Fed's Mouthpiece: The Federal Reserve may consider pausing tapering to deal with the risk of the debt ceiling

On March 19th, Nick Timiraos, a Wall Street Journal reporter known as the "Fed's mouthpiece," reported that Federal Reserve officials will consider adjusting policies to reduce their $6.8 trillion asset holdings on Wednesday. Over the past three years, the Fed has been reducing its portfolio of U.S. Treasury bonds and mortgage-backed securities accumulated in previous stimulus programs, including measures taken to stabilize dysfunctional markets when COVID-19 disrupted business activities in 2020. The Fed is trying to avoid a repeat of 2019 when it was also shrinking its balance sheet which led to tension in the overnight financing market and forced the Fed to change policy and expand its balance sheet.

Due to mutual influences between reductions in the Federal Reserve's balance sheet and Congress' and White House's need for raising federal debt ceiling, there may be increased volatility in markets over coming months. At their most recent meeting held in January, Federal Reserve officials discussed risks associated with increasing US debt limit too quickly which could deplete reserves from system excessively fast. Meeting minutes showed that they discussed slowing or pausing reduction of balance sheets for several months so that debt ceiling wouldn't affect ability of Fed to fine-tune its balance sheet.

Blake Gwinn, an interest rate strategist at RBC Capital Markets said that Federal Reserve officials can pause reserve reductions until few months after debt ceiling is raised allowing Treasury Department time rebuild cash balances; then they can continue reducing reserves under their own terms.