The exit strategy that is ultimately implemented will have to take into account the size and structure of the balance sheet at that time. However, in all potential circumstances the Federal Reserve should be able to tighten financial conditions to a sufficient degree when appropriate. The ability to pay interest on reserves, in combination with the ability to drain reserves as needed, will give us sufficient control of short-term interest rates. On that front, it is worth noting that both of the Fed’s reserve draining tools  8  For example, the Desk began to sell dollar rolls to allow for smoother settlement of the Federal Reserve’s purchases. BIS Review 128/2010  5  – the reverse repurchase program and the term deposit facility – are already operational, and their capacity to drain reserves will continue to expand. In addition, the Federal Reserve could always sell assets to reduce the size of its balance sheet if it desired. Designing a purchase program If the FOMC were to move forward with an expansion of the balance sheet, it would presumably want to take into consideration the perspective gained from the asset purchases conducted from late 2008 to early 2010. The FOMC would have to decide the extent to which a new purchase program would follow the approach from the earlier round of purchases. An alternative approach would be to design a purchase program that shares more of the features of the FOMC’s adjustment of the federal funds rate in normal times.
Of course, whether the FOMC decides to take such a step will be determined by its assessment of whether the benefits of additional policy stimulus outweigh the perceived costs of expanding the balance sheet. 9  Some flexibility was incorporated into the program because the directives from the FOMC specified the amount of purchases “up to” the stated thresholds. That flexibility was used to stop the agency debt purchases at around $ billion instead of the originally stated maximum of $ billion. However, this flexibility was not used more broadly. BIS Review 128/2010  7