8/5/2019 Dissecting the Fed’s foreign repo pool – the users – concentrated ambiguity

concentrated ambiguity

Dissecting the Fed’s foreign repo pool – the users

30. August 201629. September 2016 | stwill1

This is the first post in a series of four examining the Federal Reserve’s foreign repo pool. After an introduction, it a empts to
figure out who is responsible for the rise in the pool since 2014.

Subsequent posts in this series:

Part II: Funding Mechanisms (h ps://concentratedambiguity.wordpress.com/2016/09/08/dissecting-the-feds-foreign-repo-

pool-funding-mechanisms/)
Part III: The Foreign Repo Pool Rate (FRPR) (h ps://concentratedambiguity.wordpress.com/2016/09/29/dissecting-the-
feds-foreign-repo-pool-the-foreign-repo-pool-rate-frpr/)

The growth of foreign exchange reserves over the past decades gave rise to a new investor class: a class
predominantly focused on safety, excessively concerned about the liquidity terms of their investments and a class
trying to avoid private counterparty risk at almost all costs.

In a sense, FX reserves managers epitomize the first half of the old saying about the return of capital vs. the return
on capital.

In order to fulfil their mandate, FX reserve managers usually have outsized allocations to G10 fixed income
instruments with a heavy tilt towards public sector securities. Occasionally there is some equity exposure, though
most of it is, in cases where deployment is certain to be in the distant future, outsourced to SWFs. While G10
government bonds are very liquid, most FX reserve managers also hold some cash (usually bank deposits) or cash
substitutes (government bills/MMFs/short-term repos) as a first line of defense, with even less duration & credit
risk than longer-term bonds.

This liquidity tranche and in particular a rapidly growing place in the US of almost absolute safety is the topic of
this series of posts.

In a previous article (h ps://concentratedambiguity.wordpress.com/2016/06/10/saudi-arabias-cash-reserves-equity-

selling/), the cash holdings of a particular FX reserve manager, SAMA, were analyzed.

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Even though almost all of its cash holdings are US dollar-denominated, the share actually located in US territory is
surprisingly small (~20%) as most of SAMA’s cash holdings are deposited in the Eurodollar market either in
London or in offshore centers. Underlying the analysis at that time was the assumption that bank deposits are
exclusively ‘private sector bank’ deposits. This assumption, although historically more or less accurate, is not
anymore generally descriptive of how FX reserve managers allocate their cash, especially in the US.

[Figure 1], created from data contained in the monthly TIC release, illustrates the level and breakdown of how
Foreign Official Institutions (FOIs) allocate their short-term claims on the United States.

(h ps://concentratedambiguity.files.wordpress.com/2016/07/fois-short-term-claims-on-us.png)

[Figure 1] – click images to enlarge

The usual TIC disclaimers (custodial bias etc.) apply, still some general trends are observable:

Short-term Treasuries dominated historically & especially during the GFC when FOIs bought $400 bn.
Other short-term negotiable securities rose from after the dot-com bubble until 2008 and then fell rapidly.
Solely based on this behavior, this category seems largely composed of commercial paper.
Other liabilities grew steadily until 2008, stagnated from then until 2014, with very rapid growth thereafter. Is
responsible for total short-term claims approaching 2008 highs.

The growth of the “Other Liabilities” category is a bit tricky to appreciate in the stacked chart, the unstacked
version based on the same data is more effective at highlighting the growth since 2014.

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(h ps://concentratedambiguity.files.wordpress.com/2016/07/fois-short-term-claims-on-us-unstacked.png)

[Figure 2]

After coming close in 2008, “Other Liabilities” is rapidly approaching Treasury bills and if recent growth persists,
will overtake them in the next few months. Given this trajectory the question arises what this seemingly residual
category consists of. The answer is not too difficult to find since there exists a very similar time series published in
the weekly H.4.1 release: “Reverse Repurchases Agreements with Foreign Official and International Accounts”.

Along with another time series provided in the TIC data, which references all reverse repos by FOIs, “Other
Liabilities” can be split into three categories.

Before the crisis, FOIs engaged in reverse repos with private counterparties to the tune of up to $120 bn. While the
counterparty in these arrangements is a private entity, it should be noted that the collateral can be both, a security
issued by the private sector or the government & agencies.

(h ps://concentratedambiguity.files.wordpress.com/2016/07/other-liabilites-breakdown1.png)

[Figure 3]

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Starting in September 2008, FOIs began to cut their repos with private counterparties to ~$30 bn and increased
their transactions with the Fed. Overall balances still declined, probably funding some of the $400 bn short-term
Treasury buying.

The recent rise in “Other Liabilities” is thus solely due to the increase in reverse repos with the Federal Reserve, as
repo lending to private counterparties never recovered from its post-GFC decline, still hovering around $30 bn.

