Next Steps For The Fed

Tyler Durden's picture

Conventional wisdom continues to believe that soon enough, as has been paraded by the various Fed presidents, the Fed will commence various tightening steps, commencing with the termination of reinvestments of various maturing securities holdings, a process that would lead to gyrations in the IOER (and thus the IOER-GC spread which as has been discussed recently has gone negative due to the FDIC assessment fee). Following the reinvestment decision, the Fed would next proceed to drain excess reserves using various operations such as reverse repos, term deposits, and SFBs (a process which many doubt would success when the total amount of excess reserves is set to hit $1.6 trillion shortly). The last step in the Fed's balance sheet renormalization would be to proceed with outright asset sales of its $2.6 trillion in Treasury and agency holdings (as for those billions in Other Assets, nobody knows). Barclays' Joseph Abate does a great summary of the pitfalls attendant each and every step in the process: "In asserting the supremacy of the Fed funds rate as the primary policy tool, the minutes outline the central bank’s longer term objective. The Fed hopes to eventually establish a corridor system – where the FF target is set between a lower bound of IOER and  an upper bound of the discount rate. This would require the Fed to drain enough and to shrink its balance sheet sufficiently to push the effective funds rate over IOER and not merely eliminate the current -16bp spread. This might take a few years to accomplish. And in the process, the Fed would probably need to restore bank confidence in the discount window, which was shaken after the central bank was forced to disclose who had borrowed from the facility during the financial crisis." Abate concludes: "Taking all these into consideration, the April FOMC minutes indicate the Fed faces a pretty complicated task." Luckily, the Fed is most certainly aware of this complexity awaiting it as things return to normal. Of course, this whole discussion will be moot if and when the Fed, instead of tightening, proceeds with another monetary loosening episode, which as Jim Grant explained will go from QE 3 to QE n, in which case none of the below is even remotely relevant.

From Barclay's Joseph Abate

Starting gun

Since last August, the Fed has reinvested its MBS prepayments into Treasuries. And it has always fully reinvested its maturing Treasury holdings. The April FOMC minutes indicate that the first step in the normalization process will be a decision about re-investments – initially with respect to MBS. The minutes also suggest that Treasury reinvestment could be adjusted or terminated simultaneously with the MBS decision or it might occur later. We expect the reinvestment decision will be announced at a future FOMC meeting – a “starting gun” or flare that the tightening process has started. Consequently, term front-end rates should move sharply higher once the reinvestment decision is announced.

Clearly, given the level of mortgage rates and the average coupon of the MBS holdings in the Fed’s portfolio, reinvestment or prepayments is probably more of signal than a practical tightening in the FF-IOER spread. The Fed has roughly $280bn in maturing securities holdings in 2012. But as we have noted in the past, the relationship between the effective Fed funds rate and IOER is almost non-existent when bank reserve balances exceed $900bn. (As of Wednesday, balances were just more than $1.5trn). Consequently, full rolloffs of the Fed’s Treasury and MBS holdings is probably insufficient to “establish a tight link” between the two rates. And, as we note, the full roll of the Fed’s Treasury portfolio is impractical from a securities lending perspective as the lack of new OTRs would reduce the effectiveness of the Fed’s securities lending program.

As an aside, the April FOMC minutes also put to rest a largely theoretical discussion about what the optimal target should be – the Fed funds rate or IOER. Because IOER is an administered rate, the Fed could set it at whatever level it chose and the size of the spread to the FF rate and its balance sheet would matter far less. That said, the Fed plans to achieve its funds rate target by allowing assets to roll off without replacement and draining bank reserves via temporary operations like reverse repos, term deposits and SFBs.

Future steps

At some point after firing its starting pistol with its reinvestment decision, the Fed plans to begin draining bank reserves via temporary operations including reverse repos with money funds, term deposits, and SFBs. The capacity of each of these programs to absorb surplus bank reserves is highly uncertain – probably even inside the Federal Reserve. Our sense is that the capacity of the Fed’s term reverse repos might approach $350bn ($250bn with money funds and $100bn with its traditional dealer counterparts). However, the willingness of the money funds to do term repo depends heavily on their need to maintain thick (10%) overnight liquidity buffers and the fact that, despite a 7-day put, repos with the Fed will not be very liquid. We believe that these operations instead will crowd out money fund’s willingness to purchase term unsecured bank CP and deposits.

