United States: Why the Central Bank lowers interest rates

The US Central Bank intervened urgently this week on the money market. It first decided a slight decrease in interest rates (0.25%), set in a range of 1.75% to 2%. We must go back to the financial crisis of 2008 to find such an intervention.

The Fed also announced on Wednesday that it would inject up to $ 75 billion of additional liquidity into the markets on Thursday through its pension-fundraising tool. The amount is in addition to the 53 billion it had already announced inject the day before.

The goal is to avoid runaway short-term borrowing costs for banks and businesses. An operation that is far from trivial.

What is the money market for? Financial institutions and companies come to the money market to lend or borrow money for very short periods, from one day to one year. Generally considered very safe, it is an essential tool for the proper functioning of the economy.

In this market are traded various instruments, such as treasury bills issued by governments, commercial paper issued by private companies or repos (repo or repurchase agreement in English).

These are used by companies or banks to borrow or lend money in the very short term with mortgages of very safe securities such as treasury bills. The next day, the borrowers repay the money plus interest.

The rates used are generally close to those set by the Fed, currently between 2% and 2.25%. Borrowers thus ensure that they have, at a low cost, enough money to meet their day-to-day obligations and maintain a sufficient level of reserves.

Lenders with plenty of cash can do a bit of profit without taking a lot of risk. This instrument is widely used by banks, who calculate their financing needs each evening.

Why did the Fed intervene? Interest rates on the US money market jumped on Monday and Tuesday, up to 10% for some loans, surprising brokers. The exact reasons for this soaring, which reflects a sudden lack of liquidity, are not very clear.

Several observers argue that Monday was the deadline for the quarterly payment of taxes for many companies, which consequently had to withdraw money from their accounts, and that the Central Bank has recently made massive sales in the market. Treasury bills.

More generally, banks' reserves have fallen considerably since the Fed, which, after the 2008 financial crisis, massively injected liquidity into the financial markets by lowering interest rates to almost zero and buying back shares on the banks. markets, has decided to slow down its monetary support.

"It seems like a lot of cash has come out of the system in the last few days and the dollar demand is bigger than the number of dollars in circulation," says Gregori Volokhine of Meeschaert Financial Services.

To calm markets and prevent rates from getting too high, the Fed decided to intervene by providing fresh money through repo transactions, up to 53 billion dollars Tuesday and 75 billion Wednesday.

Is it worrying? Investors wonder if the sudden surge in money market rates is a mechanical and temporary problem or if it reveals deeper dysfunctions in the financial system.

The specter of the financial crisis of 2008 hovers: the banks, fearing that their counterparts suddenly fail, did not lend themselves more money between them.

For Societe Generale analyst Kit Juckes, "it's much more of a plumbing problem caused by a sudden change in supply and demand dynamics in Treasury bills than a symptom of a fundamental threat to the system or the world economy "as was the case in 2007/2008.

"But the only way for the Fed to regain control (rates) is to take steps to ensure that there is enough cash available in the short term," he adds.

"The big question is why the Fed did not see this situation coming," remarks Gregori Volokhine.

The head of the institution, Jerome Powell, tried to reassure Wednesday by saying that the emergency interventions of the Fed had "no implication for the economy or monetary policy" and pointing out that the Fed "had the tools needed to deal with tensions ".