Federal Reserve Governor Milan's hawkish stance, coupled with the parallel implementation of balance sheet reduction and destigmatization, suggests a restructuring of the dollar's pricing mechanism.
2026-03-27 09:39:43
Federal Reserve Governor Stephen Milan spoke on Thursday (March 26), calling for the removal of the "stigma" surrounding repurchase operations and the discount window to enhance the effectiveness of these traditional liquidity tools during crises. He also elaborated on the long-term path of the Fed's balance sheet reduction, noting that the current massive asset size has distorted markets and limited future policy space.
Milan emphasized that the Federal Reserve should actively destigmatize repurchase operations and the discount window. These tools are intended to function as reliable lenders of last resort during periods of financial stress, but their actual effectiveness is significantly weakened due to negative market interpretations of their use, which discourages banks from borrowing them.
He believes that by reducing stigma, banks can be encouraged to use these liquidity support tools more proactively when needed, thereby enhancing the resilience of the entire financial system and allowing the Federal Reserve to retain more policy flexibility in the next crisis.
Milan points out that shrinking the Federal Reserve's balance sheet will be a long-term process, taking several years to complete. The magnitude and speed of this reduction will depend heavily on changes in the banking system's reserve requirements.
He explicitly stated that there is a realistic path to reducing the Federal Reserve's asset holdings by $1 trillion to $2 trillion. More aggressive market intervention could also help achieve this goal. Reducing the balance sheet would help decrease the Fed's excessive influence on financial markets and provide policymakers with more policy space in the event of future crises.
Milan stated bluntly that the Federal Reserve's massive balance sheet has distorted financial markets and created problems for the Fed itself. This distortion not only affects market price discovery mechanisms but also limits the Fed's policy flexibility in future economic cycles.
He believes that by orderly reducing its asset size, the Federal Reserve can gradually restore a more normal monetary policy transmission mechanism and prepare for the next potential crisis.
Milan's speech, by enhancing the credibility of liquidity tools, clarifying the long-term path of balance sheet reduction, and emphasizing the reduction of market distortions, conveyed the Federal Reserve's desire to strengthen the robustness of its policy framework and reserve room for the future.
For the US dollar, in the short term, this will help stabilize market expectations regarding liquidity management, and in the medium term, improve the pricing efficiency of dollar assets, providing structural support for the dollar. Investors also need to pay attention to the fundamentals of the US economy, fiscal discipline, and the credibility of the Federal Reserve's policies. During Friday's Asian trading session, the US dollar index fluctuated narrowly around 99.90.
(US Dollar Index Daily Chart, Source: FX678)
According to the latest data from CME's FedWatch Tool, the market expects a 93.8% probability that the Federal Reserve will keep interest rates unchanged at its April meeting, while the probability of a 25 basis point rate hike has fallen to 6.2%. Compared to the previous day, expectations for a rate hike have risen slightly.
For the June meeting, the probability of a cumulative rate hike of 25 basis points is 19.9%, the probability of a cumulative rate hike of 50 basis points is 1.0%, and the probability of keeping the rate unchanged is 79.2%.
Tensions in the Middle East have remained high recently, but the US says negotiations are ongoing, while Iran says it is still reviewing a 15-point ceasefire proposal. Oil price volatility has increased, and the market is adjusting its pricing of the Federal Reserve's policy path accordingly. Further developments in the situation and key economic data will need to be monitored.
In the short term, Milan's statement provided the market with a clear signal regarding the Fed's long-term asset management direction, helping to stabilize market expectations for liquidity tools. In the long term, the balance sheet reduction process will unfold gradually, but its pace and effectiveness will be highly dependent on changes in bank reserve demand and the overall economic environment.
Investors should closely monitor the Federal Reserve's subsequent adjustments to liquidity rules, the release of balance sheet data, and potential market intervention measures. Any signal of accelerated tapering could impact long-term interest rates and financial market liquidity.
At 9:38 Beijing time, the US dollar index is currently at 99.83.
Eliminating the stigma of liquidity tools
Milan emphasized that the Federal Reserve should actively destigmatize repurchase operations and the discount window. These tools are intended to function as reliable lenders of last resort during periods of financial stress, but their actual effectiveness is significantly weakened due to negative market interpretations of their use, which discourages banks from borrowing them.
He believes that by reducing stigma, banks can be encouraged to use these liquidity support tools more proactively when needed, thereby enhancing the resilience of the entire financial system and allowing the Federal Reserve to retain more policy flexibility in the next crisis.
Balance Sheet Shrinkage Path
Milan points out that shrinking the Federal Reserve's balance sheet will be a long-term process, taking several years to complete. The magnitude and speed of this reduction will depend heavily on changes in the banking system's reserve requirements.
He explicitly stated that there is a realistic path to reducing the Federal Reserve's asset holdings by $1 trillion to $2 trillion. More aggressive market intervention could also help achieve this goal. Reducing the balance sheet would help decrease the Fed's excessive influence on financial markets and provide policymakers with more policy space in the event of future crises.
The negative impact of a large balance sheet
Milan stated bluntly that the Federal Reserve's massive balance sheet has distorted financial markets and created problems for the Fed itself. This distortion not only affects market price discovery mechanisms but also limits the Fed's policy flexibility in future economic cycles.
He believes that by orderly reducing its asset size, the Federal Reserve can gradually restore a more normal monetary policy transmission mechanism and prepare for the next potential crisis.
Analysis of the impact on the US dollar
Milan's speech, by enhancing the credibility of liquidity tools, clarifying the long-term path of balance sheet reduction, and emphasizing the reduction of market distortions, conveyed the Federal Reserve's desire to strengthen the robustness of its policy framework and reserve room for the future.
For the US dollar, in the short term, this will help stabilize market expectations regarding liquidity management, and in the medium term, improve the pricing efficiency of dollar assets, providing structural support for the dollar. Investors also need to pay attention to the fundamentals of the US economy, fiscal discipline, and the credibility of the Federal Reserve's policies. During Friday's Asian trading session, the US dollar index fluctuated narrowly around 99.90.
(US Dollar Index Daily Chart, Source: FX678)
The probability of the Federal Reserve keeping interest rates unchanged in April is 93.8%, while expectations for a rate hike have risen slightly.
According to the latest data from CME's FedWatch Tool, the market expects a 93.8% probability that the Federal Reserve will keep interest rates unchanged at its April meeting, while the probability of a 25 basis point rate hike has fallen to 6.2%. Compared to the previous day, expectations for a rate hike have risen slightly.
For the June meeting, the probability of a cumulative rate hike of 25 basis points is 19.9%, the probability of a cumulative rate hike of 50 basis points is 1.0%, and the probability of keeping the rate unchanged is 79.2%.
Tensions in the Middle East have remained high recently, but the US says negotiations are ongoing, while Iran says it is still reviewing a 15-point ceasefire proposal. Oil price volatility has increased, and the market is adjusting its pricing of the Federal Reserve's policy path accordingly. Further developments in the situation and key economic data will need to be monitored.
Market Outlook and Risks
In the short term, Milan's statement provided the market with a clear signal regarding the Fed's long-term asset management direction, helping to stabilize market expectations for liquidity tools. In the long term, the balance sheet reduction process will unfold gradually, but its pace and effectiveness will be highly dependent on changes in bank reserve demand and the overall economic environment.
Investors should closely monitor the Federal Reserve's subsequent adjustments to liquidity rules, the release of balance sheet data, and potential market intervention measures. Any signal of accelerated tapering could impact long-term interest rates and financial market liquidity.
At 9:38 Beijing time, the US dollar index is currently at 99.83.
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