Likewise the ability of the term deposit program to drain bank reserves may depend heavily on the willingness of non-US institutions to lock up their overnight balances at the Fed in non-lending and significantly less liquid deposits. These institutions – without significant clearing or settlement operations – hold almost $800bn in overnight deposits at the Federal Reserve. We estimate the Fed might be able to convert $250bn of overnight reserve deposits into term, although a larger amount is possible.

Asset sales – the final frontier

The FOMC spent a considerable time discussing the prospect for asset sales. With respect to its agency holdings, most participants felt that sales should occur after the first hike in interest rates. Moreover, the sales would seek to return the Fed’s portfolio to all Treasuries in a gradual process – that is, about 5 years.3 And these sales would be predetermined and pre-announced to increase transparency and reduce any distortion in the market. The FOMC further emphasized that these sales would most likely occur in addition to the rolloffs and temporary draining operations. Their timing would be determined by the speed with which the Fed’s other operations managed to establish a link between FF and IOER.

Given our estimates for term reverses and deposits – even assuming a full $200bn return in SFBs – it might be difficult to eliminate the existing spread between the two policy rates without asset sales fairly early in the policy normalization process.

In asserting the supremacy of the Fed funds rate as the primary policy tool, the minutes outline the central bank’s longer term objective. The Fed hopes to eventually establish a corridor system – where the FF target is set between a lower bound of IOER and an upper bound of the discount rate. This would require the Fed to drain enough and to shrink its balance sheet sufficiently to push the effective funds rate over IOER and not merely eliminate the current -16bp spread. This might take a few years to accomplish. And in the process, the Fed would probably need to restore bank confidence in the discount window, which was shaken after the central bank was forced to disclose who had borrowed from the facility during the financial crisis. Without this, bank willingness to use the window could be low, with banks willing to pay extremely high rates in the overnight Fed funds market to avoid “going to the window.”

Taking all these into consideration, the April FOMC minutes indicate the Fed faces a pretty complicated task.

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Dolemite's picture

Support being put into Euro Oil and SnP

Will it hold?

Arius's picture

the damn is breaking...SOS....not sure if they made it back from their yachting trip...thats what happens when you leave interns in charge...fireworks in the process...

this whole discussion is moot..if there are 85% of derivatives bets on interest rates...what can the fed do ? their hands are tied...but hey, if the music is playing got to dance...i guess...

JollyRoger's picture

Who will line up to buy all the treasuries from the buyer of last resort?

francis_sawyer's picture

"Taking all these into consideration, the April FOMC minutes indicate the Fed faces a pretty complicated task"

That's why they have paperweights that are perfectly sized for the PRINT button...


ivana's picture

first step: "reprofile" long bond portfolios for VIP clients to short end. Buy time and print/issue more short term bonds

Dr. Eldon Tyrell's picture


Sorry if this is OT.  How does one submit a story?

This may be another step the the Fed needs to deal with as well.
Utah Governor just signed a bill giving federally minted gold and silver legal tender status.

Story here:

Bill Here:

RockyRacoon's picture
The Zero Hedge Team

tips [ at ] zerohedge [ dot ] org - Our Reader Tips Mailbox

See upper right margin of your screen.

Or, write your own article and submit:

See upper left margin:  Create content

Zing's picture

Gold is THE safe haven asset and store of wealth. Dollar up, Gold up.  Even dollar manipulation sees gold up.

jkruffin's picture

What a scam being run on America. When you have a single currency EUR tied to the US stock market to push both one way or the other single handedly. This ponzi is going to crash down on the FED, and I am going to laugh my ass off the whole way.

