International Countries have only bought 10% of total new debt over 18 months

The following analysis breaks down the Fed balance sheet in detail. It shows different parts of the balance sheet and how those amounts have changed. It also shows historical interest rate trends.

Breaking Down the Balance Sheet

As soon as the Fed ended Quantitative Tightening they launched a new round of Quantitative Easing. As shown in the chart below, the Fed added $43B in March and April and then $4B in May. The most interesting part is what they are doing to keep the net total down… they are selling Mortgage Backed Securities. For four months, they have added $65B a month in short term debt (0-5 years).

Figure: 1 Monthly Change by Instrument

Zooming out to 10 years and grouping the data by year shows the chart below. What you should notice is how quickly the Fed will un-do all the “hard work” in reducing the balance sheet during the next crisis. It took 4 years to reduce the balance sheet about $2.2T. However, in 2020, it took a few months to grow the balance sheet by $3T and 2 years to grow it by $4.5T.

Warsh has said he does not like using the balance sheet and would prefer to use interest rates. That may be a great theory, but it will be much harder in practice. Why else is the Fed buying up short-term debt right now? They need to keep liquidity strong on the short-end of the curve. Without this, the Treasury market could start to get really ugly. This is an untenable situation for the US, so the Fed has to keep the liquidity flowing.

Figure: 2 Monthly Change by Instrument

The table below provides more detail on the Fed’s activities and its recent efforts to shrink the balance sheet. With QE already resuming, the Fed will be taking a $6.7T balance sheet (and growing) into the next crisis, almost guaranteeing that it will exceed $10T when it fully goes back to QE. Warsh may not like QE, but he will have no choice if he wants to keep the bubble inflated.

Figure: 3 Balance Sheet Breakdown

The weekly activity can be seen below. As shown, the Repo agreements were used but then were just as quickly eliminated. According to the Fed, it is not being used as much as they would like to see.

Figure: 4 Fed Balance Sheet Weekly Changes

The chart below shows the balance on detailed items in Loans and also Repos. These were the programs set up in the wake of the SVB collapse. All of the programs have dropped down to zero at this point, but as mentioned above, the Fed would like to see more usage of the Repo market (Standard Repo Facility or SRF).

Figure: 5 Loan Details

Yields

Yields have been fluctuating within a band since Sept 2022, ranging mostly between 3.25% and 4.75%. That range has been broken in the last month with 30-year rates breaking decisively over 5% and the 10-year breaking above 4.5%. The last week has seen rates come down, but it is likely a temporary move. The trend clearly looks to be up.

Figure: 6 Interest Rates Across Maturities

This normalization of the yield curve can be seen in the chart below. The spread between the 2 year and 10 year is still well in positive territory.

Figure: 7 Tracking Yield Curve Inversion

The chart below shows the current yield curve, the yield curve one month ago, and one year ago. The long end has stayed steady while the short end has come down, steepening over the last year. This could be a result of the Fed intervening on the short-end of the curve.

Figure: 8 Tracking Yield Curve Inversion

The Fed Takes Losses

When the Fed makes money, it sends it back to the Treasury. This has netted the Treasury close to $100B a year. This can be seen below.

Figure: 9 Fed Payments to Treasury

You may notice in the chart above that 2023-2025 are showing $0. That’s because the Fed has been losing money. According to the Fed: The Federal Reserve Banks remit residual net earnings to the U.S. Treasury after providing for the costs of operations… Positive amounts represent the estimated weekly remittances due to U.S. Treasury. Negative amounts represent the cumulative deferred asset position … deferred asset is the amount of net earnings that the Federal Reserve Banks need to realize before remittances to the U.S. Treasury resume.

Basically, when the Fed makes money, it gives it to the Treasury. When it loses money, it keeps a negative balance by printing the difference. That negative balance exceeded $245B, but has started to turn back up in recent weeks as the Fed has started to make money again. It will be some time before it pays off the net draw down and is then able to start paying the treasury again.

Figure: 10 Remittances or Negative Balance

Who Will Fill the Gap?

The Fed stopped buying heavily in 2022 (and were even selling); however, the Treasury is still issuing tons of new debt. Who has been picking up the slack since the Fed stepped away?

At first, international markets were, but that has changed. Since September 2024, international holders have only added $400B. Over 18 months, the treasury has issued probably close to $4T in debt. This implies that only about 10% of debt is being absorbed internationally. Who is buying the rest? And with central banks actively and openly getting out of treasuries for gold, this problem is only going to get worse.

Note: data is updated on a lag. The latest data is as of March

Figure: 11 International Holders

The chart below shows a breakdown of the bigger countries. China’s US Debt holdings have fallen to $650B. The rest of the countries have all added over the last year, but as shown in the chart above, that motion has stopped over the last few months.

Figure: 12 Average Weekly Change in the Balance Sheet

Historical Perspective

The final plot below takes a larger view of the balance sheet. It is clear to see how the usage of the balance sheet has changed since the Global Financial Crisis. This also highlights the rapid increase and steady decrease. The Fed can never actually shrink its balance sheet back to the previous state, it just does minor reductions when it can before the next crisis blows it up again.

Figure: 13 Historical Fed Balance Sheet

Conclusion

Let’s paint the full picture here:

1. US continues to issue more than $2T in debt per year
2. International buyers have dried up
3. China has been selling and Japan is likely to start soon to defend the currency
4. Who is left to buy?

There is a reason the Treasury started issuing short-term debt at the same time that the Fed unofficially launched QE to buy the short-end. It’s the only way this game can continue. But this is certainly not a long-term solution, much less a solution at all really.

This is exactly why ex-treasury secretary Hank Paulson said the US needs an emergency plan. While inevitable does not mean imminent, it is starting to look like they both may apply at this stage.