The bank Repo (repurchase) market where banks use a Repo transaction to get cash from their inventory of Treasury bonds has created some distress in the banking system resulting in the Federal Reserve offering to buy $60Billion a month to add liquidity to the system. Some bearish commentators have implied that this is a tip off of an impending financial crisis. I disagree. The problem is merely a minor technical difficulty in implementing new Dodd Frank regulations. Any time someone writes up a new regulation or even a voluntary safety procedure there is the possibility of unforeseen technical difficulties occurring which necessitate a fine tuning to handle the contradictory goal of making the new seat belt fit comfortably yet firmly.
In monitoring and regulating banks there are two categories of tests: One is a stress test to see if the bank has enough cash to handle all cash withdrawal requests for 30 days; the other test is to examine the quality of the loans. The test for available cash is somewhat low priority because if a serious crash occurs the Federal Reserve can simply print up new money and loan it to the bank. Thus the bank can never run out of cash (under the current generally accepted paradigm). The nature of the financial system is that the Federal Reserve can’t tolerate a bank run where a bank runs out of cash so they will simply print up money and loan it to them to prevent triggering a depression and thus this type of test is somewhat meaningless.
The test that is truly important is the quality of loans held by the bank. Had these tests been done correctly several years before the 2008 crash on the portfolios of MBS held by banks they would have discovered the bad mortgages and stopped acquiring more of them, thus preventing or diminishing the great crash of 2008. By shutting off this source of lending before it had gotten so big then the housing bubble of 2004-2008 would have been prevented from occurring.
Thus the test to see if there is plenty of idle cash on hand is very petty compared to testing loan quality. Therefor if the Federal Reserve casually loans an extra $60Billion a month into the intrabank Fed Funds market it is not designed to create a new QE bubble, but is rather simply a fine tuning of a petty technical matter. The extra cash will be stuck inside the banking system and won’t get into the hands of consumers who might cause inflation. It will act to slightly decrease yields due to a slight reduction in the supply of bonds. This produces extra income for the Fed which then donates it to the Treasury. This is deflationary as it drains interest income from the private sector and donates it to the government and is thus a covert form of a wealth tax. Higher taxes are deflationary. An annualized increase of $0.7 Trillion from this (hopefully temporary) program is an increase of debt instruments of about 2% of $40Trillion of the outstanding domestic debt of all types, an increase of about the same as the rate of inflation and thus not significant.
Most likely the next source of financial distress that will lead to a systemic crash will come from more lightly regulated banks in foreign countries plagued by extremely low yields, such as Japan and Germany. When rates become negative then banks need to add a 2% margin to their lending rate to what they pay their depositors. So if yields are negative 1% for wholesale borrowing then depositors in Japan will be offered a savings account yielding negative 3%. No one will tolerate that so banks have to find a “magic” source of profit that they use to make retail deposit rates stay above zero. But what is this “magic”? I suspect that some foreign banks may be tempted to play a clever game of half truths where they book, as yield, something that really was a one-time profit from speculative capital gains.  The Eurozone and Japan have many bad loans held by banks; the banks don’t have the financial ability to admit the loans have dropped below par value and thus book the losses, so the entire system of Euro and Japanese banks and regulators is engaging in a clever game of Sargent Shultz-like behavior of playing dumb and pretending not to notice the bad loans.
In the Lehman crisis, Lehman had to use a foreign subsidiary in London to manipulate their debt in the “Repo 105” scandal, since it wasn’t allowed to do so in the U.S. Mightn’t a similar phenomenon occur where foreign banks, desperate for yield, go “jurisdiction shopping” until they find a country where they are allowed to conduct dubious Enron style games and then consolidate the “profits” into the parent company? See RealVision.com 7-25-19 interview (paywall blocked site) with Shannon McConaghy about Japanese banking meltdown. McConaghy said “…banks using accounting tricks in abundance… to obfuscate… (to paraphrase) private trust structures …not marked to market… (they) use the capital gains reflected (reported as) as interest income…”.
I don’t see how some of the Japanese and German and Italian banks can survive with a huge number of hidden bad loans and negative interest rates – this would be the source of the next Lehman-style big crisis, not U.S. banking. The implication is that even more flight capital will come into the U.S., making the dollar even stronger and hurting EM country debtors even more. The U.S. intrabank Fed Funds market’s alleged cash shortage is a petty distraction caused by overly tight regulations in a world where other competing countries have too lose regulations because they have to act willfully blind and use “Mark to Model” banking rules since their undercapitalized banks can’t afford to recognize the truth.
Ultimately systemic weakness is the global banking system may either trigger or fan the flames of a systemic global crisis, so avoid risk-on assets, overpriced assets, etc. Investors need independent financial advice about the risk of being hurt by a new global crash.