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Inside the Fed's balance in four charts

WASHINGTON (Reuters) – The Federal Reserve will remain the supreme holder of US government bonds for the foreseeable future after the central bank said it would cease shrinking its $ 4 billion balance by the end of September.

FILE PHOTO: US Federal Reserve Mayor Jerome Powell holds a news conference after the FOMC's two-day political meeting in Washington, USA, March 20, 2019. REUTERS / Jonathan Ernst

So just what's in this huge inventory of assets?

Before the financial crisis hit at the end of 2007, the Fed's balance was less than a quarter of the current size and almost entirely consisted of government bonds.

So, to help promote economic recovery, the Fed went on a purchasing power that went from late 2008 to late 2014 in three phases, a program known as quantitative easing (QE). It bought a mix of Treasuries and mortgage-backed securities (MBS) and over the six years the balance has spun almost five times.

Today, Treasuries only accounts for 55 percent of the assets on the Fed's balance sheet. The other big lump is MBS of around 40 percent. The rest is a hodge-podge of other belongings, including gold.

Fed wants to return to a balance consisting mainly of Treasuries.

(GRAPHIC: Federal Reserve Balance – tmsnrtrsrsULULay0)

But not all Treasuries are the same. These securities vary in maturity from 1-month bills to 30-year bonds, and the Fed has had a different mix of them over time.

Prior to the crisis, the preference for short-term securities, such as bills, was due for one year or less, and shorter dated notes, which usually do not exceed five years.

The needs of the QE program changed, and the program priorities changed over time. The result was that the composition of Treasury's portfolio is significantly different today than it was a decade ago.

(GRAPHIC: How Fed's Treasury portfolio has changed – tmsnrtrsrs / 2HzaYdX)

Before the crisis, for example, notes maturing between five and ten years for just 7 percent of Fed's Treasury holdings, and Long-term securities with a maturity of 10 years or more were around 10 per cent of the portfolio.

The industry from five to ten years shot up to as much as 52 percent of its portfolio by early 2013 when the Fed made a joint effort to extend its maturity profile to push long-term bond yields lower and increase the housing market. The longest dated bonds grew to 25 percent, and its holdings of bills dropped to zero.

Today, Fed's stash of five to ten years of paper remains its smallest bucket, just over 11 percent. Interestingly, it has kept its holdings of long-term bonds stable and, as the balance has shrunk, its share has increased to almost 30 percent.

(GRAPHIC: FED government bonds by maturity – tmsnrtrsrs / 2Hv6Iwd)

At the press conference describing Fed's plans for its long-term balance, Fed Chairman Jerome Powell said he would see Total Balance continue to shrink a little more in proportion to the US economy.

At the top, the balance was equivalent to 25 percent of annual economic output in the United States compared to about 6 percent before the crisis.

FILE PHOTO: Federal Reserve Board Building on Constitution Avenue is depicted in Washington, USA, March 19, 2019. REUTERS / Leah Millis / File Photo

As a percentage of nominal gross domestic production, the balance today is only 20 percent of the nearly $ 21 billion US economy.

Powell and his colleagues at the Fed want to see that they go down to around 17 percent, then they will likely begin to grow the portfolio again at a pace to maintain this balance for long-term GDP.

(GRAPHIC: FED's balance was a quarter of GDP – tmsnrtrsrs / 2HvdrGt)

Writing by Dan Burns; Editing by Chris Reese

Our Standards: Thomson Reuters Trust Principles.

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