Mutual funds may be used to drain Fed's liquidity bath


Everyone has been wondering when and how the Fed would start exiting from the stimulus packages it implemented at the start of the financial crisis. We're beginning to get a glimpse of what the Fed may do to start draining funds from the economy.

One major strategy could be to work with money market funds to drain liquidity and hopefully avoid post-crisis inflation. The Fed plans to borrow money from money market mutual funds using reverse repurchase agreements (or repos), according to a report in the Financial Times. Using this strategy, the Fed would pledge mortgage-backed securities and Treasuries acquired during the crisis as collateral for short-term loans from the funds. When the timing is right, it could then use these reverse repos to begin raising interest rates.

Originally published