The Fed’s New Magic Trick

Posted July 7, 2014

The Fed has pulled a new rabbit out of its hat: Reverse Repos.

By using reverse repos, the Fed has found a way to deal with its two most pressing challenges of 2014: 1) preventing the high levels of excess liquidity during the second quarter from creating a stock market boom and bubble, and 2) preventing a Liquidity Drain in the second half of the year from causing a stock market crash and recession.

By taking some of the Liquidity from the second quarter and spreading it out across the second half, the Fed may manage to push back the Liquidity Drain by a few months. Reverse Repos will only take them so far however. Without an extension of Quantitative Easing or some new kind of liquidity-injecting trick, the Liquidity Drain will strike by early next year and, when it does, asset prices are likely to take a tumble.

These are the issues discussed in the second video for Macro Watch Third Quarter 2014, which has just been uploaded and is now ready to watch.

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