Crashed: How a Decade of Financial Crises Changed the World

by Adam Tooze

but the entire global dollar system. Furthermore, the Fed had not just expanded its balance sheet, it had changed its composition. Buying up long-term securities in exchange for cash reserves, the Fed had absorbed onto its books the maturity mismatch that had undone the shadow banking system. After successive phases of QE, it was the Fed that held long-term securities that were matched against short-term liabilities such as cash and deposits by American and European banks. Despite some nail biting by inflation hawks, this posed no immediate stability risk. The banks were happy to hold their cash reserves with the Fed. If interest rates went up, the Fed, as one of the largest holders of bonds, would suffer a capital loss. But this was more than made up for by the $350 billion in profits that the Fed paid to the Treasury between 2008 and 2013.1 The real question was the likely fallout in the financial markets and money markets when the Fed changed its stance. Any move to moderate the Fed’s bond purchases, let alone to unwind its position, implied a comprehensive adjustment in the willingness of the markets to absorb not only a greater volume of bonds but also some of the maturity mismatch that the Fed was carrying. And that would have to happen at the same time as short-term interest rates were nudging up. If, on the other hand, the Fed continued QE3, its balance sheet would further inflate, bond prices would remain elevated, interest rates would remain stuck near zero and i...