The CME FedWatch indicates significant probabilities of interest rate hikes this year. As we know, the new Fed Chairman is not a fan of interest rate increases. Instead, he has focused a number of times on the Fed’s balance sheet (now at $6.7 trillion).
When the Fed was buying up all kinds of debt it was called QE, quantitative easing. IIRC, the purpose was to lower interest rates in the market by increasing demand.
If Kevin Warsh does indeed decrease the Fed’s balance sheet (quantitative tightening) the would tend to increase interest rates without the Fed having to raise them at the low end with a rate hike.
@DrBob2 you are absolutely right. If Kevin Warsh does indeed decrease the Fed’s balance sheet (quantitative tightening) that would tend to increase interest rates without the Fed having to raise them at the low end with a rate hike.
Notice how the Fed bought its Treasury and mortgage bonds (QE) when interest rates were super-low because the Fed’s purchases were actively suppressing the yields. The Fed might hold billions in 10-year Treasuries locked in at a 1.5% or 2% yield. They are way below today’s yields. If the Fed was a normal bank its mark-to-market assets would be way below the par value of the bonds. That was the problem that sank Silicon Valley Bank in 2023. But the Fed isn’t a normal bank so it lists these bonds at par.
The Fed is saddled with a huge book of low-yielding bonds. At the same time, the Fed is paying banks to keep their overnight liquidity parked at the Fed which is called Interest on Reserve Balances (IORB). This is paying the banks interest at the fed funds rate which is currently about 3.6%.
So the Fed is losing money every day because it’s paying out more interest than it’s earning on its own bloated book of bonds.
Fed Chair Kevin Warsh hates this. That’s why one of his new task forces will be dedicated to changing “balance sheet policy” which is jargon for reducing the balance sheet. The Fed probably won’t sell its underwater bonds but it could allow them to roll off and not buy new bonds from the Treasury.
By reducing the demand for Treasury bonds, the Fed’s balance sheet reduction would act as Quantitative Tightening - QT.
There is no question that long-term interest rates would rise as a result. The Treasury yields are already rising because of this, especially the long-dated bonds.
Slide the Trail Length box to the right under the Treasury Yield Curve chart. See how the short end is staying about the same but the long end is rising more.
This is a lot more important to the economy and stock market than the fed funds rate because the longer term bonds (especially the 10 year Treasury) are used to set mortgage and business loan rates.
Interest rates will rise. Zombies will default. Solvent businesses will make less profit since their borrowing costs will rise.
With Treasury supply rising (higher government deficits) and demand falling (Federal Reserve allowing current bonds to mature without buying new ones) you can be sure that prices will drop – higher interest rates.
Also falling stock prices. Investors will shift toward safe, high-yielding Treasuries. Companies will be forced to pay more in interest.
Addicts hate it when the supply of dope vanishes. The markets will hate it when the crack cocaine of low borrowing costs vanishes and their stock valuations are hit by rising interest rates. Which is happening as we speak because the super low interest corporate loans from 2020-2022 are maturing now in 2025-2027. Most companies (especially zombies that can barely make interest payments) won’t pay off the loans but will roll them over at higher interest rates. This will eat into their profits.
Thank you Wendy for the big heaping plate of crux METAR data, all parsed out for clarity for people like me….
Here in Mexico I get great service and rates from my local private bank because I park lots of dollars with then hedging the peso. This will be the data I need to master before my next ¨portfolio review¨ rate bargaining session with them. I expect my bank manager will be in a mad frenzy….again.
@flyerboys does your local bank have insurance for your savings account? Equivalent to FDIC insurance on deposits? If it doesn’t you will need to pay attention to the solvency of the bank.
During the 2008 - 2009 financial crisis, two of the banks I had CDs in failed. The FDIC moved in and shut down the banks. They replaced my money because it was under the FDIC insured limit. When Silicon Valley Bank failed in 2023, the Federal Reserve bailed out even the accounts above the $250,000 limit. (But I don’t know if Kevin Warsh would do that – I wouldn’t.)
When interest rates rise the assets (like bonds) that banks use to provide their capital lose value. That’s what sunk Silicon Valley Bank.
When a bank shuts down without account insurance, savers can lose money. During the Great Depression, before the FDIC, about 1/3 of U.S. banks failed and many people lost their life savings.
..-what eldemonio says, and I never have much money in any bank anywhere. My local bank (ActInver Líderes en manejo de inversiones | Actinver seems to me to be moderately dicey. But it provides me with a useful local currency wallet, and by risking a little on their short term funds I get great service in return.
