The Sssssssurvey Sssssssaysssss

Family Feud is a gameshow which started in 1976 and aired through 1985.  After a few years hiatus, it returned in 1988, only to end again in 1995.  Then as the last century came to a close, it managed to make another comeback, one which has lasted through today.  It pits two families against each other, competing to determine answers to survey questions previously asked to a group of 100 people.  Talented hosts and strategically-cast families add to the fun of the actual game.

While it is unclear who hosted, the U.S. Treasury Department has been doing some surveying of its own lately.  Instead of 100 random people, they’ve been calling the 25 primary dealers who channel newly issued government debt to the marketplace.  Generally, a normal quarterly survey, this time they are asking a new question.  The Treasury Department wants to know how it should structure buying back its own debt.  Why are they asking this?  Liquidity.

Since the start of the pandemic, the Federal Reserve has boosted the money supply via an operation know as quantitative easing by purchasing bonds.  This new demand raised bond prices, causing interest rates to fall.  Now, they are reversing this course via bond selling (i.e., quantitative tightening), resulting in rates climbing to levels not seen in decades.  Bond prices can fall quickly if there aren’t enough buyers and the biggest, buyer, the Federal Reserve itself, has become a net seller lately.  As part of their new effort to combat inflation, the Federal Reserve now sells about $60 billion in treasury securities each month with the intention of pulling excess cash out of the economy.  This time last year, they were buying them.

Having such a substantial buyer go away has created liquidity problems.  Generally, liquidity is the ability to transact a material number of contracts easily and without bringing about a large price change.  This change in liquidity has the Treasury Department looking to fill the gap left by our central bank.  To solve this problem the Treasury will issue new debt and use the proceeds to buy back old debt.

Issssss it just Atlasssss or does this seem like a snake eating its own tail?  They will buy older debt with lower coupons using the proceeds gathered by issuing new bonds at higher rates.  In the short term this will help liquidity needs because demand for some of the lower-coupon bonds has evaporated.  How long can that last?  It’s unknowable just yet, eventually the survey known as the market will tell us.