The Trump Administration’s willingness to abrogate treaties (including those negotiated under the previous Trump Administration) makes U.S. allies doubt a whole host of commitments on which they currently rely. In this post, we focus on the Federal Reserve’s central bank liquidity swaps, which provide a key backstop for global markets in dollar assets. At least twice in the past two decades, this esoteric tool played a major role in sustaining the dollar-based financial system outside the United States, thereby insulating the U.S. financial system from the default, market, and liquidity risk of foreign intermediaries.

Given the crisis-management role that the dollar swap lines play, we can think of no reason why the Fed itself would wish to end them. However, if the Administration or the Congress were to perceive the Fed swap and repo facilities as supporting only foreign institutions, or if they view these facilities as a device to influence foreign behavior, it is easy to imagine pressure on the Fed to drop these crisis prevention and crisis-management tools or to make them conditional.

In this post, we explain what the swap lines are, how they operate, and how an end to the swap lines could lead to financial instability within the United States as well as undermine the use of the dollar and dollar-denominated assets in the global financial system. We then consider how foreign central banks might insulate their banking systems against the risk that they could no longer rely on the swap lines.