Like much of her commentary, I find this considerably overstated. Still, it suggests a few points of interest and also concern:
The mere existence of this facility could exacerbate liquidity runs during times of market stress. Borrowers in the short-term debt markets will have to compete with it for investment dollars and all, to varying degrees, will be viewed as higher risk than lending to the Fed. Even a relatively minor market event could encourage a massive flow of funds to the Fed while contributing to a flow away from other short-term borrowers.
Nonfinancial companies could find themselves unable to find buyers for their commercial paper. Banks could confront a sudden outflow of deposits, particularly those which are uninsured. Even the U.S. Treasury—traditionally viewed as the safest harbor—could see its borrowing costs spike as investors decide that the Fed is even safer.
Ironically, faced with a more acute liquidity crisis, the Fed would likely have to use the funds it is borrowing through reverse repos to provide a lifeline to the very markets that suffered. For investors seeking safety, the Fed would become the borrower of first resort. For borrowers affected by the resulting diversion of funding, the Fed would become the backstop lender.
The reverse repurchase facility also seems to be at cross-purposes with Congress’s efforts to contain the government safety net. After many years of consideration, Congress in 2008 reluctantly gave the Fed authority to pay banks interest on the money they keep on deposit with it. The reverse repurchase facility essentially gives large nonbank financial institutions the routine ability to place money in the functional equivalent of an overnight deposit with the Fed and receive interest.
In December 2012 Congress allowed the Federal Deposit Insurance Corporation’s crisis-era program to provide unlimited guarantees for non-interest-bearing transaction accounts—such as those used by businesses and local governments to process payroll and other expenses—to lapse. So the Transaction Account Guarantee Program is dead—but the Fed’s reverse repurchase facility enables large nonbank financial institutions to obtain explicit government backing for billions placed with the Fed, but without the burdens of deposit insurance premiums and the kind of prudential supervision that applies to banks.
The full WSJ Op-Ed is here.