The Fed's outlook is relatively pessimistic about the future, based on recent speeches and communications from top policymakers and likely augurs a massive expansion of the central bank's balance sheet in coming years, Deutsche Bank chief U.S. economist Matthew Luzzetti says in a new research note.
What's happening: "We find that the Fed will need to provide significant accommodation — roughly equal to a fed funds rate of -5% — and that [quantitative easing] and forward guidance could be insufficient."
What it means: Given the Fed's reluctance to introduce negative nominal interest rates and the deteriorating state of the economy, Luzzetti argues the Fed will need to expand its balance sheet by up to an additional $12 trillion in short order.
- "[T]he more optimistic scenario would take nearly four years to achieve, while the more pessimistic view would take more than eight years."
Watch this space: The analysis relies on "optimistic" assumptions, including "that the Fed’s unconventional tools are as potent today, with yields at record low levels and the market pricing a negative fed funds rate in the coming quarters, as they were several years ago when yields and risk premia were much higher and the market actually anticipated future rate hikes."
- So, the balance sheet could rise by much more.