Given the increased importance of FOI reverse repos with the Fed and the generally high level of transparency of
the Federal Reserve System, one would expect a lengthy discussion of this facility somewhere, along with regular
releases on its use over time. Reality is much bleaker tough, with only the aggregate level (blue in [Figure 3]) being
released regularly in an easily accessible manner.

The NY Fed’s website has, among other things, this (h ps://www.newyorkfed.org/abou hefed/fedpoint/fed20)to
say on the program, which closely mirrors the usual response on requests for comment on the program:

[…] This investment service has been a standard provision of the New York Fed to foreign public sector account holders for
many years and is separate from monetary policy operations, including the overnight and term reverse repo operations. […]

Nothing to worry about then? Maybe, but the lack of causal explanations for the $150 bn rise and discussions
about what this means for monetary policy, the users and financial markets more broadly, asks to be analyzed a
bit.

The following sections gather what can be extracted from various sources and paint a picture of a facility which is
anything but pedestrian with potentially interesting & considerable implications. Four broad questions guide the
process:

1. Which countries use the Fed’s foreign repo facility and more specifically who is responsible for the rise since
2014? [Today]
2. …
3. …
4. …

I. The Users

The Federal Reserve unfortunately only releases an aggregate time series on Fed repo transactions with FOIs, as
the release of single country data could provide insight into the reserve allocation of these countries and similarly
to IMF reserve releases, too much insight into particular holdings is deliberately avoided.

There is a country breakdown in the TIC banking data but it isn’t helpful at first for two reasons:

as always, data on single countries in the TIC data system, are reported only in aggregate (private + official)
form and not separately, which is particularly problematic in this case, as the private sectors’ “Other liabilities”
is far greater (about 5-to-1)

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during the 2014-2016 timeframe, i.e. when FOI repos with the Fed increased, the foreign private sectors’ “Other
Liabilities” declined by about the same amount as the official category rose, impairing the drawing of
conclusions from the net change per country

These limitations combined complicate figuring out which countries transact with the Fed. TIC banking data by
country is therefore more a confirmatory signal than an initial one.

A possible way around this, similar to what was done in the

Saudi Arabia post, makes use of the comparatively easy
traceability of deposits from both, the asset side of the owner and
the liability side of the borrowing bank.

For now, and this obviously simplifies ma ers a bit but isn’t too
far off as will be discussed later, it’s best to think of FOIs
engaging in reverse repos with the Fed as them placing cash in a
Deposit Facility (DF) provided by the Fed exclusively to them
with the expedient feature of not carrying any counterparty risk.

In a stylized world with ‘n’ countries, i.e. ‘n’ Central Banks

(CBs), where every CB provides a DF to FOIs in all other
countries, the following tautological equations holds:

list of FOIs as of August 2014

(h p://ticdata.treasury.gov/Publish/foi-
aug2014.html)

In words, the sum of all DFs is by definition equal to the sum of cash deposited there by FOIs.

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As a simple example, let’s assume the ECB intervenes in the foreign exchange market and places the received US
dollars with the Fed. Somewhere in the ECB’s balance sheet there now exists an entry, roughly titled “Cash held in
other Central Banks”. The Fed, the recipient of the deposit, now has a new deposit liability in their official DF. The
asset view from the ECB and the liability view from the Fed consequently are equivalent in size.

The equation in its current form is a required first step but doesn’t provide insight into who places deposits at the
Fed. Some simplifying assumptions are necessary to get there eventually.

The largest part of FX reserves is denominated in four currencies: USD, EUR, GBP, JPY; so that the liability view of
the equation can be rewri en as the summation of DFs of the CBs issuing the named currencies.

With regard to the right hand side, fortunately it isn’t necessary to collect the amounts held by every single FOI, a
rather impossible task since many FOIs don’t report their cash levels, but rely on the by far largest subset of the
FOI universe: foreign CBs with FX reserves (also see the box above). It isn’t necessary to locate the data on all local
CB websites as the IMF provides quite some details in addition to the headline reserve numbers. A,(b),(i) in the
SDDS data template titled “total currency and deposits with: other national central banks, BIS and IMF” is
precisely what’s necessary to proceed.

The countries provided by the IMF are narrowed down to 47 by excluding any country which over the last 12
months doesn’t at any point hold at least $1 bn of deposits with other CBs.

The simplified formula greatly reduces the amount of work required but still doesn’t explain who deposits cash at
the Fed. Most of the time, with movements in all of the accounts of the four CBs, the nationality of the FOIs
varying their allocation would be close to untraceable. The period during which the Fed’s repos with FOIs
increased, from late 2014 to early 2016, is special in a highly convenient way: The ECB’s, BoE’s and the BoJ’s DFs
seem to have all moved relatively li le or if they did move, the relevant FOIs can be easily traced and excluded.
The Fed therefore seems to be the only CB with changes in its DF.

