In the July FOMC minutes the Fed made mention of a reverse repo facility as a potential tool to help drain the excess liquidity created from QE. If the excess is left in the system for too long it can keep rates lower, even when the Fed looks to raise the funds rate.
The Fed already partake in a reverse repo to drain reserves normally but the difference here is that it will be a repo of “full allotment”, which means the Fed would take all the cash offered not just a part. Other additions to the policy could include paying a fixed interest rate rather than going to auction so that they would remain in control of rates, and also offering the facility to a wider audience than just banks.
It’s just one of many possible tools we are likely to hear of leading up to next weeks FOMC and I would expect there will be a lot of interest in questioning Uncle Ben on the next stages of Fed monetary policy. The market knows that tapering is on so the shift in focus will be to the final exit plan and draining QE from the system.
Back in the old days leeches were used to reduce swelling. It may be that the Fed has to find something as dramatic as that to reduce it’s own swelling balance sheet.
