Please Excuse my ignorance.

The US Federal Reserve has issued forward guidance telling the world that it is going to start to sell its (well a little less) 4.5 trillion dollars worth of securities that it purchased in 2008.

When the fed purchased bonds from the market this was considered open market operations. When the fed spent dollars to purchase securities it expanded the money supply. Correct?

So now that they are going to unload the securities.

When the fed sells bonds to the market this is also considered open market operations. This type of open market operation contracts the money supply as the fed will sell securities to the market and accept dollars for them. Correct?

As there is such a large amount of securities on their balance sheet, these open market operations are going to have global effects. What could some of the effects be? ( I realize they will do it slowly )

( Effect on Non-US real estate ( the bubbles around the world )) ( US Dollar value ( US Dollar Index )) ( China ) ( Other Central Banks )


1 Answer 1


The direct effect of changes in the money supply on the economy (and other variables) is not clear. The Fed purchases of assets created excess reserves in the banking system (which the banks cannot offset by themselves). The presence of excess reserves does not greatly affect the ability of banks to lend. Hence, there is limited evidence of direct effects on the real economy. (I am unaware of any such studies, but that does not mean that they do not exist.)

The usual argument is that the effect of the large scale asset purchase program was that it reduced bond and mortgage yields. This note by Bonis, Ihrig, and Wei (link to note) gives a recent estimate of its effect. The effectiveness of the program to lower bond yields is questioned. (As a disclaimer, I see little evidence that bond yields are measurably lower as a result of the asset purchases.)

If we grant that the large scale asset purchases lowered bond (and mortgage) yields, the effects on the economy are indirect. The precise impact of lower bond yields on the economy is uncertain (it depends upon which econometric studies on the effects of bond yields on economic activity you believe). Presumably, the effect of a gradual unwind of the Fed's purchases would reverse those effects.

Returning to your question, the linkages to the areas you ask about (the value of the U.S. dollar, bubbles, etc.) would be even more controversial. For example, in my opinion, the Canadian real estate bubble was entirely driven by Canadian policy changes; it is very hard to see how the size of the Fed's balance sheet had a measurable effect. I am certainly unaware of any studies finding such a linkage, and there is no reliable rule for relating changes to American bond yields to Canadian bond yields (and mortgage rates). (If such a rule existed, it would imply that it was easy to make money on cross-currency spread trades.)

Obviously, very rapid sales of securities by the Federal Reserve would be disruptive for the bond market, which presumably would cause contagion in other financial asset markets.

  • $\begingroup$ I was thinking, the FED selling securities left over from 2008 would cause the excess wealth (cheap money) that is going into global real estate, and other assets, to be sucked into the FED as it sells trillions of dollars of already issued securities along with new treasuries to the market. In Canada ( but also other places ) a huge portion of real estate buyers are foreign. So I thought this may change the dynamics. Also as the Chinese currency is valued on a basket of currencies, and the USD is part of that basket, this will effect the Chinese real estate buyers. (IMO) $\endgroup$ Commented Jun 23, 2017 at 18:09
  • $\begingroup$ The counter-argument is that Fed buying just changes the maturity structure of the fixed income market. That is, overnight reserves replace bonds. The effect would show up in the price of bonds, which has been the subject of research. One can imagine that there are other channels of operation, but proving the magnitude of any effects is extremely hard. There is little research anyone on this site providing an answer could point to (outside of interest rate effects). $\endgroup$ Commented Jun 23, 2017 at 19:29

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