That was done because banks all over the country, but especially in Silicon Valley, had billions of deposits (mostly short term) that were above the $250,000 protection ceiling. Had they not done that it is possible even likely there would have been a bank run which would have made those in 1929 look like a minor trickle.
I’ve often wondered how large corporations with multiple millions in payroll have to handle their cash for weekly/semi-weekly/monthly disbursement. It would be far too cumbersome to split it all into $250,000 tranches in hundreds of banks, and yet it sits somewhere without the kind of basic protection that we all covet for our own individual accounts.
Imagine if, through some sort of sudden (or even not) a large bank found itself cash poor, even if it was asset heavy. The kind of contagion that could result could wreck not only that bank, but all the companies which had deposits there, and - as we have seen in bank runs - the panic spreads even to banks which are not in the same precarious financial position. That’s why there’s a clause citing a “systemic risk exception” which could be used for ill, but in this case was used appropriately to stem any hint of further losses to shore up in the entire industry - and economy.
(FWIW, the SVB shareholders were wiped out. The bond holders were wiped out. And the executives were fired. So this was not like the bailouts of 2008 where everybody got bonuses and lived happily ever after.)
@Goofyhoofy it’s a great question. I don’t know the answer so I asked Gemini.
Gemini said:
To handle payroll and operational cash safely and efficiently, large corporations rely on a sophisticated mix of automated banking products, short-term debt instruments, and strict cash-management protocols.
Here is exactly how they do it:
1. Institutional Sweep Accounts
Corporations rarely let idle cash just sit in a standard checking account. Instead, they use automated sweep accounts.
Every night, any cash above a predetermined minimum operating balance is automatically “swept” out of the transactional bank account and into low-risk, interest-bearing vehicles.
Just before payroll checks clear or ACH transfers go through, the exact amount needed is swept back into the primary disbursement account.
2. Money Market Mutual Funds & T-Bills
Instead of trusting a single bank’s balance sheet, corporations holding millions in cash use the bank merely as a conduit to buy ultra-safe, short-term securities.
Government Money Market Funds: These institutional funds invest strictly in U.S. Treasury bills and government agency debt.
Direct Treasury Ladders: Massive corporations will buy T-bills directly.
Because these assets are held in a custodial capacity by the bank (meaning they belong to the corporation, not the bank’s own balance sheet), the $250,000 FDIC limit is irrelevant. If the bank fails, the securities still belong to the corporation.
3. Reciprocal Deposit Networks (ICS/CDARS)
For mid-sized corporations with a few million to dozens of millions of dollars, there actually is a system that splits the money across hundreds of banks automatically.
Services like IntraFi (formerly ICS and CDARS) allow a company to place a large deposit with a single primary bank.
That bank’s software automatically breaks the deposit into chunks under $250,000 and distributes them across a massive network of other well-capitalized banks.
The corporation gets full FDIC coverage on millions of dollars, but only has to manage a single banking relationship and statements.
4. Collateralized Deposits
For very large payrolls, corporations can negotiate collateralized deposit agreements with major financial institutions. Under these agreements, the bank legally pledges high-quality collateral (usually U.S. Treasuries or mortgage-backed securities) to back the corporation’s cash deposits. If the bank goes under, the corporation takes ownership of the collateral to cover its losses.
5. Systemic Reliance on Tier-1 Banks
Finally, giant multinational corporations lean heavily on Globally Systemically Important Banks (G-SIBs)—the “Too Big to Fail” institutions like JPMorgan Chase, Bank of America, or Citi. While not an official guarantee, these corporations operate under the assumption that the federal government would step in to protect depositors to prevent a systemic economic collapse, much like the intervention seen during the regional banking disruptions of recent years. [end quote]
It sounds like CFOs need to know how to use several sophisticated methods which aren’t used by smaller depositors.
If they screw up I agree that it’s the job of the Federal Reserve to prevent a systemic crisis. But there’s moral hazard in enabling CFOs to neglect to use the systems that corporations are supposed to use.
The Silicon Valley Bank and Signature Bank bailouts were so big that you can see the spike in the Fed’s assets in March 2023.
When we crossed over the $250,000 FDIC limit, I asked my banker about other options to keep our money insured. He said they used Intrafi. As I understood him any amounts over 250k are swept into another bank automatically. So, we only deal with only one bank but funds flow in and out of the other banks to keep the total under 250k. He claimed it would all be insured.
I have had the same banker for many decades. I trust him but…I thanked him for the information and opened additional accounts at other banks/credit unions.