NY Fed chief:Fed to be cautious in balance-sheet normalisation

The US central bank will begin normalising its bloated balance-sheet "sometime this year or later next year" in an extremely cautious manner, Federal Reserve Bank of New York president and chief executive William C Dudley said here today.
Normalising the balance-sheet of the world's most influential central bank is on the cards if the US economy continued to grow in line with expectations, said the chief of the New York Fed, the most influential of all state Federal Reserve banks of the US.
"We want to do this (normalisation of balance sheet) in a very careful way...In a way that is very much well-communicated to the markets," Dudley said, delivering a lecture on globalisation at the Bombay Stock Exchange here.

"We want this to very much run in the background in a very modest, minor way. We will pursue this with great care and caution in the months ahead," he added.
He ruled out a steep hike in the US interest rates, saying that FOMC will adopt a gradual approach as there is no need to move quickly.
"I don't think you should expect any dramatic changes in the US monetary policy regime. We expect to gradually raise interest rates, and at the same time normalise our balance- sheet," Dudley said.

"But with the economy growing a little below trend and inflation a bit below the 2 percentage point objective, there is no great urgency for us to tighten our monetary policy aggressively," he said.

To a question whether the Fed will coordinate with the other two leading central banks -- European Central Bank and the Bank of Japan -- in this, Dudley said they'd take the call regarding the normalisation of their balance sheets on their own, but it is likely the Fed will move earlier due to its better economic position.
The massive asset purchase programme, known as quantitative easing, after the 2008 global credit crisis has had the Fed balance sheet bloating up to USD 4.5 trillion, raising concerns elsewhere how its unwinding will impact the global financial markets.
The central banks of the US, EU and Japan collectively have a balance sheet of a whopping USD 13 trillion. While the Fed stopped the asset buying long ago, the ECB and BOJ are yet to officially stop the easing as yet.

Dudley said the Fed is already working on what the "appropriate policy" will be for the same. "I expect the Fed will do that by gradually reducing the amount of assets that we reinvest. We will probably put some caps on how much we will buy from the marketplace. I expect that we will do this for both treasuries and mortgaged backed securities."
Though the Fed stopped asset purchases, it is still reinvesting principal payments from its holding of mortgage- backed securities and rollover maturing treasuries.
But Dudley was quick to add that even after normalisation, it is "very unlikely" that the Fed will return to the pre-financial crisis regime which saw the world's most influential central bank trying to keep the federal funds rate near the target using currency and a small amount of excess reserves.

When asked about the Federal Reserve Bank of Kansas City's estimate that a USD 675 billion reduction in the quantitative easing is equivalent to a 25 bps hike in key interest rates, Dudley said the estimate is unreasonable and cautioned against taking it too literally.