US Federal Reserve Chairman Jerome Powell said on Tuesday that the Federal Reserve will soon begin to increase its balance sheet again, partly in response to the shake-up in lending markets in September.
The central bank chief said in a speech in Denver that he would explain how the Fed would expand the securities it holds in the coming days, although Powell stressed that the approach should not be confused with quantitative easing during and after the financial crisis.
Powell and his fellow policymakers see the economy as strong but vulnerable to shocks, especially from the global slowdown, trade and geopolitical events such as Brexit. He said the Fed is committed to supporting the recovery but relies on data rather than a predetermined path to cut rates.
The Fed cut its benchmark rate twice in 2019 and is expected to approve a third cut later this month.
On the balance sheet issue, repurchase markets have been stalled for several weeks, in part due to funding constraints caused by funds absorbed from the system because companies paid taxes and the Treasury settled bond auctions. The lack of funding has caused the repo rate to rise by 10% and the Fed’s standard funds rate, which banks impose on each other for short-term borrowing, exceeding the target range by 5 basis points.
Since then, the Federal Reserve has been conducting temporary operations in which it provides cash for its highly secure assets. Powell said the Fed was about to launch more permanent operations to make sure the system had adequate reserves and controlled market volatility.
“This volatility can impede the effective implementation of monetary policy, and we are addressing it,” Powell said in prepared remarks. “Indeed, my colleagues and I will soon announce measures to add to the supply of reserves over time,” Powell said.
Federal Reserve officials were considering the appropriate level of precautions to keep things in order. The level of cash held by banks in the Federal Reserve fell to about $1.5 trillion from the peak of $2.8 trillion in September 2014 as the Fed ended its liquidity programs. Three rounds of quantitative easing, or asset purchases, raised the balance sheet to $4.5 trillion before the Federal Reserve began allowing revenues to begin each month.
Powell said the Fed was stabilizing the “ample reserves” system and was now seen to be at the required level of banks. “As we indicated in our March statement on balance sheet normalization, at some point, we will begin increasing our securities holdings to maintain an appropriate level of reserves,.”
Interest rate policy and the balance sheet approach followed Powell’s presentation on “profound changes in the economy” and what challenges it faces in the current circumstances.
He broke the challenges in three questions: how high gas prices can affect the economy, whether productivity is adequately measured, and whether the labor market is tight.
Powell said the jump in gas prices probably could be absorbed and was likely to have little overall effect. Current productivity measures are likely to be inadequate due to technological factors, he added. Jobs, he said, are likely to grow more slowly than data suggest, although they are still expanding fast enough to absorb new entrants into the workforce.