The Federal Reserve’s table reduction is about to start. In view of the limited reference significance of the previous table reduction cycle, we have systematically combed the main differences, possible evolution paths and market impact of this table reduction cycle for your reference.
After the Fed started the interest rate hike cycle, the schedule reduction plan was also put on the agenda
Recently, while the Fed raised interest rates by 50bp in May, it is also “warming up” in advance, which may start the table contraction in May. Since the Federal Reserve started raising interest rates in March, several members have reported that interest rates were raised by 50bp in May. Affected by this, the market generally bet that the Fed will raise interest rates by 50bp in May and at least 250bp in 2022. At the same time, the “minutes of the Fed’s expected interest rate hike and contraction” may be released in May. Specifically, the upper limit of the scale reduction is set at 60 billion US bonds and 35 billion MBS per month, or it will reach the upper limit in about three months.
However, due to the lack of sufficient historical comparable experience, the market’s digestion of the Fed’s table contraction expectation mainly refers to the previous table contraction cycle. Experience shows that the Fed’s interest rate increase has a more direct impact on the short-term interest rate of US bonds and a relatively indirect impact on the long-term interest rate. Different from the operation of raising interest rates, and considering the term structure of US bonds held by the Federal Reserve, the reduction of the table has a more direct role in pushing up the long-term interest rate of US bonds. However, due to the lack of sufficient historical comparable experience, the market’s digestion of the expected reduction of the table is now mainly anchored in the 20172019 reduction cycle.
Compared with the previous round, the Fed may have many differences in this round of table contraction
Compared with 2017, the Fed’s current round of table contraction has a faster pace, greater intensity and stronger tightening signal. The pace of promoting the normalization of the Fed’s policy in the last round was slow. It started to shrink the table after raising interest rates four times, and the “brewing” time was very long; In addition, the reduction target for the first month was set at 6 billion US bonds and 4 billion MBS. It took four quarters to reach the reduction limit of 30 billion US bonds and 200 yuan MBS per month. Different from the previous round, the interval between the Federal Reserve’s interest rate increase and table reduction is relatively short, and it can reach the reduction ceiling of 60 billion and 35 billion per month as soon as about one quarter.
Unlike 2017, while the current US economic growth remains resilient, the inflation pressure is “high fever”, which continues to accelerate the normalization of the Fed’s policies. After the epidemic, the U.S. fiscal and monetary policies were extended to Panasonic, and the economy quickly moved from recession to strong recovery. However, in the process of economic normalization, the normalization process of monetary policy obviously lags behind due to fear of repeated outbreaks. However, since the second half of 2021, the employment market has strongly pointed to the resilience of U.S. economic growth. At the same time, the inflationary pressure has continued to exceed expectations, which has continued to accelerate the normalization of Fed policy.
The normalization of the Fed’s policy is accelerated, which will still disturb the market in stages
In the context of inflation continuing to exceed expectations, in order to maintain credibility, the determination of the Federal Reserve to accelerate tightening policy should not be underestimated. The credibility of the Fed’s monetary policy largely stems from the effective management of inflation expectations. Until the inflationary pressure eases, it is inappropriate to underestimate the determination of the Federal Reserve to accelerate tightening policy. Considering that under the interest rate increase cycle, the yield curve of US bonds tends to flatten, which is easy to curb the lending willingness of US banks. In order to reasonably guide expectations and avoid the adverse impact of excessive upside down of the term interest rate spread of US bonds, the initiative to shrink the table is also under the consideration of the Federal Reserve.
In the coming period, the global capital market may maintain high volatility in the further digestion of the Fed’s expectation of shrinking the table. From the perspective of time, rhythm and intensity, shrink the table earlier, faster and stronger, or release tighter tightening signals. In order to better capture the impact of table shrinkage on the liquidity environment, indicators such as the size of the Fed’s overnight reverse repo operation deserve special attention. In the short and medium term, as the anchor of asset pricing, the long-term interest rate of US bonds may continue the upward trend during the digestion of the expectation of the Fed’s table contraction, which will keep the global capital market highly volatile.
Risk tip: the core inflation of the Federal Reserve remains high; The US employment recovery was less than expected.
