On Friday morning, the FOMC announced that, effective next week, the Fed will:
1. “Purchase Treasury bills at least into [2020:Q2] to maintain over time ample reserve balances at or above the level that prevailed in early September 2019” and
2. Continue to conduct both overnight and term repos at least through January 2020 to ensure there are ample reserves even when non-reserve liabilities spike.
The NY Fed, in a separate statement, revealed that the pace of T-bill purchases will be $60 billion per month. That is a higher pace than we expected–closer to the upper end of our expectations. But it’s important to note that the New York Fed describes this as an “initial pace,” applying only for a period from mid-October to mid-November.
Given that maturing bills will be reinvested back into bills, this program will cause a gradual expansion of the Fed’s balance sheet. The $60-billion monthly pace announced by the NY Fed is subject to change, so it is premature to infer from the combination of the two announcements that the pace will be $60 billion per month for the entire period extending into 2020:Q2. The FOMC said the Fed will buy bills “at least into” Q2; the NY Fed announced a $60-billion monthly pace applying only through mid-November 2019. The decision to announce a pace at the top end of estimates indicates a front-loaded approach intended to resolve the issue as decisively and quickly as possible. There is a possibility that the NY Fed could reduce the pace of bill purchases if it is confident that reserve balances are, and will remain, ample. However, it will be extremely careful to avoid a scenario in which it reduces purchases too hastily and strains reemerge.
The FOMC met over videoconference on Friday, October 4–presumably to discuss provisional policy options–and approved this statement this morning, Friday, October 11. The timing of this announcement wasn’t a complete surprise to us, although we thought that they would wait until the October FOMC meeting to finalize and announce the details. We surmised earlier this week that the FOMC could have met via teleconference in the weeks following the September meeting to discuss the changing situation in money markets. The urgency implied by the suggestion in Powell’s Tuesday speech of imminent balance sheet measures (when the original topic was solely the economic outlook) also pointed to developments behind the scenes. No dissents to today’s directive were noted (in contrast to the three dissents at the September FOMC meeting). The videoconference will be reflected in the minutes of the October FOMC meeting.
We do not see the decision to make this balance sheet announcement now as reflecting any concern about stresses in money markets, which have been successfully contained. Rather, we see the FOMC as wanting to separate this balance sheet announcement entirely from the rate-path decision at the October FOMC
meeting so as to continue to distinguish very clearly between decisions about the implementation of monetary policy and decisions about the stance of monetary policy. Echoing what Powell said on Tuesday, the statement emphasizes: “These actions are purely technical measures to support the effective implementation of the FOMC’s monetary policy, and do not represent a change in the stance of monetary policy.” Policymakers are especially sensitive to this distinction given the high likelihood that the market (and we) have assigned to an easing of 25 basis points at the October FOMC meeting. Announcing both a rate cut and reserve-management purchases at the same time might risk markets or the public conflating the two. Our rate-path call remains unchanged after this announcement.
Incidentally, this announcement is consistent with the early-September balance sheet projections from NY Fed staff. At that time, we flagged those estimates as implying a resumption of balance sheet expansion as early as 2019:Q4.
The decision to reverse the decline in reserves and maintain balances “at or above the level that prevailed in early September 2019” reveals that the FOMC has now come to the conclusion that they can only be confident that reserves are ample if they return to at least that level–$1.45 trillion. The planned expansion of the balance sheet is intended to provide a buffer that is more than sufficient.
Trillions of U.S. dollars
Sources: MPA, FRB.
The decision to continue offering both overnight and term repos through January 2020 represents a decision to make official the ad-hoc operations that the New York Fed has been conducting since September 17. The repo operations that they have offered since September 26 have been undersubscribed.
The FOMC reiterated its decision to remain in an “ample reserves” regime, meaning that the fed funds rate and other money market rates will be influenced mainly by administered rates (IOER, ON RRP) and not through “active management of the supply of reserves”.
The New York Fed’s operational statement offered more detail on the bill purchases and repo operations. There was no indication that the scope of such operations would be extended to coupons (for example, in the shorter-dated spectrum). We suspect that the decision to keep reserve management purchases in the T
bill space reflects a desire to differentiate these purchases as much as possible from LSAPs, which through purchases of longer-dated securities seek to influence rates further out on the yield curve. However, there may come a time when they find it optimal or necessary to buy at the shorter end of the coupon curve for reserve management.
In contrast to the FOMC’s practice in announcements related to LSAPs, in this case, it was the New York Fed rather than the FOMC that announced the pace of T-bill purchases. This distinction underscored the technical (rather than economic outlook-driven) nature of these asset purchases and also indicates that the NY Fed will be the source of updates to the pace of purchases.
The NY Fed’s initial schedule indicates T-bill purchases will encompass remaining maturities of up to one year, so it seems all bills will be eligible. Purchases will begin essentially immediately, with the first “reserve management” operation scheduled for Wednesday.
As for repo operations, the New York Fed noted that overnight repos will continue to be offered daily, “initially” with an operation size limit of “at least” $75 billion. Term repos will be twice weekly, “initially” with offering size limits of “at least” $35 billion. Operations have been undersubscribed this month. The fed funds rate has been trading within its target range since shortly after repo operations began last month.
One outstanding question is what the bid rate for term repos will be if the term extends over an FOMC meeting/funds rate decision. The NY Fed continues to state that the minimum bid rate is “currently based on prevailing market rates that reflect market expectations for the path of the federal funds rate over a similar tenor” and should not be interpreted as a view on the FOMC’s policy stance.
The statement also reiterated that maturing T-bills will be reinvested into new T-bills, consistent with pre-crisis practice. Agency debt and MBS paydowns up to the monthly cap of $20 billion per month will still be reinvested into Treasury securities, while paydowns exceeding that cap will still be reinvested back into MBS. For the period from mid-October to mid-November, the NY Fed expects to buy $20 billion in reinvestment purchases and $60 billion in reserve management purchases of bills.
Sector Weights of Treasury Reinvestments – Purchases (MBS to UST)
The ON RRP and IOER rates remained unchanged, which is not surprising given that previous adjustments have come when the federal funds rate has been testing the bounds of its target range. That’s not been the case recently. If IOER is adjusted, it will likely happen at a scheduled FOMC meeting. In March, the FOMC said the “Balance Sheet Normalization Principles and Plans” released at that time as well as the January guidance together comprised the FOMC’s official guidance: “The Statement Regarding Monetary Policy Implementation and Balance Sheet Normalization released in January [link] as well as the principles and plans listed below together revise and replace the Committee’s earlier Policy Normalization Principles and Plans.” With today’s announcement, the FOMC did not back away from previous statements. Indeed, they began today’s statement by noting it was “consistent with its January 2019 Statement Regarding Monetary Policy Implementation and Balance Sheet Normalization.” We expect the “Balance Sheet Normalization Principles and Plans” from March to be updated at the October FOMC meeting.