Fed's Logan eyes more gradual rate cuts amid more balance sheet cuts

By Michael S. Derby

NEW YORK (Reuters) - Federal Reserve Bank of Dallas President Lorie Logan said Monday she sees more rate cuts ahead for the central bank and suggested she sees no reasons why the Fed can't also press forward with shrinking its balance sheet.

"If the economy evolves as I currently expect, a strategy of gradually lowering the policy rate toward a more normal or neutral level can help manage the risks and achieve our goals," Logan said in the text of a speech to be delivered before the Securities Industry and Financial Markets Association annual meeting in New York.

"The economy is strong and stable," Logan said, but, "meaningful uncertainties remain in the outlook" around rising risks for the labor market and ongoing risks to the Fed's inflation objectives. The Fed "will need to remain nimble and willing to adjust if appropriate," she said.

Logan spoke as market participants are currently debating whether the Fed will be able to deliver the half percentage point worth of rate cuts into year-end it penciled in at its September policy meeting. While inflation has been retreating, recent jobs data has suggested a stronger-than-expected labor sector, which to some suggests the Fed may not need to be as aggressive with cutting rates.

Logan devoted much of her remarks to the Fed's ongoing balance sheet drawdown process known as quantitative tightening, or QT. Since 2022 the Fed has been shedding mortgage and Treasury bonds it purchased to provide stimulus and to smooth markets during the onset of the pandemic. It has reduced holdings from a peak of $9 trillion to the current $7.1 trillion mark and Fed officials have suggested this process has room to run further.

Logan indicated she doesn't see any need to stop soon and noted QT and rate cuts both represent a normalization of monetary policy and are currently working in the same direction.

"At present, liquidity appears to be more than ample," Logan said, noting "one sign liquidity remains in abundant supply, and not merely ample, is that money market rates continue to generally run well below" the Fed's interest on reserve balances rate.

Logan said recent volatility in money markets isn't surprising and shouldn't vex the Fed, noting "I think it's important to tolerate normal, modest, temporary pressures of this type so we can get to an efficient balance sheet size."

Logan said that longer run she expects there will be only negligible balances in the Fed's reverse repo facility. If some money is still in the facility in the future, she added, "reducing the (reverse repo) interest rate could incentivize participants to return funds to private markets."

Logan said longer run it's likely money market rates should be close to or just above the interest on reserve balances rates. She also said the Fed selling mortgage bonds it owns to move them off the balance sheet faster is "not a near-term issue in my view."

Logan also reiterated "all banks" should have plans to meet liquidity shortfalls and be ready to use the Fed's Discount Window liquidity facility if needed.

(Reporting by Michael S. Derby; Editing by Chizu Nomiyama)