All You Need is the Fed...
There is an excellent post up at Econbrowser about the Fed balance sheet, something I've been wondering about since the TAF was first opened and have been increasingly fretting over since it went from $120 to $600 to $900 billion. And voila!
| Aug 8, 2007 | Sep 3, 2008 | Oct 1, 2008 | |
| Securities | 790,820 | 479,726 | 491,121 |
| Repos | 18,750 | 109,000 | 83,000 |
| Loans | 255 | 198,376 | 587,969 |
| Discount window | 255 | 19,089 | 49,566 |
| TAF | 150,000 | 149,000 | |
| PDCF | 146,565 | ||
| AMLF | 152,108 | ||
| Other credit | 61,283 | ||
| Maiden Lane | 29,287 | 29,447 | |
| Other F.R. assets | 41,957 | 100,524 | 320,499 |
| Miscellaneous | 51,210 | 51,681 | 50,539 |
| Factors supplying reserve funds | 902,992 | 939,307 | 1,533,128 |
| Currency in circulation | 814,626 | 836,836 | 841,003 |
| Reverse repos | 30,131 | 41,756 | 93,063 |
| Treasury supplement | 388,850 | ||
| Other | 51,440 | 56,884 | 38,717 |
| Reserve balances | 6,794 | 3,831 | 171,495 |
| Factors absorbing reserve funds | 902,992 | 939,307 | 1,533,128 |
Some interesting points from the author (James Hamilton, professor at UCSD):
(1) Up to September, the Fed had been changing the composition of the asset side of its balance sheet through the beginning of September 2008, while keeping the total assets essentially constant. The Fed did this by replacing more than $300 billion of its holdings of Treasury securities with assorted riskier loans.
Now, that has all changed in the past month.
(2) Over the past month, the Fed expanded its total asset holdings by $600 billion, with less than a third of this going directly into reserve balances.
My favorite line:
Anyone who suggests that last week's ballooning reserve deposits represent inflationary pressure or the Fed monetizing the deficit simply doesn't know what they're talking about. Banks are sitting on the reserves, not withdrawing them as cash. When markets settle down, the Fed can and will absorb those reserves back in with sterilizing sales of Treasury securities, just as it did in 2001 or after the more modest spike in August 2007. Providing new reserves aggressively is absolutely and unquestionably the way the Fed needs to respond to this kind of development.
Ok, that had been what I was suggesting. I accept that I don't know what I'm talking about, and I have been deeply concerned about the deflation/inflation question. I am desperate to know how the Fed can re-absorb this huge bonanza of reserves, but if they've managed to do it once before (after 9/11) that at least gives me a modicum of confidence that they might be able to do it again.
(3) Now interestingly, Hamilton is only speaking of the effects of the additional amounts in the reserve balance, and not the additional liquidity via the alphabet soup of new lending facilities. Here's a superman graph:
Federal Reserve assets in billions of dollars. Source: Macroblog.
Like, *doink*. Apparently, this was done by:
the Fed offset [a] supplemental Treasury auction with a matching purchase of private assets, thereby temporarily delivering reserves to banks which the banks in turn could hand over to the Treasury supplementary account. The net result of such dual Treasury/Fed operations is that the newly created "reserves" would just sit there in the Treasury supplementary account doing nothing other than standing as an accounting entry. In other words, the device allowed for a huge expansion of the Fed's balance sheet without causing any change in currency in circulation or reserve deposits.
That's astonishing. I assume the idea is that as long as the assets don't diminish in price too much (which is a big if), once the credit crunch is dealt with, the assets can be re-sold into the market by the Fed/Treasury, which can then reduce this supplemental account, and then reduce the Fed's balance sheet? Of course (of course), my question will be... well, what if the private assets turn out to be worth pennies on the dollar? Anyone have an answer for that?
Please let me know. I feel so outclassed here.
Oh, and Hamilton concludes by pointing out that the Fed is about to announce the creation of a new facility, the CPFF (Commercial Paper Funding Facility) to purchase commercial paper from US issuers through a SPV. Expect another large expansion of the balance sheet.
All this boils down to My Big Friggin' Question: if we survive the credit crunch, and I know that's a big if, should we be expecting hyper-inflation?
Updated numbers for October end.
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