Here Are the Biggest Problems Facing the Fed Right Now

Tracy Alloway (0:11)

Hello, and welcome to another episode of the Odd Lots Podcast. I'm Tracy Alloway. My co-host, Joe Weisenthal, is away. And if I could just begin the show with a small disclaimer, which is that apparently I have broken my foot in three different places, so if I sound a little bit distracted today, that is why.

Now, speaking of difficult situations, you all know, our Odd Lots listeners are aware that the debt ceiling drama continues in the States.

Joe and I just recorded an episode on the Mint the Coin debate, which is one idea of how to bypass the debt limit on a temporary basis at least. But I think it's fair to say that there are a lot of challenges out there at the moment, especially for the Federal Reserve, the central bank. So not only are they still trying to navigate an unprecedented economic cycle in the wake of the global pandemic, but they're also now having to deal with higher inflation to decide whether or not it is indeed transitory. And meanwhile, they're also facing the fallout from what's going on in DC. So every time there is this sort of debt ceiling brinkmanship, we generally see some feed through into the treasury market. Money market funds stop buying up short-term bills around the date, the so-called drop dead date, that the US is actually supposed to run out of money and the Fed has to figure out all these different ways to try to keep things going along with the treasury while the politicians do get out. So there was a lot going on in the Fed. I haven't even mentioned the insider trading scandal, but that of course is an issue as well.

Suffice it to say, the central bank faces many, many challenges and today I am very happy to say we are going to be speaking with the perfect person to discuss some of those issues. It's someone who actually used to work at the Fed as a trader and he runs a blog right now called Fed Guy. And it's one of my favorite reads. I highly suggest you check it out if you haven't been reading it already.

Joseph Wang, welcome to the show.

Joseph Wang (2:21)

Hi Tracy, thanks so much for inviting me. I'm thrilled to be here.

Tracy Alloway (2:24)

Oh, well thank you so much for coming on. Joe and I have wanted to get you on for a long time, so I'm happy you could make it.

Maybe just to begin with, could you describe your background at the Fed? What exactly were you doing there?

Joseph Wang (2:38)

Sure, I worked on the Open Markets Desk at the New York Fed. And so what the Open Markets Desk does, it's basically the Fed's trading desk. So we conduct operations.

So all the QE, all the repo operations are done by the desk. I focus on money markets. So I run the repo operations and I study the banking system. A lot of my work has to do with studying how the financial system works.

Money market funds, just the plumbing of the system, basically.

Tracy Alloway (3:04)

So when we have something like a debt ceiling crisis, do you start getting flashbacks to previous episodes?

Joseph Wang (3:12)

Well, I think one of the main mechanisms that the debt ceiling does impact the markets is through the money markets. So yes, that's probably the direct way that the debt ceiling impacts.

And you can see it right now, actually. If you look at the short-term bill curve, you can already see bills that mature around the drop-dead date are selling up quite a bit. So usually you see market impacts first in the money market sector when it comes to the debt ceiling.

Tracy Alloway (3:35)

So how do you think money markets, and I guess the wider treasury market, should feel about debt ceilings and this kind of political brinkmanship? And the reason I ask that is because we do tend to see these bouts of debt ceiling drama every once in a while, or at least in recent years, we've seen them every once in a while.

But on the other hand, when it gets really bad, we tend to see treasuries rally because people go into safe haven assets and treasuries are still considered that even if the cause of market turmoil is because of the US itself, which is kind of ironic. But how do you think treasuries feel about these sorts of issues and has it evolved in recent years?

Joseph Wang (4:21)

So you're exactly right. And I think that the way that I would think about this is that I think overall, of course, the investment community understands that this is a passing thing. The US treasury has a printing press, right? So they can always make their obligations.