The equation, from October 2014 onwards, then looks as follows:

It’s difficult to prove the equation directly since while the Fed and the ECB release explicit data on their foreign
RRP program (h ps://fred.stlouisfed.org/series/WLRRAFOIAL) in the former case and the Deposit Facility
(h p://sdw.ecb.europa.eu/quickview.do?SERIES_KEY=123.ILM.W.U2.C.L060.U4.EUR) in the la er, the BoE and
BoJ are more opaque.

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For both CBs, regular reserves held by banks, resultant from the respective QE programs, account for the largest
part of their liabilities.

The BoJ releases some other liability categories, none however called foreign deposit facility or similarly, but none
growing by much during the reference period.

The BoE, in transparency terms, is even worse as the high frequency publication of “other assets/liabilities” was
discontinued in 2014, i.e. no direct statement about their DF can be made. Indirect effects of possible
increases/decreases should be somewhat traceable though: During the 2014-2016 period, no QE program was
conducted, so reserves should be roughly unchanged. If a foreign CB held bank deposits in the private banking
system and decided to switch this portion over to the BoE, reserve levels should have decreased. Similarly, if a FOI
sold/let mature and not roll over UK government bonds (or other UK assets), some other entity must have bought
the bond and reserves would have decreased again, assuming a negative to neutral fiscal balance which doesn’t
withdraw reserves via tax payments exceeding government outlays. Reserves didn’t decline so most likely there
wasn’t much movement in the BoE’s DF which is confirmed by the BoE’s annual reports which break down the
balance sheet by geographical origins.

The ultimate test for the approximate equation and the considerations above is the extent to which the Fed’s
foreign repo pool is correlated with the sum of “Cash held in other Central Banks” (ChioCBs) over the reference
period.

(h ps://concentratedambiguity.files.wordpress.com/2016/07/chiocbs-since-2001.png)

[Figure 4]

The black line represents the ChioCBs by 47 CBs taken from the IMF’s reserve template. It’s important to note that
the period-to-period change of this line isn’t only affected by the rise and fall of cash positions of the existing
members, but also by the addition of new countries reporting in SDDS format. The big double spikes during 2007
for instance are due to the addition of India and the United States. [Figure 5] contains some more information
about the sample members.

The result is quite decent: from October 2014 – April 2016, ChioCBs rose ~ $130 bn, very close to the actual $140 bn
increase in the Fed’s repo transactions with FOIs.

While the start-to-end change confirms the assumptions already, the trajectory is a bit off at times, requiring some
refinement:

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The US cash held in other DFs, although there are (h ps://concentratedambiguity.files.wordpress.com/2016/0

almost no changes, is excluded since the objective sample-countries1.png)
is to model the cash deposited with the Fed by
foreign FOIs and not the Fed’s foreign currency [Figure 5]
holdings deposited at other CBs. (h ps://concentratedambiguity.files.wordpress.com/2016/07
Swi erland was responsible for the spike during sample-countries1.png)
early 2015 and is excluded for two reasons: 1. The
spike reversed quickly and 2. The rise in deposits
didn’t occur in the US, but were mostly deposited
in the ECB’s DF, as [Figure 6] shows.
The number of reporting countries drops of
quickly after Feb 2016, as smaller CBs aren’t as
fast reporting their results to the IMF. The
February numbers contain 41 countries of a
maximum of 47 at the top. The six countries
without numbers provided through at least
February are excluded to avoid a
drop-off in the level. The dark blue spots in the
table show which CBs are excluded; as said,
mostly small countries without movements large
enough to affect overall results.

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(h ps://concentratedambiguity.files.wordpress.com/2016/07/swi erland-chiocbs.png)

[Figure 6]

With these adjustments, the result looks very similar to the actual trajectory, confirming the assumptions made
about DFs in other areas.

(h ps://concentratedambiguity.files.wordpress.com/2016/07/fed-foreign-asset-liability-view.png)

[Figure 7]

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Since the asset view, i.e. the Cash deposited in other CBs, is simply the sum of all cash held by foreign CBs in the
sample, it’s now possible to look at the changes by country during the reference period, in order to identify those
which increasingly engage in reverse repos with the Fed.

(h ps://concentratedambiguity.files.wordpress.com/2016/07/chiocbs-net-change.png)

[Figure 8]

There is one clear standout, Japan with an increase of over $100 bn, and three minor contributors, Brazil, Thailand
and Turkey.

Summary: Section I

FOIs increasingly engage in reverse repos with the Fed, which is similar to depositing cash in a default-free
account at the Fed. There is no official information besides the aggregate size of the foreign repo pool. With some
assumptions and a bit of luck (no large movement in other CBs’ DFs), the liability view (FOI repos on the Fed’s
balance sheet) can be replicated from the asset side (ChioCBs) and the depositing countries can be traced out.

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