Simon Potter (head of the New York Fed’s Markets Group) gave a detailed speech defending the current policy implementation framework, and, by implication, the current balance sheet normalization plans (Aug. 3). The speech was titled “Confidence in the Implementation of U.S. Monetary Policy Normalization.” It is significant because the FOMC was likely presented similar information recently and, if so, upcoming FOMC minutes will likely provide a description of any presentation as well as FOMC participants’ ensuing discussion.
One immediate policy question is how Potter’s assessment of the current framework could affect the balance sheet normalization plans, and specifically whether an earlier end might be warranted by the effective fed funds rate recently trading closer to the upper end of its target range. If a key cause of this is balance sheet runoff draining excess reserves, then that implies an earlier end of runoff. But Potter argued strongly that he saw “no evidence that we are at, or close to, the ‘steep’ portion of the demand curve.” He acknowledged that it “might be possible” that the fall in excess reserves has pushed up money market rates “a bit over time.” But he pointed to demand related to Liquidity Coverage Ratio requirements as having caused the run-up, especially in June. He deemed such effects as “small” and “short-lived.” Therefore he did not regard the run-up as a signal of reserve scarcity. He concluded, “it seems like a strong possibility” fed funds will trade within its target range “for now” with current policy implementation tools.