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What Remains in Fed Toolkit to Ease Stress on Dollar - Dailyforextrading

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What Remains in Fed Toolkit to Ease Stress on Dollar - Dailyforextrading

Heightened global demand for U.S. dollars was one early symptom of how Russia’s invasion of Ukraine stressed the world economy. Though not on the same scale, the moves in funding markets had similarities to the global run on the greenback triggered by the coronavirus pandemic.


In that case, the Federal Reserve stepped in as the lender of last resort via tools known as swap lines and the FIMA Repo Facility. Those continue to exist and could help financial markets maintain the necessary liquidity to operate close to normal.

1. How does a swap line work?

First used extensively during the 2007-2008 financial crisis, swap lines are temporary lending facilities that allow central banks around the world to borrow dollars from the Fed in exchange for an equivalent amount of their local currencies.

In March 2020, the Fed and five major central banks, including those in the eurozone and Japan, said they’d activate the program to ease a squeeze as demand for the dollar surged.

They subsequently increased the frequency of seven-day maturity operations to daily from weekly. The Fed also lowered the rate and added a longer maturity.

Then it expanded the swap line to nine other central banks, including Australia and Brazil, bringing the total to 14. The arrangement with the nine other banks expired at the end of 2021, leaving what’s known as the FIMA Repo Facility.

2. What is the FIMA Repo Facility?

It’s an agreement that enables a select set of counterparties -- banks, currently -- to swap Treasuries for U.S. dollars. (The official name is repurchase agreement facility for foreign and international monetary authorities.)

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This facility was created in March 2020 as an alternative temporary source of cash for foreign holders of Treasuries, who otherwise would have to sell those holdings on the open market.

3. Are they helping?

Participating central banks will release results throughout this week. The Fed and its New York branch publish data on the use of both programs in aggregate on Thursdays, and that will be the first holistic look at their latest usage.

4. What are dollar funding markets telling us?

After Western nations imposed sanctions on Russia’s banking system, the cost of converting both euro and yen payments into dollars using what are known as three-month cross-currency basis swaps reached the widest levels since March 2020.

The gap between future Libor and Federal Reserve rates, a key gauge of funding stress known as the FRA/OIS spread, also widened for one-month contracts by the most since March 2020.

Spreads have since retreated from those extreme levels, but the geopolitical uncertainty could still put some pressure on U.S. funding rates in the coming weeks.

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That’s because when investors get nervous, they tend to shorten up their lending maturities and shift to more secure sources of funding. Barclays strategists said they expect demand for Treasury bills and U.S. bank deposits to rise as participants seek these safe harbors. Source: Washingtonpost.

 

 

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