Why the Fed likely won't go to negative Fed Funds rates, which sets up a Catch-22 for the Fed (FFTT)

MACRO-THEMATIC TRENDS - Report 14 May 2020 by Luke Gromen

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>> Why the Fed likely won’t go to negative rates, and why not doing so puts them in a painful Catch-22 <<

Key points:

** De facto support for the USD comes from the estimated $13 trillion (per the BIS) to $57 trillion (per Rabobank) in foreign USD-denominated liabilities that make up foreign USD-denominated debt and the Eurodollar system.

** This $13-57 trillion in foreign USD liabilities represents a synthetic short position on the USD, supporting demand for the USD globally despite the USD having amongst the world’s worst balance of payments currency fundamentals.

** If the Fed takes Fed Funds rates too negative, the $13-57T in USD-denominated loans would at some point begin to go from being liabilities to being assets, which would effectively begin reducing the $13-57 trillion bid for USDs.

** If $13-57T in foreign USD denominated loans go from being liabilities to assets, global demand for the USD could collapse non-linearly; given this, it seems highly unlikely to us that the Fed will attempt negative Fed Funds rates.

** However, if the Fed doesn’t implement negative rates and doesn’t keep growing their balance sheet enough, the yield curve will likely invert as UST yields go negative, pressuring the US banking system and US economy significantly.

** Re-steepening the curve from that point will likely require the Fed and/or Treasury to implement “helicopter money.”

** This in turn puts the Fed and Treasury in a Catch-22, where their only choice is how they want to devalue the USD.

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Have a great day. LG

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