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Experts at House hearing debate Fed balance-sheet risks and offer steps to reduce reserve dependence
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Summary
Four witnesses debated the Fed’s shift to an ample-reserve regime, the market risks of large-scale asset purchases, and proposed operational and regulatory steps—such as modestly raising overnight rates above IOR and reforming liquidity rules—to reduce bank demand for reserves.
At a House task force hearing focused on the Federal Reserve’s balance sheet, four outside experts debated recent changes to the Fed’s operational framework and proposed practical steps Congress and regulators could consider to reduce reserve demand and limit the risks of a persistently large balance sheet.
Dr. Bill Nelson of the Bank Policy Institute warned that an "unbounded" balance sheet transfers interest-rate risk from the private sector to taxpayers and can invite political pressure. He told the task force the Fed should take three steps if it wants to shrink reserve demand: "First, move overnight market rates modestly above the interest rate paid on reserves... Second, avoid repo market volatility by conducting temporary open market operations... Third, reform liquidity regulations so that banks can count discount-window borrowing capacity established with prepositioned collateral as a source of liquidity." (paraphrase of testimony).
Dr. Jim Klaus and Dr. Bill English described tradeoffs between scarce-reserve (corridor) systems and the current ample-reserve (floor) system. Klaus said the composition of the Fed’s holdings matters for long-term market functioning and that MBS holdings are running off slowly; English emphasized the importance of clear communication from the Fed, noting reserve-management purchases were described publicly as short-term, Treasury-bill purchases intended to maintain ample reserves rather than to ease policy.
Dr. Lisonbee Schroeder reviewed the history of quantitative easing and warned of market distortions from long-duration purchases, citing cumulative purchases since 2020 that exceeded prior QE programs. He said buying large quantities of mortgage-backed securities can lower mortgage spreads and constrain mobility for homeowners who have below-market rates, contributing to housing supply constraints.
Committee members pressed witnesses on measurable indicators to assess whether the balance sheet is "too large," potential effects on Treasury market functioning, and whether a return to a smaller pre-2008 balance sheet would be practical. Witnesses repeatedly said outcomes depend on reserve demand, regulatory incentives, and the nature of future shocks, and that reforming liquidity rules and clarifying discount-window recognition could materially reduce banks' desire to hold excess reserves.
The hearing produced no formal policy votes; members may submit follow-up written questions to witnesses.
