Fed Balance Sheet in Whopping Gain

Stretched is hardly the word to describe the Federal Reserve's balance sheet, which was revealed, as usual, to the public late Thursday in the release titled "Factors Affecting Reserve Balances."

Federal Reserve credit, which measures all monies injected into the financial system by the Federal Reserve, increased massively, by an unprecedented $203.6 billion to $1.134 trillion in the week ended Wednesday. Mind you, this is a figure that tends to increase only a few percent per year. Last week's increase was about four times greater than the last two large infusions in September 2001 and the period surrounding Y2K.

Many factors bloated the Fed's balance sheet. For starters, primary dealers increased their borrowing from $59 billion to a whopping $105.66 billion, a clear sign of stress. Two weeks ago, this figure was zero.

Second, commercial banks increased their borrowing by $5.9 billion to $39.4 billion. Two weeks ago the figure was at $23.4 billion. The loan to AIG (AIG - commentary - Cramer's Take) also increased, to $44.5 billion from $28 billion.

The longer the money stays in the financial system, the more likely it is that banks will submit requests for actual currency, which would boost the money supply, growth, and inflation. The inflation part is certainly nothing to be concerned with at the moment, given the massive amount of asset deflation occurring worldwide in all of the major asset classes, and in light of the weak U.S. jobs picture.

Remember the rule: each dollar of reserves kept in the financial system can multiply tenfold, as the first bank to receive the dollar can lend 90 cents (there is a 10% reserve requirement), and the second bank receiving the 90 cent deposit can lend 81 cents, and so forth.

Before we get too excited about the chances at an expansion of credit, note that the Fed has been draining money from the financial system over the past two days, reflecting the surfeit of money in the system.

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Tony Crescenzi is the chief bond market strategist at Miller Tabak + Co., LLC, and advises many of the nation's top institutional investors on issues related to the bond market, the economy and other macro-related issues. At the request of the Federal Reserve, Crescenzi is a regular participant in the board's Livingston Survey of economic forecasters. He is also the author of the revised investment classic, The Money Market, first published in 1978 by Marcia Stigum, and The Strategic Bond Investor. At the time of publication, Crescenzi or Miller Tabak had no positions in the securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Crescenzi also is the founder of Bondtalk.com, a popular Web site covering the bond market and the economy. Crescenzi appreciates your feedback; click here to send him an email.

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