In order to short stocks you have to short the EUR/USD. None of the other currencies matter. What a joke....

vote_libertarian_party's picture

Pu-leez.  The gvt can't find buyers for 80% of the Treasury sales now.  Adding $1.5T per year isn't going to entice any more buyers either.  It'll be loosy goosy money until the complete colapse.  Tightening only accelerates the collapse.

oogs66's picture

The market is only avoiding free fall in the conviction that pere Noel at the ecb will out Europe again or that Santa claus at the fed will announce qe3. Almost no one with big money to play with thinks that neither of these will happen and most think both will.

slewie the pi-rat's picture

well, joseph abate @ Barklay's may find that it is waaaay too early for any "mopping up" and probably ever shall be, at this point, it would seem.

there is no excess liquidity.  not to a bankster.  batmanke would rather loose the hounds, i'd wager, and have the banks start getting credit growing, like it should.  right?

last week set a new world's record in bonds:  $53.7 Bil.  a lot of "investment grade" debt & companies.

reflation takes money. 

StychoKiller's picture

reflation takes money.

Yeah, but how does one catch up to a skyrocket with a tricycle?

boiltherich's picture

I am pretty sure that the end of QE 2 in June will not be the end of the cycle, but, for a few months any pump priming and collapse preventing will be done quietly via other names.  The Fed and federal government are so obviously working in harmony none of us here would even question that, and the federal government needs prices to drop, especially in the grocery and at the pump, during the months of July, August, and September.  Those three months, the third quarter, are the months in which a snapshot of prices are taken to determine the CPI which will determine the COLA's announced for SS beneficiaries and your disabled vets for 2012.  The only way to give yet another year with a zero percent raise is for prices to temporarily drop.  Last raise was 2008 and as we all know there has been no inflation since then.  If they were HONEST and took a snapshot today to compare against the 2008 price levels we would get at least a 12% raise, but I am betting that unless there is some sort of black swan event like war breaking out between India and Paki the raise will be no more than 1% if anything.

After October 1 all bets are off and QE3 can begin with geometrically larger disbursements to the 2-300 bankers that already have 70% of the nations wealth.

topcallingtroll's picture

You write really well for a disabled person or maybe you are retired.

Cant we expect some belt tightening from you people too? Perhaps you could get a part time job instead of complaining about not gwtting more money from taxpayers.

Do we have to build up a huge debt for our children?

boiltherich's picture

As a matter of fact I am a 100% disabled veteran and there are those that lump us into the same category as welfare mothers and homeless shelter ripoff artists, and about the next person that says we are using you all instead of the other way around is going to get a really large load of my anger.  You so called taxpayers who never ever stop complaining about paying a fair share can really just fuck yourselves, you live in a free nation thanks to people like me and if you don't like it you might try Kenya or Iran or South Carolina. 

Yes, I probably could and would work a part time job but you fine people have said via your congressmen and women that we are not allowed to work, not even to volunteer for local charities because if we could work one hour anywhere we would be cut off of the disability benefit.  So, thanks for the lifetime "vacation."

As for belt tightening, we have not had a raise since the one announced in 2008.  I already handed my house and mortgage back to the bank and have cut back every part of my budget in order to accommodate all this zero inflation, but your post reveals a deep seated anger at anyone you perceive to be better off than you are, ignoring the fact that most disabled people and especially veterans would much rather have their health back and work than get "compensated" for their injuries.  But walk into any room with 10 people and at least one will be a flaming asshole that thinks he should not have to pay taxes for keeping America free. 

You can agree or not, I bet not, but you do OWE the money to us and I for one would rather pound your share up your ass than put up with your whining, but I will take it just because it pisses you off so totally.  Here is an idea, why not write your congressional reps and ask them to repeal the Ferez Doctrine which is the body of law that says Americans cannot sue for damages related to injuries while on active duty!  You do not like paying my retirement?  Just wait till you see what you would owe if we had the right to sue!  Because the military was damned well aware of the dangerous situation I and my fellow GI's were placed in yet they allowed it to happen anyway and with perfect clarity of hindsight they admitted that it was inevitable that someone would be damaged. 

