Fed Balance Sheet: A Shrinking Goal

Kevin Warsh, a long-time critic of the Federal Reserve's large balance sheet, faces an uphill battle in his goal to shrink it. Before the 2008 Financial Crisis, the Fed operated with a relatively small balance sheet and controlled short-term interest rates through modest changes in bank reserves. However, successive rounds of quantitative easing, pandemic support, and other liquidity programs increased the Fed's assets to $9 trillion in 2022.

Quantitative tightening (QT) reduced this amount by $2.4 trillion to around $6.5 trillion by the end of 2025, but even after one of the largest balance-sheet reductions in central-bank history, the Fed remained more than 50% larger than before COVID and seven times its size before the Financial Crisis.

The Fed has recently started adding assets again, leaving Warsh with a critical question: how small can the Federal Reserve become without destabilizing the monetary system?