The Fed’s growing balance sheet dilemma

  • September 22, 2016
Mike Jones fed balance sheet

Mike Jones

Investment Insights

Mike Jones

Each Thursday around 4:30 pm, the Federal Reserve publishes its balance sheet. You can find it online here.
And so what? Why should we care?

The Federal Reserve is our nation’s central banker. It exists to stand in the gap when individual banks face difficulty and to set interest rate policy and influence the amount of money circulating throughout our economy. Think of it this way: the Fed is working every day to provide stability and, when needed, stimulus to keep the US economy growing.

Most citizens are aware that the Fed is instrumental in setting interest rate policy in the US banking system. Most are unaware, though, of its power to influence the economy through its management of its balance sheet.

Over the last several years the Fed has expanded its balance sheet exponentially. Here’s a technical description of this process from Quora:

Balance Sheet of the Federal Reserve: The Fed’s assets are comprised of a variety of financial instruments including government bonds, corporate bonds, mortgage-backed securities, etc. On the liabilities side, the Fed holds money in circulation and reserves (money that commercial banks are required to set aside with the Central Bank). By “printing money” ex nihilo (literally out of nothing) money supply increases and the Fed’s liabilities rise. However, the Fed now has the funds to go to the open market and purchase more financial securities from commercial banks, thereby increasing its assets (so that total assets still equals total liabilities). This is the mechanism by which the Fed “expands its balance sheet.”

Below is a picture of just how big the Federal Reserve balance sheet has grown. Before the financial crisis of 2008-09 assets were in the $800 million range. Today, they are about $4.5 trillion. That’s a five fold increase.

fed assets graph

So again, what’s the point? And, more to the point, where’s the problem?

The point is that the Federal Reserve would like have a say as to how much money is in circulation and how much money bankers have on hand to make loans. Lending is leverage and what better way to get a stagnant economy going than by enticing banks to lend money to businesses who thereby invest that money in equipment and in labor.

Another point is the influence the Federal Reserve can have on interest rates in the bond market. By being such a large buyer of bonds, our central bank can help in keeping longer term interest rates low.

The problem is how our central bank (and all the other central banks around the world) will unwind what they have done. Its never been done before. No one has a playbook on taking trillion of dollars off of the balance sheet. No one.

Looking at the chart below one might get a sense that things have gotten out of control.

total assets of major central banks

Thanks to our Fed we have not had a recession since 2009. Is that a good thing? Only time will tell.

mike signature small


Byron R. Moore, CFP® is Managing Director / Planning Group of Argent Advisors, Inc. Mike Jones is Managing Director / Investment Group of Argent Advisors, Inc. Write to either at 500 East Reynolds Drive, Ruston, LA 71270 or call (318) 251-5800. This newsletter is available via email on a free subscription basis. You can subscribe by clicking here. Direct any questions, comments or suggestions to Byron Moore at bmoore@argentadvisors.com or to Mike Jones at mjones@argentadvisors.com.
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Argent Advisors, Inc.), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful.
Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. The opinions of any single advisor do not necessarily reflect the opinions of Argent Advisors, Inc. Moreover, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from Argent Advisors, Inc.. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing.
Argent Advisors, Inc. is a registered investment adviser registered with the Securities and Exchange Commission. Argent Advisors, Inc. is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice. Argent Advisors, Inc does not offer tax, legal or insurance advice. If you are a Argent Advisors, Inc. client, please remember to contact Argent Advisors, Inc., in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services. A copy of the Argent Advisors, Inc.’s current written disclosure statement discussing our advisory services and fees is available upon request.