越来越多迹象表明经济增长放缓速度快于几周前的预期，引发全球债券周一大幅上涨，交易员押注美联储和其他央行将在降息方面变得更加积极。Federal Reserve's end of balance sheet reduction is in sight, but the actual end date depends on the pace of interest rate cuts and financing market pressure.
Officials hinted that the reduction of US Treasury holdings will be completed before the end of the year. Many on Wall Street believe that quantitative tightening is unlikely to suddenly end. But recent weak economic data and liquidity pressure risks have cast uncertainty over the outlook.
"If the Federal Reserve intends to stimulate the economy, it may stop shrinking the balance sheet," Bank of America strategists Mark Cabana and Katie Craig wrote in a report to clients on Wednesday. "If the goal of the Federal Reserve is to normalize monetary policy, then shrinking the balance sheet can continue."
Increasing evidence shows that the pace of economic growth slowdown is faster than anticipated a few weeks ago, triggering a significant surge in global bonds on Monday. Traders are betting on the Federal Reserve and other central banks becoming more aggressive in cutting interest rates.
In the past, policymakers have discussed the possibility of not stopping the shrinkage of the balance sheet when cutting interest rates, but sudden economic downturns could threaten a smooth transition between the two.
Although the current $3.18 trillion in reserves is widely believed to be sufficient, if the Federal Reserve allows this number to drop too much, it could trigger overnight financing market volatility similar to that seen in September 2019. The Fed has been shrinking its balance sheet since June 2022, and has recently slowed down to ease potential pressure on money market rates.
However, signs of pressure are emerging in the financing market. As US government bond issuance and primary dealers' holdings of US bonds remain high, overnight repo rates are rising.
At the same time, the Federal Reserve's overnight reverse repurchase tool (RRP) has fallen every trading day this month, hitting its lowest level in more than three years until Thursday, when it rebounded to $303 billion.
Even if funding pressures become more severe, the Federal Reserve has contingency plans in place to address potential liquidity pressures, including providing relatively easy access to financing sources through sponsored repo and allowing eligible institutions to borrow cash by pledging bonds under a Standing Repo Facility. Barclays strategist Joseph Abate predicts that repo rates will have to rise further before banks actively use this tool.
Morgan Stanley's Seth Carpenter, Matthew Hornbach and Martin Tobias wrote, "Two possible drivers may prompt the Federal Reserve to end the shrinkage of its balance sheet early; one is the exhaustion of liquidity in the money markets, the other is a recession in the US economy. But we believe that neither is very likely."
