Macro Mechanics #4: QT → QE (Balance Sheet Cycles)
Pierce & Pierce Research | January 2026
Part of the Macro Mechanics Series
⏱️ 14-16 minutes • Beginner-friendly • No prior Fed knowledge required
Story So Far: We’ve now covered the three components that determine domestic liquidity: the TGA (government’s cash), the ON RRP (the buffer), and bank reserves (the liquidity that matters). Fed balance sheet policy—QT and QE—is the force that moves all three simultaneously.
Why This Matters
On December 1, 2025, the Federal Reserve ended quantitative tightening. For 42 months, the Fed had systematically drained liquidity from the financial system by letting bonds mature without replacement.
On December 10, 2025, the Fed announced it would begin purchasing Treasury bills at a pace of $40 billion per month.
The Pivot:
| Metric | Before Dec 2025 | After Dec 2025 | Change |
|---|---|---|---|
| Balance sheet direction | Shrinking ~$60B/month | Growing ~$40B/month | 🟢 +$100B/month swing |
| Reserve impact | Draining | Adding | 🟢 Headwind → Tailwind |
| Policy stance | Tightening | Easing (technical) | 🟢 |
But the details matter. This is not the same as the massive QE programs that followed the 2008 financial crisis or the 2020 pandemic. The Fed is buying short-term bills, not longer-dated bonds. The stated purpose is “reserve management,” not economic stimulus.
Section 1: What Is Quantitative Easing?
Quantitative easing is when the Federal Reserve creates money to buy securities from the private sector.
The QE Process:
| Step | What Happens |
|---|---|
| 1 | Fed decides to purchase Treasury bonds or MBS |
| 2 | Contacts dealers who sell securities to the Fed |
| 3 | Fed pays by crediting dealers’ bank reserve accounts |
| 4 | Dealers’ banks now have more reserves |
| 5 | Fed owns the securities |
| Result | 🟢 New money enters the banking system |
Why QE Matters—The Portfolio Rebalancing Effect:
When the Fed buys bonds from institutional investors, those investors receive cash they need to redeploy. If bond yields are low, they may reach for yield in equities, credit, or alternative assets including crypto. This portfolio rebalancing effect was a major driver of 2020-2021 risk asset rallies.
Historical QE Programmes:
| Programme | Period | Balance Sheet Addition |
|---|---|---|
| QE1 | 2008-2010 | ~$1.7 trillion |
| QE2 | 2010-2011 | ~$600 billion |
| QE3 | 2012-2014 | ~$1.6 trillion |
| COVID QE | 2020-2022 | ~$4.8 trillion |
Section 2: What Is Quantitative Tightening?
Quantitative tightening is the reverse of QE. The Fed lets securities mature without replacement and shrinks the balance sheet.
The QT Process:
| Step | What Happens |
|---|---|
| 1 | Treasury bonds or MBS that the Fed owns reach maturity |
| 2 | Treasury repays the principal to the Fed |
| 3 | Fed lets the cash disappear (doesn’t reinvest) |
| 4 | Balance sheet shrinks |
| Result | 🔴 Reserves decline, liquidity tightens |
QT Comparison:
| Cycle | Period | Duration | Drainage | How It Ended |
|---|---|---|---|---|
| QT1 | Oct 2017 - Sept 2019 | 24 months | ~$700B | 🔴 Repo crisis, emergency stop |
| QT2 | June 2022 - Nov 2025 | 42 months | ~$2.5T | 🟡 Preemptive stop on stress signals |
QT2 Pace:
| Period | Monthly Cap | Components |
|---|---|---|
| June 2022 - May 2025 | $95B | $60B Treasuries + $35B MBS |
| June 2025 - Nov 2025 | $60B | $25B Treasuries + $35B MBS |
| Dec 2025 onwards | $0 | QT ended |
Section 3: The December 2025 Pivot
Timeline of Events:
| Date | Action | Significance |
|---|---|---|
| Oct 2025 | SRF usage spiked to $50B | 🔴 Warning signal |
| Oct 30, 2025 | FOMC announces QT ending Dec 1 | Stopped drainage |
| Dec 1, 2025 | QT officially ends | 42 months of tightening complete |
| Dec 10, 2025 | Fed announces T-bill purchases ($40B/month) | Active injection begins |
| Dec 12, 2025 | First purchases | Balance sheet starts expanding |
What Changed:
| Factor | QT Period | Post-December |
|---|---|---|
| Balance sheet size | Shrinking | Growing |
| Monthly flow | -$60B | +$40B |
| Reserve impact | Draining | Adding |
| Fed stance | Passive drainage | Active management |
| Status | 🔴 Headwind | 🟢 Tailwind |
The Trigger:
The Fed acted on warning signs, not a crisis.
