Funding market alarm sounded! Wall Street warns the Federal Reserve: To sit idly by or replay the 2019 "money shortage" crisis.

Noticeably, in the key source of daily funding on Wall Street - a market with a scale of $12 trillion, escalating pressures are stirring up more and more calls for the Federal Reserve to take stronger action to alleviate the tension. Institutions such as Bank of America, Mitsubishi UFJ Securities, and Barclays have warned that the Federal Reserve may need to intervene, for example increasing short-term market loans or directly purchasing securities to inject funds into the banking system and ease the pressure of higher overnight interest rates. Gennadiy Goldberg, head of rate strategy at TD Securities, stated, "Given recent market pressures, the Fed seems to be gradually adjusting its balance sheet policy. Some investors believe that the Fed's actions may be too slow to prevent reserves from becoming scarce." In recent weeks, a series of key short-term rates have remained high, from benchmark rates related to overnight repurchase agreements (loans secured by government debt) to the Federal Reserve's own key policy target rate. The latter usually remains stable during rate decisions, but has risen four times within its range over the past two months. An indicator - secured overnight funding rate - even saw its largest single-day fluctuation since the peak of the pandemic in March 2020, outside of a Fed rate hike cycle. Despite the Fed cutting rates, short-term rates still face pressure. The main reason for this tightening situation is an increase in U.S. Treasury issuance, which has withdrawn cash from the short-term market, leading to a decrease in funds in the banking system. The government shutdown that lasted until Wednesday night delayed federal spending that was supposed to boost liquidity, worsening the situation. Meanwhile, the Fed's ongoing efforts to reduce its balance sheet (quantitative tightening) have also played a role. Although the Fed recently announced the halt of reducing its Treasury holdings from December 1, market pressures persist. Some worry that ending the government deadlock may not fully solve the problem. On Wednesday, Roberto Perli, a New York Fed official in charge of managing the Fed's securities portfolio, indicated that rising financing costs signal that reserves in the banking system are no longer ample, and the Fed "need not wait too long" to start asset purchases, echoing similar comments from policymakers. A Fed spokesperson declined to comment. For market participants, this news is welcomed. The key is the smooth operation of critical financial market infrastructure, where cash-rich institutions such as money market funds lend short-term funds, and investors such as hedge funds borrow against high-quality collateral like U.S. Treasuries for popular strategies like basis trades. Concern arises from the lack of sufficient liquidity that may stimulate volatility, weaken the Fed's ability to control rate-setting policies, and even force position closing in extreme cases, potentially affecting a broader Treasury market (a benchmark for global borrowing costs) when economic prospects remain uncertain. For many market veterans, memories of September 2019 are still fresh when a key overnight rate spiked to 10%, prompting a $500 billion Fed intervention to inject liquidity into the financial system. So far, the funding market is running smoothly, and the Fed's lending support mechanisms implemented in recent years help control repo rates. One such support mechanism - the Fed's overnight reverse repurchase facility (allowing eligible institutions to borrow cash in exchange for Treasury and agency securities) - has been frequently used in recent weeks. Policymakers have shown caution in the balance sheet reduction process, even slowing down amid the April congressional debate on the debt ceiling, noting that rebuilding the Treasury's cash balance may exert additional pressure on reserve levels. Zachary Griffiths, head of U.S. investment-grade and macro strategy at CreditSights Inc., said, "You could argue that 2019 was a disaster. What we've seen in the funding market recently is more like a controlled signal that reserves have essentially reached a reasonable level, and it's time to stop tightening." Although pressures are expected to ease in the coming weeks as the Treasury plans to reduce weekly bond auction sizes and more cash held in the Fed will be spent after the government shutdown ends, year-end still carries volatility risks. Banks typically reduce repo market activity before year-end to bolster their balance sheets for regulatory purposes. This 'dieting' often occurs before December and may exacerbate any year-end funding market chaos. Cleveland Fed President Loretta Mester stated last week that officials are trying to determine the acceptable level of volatility as reserves continue to move towards what is considered an ample level - currently at $2.85 trillion, according to the latest data. Mester stated at the New York Economics Club, "I think some volatility at the front end rates is actually a good thing, as long as they're staying within our range. So maybe a 25 basis point volatile I think is healthy." However, Dallas Fed President Robert S. Kaplan (who worked for many years in the New York Fed's markets department) stated last month that if repo rates persistently remain high, the Fed will need to purchase assets, adding that the scale and timing of purchases should not be mechanical. For some market participants, differing views on what level the money market should be trading at and overall lack of clarity are frustrating. Mark Cabana, head of U.S. rate strategy at Bank of America, said, "What level do you want the money markets to average? What constitutes money market control? For us, the hope that repo rates will self-adjust is unlikely to provide the outcomes the Fed is hoping for."