The repo market reveals the limits of Fed intervention, showing how short-term credit conditions are ultimately determined by banks, borrowers, and market forces — not central planners.

Recent movements in short-term loan markets are a timely reminder of a forgotten truth: the Federal Reserve is not the master of credit conditions. It can influence interest rates, but it cannot dictate them. Interest rates ultimately reflect supply and demand conditions in the broader financial system. When those conditions shift, the Fed’s administered rates give way to market realities.

That’s precisely what we’re seeing in the repo market now.

In an overnight repurchase agreement (or a “repo” in financial industry shorthand), a (borrowing) financial institution sells Treasurys to — and, hence, receives dollars from — another (lending) financial institution today and promises to buy them back tomorrow at a slightly higher price. The repo is economically equivalent to a collateralized loan, with the interest rate — or, repo rate — implied by the mark-up in price. According to a recent Reuters article, market repo rates have ranged between 4.05 and 4.25 percent this month.

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