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Bonds & the Yield Curve
/Repo: How Roughly $1 Trillion Moves Overnight
/What is the purpose of repo?

What is the purpose of repo?

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What is the purpose of repo?

(pleasant mallet percussion music) - [Narrator] Take a look at this chart. It tracks how much banks and others pay for overnight loans using something called repurchase agreements. This is also known as the repo rate. These bumps right here on September 16th and 17th have caused a really big stir in the financial world. That's because the repo market is a critical part of the financial system. It provides a lot of the grease that keeps the wheels spinning, meaning it provides the cash that financial firms need to run their daily operations.

When the repo market chokes and cash stops flowing, trouble can reverberate through the economy. That's what happened in September, and in response, the Federal Reserve had to step in to help, providing tens of billions of dollars to borrowers to keep the system cranking. In the weeks since this happened, experts have called the incident a technical malfunction, and banks, for their part, have said it could have been prevented.

They're blaming the rules that were put in place after the financial crisis, rules intended to keep the banking system from falling apart. (dramatic mallet percussion music) (pleasant mallet percussion music) Imagine two people, Karen and Mark. Karen has $1000 and she'd like to earn some fast interest on her money. Mark has a stack of treasury notes but no cash, so he strikes a deal with Karen. One note for $100, but there's a catch.

Mark has to agree to buy that note back tomorrow for $101. The difference between the price of the note on day one and day two, that's the repo rate. If everything works properly, Mark gets the cash he needs right when he needs it and Karen makes some fast money. The repo market functions in the same way. You just have to replace the Karens with money market funds and other asset managers who are looking to make a little money without a lot of risk and replace the Marks with hedge funds, Wall Street traders, and banks who have a lot of assets but need cash on hand to fund their day-to-day trading.