When decrying the state of monetary policy that relies on essentially a “dead” money market, what does that actually mean? The FOMC, after all, is using the federal funds rate to “tighten”, ostensibly, even though there isn’t anybody there. They have developed other tools to go along with the federal funds rate, but all that does is highlight the central problem. This should have been far more appreciated as a central factor in almost everything that has occurred, financially, since 2007.

When discussing money markets everyone writes and speaks the “s” on the end but conceptually visualizes a singular mass. There are lots of different money markets, but almost always they are assumed to be an interconnected, operable whole. Thus, if Janet Yellen decrees that the federal funds rate is x, it assumed and expected the rest is just carried out however that might be.

Except that the panic in 2008 showed us the folly of such thinking. In general liquidity terms, starting August 2007, what was believed to be a monolithic whole, “the” money markets, fragmented and then blasted apart into each constituent piece. The very first indication of systemic contagion on August 9, 2007, was exactly that point – fragmentation via geography, or that there was a very real distinction between domestic and offshore “dollars.” It would continue, as repo fails showed that collateral was just as much a money market as either federal funds or eurodollars (and then credit default swaps and dark leverage betrayal demonstrated just how far it had all evolved).

It should not have caught so many by surprise, but it was at least understandable given that the operation of various money markets and integration among them had been largely smooth and uninterrupted for decades. Still, history of how money markets developed in this modern sense indicated all along the potential for this nearly fatal flaw (history is sadly discarded and left unappreciated largely because successive generations view their own contributions as dispositive solutions; instead they maintain all the premises of the ages-old problems and only give them new terminology and visit new ways to express the same issues).

The repo market grew up in the 1950’s as the federal funds market roared back to life, having remained dormant throughout the Great Depression, World War II and the immediate post-war years. It was truly a simple after-effect of regulation owing to how the early 1930’s banking collapse was to be dealt with. Non-banks were prevented from accessing federal funds as a matter of practical separation – keeping dealers and commercial banks separate from depositors. Dealers, however, had to access funds somehow and since the call money market that had functioned as the backbone of securities funding for almost a century had been effectively banished after the 1929-33 collapse, these institutions turned increasingly to repos.