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What Rabbits May Come May Come Must Give Us Pause

Recent panic capital flows into the US have increased liquidity, distorting the Treasury market, which has pulled funds out of equities, sending stock prices lower in the process. If the flow of deposits into the US slows, that could cause a condition where liquidity is insufficient to support the Treasury market, and both markets could weaken simultaneously, as opposed to the current condition where one rises at the other’s expense.

There have been indications in the past two weeks that those inflows have begun to slow, and we saw the results of that expressed as a return to falling stock prices last week. Any further decline in these liquidity measures should result in even greater declines for stocks and should begin to reverse the rally in the Treasury market. The question may be what the Fed will do to prevent that from happening. Doing the Twist is not the answer. We’ll have to see if Ben has another rabbit up his sleeve.

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