As to your last sentence, guess what, I really at this point do not give a rats ass about your kids or theirs, just as you do not like those that served America.

Pegasus Muse's picture

Thanks for serving BTR.  There are two types people in this world.  Those that serve selflessly, like you and thousands of other troopers, and the whiners/bitchers/takers like TopTurdheadTroll who, by the amount of time he spends on ZH and the number of useless posts he makes, must make his living as a Troll.  Poor fellow is probably deficient in a number of basic life skills necessary to attain useful employment, otherwise he would have found a better job.  I would like to see a COLA increase this year but government bean counters will probably come up with a way to adjust CPI to avoid having to pay it.      

fxrxexexdxoxmx's picture

I worked at a vet outreach center. I saw first hand the fraud, the lies, and the scams.

Getting on the PTSD gravy train is a process designed to create a check and not treat the small percentage of honestly damaged veterans.

I have spent may days in front of veterans hospitals watching people park their cars and go to the trunk and get a cane which on close inspection has little or no wear on the tip.

You realize that there are disabled vets who get 100 % as well as all of the additional monies available who got disabled while driving drunk while on a pass during times when we were not at war?

Limited compensation for injuries which occur during combat missions is the only way we can weed out the 60% of vets who are full of shit and are scamming the system.


boiltherich's picture

They let you work in a veteran outreach center?  With an attitude that says the system is designed to create a check rather than to help damaged veterans?  You who say that 60% of vets are scamming the system and that no GI's should be compensated unless their injury is combat mission related?  Good luck getting anyone to fight your wars with an attitude like that.

But then it is one of the Reichwings talking points that all disabled people are scamming the system isn't it?  When you are in the military you are there for 4 years, war or no war, and if there is no war it is because you are there in peace to assure our enemies that they will suffer the consequences of starting one, and you do not have the right to quit.  You are on duty 24 hours a day seven days a week for those years, you give up a tremendous amount to serve those years while others are getting a 4 year head start on higher education and fat juicy jobs post grad.  If a few do become disabled from what you judge to be carelessness while on active duty that is just the price you pay to have such a system, and as I say above by all means repeal the Ferez Doctrine and let GI's sue for their injuries, I know I would be a lot better off financially and I could then invest my lump sum settlement into a better vehicle than FRN's and the games congress plays with my income. 

What really amazes me are how people like you will put magnetic stickers on their cars saying support our troops, or answer in polls that you think veterans should be highest priority, you get so angry when you see Walter Reed Hospital on TV with conditions that are not as good as most kennels, but then decide your judgement is better than that of a system that is quite literally designed to discourage claims for injuries and then to deny those that do make claims.  It takes years of fighting to get a claim through the system, and in most cases the burden of proof is on the veteran and the standard of proof is so high it cannot be met.  This is particularly true in cases of sexual trauma, no doubt you believe that those people are sluts who were asking for rape yes?

cranky-old-geezer's picture

Any government program handing out checks is swarming with scamers and fraudsters wanting some of those checks.  Military disability is no different.

For the record I no longer "support our troops". 

Why?  Because they're not "our troops" anymore.  They're not fighting to preserve freedom in America anymore. 

They're mercenaries in imperialistic invasions and occupations of other nations having nothing to do with preserving freedom in America.

We see videos of American troops in Iraq and Afganistan saying "we're here fighting for freedom baby".  I call BULLSHIT on that.

I believe every American military operation since WWII was an imperialistic invasion and occupation having nothing to do with preserving freedom in America.

THAT'S why military people are spit upon and rejected when they come home.  They're not "our troops" anymore.  They're mercenaries working for money-hungry bankers, power-hungry politicians, and market-hungry corporations.

boiltherich's picture

Well at least your animosity is open for all to see.  If you believe that they fight not for the love of their nation or for your freedoms then it is incumbent upon you to pluck up a little backbone of your own and do something about the levers of power and abuses that are stifling all of our freedoms, rather than to blame those who really do go fight your wars, and you can call them imperialistic or add any other label you like, they are still YOUR wars.  They will be your wars till YOU go do something about it.  Until then you are required to pay for it whether you like it or not, and you are required to pay for injured soldiers whether you like that or not.  Personally I do not require you to respect me, but then that is because I don't respect you and will not demand respect where it cannot be mutual.  On the other hand I think you will one day blow your verbal chunks at the wrong guy and his reaction will not be good for your health, just saying.... You might want to mature a little and check your spewing of bullshit before you spew it in the wrong direction. 

