The Federal Reserve will stop shrinking its $4 trillion balance sheet later this year, Fed Chairman Jerome Powell said on Wednesday, ending a process that investors say works at cross-purposes with the Fed's current pause on interest rate hikes.
"We've worked out, I think, the framework of a plan that we hope to be able to announce soon that will light the way all the way to the end of balance sheet normalization," Powell told members of the House Financial Services Committee in what were his most detailed remarks to date on the subject.
"We're going to be in a position ... to stop runoff later this year," he said, adding that doing so would leave the balance sheet at about 16 percent or 17 percent of GDP, up from about 6 percent before the financial crisis about a decade ago.
The U.S. gross domestic product is currently about $20 trillion, suggesting the Fed's balance sheet would be between $3.2 trillion and $3.4 trillion.
The Fed has been trimming its balance sheet — bulked up by trillions of dollars of bond-buying during the post-crisis years to help keep interest rates low and bolster the economy — by as much as $50 billion a month since October 2017. As recently as a few months ago it had expected to keep shrinking its portfolio for another couple of years.
But in a series of meetings that began in November, the Fed has been devising a new approach. With rising demand for currency around the world, and from U.S. banks for reserves held at the central bank, Fed policymakers now believe a big balance sheet is necessary just to ensure it has proper control over the short-term interest rates it sets to manage the economy.
In addition, Fed policymakers now say balance sheet policy should take financial and economic conditions into account.
Questions about the plan remain, including whether the Fed will adjust the maturities of its Treasury portfolio, and how it will go about shedding the mortgage-backed securities (MBS) it accumulated during its asset-buying days.
Powell said the Fed still has a bunch of decisions ahead of it.
"The one on MBS sales is really closer to the back of the line — really, we have to decide about the maturity composition, things like that, and we'll be working through that in a very careful way," Powell said. "Markets are sensitive to this."
Powell's remarks on the balance sheet came toward the end of more than two hours of testimony before the Democrat-led House panel that includes several new members, including New York Democrat Alexandria Ocasio-Cortez.
But the Green New Deal advocate and Bronx populist asked no questions during the debate, and much of what Powell said on Wednesday repeated comments made Tuesday to the Republican-controlled Senate Banking Committee, including that the economy is on solid ground and the Fed would be patient on raising rates.
Inflation goal unchanged
Powell was asked, as he was in the Senate, about the Fed's plan to rethink its policy framework this year. He assured lawmakers that the Fed is merely trying to refine its approach so it can meet its current 2 percent inflation goal.
"We are not looking at a higher inflation target, full stop," he said.
Powell also repeated his warnings against a failure by Congress to raise the debt ceiling, saying there would be "bad consequences" should the United States default on its debt payments.
Powell by law appears two times a year before Congress to brief members of the House Financial Services Committee and the Senate Banking Committee on monetary policy and the state of the economy.