Quick Take: Reserves Bonanza Will Not Last

Summary

• Relative to end-2024, banks reserves are up about $100bn.
• This reflects the reinstatement of the debt ceiling on 1 January, which forces the Treasury to run down its balance at the Treasury to fund the deficit.
• The reserves increase likely will not last as January tends to be a cash surplus month for the Treasury and the GOP is likely to raise, suspend or even eliminate the debt ceiling within the next few months.

Market Implications

• I expect the Fed to remain on hold in 2025, against markets pricing about one cut.

Debt Ceiling Reinstatement Leads to Reserves Increase

Since end-2024, banks reserves have increased about $100bn, an increase matched by an equivalent decrease in the Treasury General Account (TGA, Chart 1 and Table 1). This change in the structure of the Fed liabilities reflects that the debt ceiling has been reinstated on 1 January, at the debt level prevailing on 31 December (Chart 2).

The Treasury will be unable to increase its debt due to the binding debt ceiling. As a result, it will have to fund the excess of its spending over revenues by running down its account at the Fed or TGA. In turn, this will increase banks’ reserves at the Fed.

Reserves Increase to Be Limited

However, the debt ceiling-induced increase in reserves is likely to be limited. First, January tends to be a cash surplus month for the Treasury (Chart 3).

Second, the reinstatement of the debt ceiling is only temporary. A government funding bill in December included a two-year suspension of the debt ceiling. Due to internal GOP dissensions, the bill was not adopted and instead government funding was extended until 14 March 2025 without a debt ceiling increase or suspension.

With the GOP in control of both Houses of Congress, a debt ceiling suspension or increase is likely to be adopted within the next few months, possibly as part of a broader budget bill. President-elect Donald Trump has even mentioned the possibility of doing away with the debt ceiling altogether.

Market Consequences

I still expect no Fed cuts in 2025, against market consensus for one cut.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)