Fed Profits Returned to Treasury Could Disappear, Paper Shows

The Federal Reserve’s record profits that have been turned over to the Treasury could evaporate in coming years as rising interest rates squeeze the income from the central bank’s balance sheet, according to projections from the Fed’s staff.

“The projections imply that Federal Reserve remittances to the Treasury will likely decline for a time, and in some cases fall to zero,” Fed researchers wrote in a paper posted to the central bank’s website.

Last week, the Fed reported paying a record $88.9 billion to the Treasury as part of an annual dividend it remits after covering its own expenses from interest on its nearly $3 trillion balance sheet. The paper, from five economists and assistants in the central bank’s monetary affairs division, shows researchers studying the question of what becomes of those assets once policy and the economy return to normal.

The researchers assume the Fed’s portfolio of assets will begin declining in 2015, and return to a normal size by early 2018 or 2019. As interest rates rise, the value of Fed assets declines, and the central bank will also pay more on excess reserves in its accounts.

The researchers looked at the results based on different interest-rate scenarios.

“With higher interest rates, earnings tend to fall a bit more and remittances to the Treasury stop for a longer period than in our baseline projections,” they wrote. “With lower interest rates earnings are a bit larger and remittances continue throughout the projection period.”

Fed Minutes

Minutes of the Fed’s Dec. 11-12 meeting showed policy makers examined how their $85 billion monthly bond purchases, designed to lower the unemployment rate and strengthen the economy, would change the outlook for the Fed’s own balance sheet.

The minutes said remittances to Treasury “could be significantly affected,” and the paper provides new details to that analysis, with charts showing how interest income, expenses and capital losses could change.

The paper was written by Seth Carpenter, Jane Ihrig, Elizabeth Klee, Daniel Quinn and Alexander Boote. Carpenter is the senior associate director of the Fed’s Division of Monetary Affairs, according to the Fed’s website.

The central bank has expanded its holdings by purchasing $2.3 trillion in Treasury debt, mortgage-backed securities and housing-agency debt to push down longer-term interest rates after cutting the benchmark rate to near zero four years ago.

Earnings from each reserve bank are given to the Treasury after the Fed covers its operating costs and dividend payments.

To contact the reporter on this story: Joshua Zumbrun in Washington at jzumbrun@bloomberg.net

To contact the editor responsible for this story: Chris Wellisz at cwellisz@bloomberg.net

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