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Yellen: Fed will shrink balance sheet soon

Federal Reserve Chair Janet Yellen said the Fed will likely begin to unwind its massive balance sheet later this year, a move that could put upward pressure on long-term interest rates.

In testimony before the House Financial Services Committee on Wednesday, Yellen indicated that the Fed was prepared to pull the trigger on a gradual reduction of its $4.5 trillion in holdings of mortgage-backed securities and U.S. Treasuries.

interestrates“If the economy continues to evolve in line with our expectations, then it is something we should begin to do this year and, to my mind, relatively soon,” Yellen said.  

Yellen did not commit to a time frame, however.

“The exact timing of this, I don’t think, matters a great deal,” Yellen said. “It is something that we have been preparing to undertake.”

At the meeting in June, the Fed released a plan to gradually unwind the portfolio by allowing a capped percentage of its holdings to roll off its balance sheet each month. These holdings were built up after the recession to unprecedented levels as the central bank tried to spark the economy by keeping a lid on interest rates. The reduced demand for the securities because of the Fed pullback is expected to put upward pressure on long-term mortgage rates, although the Fed’s expectation is that the gradual tapering plan will not have a disruptive impact on the markets.

The Fed’s policymakers meet four more times this year, including this month, but meetings in September and December are the more likely stages for a major policy announcement, according to analysts. Fed policymakers have already telegraphed to the markets that that they are likely to raise the federal funds rate by a quarter percent at least one more time this year.

Some analysts believe that Fed is most likely to make an announcement on the balance-sheet reduction after the Sept. 19-20 meeting, and raise the federal funds rate at the Dec. 12-13 meeting.

Yellen said Fed policymakers have not ruled out making both moves at the same meeting.

“The path for the federal funds rate is a decision for the committee,” Yellen said. “They have made no decision on whether or not both things could occur at the same time.” 


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