(Bloomberg) — With a fresh team taking the helm at the US Treasury, we can anticipate some changes in how the department manages its cash reserves at the Federal Reserve. Experts are already predicting that these shifts could have significant impacts across the nation’s debt markets.
Among the various financial institutions weighing in, Bank of America and Wrightson ICAP LLC are suggesting that the Treasury might reduce the funds it keeps in its Fed account. This reduction comes as the buffer, crucial for ensuring the US can meet its obligations, is shrinking. By doing so, the government could decrease short-term debt sales, which may save taxpayers money now that the debt ceiling has been reinstated, causing the cash reserves to dwindle. The prevailing expectation is that this balance will continue to drop unless there’s a change in the debt limit.
Discussions surrounding the mix of the Treasury’s debt—between short-term bills and longer-term securities—have remained a hot topic since the Trump administration. Many criticized former Treasury Secretary Janet Yellen for leaning too heavily on issuing T-bills.
Lou Crandall, chief economist at Wrightson ICAP, highlighted on Friday that, “The new Treasury team might reconsider the extensive cash reserves strategy seen in recent years. Reducing their cash balance to previous levels shouldn’t pose a significant risk and could delay necessary changes in the size of auctions for coupon-bearing debt if they choose to cut back on bill issuance.”
Scott Bessent, awaiting confirmation as the new head of the department, has been a vocal critic of using short-term debt to fund deficits, arguing it influenced the economy by lowering long-term interest rates—a position that Yellen’s Treasury previously refuted.
Strategists Mark Cabana and Katie Craig from Bank of America expect that under Bessent, the Treasury might announce a decrease in its cash balance as early as next month, coinciding with their quarterly debt refunding discussions.
As per the latest figures, the Treasury General Account at the Fed held $665 billion as of January 22—a notable decline from a peak of $962 billion in April and below last year’s average of roughly $748 billion.
Since 2015, the Treasury has maintained a policy of holding at least five days of expenditures in its account, initially at $150 billion, as a safety net against market disruptions. Before this, it covered just two days. Yet, as deficits expanded, so did this financial cushion. Today, US Treasury debt exceeds $28 trillion, up from around $13 trillion at the end of 2015.
By tweaking the cash balance, even slightly, the Treasury could issue fewer bills, easing upwards pressure on rates and potentially allowing the Fed to extend its balance sheet reduction. As part of the central bank’s quantitative tightening since mid-2022, over $2 trillion in government securities have been shed.
Barclays and Bank of America recently postponed their QT end forecasts to September, citing steady funding markets and scarce Fed communication on its balance-sheet plans. The reintroduction of the debt ceiling earlier this month only adds to the uncertainty for both Treasury’s immediate debt plans and the Fed’s ongoing unwind.
Prolonged constraints due to the debt ceiling could force cuts in bill issuance while depleting cash reserves, offsetting liquidity signals in money markets that indicate when to halt QT. Once resolved, this could lead to rapid changes in Treasury balances and bank reserves, but a slimmer cash cushion might help stabilize fluctuations in the Fed’s liabilities and money-market rates.
The last review of the cash balance by the Treasury was in February 2022, outlining how they determine the size of their buffer by forecasting cash flows weeks to months in advance, setting targets just above the expected one-week ahead level.
Ultimately, any adjustments in cash balance policy will resonate beyond Washington, urging fixed-income investors to recalibrate their strategies. Cabana and Craig noted in a recent memo, “The US Treasury’s cash balance is a key variable with the new administration.” While advisory bodies and Congress have input on these strategies, the final decision rests with the Treasury Secretary, who may opt for a lower cash reserve to cut costs.
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