As I said above, you don't like paying a fair share then fine and well, go give Iran a try and see how happy you are.  I understand contipated old men are treated like kings there.

cranky-old-geezer's picture

If you believe that they fight not for the love of their nation or for your freedoms ...

If you believe you and your fellow mercenaries are "fighting for love of country and freedom", your self-deception is beyond measure.

... rather than to blame those who really do go fight your wars, and you can call them imperialistic or add any other label you like, they are still YOUR wars. 

No, they're not "my wars" nor "our wars".  They're banker wars, oil wars, MIC wars, drug wars, etc.  

American troops guarding poppy fields in Afganistan?  That's fighting for freedom?

Yes actually it is. But it's freedom for the drug trade, not freedom for Americans.

You want me to do something about it. 

Why don't you do something about it?  Like get your head out of your ass and recognize you've been a mercenary. Like encorage your fellow mercenaries to stop selling their soul to the government devil, and walk away from that government paycheck.

boiltherich's picture

Oh dear, I did touch a nerve didn't I?  Whatever, you will pay or you will suffer the consequences reserved for tax evaders.  And since you insist upon antagonizing everyone who crosses your path I will return the favor; the $3,605 per month (for life plus full free healthcare) I get from the US treasury is tax free!  I do not even have to file with the IRS. 

Everyone get back while cranky old geezer's head explodes. 

cranky-old-geezer's picture

No worries on my end, but on your end however ... hmmmm.

You just told everyone you're happy and proud screwing taxpayers (like me, like everyone else here) for 3 grand a month tax-free, plus free healthcare ...after screwing taxpayers for that govt mercenary check for who knows how long.

I suspect taxpayer rage will be directed at you, not me.

boiltherich's picture

No, it is you who are in the vanishingly small minority, those that do not appreciate their disabled vets, and while nobody particularly likes to pay taxes they know that some of what they pay for is worth it, like me, like functioning sewers and clean water, like decent schools and roads, and even here at this blog there are very few that would agree with you.

As to me screwing the taxpayer, as I keep saying, give me my day in court and I promise you you will pony up a whole lot more, but it is I who are the screwed party in all this.  Even if you are right and I am wrong and so called taxpayers do rage against having to pay vets then so be it, they will still pay because that is the law and it is justice.  A little something you would know nothing about.  Now really, you are just in a touchy mood since you were not taken in the rapture last weekend right? 

Well, I am finished with you troll, have a great life and keep those tax checks a comin!

cranky-old-geezer's picture

... give me my day in court and I promise you you will pony up a whole lot more, but it is I who are the screwed party in all this. 

Actually it is you who screwed yourself. You signed the dotted line to go fight banker wars for a paycheck (making you a mercenary) knowing full well congress can change the terms of that agreement along the way, prohibiting you from suing, whatever, even reducing that disability check at their will and reducing (even eliminating) that free healthcare if they so desire.

So yes it's the law ...for now  ...until congress decides to to change it ...for their benefit, not yours.

Even if congress leaves things as they are, how well did you say you're holding up against Bernanke's 20% annual inflation?  Is that disability check rising 20% per year?  I rather doubt it.

Oh well, it's what you can expect dealing with the devil, selling your soul for a paycheck.

boiltherich's picture

I swear to god people, scraping troll off your shoes is harder than scraping dog shit off them and smells a whole lot worse.


