Evening Brief – 03.17.23

The Federal Reserve’s balance sheet jumped by $297bn to $8.63tn in the week of March 15, reaching its highest level since November. The expansion stemmed largely from banks borrowing short-term loans to deal with the current instability in the banking system.

Data shows banks borrowed a record $152.9bn from the Fed’s discount window. Banks also borrowed $11.9bn from the newly created Bank Term Funding Program (BTFP), a liquidity line for banks guaranteed by loans with US Treasurys. There was also $142.8bn lent to the new bridge banks created by the FDIC for failed Silicon Valley Bank and Signature Bank.

The increase in the balance sheet comes after a year of quantitative tightening. The Fed is increasing its balance sheet because it has to lend money to the troubled banks. Without this new injection of liquidity, many of the banks appear to be insolvent due to their unrealized losses on long-duration, low-yielding debt stemming from the rapid rise in interest rates and unhedged practices.

The Federal Reserve now finds itself in a difficult predicament. If they continue to increase the balance sheet and stop raising interest rates, they will be able to restore confidence in the banking sector. But the consequences will be loose monetary policy in an inflationary environment, which could lead to higher inflation in the future.

As we recently pointed out in our Evening Briefs, the Fed may hike rates next week – 25bps seems to be the consensus – but listen to/read the language!