Joseph Brown: The rapid depletion of the Reverse Repo facility, with $1 trillion drained in just 6 months, signals a concerning trend amid government borrowing acceleration, ultimately leading to significantly higher interest rates.

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from Joseph Brown:

The Reverse Repo facility has seen $1 trillion drain out in just the last 6 months

What happens when it runs out?

Its important to remember what this account is for, and where this money came from in the first place 🧵👇🏼

When all the money printing started in 2020, this account was not in use. But the money printing flooded the banking system with deposits.

Whenever a dollar is spent, it goes from one bank account to another.

When a dollar is in a bank account, it is a liability for the bank. They “owe” this dollar back to you, and it costs them money to hold it. They have to do something to make money with it. So they buy an asset so that they have an asset to offset their liability.

From March 2020-March 2021, banks didn’t have to worry about this. They were not required to offset these liabilities. But starting in April 2021, that temporary suspension was lifted, and they had to get assets again.

If banks had gone out to buy up assets with these trillions of dollars, it would have pushed short term rates negative. There would have been too much demand and not enough supply for short term government debt.

So the Fed opened up the reverse repurchase facility so that banks could get their collateral straight from them instead of the open market.

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The fed knew they would have to make the facility attractive enough, or else there would be no reason to use it. So they started offering a yield on any cash that came in: 0.05% higher than the bottom end of the fed funds rate. Just enough to make it enticing.

So banks got the collateral they needed and also got a tiny percentage paid on their cash straight from the fed.

As inflation fears roared, the fed started aggressively raising interest rates. But there were still trillions of dollars from the money printing that needed to be kept out of circulation.

So the fed had to keep raising rates on the reverse repo facility as well. This kept a floor under short term rates so that it would only leave for a sufficiently higher yield.

We are now seeing that play out. Government borrowing has accelerated so rapidly, that short term yields are now attractive enough for cash to leave the safe haven of the risk-free fed reverse repo, and get lent to the government instead

The more the government borrows at the short end of the curve, the more cash will leave the reverse repo facility.

And once it’s empty, the government will need a new slush fund to borrow from.

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At about $1.3 trillion left in the facility, it may seem like this is a long way off. But just 6 months ago in April, this facility had $2.3 trillion in it.

So we’ve seen $1 trillion leave this facility in the last 6 months, and there is only $1.3 trillion left.

And government borrowing is accelerating.

There will be many unexpected consequences of this acceleration in this out of control deficit spending, but one consequence is very predictable.

Much, much higher rates.