Bernanke Discovers a Weak Link in the System

The Financial Times reported that the chairman of the Federal Reserve Board is now concerned about the “use of tri-party repo and the systemic risks in this crucial, but little understood area of finance.”

“Recent experience demonstrates the need for additional measures to enhance the resilience of these markets, particularly as large borrowers have experienced acute stress,” said Mr Bernanke this week.

The tri-party repo market is indeed crucial but “little understood”? Perhaps only by the Fed. Witness the chairman’s comment about “experience demonstrates.”

This is no place for a discussion of categorical imperative, but I must insist that if you know anything about the tri-party repo market, you would not need experience to tell you what is likely to follow, in the same way that if someone is throwing knives at his friend, you would not need experience to know that eventually the friend is going to get hurt.

I wrote in detail about the tri-party repo market and its systemic implications almost a year ago. I wrote:

In the context of the discussion of a crisis centered around liquidity and credit risk, the most critical thing we must know about the structure of markets is the function of the tri-party repo market.

Your can read the full entries here and here.

If you happen to know Bernanke’s email send him a link as well. With Larry Summers eyeing his job, the chairman needs all the help he can get.