The bizarre scenes without many historical precedents seem to continue happening on the other side of the pond. The great financial crisis of 2008 meant a change of direction by the central banks with expansive monetary policies that showered the markets with liquidity. Such an overdose of liquidity has been translating into economic growth that is now facing the withdrawal of that external support. The Fed and the ECB fold the sails at the same time with strategies such as increasing interest rates and the gradual draining of cash from circulation.
Not only is this reflected in the contraction of the money supply in the United States or in the credit repression in Europe, but the bond markets are pricing in these latest movements with the largest inversion of the yield curves since the 1980s Monetary institutions are reducing liquidity like never before since the 1929 crash and this is causing investment banks to closely monitor events to launch their forecasts.
Goldman Sachs is one of them. “After a large global liquidity boost since March, we are concerned that liquidity could be significantly reduced in June/July by the combination of TGA (Treasury General Account) buildup, TLTRO and QT redemption loss, leading to a rebound in volatility and a lower return for risky assets in the second semester”, he points out.
The US bank says it expects that the TGA rebuild will lower US reserves by around 7-8% during its scenario compared to current June and July levels and that June TLTRO (bank liquidity) repayments will reduce the ECB reserves by almost 12%.
“All else being equal, this could reduce liquidity in the world’s four largest countries by around 5% over the next 2 months, a very sizeable drop in historical terms that could be even higher if combined with a stronger dollar,” he warns.
To put the situation in today’s context, the largest monthly decline in G4 reserves since 2018 was a 6.6% drop in April 2022, during which the Nasdaq and S&P 500 fell 9% and 8%, respectively, and the Dollar Index strengthened almost 3%.
The focus of the problem
In this sense, the most recent balance of the TGA stands at 49,000 million dollars, and it is expected to reduce to close to 0 in the next 2 weeks, to then rebuild to close to 550,000 million dollars in June or July .
“The withdrawal of liquidity that this translates into really arose from how the reconstruction of the TGA is financed and how much we deviate from the RRP (Reverse Repurchase Agreement) (…) At one extreme, assuming that no money comes out of the RRP and that all else being equal, a $550bn rebuild of the TGA will mean a decline in reserves of about 15% from current levels over the course of 2 months, which will mean a very aggressive liquidity run,” he says. Goldman Sachs.
In the opinion of the experts of the US bank, a more plausible scenario is to assume that half of the accumulation comes from RRP (Reverse Repurchase Agreement) outflows, which, other things being equal, translates into a reduction in reserves of 250,000 million, around 7.7% over 2 months.
The United States, according to this analysis, would be destined for its reserves to fall significantly in the summer months. “The key will be in the volume of RRP outflows towards the bills, so we will closely monitor the differential between the bills and gold,” they point out from Goldman Sachs.
For example, assuming no outflows from the RRP and all other things being equal, a $550bn TGA reconstitution would mean a 15% decline in reserves from current levels, whereas a more plausible scenario in which half of the accumulation comes from outflows from the RRP would translate into a reduction in reserves of, effectively, 250,000 million.