For almost two years, a frightening question has haunted the US Treasury and Federal Reserve. No, this is not whether the Fed can engineer a smooth exit from quantitative easing; nor whether this is the right moment to switch the governor (and policy).
The question I am referring to is whether the US Treasuries market is robust enough to handle the shocks that might arise from those first two problems. For while the US government bond market used to be considered to be the world’s most liquid and deep asset class, in March 2020 that cosy assumption was smashed apart.
Most notably, when investors woke up to the economic risks associated with the Covid-19 pandemic, there was such a dramatic sell-off in Treasuries that trading froze up. That, in turn, posed such big systemic threats that it forced the Fed to step in with what John Williams, NY Fed president, has called “staggering” amounts of liquidity support, reaching almost $1tn each day….