Friday, November 30, 2012

QE3 update: modest increase in bank reserves

US bank reserves at the Fed grew about $27bn, with the "other" category showing up in reserves this week (as Lee Adler discussed earlier). Overall the pace of reserves growth is still quite modest on a relative basis (currently reserves are at the level of early September.) Further increases are expected in December as more MBS purchases settle.

Bank reserves (source: FBR)

Moreover, the Fed's balance sheet unexpectedly shrunk by $20bn this week. Part of the decline has to do with MBS paydown from all the mortgage refinancing activity. Certainly there is some noise in the balance sheet measures and reserves on a week-to-week basis, but the Fed is definitely being cautious. We may see a more aggressive approach to bank reserve expansion after Operation Twist (see discussion) winds down - likely early next year. There is about $50bn of short-term notes left to sell (chart below).

$bn

A number of economists continue to argue that increasing bank reserves is not productive at this point in the cycle because it will not stimulate further credit expansion (while risking inflation).





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