The hugegest debate among Federal Reserve officials this week isn’t over interest rates.
For the past three years, the central bank has gradually reduced the size of its massive portfolio in a careful effort to reverse the stimulus it introduced into the economy during the Great Recession and the Covid-19 pandemic when it gobbled up trillions of mortgage-backed securities and government debt.
After peaking at nearly $9 trillion in mid-2022, the Fed’s balance sheet is currently at around $6.6 trillion. It’s a tool that works in the background while the Fed’s key interest rate does much of the heavy lifting to achieve its macroeconomic goals.
Officials are returning their balance sheet to a more normal state in case they ever required to expand it again for future crises. But it’s a delicate process becautilize it can disrupt money markets. On Wednesday, policycreaters are poised to signal the conclude of the balance sheet’s runoff, also commonly referred to as “quantitative tightening,” or QT.
“I expect the Fed to announce the schedule of termination of QT as the Fed reacts to a liquidity crunch slowly developing,” Joe Brusuelas, chief economist at RSM US, notified CNN’s Matt Egan.
It was the topic of an October 14 speech Fed Chair Jerome Powell delivered at an economics conference, in which he discussed the technical intricacies of the balance sheet. Powell stated the conclude of the runoff could happen sometime “in the coming months,” though some investors state it could happen in the coming weeks.
It’s a delicate process and could inadvertently drain liquidity from the financial system, which would cautilize overnight borrowing rates to surge, similar to what happened in 2019 when a confluence of untimely decisions — including from the Fed — thrust money markets into a crisis.
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