Fed Reverse Repo Use Climbs to Almost $1 Trillion at Quarter End

(Bloomberg) -- Demand for a key Federal Reserve facility used to help control short-term rates surged to a record high of close to $1 trillion, accommodating a barrage of cash in search of a home that's only set to grow.

Ninety participants on Wednesday parked a total of $992 billion at the overnight reverse repurchase facility, in which counterparties like money-market funds can place cash with the central bank. That surpassed the previous record volume of $841.2 billion from Tuesday, New York Fed data show. The number of counterparties was the most since 2016, while the leap in volume was the biggest since June 17.

Demand for the Fed's RRP facility has surged since the central bank raised the offering rate to 0.05% from 0% earlier in June as a flood of cash continued to overwhelm U.S. dollar funding markets. That's in part a result of central-bank asset purchases, known as quantitative easing, and drawdowns of the Treasury's cash balance, which is pushing reserves into the system.

“This is not the peak as QE continues and the cash balance has to decline more into end-July,” said Priya Misra, head of global interest rate strategy at TD Securities. “I shudder to think about RRP in end-July.”

Cash will continue to balloon next month as the Treasury endeavors to slash its balance at the Fed to around $450 billion before the potential reinstatement of the debt ceiling at the end of next month. This is also going to force the government to make additional cuts to its bill supply, further exacerbating the supply-demand imbalance and boosting the Fed's RRP facility.

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Demand “will probably be slightly lower tomorrow but when we get more paydowns through July to get down to $450 billion, usage will go right back up,” said Jefferies economist Thomas Simons.

Jefferies estimates bill supply may decline by as much as $200 billion to $300 billion in July, depending on tax receipts during the month and the pace of outlays. This means the Treasury could start making cuts to the size of the bill auction offerings beginning with Thursday's announcement for three- and six-month paper, and the 42-day cash management bill.

Treasury bill supply will have a bit of room to increase in August because extraordinary measures that get implemented at that time to keep the government from officially busting through the limit could also give the government some wiggle room on issuance. However, bills will have to be slashed further by late-August in order to prevent disruptions to the coupon auction calendar and keep outstanding Treasury debt under the limit, according to Simons.

Treasury Secretary Janet Yellen said last week before a Senate hearing that her department may exhaust emergency measures to avoid breaching the debt ceiling as soon as August unless Congress acts to avert a potential default that would be “catastrophic.” Market analysts, however, have said the administration can avoid hitting it until at least October.