The U.S. central bank has held off raising its main interest rate for a third time this year. It’s been hiking them in small increments to gently wean the U.S. off an era of cheap credit as the economy strengthens. But now it has a $4.5 trillion dilemma to contend with.
CGTN’s Owen Fairclough reports.
In the U.S. it meant the U.S. Federal Reserve buying back its own bonds and even propping up the real estate market-all to pour money into the world’s biggest economy as it was on the brink of collapse. And the Fed had to really splash out. Before the financial crisis, it had just over $900 billion on its books. Now it’s $4.5 trillion. If you could buy an actual economy with that, you’d be able to snap up Germany and have enough change for the Netherlands.
Now the crisis is over and the U.S. economy is growing again; the Fed is ready to shrink that enormous balance sheet. – or in Fedspeak, to “normalize” it.
“We’re working down our balance sheet. Because we feel that’s stimulus that in some sense was no longer needed. So the basic message here is it’s U.S. economic performance has been good,” U.S. Federal Reserve Chair, Janet Yellen, said.
The Fed plans to allow most of the bonds it bought to mature, so they effectively disappear off the balance sheet over years and years. But some say that’s far too long.
“The fed is far bigger right now relative to the rest of the financial system than it used to be. And the reason why that matters is because you don’t want a central bank to be any bigger than it has to be to do its job of regulating monetary policy. Because if it is bigger, it is controlling a much larger share than necessary of the public savings,” George Selgin from the Center for Monetary and Financial Alternatives at The CATO Institute said.
But when the Fed tried winding down stimulus a few years ago, markets panicked – they’ve flourished under quantitative easing. If the economy and stock markets are doing well, why not just leave the balance sheet as it is.
“Central banks aren’t in the business of ordinary credit provision. If they are operating big balance sheets, though, they are commandeering credit and using it for whatever purposes they are willing to use it for. Right now that means funding the Treasury and propping up the housing market,” Selgin added.
But not for much longer. Yellen plans to start shrinking the Fed’s balance sheet in October. She thinks this process of balance sheet normalization will be as exciting as watching paint dry. And after the financial crisis, that’s about as much drama as many central bankers are looking for.