Thursday, September 18, 2008

What do an ice glacier and short-term credit have in common?

Today, global central banks are attacking the angst on Wall Street. The Fed, along with the Bank of Canada, the Bank of England, the Bank of Japan, the Swiss National Bank, and the European Central Bank “are announcing coordinated measures designed to address the continued elevated pressures in U.S. dollar short-term funding markets.”

The Fed has increased the amount of USD that the global central banks can borrow by $180 billion, fanning U.S. liquidity across the globe: $55 billion to the Euro-zone, $15 billion to the Swiss, $60 billion to the Japanese, $40 billion to the British, and $10 billion to the Canadians. The Euro-zone and the Swiss already had swap lines with the Fed, while the swaps lines with the Japanese, British, and Canadians are new.

Notice that the Fed wants to address “elevated pressures in U.S. dollar short-term markets, a.k.a. interbank loans, but that is an extremely euphemistic way of saying that short-term credit has completely frozen up. The effective funds rate has been going haywire, trading up to 6% on Monday, and the Federal Open Market Committee is already pumping the banking system with funds just to maintain the 2% target. The yield on the 3-month T bill is 0.07% as of 6:37am - yup, gotta love the negative real rate of return (inflation is 5.4% y/y).

The yield curve is super steep on the front end.

The average 3-mo to 2-yr spread over the last 55 days is 0.76%, while as of 9/18/08 at 635am, it is 1.66%. The average 2-yr to 10-yr spread over the last 55 days is 1.45%, while as of 9/18/08, it is 1.69%. Longer maturity bonds should pay a higher yield since risk is higher. However, 2-years is simply too risky for financial investors right now – they don’t want U.S. bills and bonds, they just want bills (3-month). Again, credit has frozen up!

Yesterday, I went to pay my bills online at Bank of America. Normally, the heat and electricity bills go through the next day. However, the Bank would not process the payment until 2 days later. The Bank is giving itself a cushion for fund transfers because interbank lending is flowing slower than an icy Mississippi River. Oh, I love anecdotal evidence.

This is certainly panic mode. Hopefully, pressures will wear off with the central banks’ new liquidity measures. Eventually, banks will consolidate (WaMu is up for bid), and the heightened anxiety in the U.S. financial system will subside.

Please leave comments. Rebecca Wilder


  1. Yup. Just renewed a three month CD at 2.5%. OK, so it doesn't keep up with inflation but at least it is on the positive side. Stocks and mutual funds are no place to park anything right now. Heard there was a money market fund that went below $1 yesterday - that is really something!

  2. Nothing is safe right now. But just because they call it a "riskless" asset does not mean that it is completely without risk - we have now found that out!


  3. You are so right. Even the proverbial mattress strategy won't be without risk. AJ


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