Thursday, May 25, 2017

Shrinking The Federal Reserve's Balance Sheet

As noted in last week's "Gavyn Davies: 'The consequences of shrinking the Fed’s balance sheet'":
This has the potential to be the most important econ/finance/market story of the second half of this year....
And going back to the FT well, from FT Alphaville:

Snap AV: Here’s the Fed’s balance sheet shrinkage plan
From the Fed’s May meeting minutes, with our emphasis:
Under the proposed approach, the Committee would announce a set of gradually increasing caps, or limits, on the dollar amounts of Treasury and agency securities that would be allowed to run off each month, and only the amounts of securities repayments that exceeded the caps would be reinvested each month. As the caps increased, reinvestments would decline, and the monthly reductions in the Federal Reserve’s securities holdings would become larger. The caps would initially be set at low levels and then be raised every three months, over a set period of time, to their fully phased-in levels. The final values of the caps would then be maintained until the size of the balance sheet was normalized.
Let’s not forget that the New York Fed’s definition of “normalized” is still pretty big. Their baseline projection is that it’ll fall just below $3tn, with $1.5tn of that in Treasuries and slightly less in mortgage-backed securities...

So, reducing the Fed’s balance sheet at the same time they are raising interest rates.
And since this is uncharted territory we aren't quite sure how, exactly, the shrinkage will affect...stuff.
Should be interesting.