Fed mulls MBS repo to reduce balance sheet

Appearing before the House Committee on Financial Services last month, Federal Reserve chairman Ben Bernanke confirmed the regulator intends to eventually drain large quantities of cash in the banking system through the use of reverse repurchase agreements.

“To build the capability to drain large quantities of reserves, the Federal Reserve has been working to expand its range of counterparties for reverse repurchase operations beyond the primary dealers and to develop the infrastructure necessary to use agency MBS as collateral in such transactions. The use of reverse repos would allow the Federal Reserve to drain hundreds of billions of dollars of reserves from the banking system quite quickly,” Bernanke said.

The New York Fed is working on the operational details involved in withdrawing excess liquidity by selling back to dealers not only Treasuries but also mortgage-backed securities issued by government-sponsored enterprises, an asset class not previously packaged for repurchase by the Fed. The central bank may also opt to redeem or sell MBS and other debt securities.

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