The U.S. Federal Reserve has been on a quantitative tightening spree via overnight reverse repo (RRP) operations. After removing $351 billion from the market last week, the central bank escalated its efforts, completing a massive $432.9 billion reverse repo on Tuesday, May 25, 2021. This represents a 23.07% increase from the previous week's level.
RRP Operations Accelerate
On Friday and Monday, the RRP volumes were already elevated at $369 billion and $395 billion, respectively. Tuesday's jump to $432.9 billion involved 48 counterparties, highlighting the intense demand for safe-haven assets amid a flood of cash. The mechanism works opposite to quantitative easing: the Fed sells Treasuries to drain M1 money supply from the system. So far, only Treasuries have been used, with no mention of mortgage-backed securities.
Market Commentary: Too Much Cash or Too Little Collateral?
Speculators predict the trend will continue. One Twitter user remarked, "Fed Reverse Repo 432.955 Billion from 48 counterparties. Repo market is still broken, broken. We'll break 500 billion tomorrow." Scott Skyrm, executive vice president in fixed income and repo at Curvature Securities, explained to MarketWatch columnist Joy Wiltermuth, "Either there is too much cash or not enough collateral. It's two sides of the same coin." A BTIG Research team led by Julian Emanuel described the situation as a game of cat and mouse.
Historical Context: Unprecedented Money Creation
The scale of RRP operations must be viewed against the backdrop of historic monetary expansion. In 2020 alone, the Fed's M1 increase eclipsed two centuries of U.S. dollar creation. Estimates suggest 24% to 30% of all USD in existence was created during 2020 and Q1 2021. The reverse repo facility is acting as a pressure valve for excess liquidity. As the Fed continues to taper its bond purchases, the RRP line is likely to remain elevated.
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