09 MAY 2024
US rate cuts may now be off the table this year, yet financial conditions should continue to ease. How so?
The answer lies in the fact the monetary and fiscal authorities continue to find new ways to provide policy stimulus, meaning borrowing costs are no longer the only game in town.
The chart below attempts to capture this dynamic and shows how the US “net liquidity” situation is changing. It’s a pretty blunt combination of the Federal Reserve balance sheet, the Treasury General Account (TGA) and the reverse repo facility. These are a variety of tools being used to control liquidity flows around the financial system.
When this indicator is rising it reflects money being pumped into the system, which tends to boost the economy and risk assets. The most obvious example being March 2020 when policymakers turned the liquidity taps wide open to counter the pandemic, sparking a big rebound in markets.
The gradual increase in this metric since late 2022 also helps to explain the bull market of the past 18 months. This has unfolded despite a sharp increase in interest rates.
Net liquidity has fallen slightly of late, reflecting the seasonal payment of US tax bills and lots of government debt issuance. In turn, this helps to explain why markets are consolidating after a strong six months.
What happens next? Combining the Biden administration’s wish to stimulate the economy and markets as we head towards the 5th November Presidential election with the Federal Reserve’s desire to keep the bond market under control, we expect this indicator to trend higher over the coming months. And this should support risk assets.
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