Federal Reserve Chairman Powell: Quantitative tightening may end in the coming months, signs of labor market weakness are becoming more apparent

Federal Reserve Chairman Powell said on Tuesday that the central bank may end its balance sheet reduction process in the coming months to prevent liquidity strain in the short-term funding market. This statement marks a potential turning point for the Fed in its quantitative tightening (QT) policy and reinforces market expectations for another rate cut this month. Powell noted that the Fed's long-term plan is to halt the balance sheet reduction when bank reserves are "modestly above the level needed." He stated that the Fed is closely monitoring various indicators to determine when to end the reduction process. Since 2022, the Fed has been gradually decreasing its holdings of treasuries and mortgage-backed securities to unwind the liquidity injected during the COVID-19 pandemic. The pace of reduction had already slowed earlier this year. Powell acknowledged signs of funding pressures in the market recently and stated that the Fed will avoid the funding market turmoil that occurred in 2019 in a "cautious and gradual manner." There is currently disagreement among Fed officials regarding the ideal level of bank reserves, with some advocating for maintaining high reserves to ensure market stability, while others believe the balance sheet should be reduced as much as possible. Powell also reiterated the importance of paying interest on reserves to commercial banks as a monetary policy tool, stating that it helps the Fed precisely control short-term rates and maintain financial system stability. He warned that if this interest payment mechanism is removed, the Fed would lose effective control over rates. Last week, the U.S. Senate rejected a proposal to ban the Fed from paying interest on reserves. Regarding the economic outlook, Powell stated that there have been limited changes in U.S. inflation and employment since the September meeting, but signs of weakness in the labor market have become more apparent. He pointed out that the latest data revisions indicate a significant slowdown in job growth, with increasing downside risks in the labor market. The Fed is currently relying on unofficial sources to assess economic trends due to the temporary shutdown of official economic data. Powell warned that if the data gap persists, it will pose challenges to policy decision-making. In terms of policy outlook, Powell's remarks were echoed by several officials. Boston Fed President Rosengren said on the same day that further rate cuts this year would be prudent given the diminishing inflation risks and increasing employment risks. She believes that even with further rate cuts, monetary policy will remain mildly tight, helping ensure inflation continues to fall once tariff factors recede. Rosengren pointed out that the current U.S. labor market is in a "delicate balance" state, with both hiring and layoffs at low levels, and while the unemployment rate is low, there are risks of further weakening. She warned that if employment continues to decline, the economy will be more vulnerable. She estimated that currently, maintaining stable employment would only require adding about 40,000 jobs per month, nearly half of the pre-pandemic level. Most Fed officials currently lean towards another 25 basis points rate cut at the next meeting on October 28-29, with investors expecting this decision to be almost certain. Analysts point out that Powell's latest remarks are aimed at setting expectations for the market in advance, and if the labor market continues to weaken, the Fed may take more aggressive easing actions by the end of the year, while still maintaining flexibility and caution to prevent market overbets on consecutive rate cuts.