This country put me in a dangerous situation in 1976, here in the USA during the "cold war" and it was a situation I had no choice about, they knew it was not only a situation where someone might get hurt but was very likely, even inevitable, to get hurt, and it was totally preventable.  I do not know what southern cousin marrying state you must live in but in civilized regions of America that is called negligence, and when you harm others due to your own negligence you pay to compensate them, it is one of the roots of civil society without which which you would have nothing including your life. 

I don't know or care what demented images of society you have conjured in your head about government and the way the world really is, but this is the way it is in my life, I was harmed and it was negligent, someone will pay, one way or another.  And yep, my standard of living as a disabled vet is being degraded by price inflation, and I do not like it, but at least I have a bit of empathy for those that do not even have what little security I have got.  And yep bankers and corporation both have way too much power, maybe the only thing we agree on, but that does not mean you throw the American baby out with the bath water you dumbassed hick. 

Now that we all know the true colors of the Teabagger republicans like you it is time to say ENOUGH SAID, you really need to get help for your anger management.  And I hope the government monitors your activities because you strike me as an enemy of the people, in your current state anyway.

LauraB's picture

NY Fed Adds 32 Funds As Counterparties:

gwar5's picture

"They don't know, what they don't know"

The more complicated a system is, the greater the chance of something going wrong.

It has recently become clear the CB Folkers have long ago removed the self-righting mechanisms and normal feed back loops of the free-market system with their massive market rigging.

There's no way these Folks doing the central planning are NOT going to crash the machine. Hayek was right about the knowledge gap, and we're seeing it. The Folkers try to control the system even as starts to fly apart.

No doubt the reason our central planners openly admire the Chinese system so much is because over there they would not have to worry about going to jail for what they are doing. Not that our systems are really that much different.

SheepDog-One's picture

LOL... the Great Whore FED now plans to start tightening its kootchie? Yea sure and the check is in the mail

topcallingtroll's picture

Where is robotrader?

I think there are many who miss his commentary.

disabledvet's picture

I do.  Something along the lines of "Krispy Kreme Monday."

TooBearish's picture

Whoe is Joe Abate and why does anyone care, probably MHFT in drag.....

kito's picture

"IF and when..the Fed proceeds with another monetary tightening...


hey tyler, whats with the IF?  

lesterbegood's picture

Please say repeatedly: Debt is NOT money! Debt is NOT money!

mayhem_korner's picture

Euro-flop Monday: When's the last time the DXY and gold were both up?

mayhem_korner's picture

FED selling new meaning to "discount window"

SheepDog-One's picture

OOOO!! OOO!! I wanna buy FED assets me first!!

Roy Bush's picture

This my friend is where Blackrock comes in....the Fed will funnel money into Blackrock and other US sponsored companies to absorb the shock.  

mayhem_korner's picture

You mean more stealth monetization of deficit spending?  Never.  I won't believe it.  These are good, decent men.

bid the soldiers shoot's picture

Rather than to continue to contemplate the Fed's complicated task, isn't it much easier (but much more frightening) to regard this Kabuki Dance we've been watching for almost 10 years, not as the worst 'recession' since the Great Depression, but as the Beginning of the End Game for Peak Oil (as it is euphemistically called)? /p>

All of us know about Hubbert's prediction for peak oil here in America in 1970 and the Hubbert formula calling the peak for global production in 2000, but which did not occur until 2005, when near the peak of the expansion of the sub-prime bubble, the world prducers pumped up 73.4 mbpd, a number which 5 years later still stands as the peak.

And look how the economy has knocked 'peak oil' off the map. No one even thinks about it but me.


Oh, and why such a deep recession? The better to halt demand and husband whats left in the ground. (probably on the advice of the Pentagon, who has first dibs on what's left),

Did you think that Judas Maccabeus was going to keep topping off the Saudi wells?

Silly you.

topcallingtroll's picture

Meanwhile the dollar climbs a wall of worry.

bid the soldiers shoot's picture

The old maxims mean nothing now.

We're in terra incognita.

DosZap's picture

Yes, and a damn good time to divest yourself of it before the move to 50.

buzzsaw99's picture

QE infinity is NOT complicated. Even a pinhead PhD can do it.