Last week the financial system ran out of cash. It was a modern version of a bank run, and it’s not over yet. The event doesn’t mean another financial meltdown is necessarily imminent, but it provides a “teachable moment” regarding systemic fragility and anti-fragility.
It was a modern version of a bank run, and it’s not over yet. Stepping back, it reveals two big things about financial markets: first, US Treasuries are not truly “risk-free” assets, as most consider them to be, and second, big banks are significantly undercapitalized. The event doesn’t mean another financial meltdown is necessarily imminent—just that the risk of one is heightened—since the brush fire can be doused either by the Fed, or by the banks raising more equity capital.
On the flip side, the better question is why banks weren’t willing to lend against “risk-free” collateral for an 8% “risk-free” gain? Banks are supposedly healthy and flush with cash, right? So why aren’t banks falling over themselves to rake in such easy, “risk-free” profits? . The Fed has a theory about why. Many analysts do too. But almost no one is talking about the elephant in the room.believe they own it. That’s right. Multiple parties report that they own the, when only one of them truly does. To wit, the IMF has estimated that the same collateral wasin 2018, which means both the original owner plus 2.2 subsequent re-users believe they own the same collateral .
This is the real reason why the repo market periodically seizes up. It’s akin to musical chairs—no one knows how many players will be without a chair until the music stops. Every player knows there aren’t enough chairs. Everyone knows someone will eventually lose.
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