It seemed to be a very quiet week inside the Federal Reserve.
The securities portfolio registered no significant changes and the reserve balances with Federal Reserve Banks hardly changed.
In the latest banking week, the new, higher effective Federal Funds rate rose, reflecting the latest decision of the Federal Open Market Committee.
The effective Federal Funds rate is now 4.58 percent. The “steps” keep growing.
The next FOMC meeting is scheduled for March 21 and 22.
Market expectations are for another 25 basis point rise in the Fed’s policy rate of interest.
The proxy for excess reserves in the commercial banking system, the line item on the Fed’s balance sheet, Reserve Balances with Federal Reserve Banks, hardly changed this past week.
But, since the middle of March 2022, the time when the Federal Reserve really began the fight against inflation, the “excess reserves” in the commercial banking system have fallen by about $860.0 billion.
Note, however, that commercial banks still retain more than $3.0 trillion in these “excess reserves.”
Commercial banks still have a lot of ammunition if they want to make loans to the private sector. And, there is some indication that banks are making plenty of loans as the Federal Reserve continues to try and tighten up on monetary policy.
The main tool the Federal Reserve is using to constrain the banking system is the reduction in the amount of securities the Fed is holding in its securities portfolio.
The center of the Fed’s program of quantitative tightening is the securities portfolio of the Federal Reserve. Since March 16, 2022, when the Federal Reserve began this program of quantitative tightening, the securities portfolio has been reduced by almost $510.0 billion.
In earlier discussions, Federal Reserve officials have indicated that they would like to reduce the securities portfolio this round by about $1.5 trillion, sometime in early 2024.
Whether or not they will accomplish this goal remains to be seen.
This is the picture of the Fed’s progress in reducing its securities portfolio.
The steady reduction in the securities portfolio is the essence of the quantitative tightening program. The securities portfolio declines in a relatively steady pace.
The question that dominates discussion about what the Federal Reserve is doing is about how long the Fed will continue to “stay on course” with this quantitative tightening program.
Many investors are betting that the Fed will “pivot” away from this policy stance in the near future.
Of course, we don’t know the answer to this particular question at this specific time.
But, the key to the policy is whether or not the Fed continues to allow securities to run out of its portfolio. The key, I will argue, is not about how high the Fed will raise the effective Federal Funds rate.
So, smart investors, I believe, should keep their eyes on how the Fed is managing its securities portfolio, not the specific level of the effective Federal Funds rate.
For now, it appears as if the Fed will just continue on, continuing on.
But, watch the weekly February numbers. Keep track of just what the Fed is doing with its balance sheet.