I love my truck. I mean I really love it, in kind of like a boy and his dog kind of love. So, I was completely devasted the other night when I came out of a meeting at church at 8:30, went to start my truck and was greeted with a huge yellow wrench in my dash display. The only message in the dash displayed with the wrench said “see manual.”
I quickly turned the truck off and took the manual out of the fancy leather binder in the glove box. I anxiously thumbed through the 400 pages to the warning lights section. I found the wrench, the manual simply said “power train failure, call dealer." Power train failure, that sounded horrible, I started to panic.
Sitting alone in the dark parking lot, I went to my phone to Google this power train problem. I had a text — it was from my truck. It said it needed service and gave me a link to schedule with the local dealer. I scheduled for the first available day. The Google results said with the wrench warning light on, the truck would only move in “limp home” mode. This was bad, but I needed to get home, so I decided to give the limp home mode a try. I was sick to my stomach.
I restarted the truck. There was no wrench, no warning. Everything looked completely normal. I cautiously engaged the transmission. No problem. I accelerated. No problem. I drove home. No problem. The next morning, no wrench, no problem, and I’m left wondering if I need to keep my service appointment.
This story is a real-world microcosm of a financial market warning light that occurred last weekend. Just like a power train in a truck is incredibly important, not readily observable and largely taken for granted, the “power train” of the financial world is the cash markets, called the repo market.
The repo market involves short term, mostly overnight, exchanges of cash and collateral between financial institutions such as banks, investment funds and corporations. This cash is used to fund operations, settle trades, initiate lending, process payrolls and many other transactions we as Americans take for granted in the modern economy.
Typically, this extremely important, and totally boring, part of the financial world functions very predictably and very seamlessly. The cost of using this market is directly influenced by the Federal Reserve, and through interest rate cuts over the past few months the Fed has been making the cash markets cheaper to use in an effort to facilitate even more transactions and economic activity.
Last weekend however, something went wrong. Despite the Fed’s intentions to hold down interest rates in the cash markets, rates began to spike, and spike sharply. This happens when there is not enough cash or quality collateral available to facilitate transactions. Sometimes this is also called a liquidity crunch.
The cause of this phenomenon is technical and beyond the scope of this column, but let’s just say it represents a warning wrench on the financial dashboard. The last time the cash markets broke like this was late 2008.
Just like my beloved truck, the next morning the warning light was gone and the repo market was functioning normally. Did the wrench in my dash mean my truck’s motor was about to seize up? Apparently not at this point. Does the crunch in the repo markets mean the financial system was failing, well no, that didn’t happen either.
But the warning signal did flash. It’s a good idea to be aware. I’ll cancel my service appointment for now, but if it happens again it probably merits some more attention.