Federal reserve drains a quarter of USD liquidity: economic consequences await

The Federal Reserve (Fed) recently launched a policy shift that would reduce US dollar (USD) liquidity by 25%, analysts say. Joe Consolti. This strategy contrasts sharply with previous quantitative easing (QE) policies. As a result, the value of the assets banks use to issue loans, extend credit and self-finance is greatly reduced.

To understand this more easily, imagine a bank with less money to operate. Their ability to extend loans, provide credit and remain self-sustaining is severely diminished.

This policy shift will affect not only overall liquidity, but also overnight liquidity in the financial system. Overnight liquidity consists of bank reserves and funds obtained through reverse repo agreements (reverse repos) and provides immediate financial resources that banks can use to meet short-term obligations or to take advantage of investment opportunities. By reducing overall liquidity, the Fed will also limit the pool of funds available for these short-term transactions.

The key question the consortium raises is how far can the Fed push this liquidity cut before it leads to an economic downturn, or worse, collapse. Liquidity, especially overnight liquidity, plays an important role in maintaining economic stability and driving growth.

With these changes, we’re stepping into uncharted territory. The consequences of this policy shift will become apparent over time, with economic sectors both domestic and international speculating and preparing for the potential impact.