Evercore: The Federal Reserve’s "unpopular" liquidity tool may ease pressure from Japanese selling of U.S. Treasuries, but prolonged use could test the determination of U.S. and Japanese market intervention.

According to the latest report from Evercore ISI, a rarely used Federal Reserve liquidity tool—the Foreign and International Monetary Authorities (FIMA) Repo Facility—may help Japan avoid large-scale selling of U.S. Treasuries when intervening in the foreign exchange market to support the yen. However, the institution warns that long-term reliance on this tool could instead trigger the market to test the resolve of both U.S. and Japanese authorities to stabilize the exchange rate.

The FIMA Repo Facility allows overseas central banks and official institutions to use their holdings of U.S. Treasuries as collateral to obtain dollar liquidity from the Federal Reserve without directly selling Treasuries in the open market to raise funds. This tool was introduced during the 2020 pandemic to help overseas official institutions access dollar funding while reducing the impact on the U.S. Treasury market, and in July 2021, it was officially established as a long-term mechanism.

However, Evercore ISI strategists Marco Casiraghi and Gang Lyu point out that the scale of the tool’s use is clearly limited. According to regulations, each counterparty can obtain up to $60 billion in financing per day, a quota only slightly above the amount Japan’s government used for its single-day forex intervention last Thursday. Therefore, the FIMA tool is better suited for providing short-term liquidity support and is difficult to meet the funding needs for sustained, large-scale exchange rate interventions.

The strategists stated: “We believe the market may focus on this Federal Reserve repo tool with a set limit, which could backfire and prompt the market to test whether the U.S. and Japan are willing to support the yen through large-scale selling of U.S. Treasuries.”

Data shows that this tool is normally almost unused. For the week ending July 29, its average outstanding balance was about $6 million; the last significant usage was in early February this year, when the funding scale was about $3 billion.

Japan’s Finance Minister Mayumi Katayama has previously confirmed that Japan intervened in the forex market to buy yen last Friday, and stated that the FIMA Repo Facility will be used to provide funding support in the future. U.S. Treasury Secretary Janet Yellen also expressed support for Japan’s use of the tool on social media, and suggested appropriately raising its use limit.

According to Federal Reserve rules, any adjustment to the scale of the FIMA facility must be approved by the Foreign Currency Subcommittee of the Federal Open Market Committee (FOMC), with the entire FOMC informed of the relevant arrangements.

Evercore ISI further points out that the FIMA facility is essentially a short-term liquidity support mechanism, not a long-term financing channel, so after funding matures, it must be continuously rolled over to maintain liquidity. In addition, the facility’s funding cost is also relatively high, currently sitting at 3.75%, while the cost for seven-day financing over the same period is roughly the one-week Overnight Index Swap (OIS) rate plus 25 basis points.

Strategists noted that the Federal Reserve deliberately sets the FIMA facility financing cost above that of the private repo market, underscoring its role as a liquidity support tool during periods of market stress, rather than for daily financing or long-term, large-scale intervention in exchange rates.