Tuesday, February 23, 2010

Whoa, Fed Revives a New Reserve Drain Method

The Federal Reserve is reviving its ability to drain reserves via the Treasury. Here's the Treasury release:
The U.S. Department of Treasury today issued the following statement on the Supplementary Financing Program (SFP):
"Treasury anticipates that the balance in the Treasury's Supplementary Financing Account will increase from its current level of $5 billion to $200 billion. This will restore the SFP back to the level maintained between February and September 2009

This action will be completed over the next two months in the form of eight $25 billion, 56-day SFP bills. Starting tomorrow, SFP auctions will be held each Wednesday at 11:30 a.m. EST, unless otherwise noted."
The program was halted because the Treasury was nearing its debt ceiling, now that the ceiling has been raised, the program has been restarted.

That it is being put right back into action is somewhat of a surprise, though, and indicates that there will be no net-boost in money entering the system from the final $200 billion in mortgage backed securities that will be purchased by the Fed, as the Treasury SFP raise of $200 billion that will be deposited at the Fed sterilizes the purchases.

Bottom line: The growth in the monetary reserves, that has concerned some, should pretty much be over for the time being. I say for the time being because the Fed does have the ability to add reserves to the system anytime it chooses. However, it appears that for now the Fed's next step, within the next couple of months, will be the start of the draining of excess reserves.

It should be noted that Bernanke is most likely correct when he states that excess reserves can be controlled by the interest rate paid on them, so that banks do not lend against them, but he is clearly nervous about this since he does want to completely drain the excess reserves from the system.

This will be his next project and it will test all the new "tools" he has created. But it looks from here like, barring a major crisis in the markets or economy (and given the climate this can't be ruled out), the down escalator for the monetary base will start soon.

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