Seth B. Carpenter, Jane E. Ihrig, Elizabeth C. Klee, Daniel W. Quinn, and Alexander H. Boote
Abstract: Over the past few years, the Federal Reserve's use of unconventional monetary policy tools has led it to hold a large portfolio of securities. The asset purchases are intended to put downward pressure on longer-term interest rates, but also affect the Federal Reserve's balance sheet and income. We present a framework for projecting Federal Reserve assets and liabilities and income through time. The projections are based on public economic forecasts and announced Federal Open Market Committee policy principles. The projections imply that for the next several years, the Federal Reserve's balance sheet remains large by historical standards, and earnings remain high. Using the FOMC's stated exit strategy principles and the Blue Chip financial forecasts of the federal funds rate, the projections have the Federal Reserve's portfolio beginning to contract in 2015, returning to a more normal size in 2018 or 2019, and returning to a more normal composition a year thereafter. The projections imply that Federal Reserve remittances to the Treasury may decline for a time, and in some cases fall to zero. Once the portfolio is normalized, earnings are projected to return to their long-run trend. On net over the entire period of unconventional monetary policy actions, cumulative earnings are higher than what they might have been without the Federal Reserve asset purchase programs. To illustrate the interest rate sensitivity of the portfolio, we consider scenarios where interest rates are 100 basis points higher or lower than in the baseline. With higher interest rates, earnings tend to fall a bit more and remittances to the Treasury stop for a longer period than in our baseline projections, while with lower interest rates earnings are a bit larger and remittances continue throughout the projection period.
Keywords: Federal Reserve's balance sheet, unconventional monetary policy, monetary policy implementationFull paper: Revised (313 KB PDF) | Original (349 KB PDF)