Last week, the Federal Reserve Board announced its intention to begin “balance sheet normalization” following a plan released last June. Which begs the following questions: what is the balance sheet, how will it be normalized, and so what?
The Federal Reserve Board is charged with management of the money supply and interest rates in order to promote full employment and stable prices. This is a tall order, and is necessarily somewhat opaque to most of us due to the complexity of the tools employed. Today we discuss balance sheet operations, the sharpest arrow in the Fed’s quiver.
The board is required to publish quarterly reports of its assets and liabilities (known as its balance sheet), which most corporations do. Assets of the Fed primarily include its holdings of U.S. Treasury bonds as well as high-quality mortgage-backed securities. In order to influence the money supply and the interest rate, the Fed alters its portfolio of bonds by either buying more or selling some of its holdings.
On the other side of the balance sheet, the Fed also reports its liabilities. Primary liabilities include currency in circulation and reserve deposits owned by commercial banks and held in accounts at the Fed.
Christopher Hopkins(For the accountants out there: there is a small “equity” line on the balance sheet of about $50 billion. The Federal Reserve surrenders its earnings to the U.S. Treasury, so there is typically minimal retained earnings).