled. A resurgence of the crisis could arise from a counterpart failure, deterioration of collateral quality, etc. As to the latter, Barclay’s has reported that the volume of corporate bonds downgraded from investment grade to junk has climbed to $42 billion this year, from $6 billion last year.
The Fed might be forced to intervene again, Wall Street traders told Bloomberg. “The Fed is out of time and it seems like they’re scrambling,” said Mark Cabana, head of U.S. interest rate strategy at Bank of America Corp. “Dec. 1 was the only compromise they could achieve. I suspect the markets will force them to react soon.”
Dec. 1 is the date the Fed had set to start asset purchasing again, while Bank of America and others expected it to start in November already. The Repo rates cooled down a bit, but they are still higher than the Fed deposit rate and the Fed’s main rates. “If the recent rise in repo rates turns out not to be temporary, the Fed would need to begin buying assets,” said Lorie K. Logan, 14th president and chief executive officer of the Federal Reserve Bank of Dallas, at a conference on Oct. 31.
