Brookings Paper Proposes Shrinking Fed Balance Sheet to $4.5 Trillion via "Elastic Reserves" Overhaul

A Brookings Institution paper proposes overhauling the Federal Reserve's rate-control toolkit to shrink its balance sheet from $6.8 trillion to about $4.5 trillion, cutting reserves from roughly $3 trillion to $1 trillion, Reuters reported Oct. 21. Author Chris Hughes, a nonresident fellow at Brookings' Hutchins Center, argues the Fed should abandon its "ample reserves" system in favor of "Elastic Reserves," which would supply liquidity on demand through uncapped standing repo operations priced above the interest on reserves rate, a new Term Liquidity Facility auctioning four-month funding, and a retained Discount Window. The plan also calls for shifting holdings into Treasury bills, targeting SOFR instead of the fed funds rate, and pairing new facilities with regulatory changes to reduce structural reserve demand. Hughes writes the shift would shrink the Fed's footprint as a share of GDP to its lowest since 2008 and cut interest paid to banks by roughly two-thirds. The paper arrives as new Fed Chairman Kevin Warsh, who has called for a smaller balance sheet, convenes a task force on the issue.