The new tax rules just hit my paycheck. It was like getting a 10% raise.
A blessing that was completely out of my control.
Sure, I put in a lot of work to receive that. But my hand didn’t flick the switch.
That seems like cause for celebration. Spread that extra income over a population and the economy should boom.
(Uh-oh. He’s using italics to describe good things…)
And it probably will. At least for a while. It did boom in 2019.
Of course, we all remember the following spring. That’s what we need to look out for here, too.
But how? What clues were there that something was afoot that we can keep track of before we’re knocked off the next wave of success?
Why not the reverse repo market?
You can be forgiven if you didn’t pay attention to the reverse repo market crisis in the summer of 2019.
Looking at the reverse repurchase (or “repo”) market is pretty wonky. That and most of the stories kept to finance publications, though some came with elaborate pictures.
But those diagrams never got down to the how or the why.
Even the best that the most astute economic commentators could produce was “the financial plumbing got messed up.”
And if finance starts to get murky, it’s usually to hide something.
Still… How? Why?
This is just my conjecture. But I’m an engineer who loves figuring out how things work.
So lets start with how the system works.
Banks make their money by loaning their reserves at a higher interest rate. Some they pay to their depositors so they can attract even more money. The rest they keep as profit.
Loaning money has to make sense for the bank. If the business plan doesn’t make sense, they’re not going to loan you the money.
Heading into 2019, a lot of business plans made sense. Right after the Tax Cuts and Jobs Act made it a lot less expensive to run a successful business.
That brings the next limitation.
Bank loans are normally limited to the reserves they’re required to hold on hand. Loaning out too much of those reserves was part of what caused the Great Financial Crisis of 2008.
But if a bank doesn’t have enough reserves to fund that feasible business idea, they lose out on the interest payments. Losing out on a good thing doesn’t make happy shareholders.
That’s where reverse repurchase comes in.
How reverse repo works
Banks are supposed to balance their books at the end of each business day. If they loan out more than they have on hand, they can go to the reverse repo market to make up the difference.
For a little interest to hold a balance overnight, they won’t have to miss financing the next big thing. And then their balance resets the next morning.
Where this showed up was on the overall balances at the Fed.
In June, it was over $60 billion per day.
By September, that rose to over $90 billion a day.
That may not seem big in the scheme of the economy. But it’s the rate of growth that mattered.
Main Street was coming up with a LOT of good, profitable ideas.
There were more ideas and more people to execute them than there was money to fund it. And the system struggled to facilitate it.
Of course, it was that month that patient zero came down with symptoms from a wet market in Wuhan right next to a virology institute.
It was also at that time President Trump signed an executive order ensuring the profits from gain of function research went to the right people.
Never let a good crisis go to waste…
Because after that point a lot of things a lot of productive people put into place was suppressed. And growth on Main Street stopped.
All out of their control.
History rhymes?
Back in 2019, people were leaving jobs for better opportunities their employers wouldn’t fund. That rising tide is coming again with the latest round of tax cuts bringing opportunity to Main Street.
That makes it tempting to declare victory and celebrate with a higher standard of living. And then get complacent about it.
But remember, this all happened out of our control.
Which is important to remember when those same workers in 2026 are getting downsized for AI-driven efficiency improvements.
So don’t take it for granted that the Fed has worked diligently over the last year to convince banks to come back to its reverse repo facility.
Enjoy the rise. But don’t get complacent.
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