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40 Deleveraging, What Deleveraging
The official policy response to an untenable ratio of debt to income economywide
followed multiple avenues. First, as already noted, the private sector was
encouraged to deal with unsustainable obligations through stress tests of large
financial intermediaries. Second, some of those obligations were directly lifted
from the private to the public sector balance sheet, notably including the
conservatorship of the housing-related GSEs and aid in the bankruptcy of major
auto companies.
Some of the balance sheet relief came from the policy of the Federal Reserve,
above and beyond keeping the federal funds rate pinned to its zero lower bound.
Aside from its temporary operations, the Fed acquired private sector obligations
through its Maiden Lane facilities and bought outright debt of agencies, their
guaranteed mortgage-backed securities, and Treasury securities. The net result is
evident in Figure 4.4, which scales the aggregate size of the Fed’s balance sheet
to nominal GDP since 1918, which now rises to a quarter of annual nominal
output.
Figure 4.4
24
Federal Reserve balance sheet (% of GDP)
20
16
12
8
4
1918 1926 1934 1942 1950 1958 1966 1974 1982 1990 1998 2006 2014
Source: Authors’ calculations based on Federal Reserve data.
At this juncture, official efforts in the US can be credited with turning the path
of output decidedly upwards, and more so than in other advanced economies.
Harder to judge are the latent risks. Will the high level of federal debt pose a
problem down the road (especially as it interacts with the budget consequences
of decidedly adverse demographics and the realignment of Fed policy) Will the
Fed come to realign its balance sheet in time to avoid a significant increase in the
price level and perhaps acceleration thereafter, while recognising that this will
be occurring against the backdrop of a sizeable accumulation of wealth in the
private sector and signs of increased leverage (a subject to consider in somewhat
more depth) In Chapter 5, we briefly discuss these policy challenges.