| Indicator | September 2019 | October 2025 |
|---|---|---|
| Repo rates | Spiked to 10% | Elevated but contained |
| SRF usage | N/A (didn’t exist) | $50B spike |
| Fed response | Emergency intervention | Preemptive policy shift |
| Outcome | 🔴 Market broke | 🟡 Stress contained |
Section 4: Reserve Management vs. QE
The Fed has been emphatic that its new T-bill purchases are not QE. The distinction matters.
Three Key Differences:
| Factor | QE | Reserve Management Purchases |
|---|---|---|
| Duration | Long-dated (10-30 year bonds) | Short-dated (T-bills, <1 year) |
| Intent | Economic stimulus | Technical reserve maintenance |
| Scale | $80-120B/month | $40B/month |
Detailed Comparison:
| Aspect | Pandemic QE (2020-2022) | Current Purchases |
|---|---|---|
| Monthly pace | ~$120B at peak | ~$40B |
| Securities type | Treasuries + MBS across curve | T-bills only |
| Stated purpose | Stimulate economy, support markets | Maintain ample reserves |
| Effect on mortgage rates | 🟢 Directly lowered | 🟡 Minimal |
| Effect on reserves | 🟢 Massive expansion | 🟢 Modest expansion |
What This Means:
| Aspect | Assessment |
|---|---|
| Reserve injection | 🟢 Yes, supports liquidity |
| Long-term rate suppression | 🔴 No, not like QE |
| Economic stimulus | 🟡 Limited, technical purpose |
| Risk asset support | 🟢 Yes, but less powerful than QE |
For crypto and risk assets, the reserve injection is what matters most. Whether the Fed calls it QE or reserve management, dollars flowing into the banking system create liquidity that can eventually find its way to riskier assets.
But temper expectations. This is not the moonshot liquidity that drove the 2020-2021 rally. It is maintenance-level support.
Section 5: Historical Balance Sheet Cycles
Fed Balance Sheet History:
| Era | Period | Balance Sheet | What Happened |
|---|---|---|---|
| Pre-crisis | Before 2008 | <$1T | Traditional monetary policy |
| QE Era | 2008-2014 | $1T → $4.5T | Financial crisis response |
| Normalization | 2015-2019 | $4.5T → $3.8T | Rate hikes + QT1 |
| COVID QE | 2020-2022 | $4.2T → $9.0T | Pandemic response |
| QT2 | 2022-2025 | $9.0T → $6.5T | Inflation fighting |
| Current | Dec 2025+ | $6.5T → ? | Reserve management |
QT Cycle Comparison:
| Factor | QT1 (2017-2019) | QT2 (2022-2025) |
|---|---|---|
| Starting balance sheet | $4.5T | $9.0T |
| Ending balance sheet | $3.8T | $6.5T |
| Duration | 24 months | 42 months |
| Total drained | ~$700B | ~$2.5T |
| How it ended | 🔴 Repo crisis | 🟡 Preemptive stop |
| Lesson learned | Don’t wait for markets to break | Act on warning signs |
Balance Sheet as % of GDP:
| Date | Balance Sheet | % of GDP |
|---|---|---|
| 2007 | ~$900B | ~6% |
| 2014 (QE peak) | ~$4.5T | ~25% |
| 2019 (QT1 end) | ~$3.8T | ~18% |
| 2022 (COVID peak) | ~$9.0T | ~36% |
| Dec 2025 | ~$6.5T | ~24%* |
*Based on estimated 2025 GDP of ~$27T (annualized)
Section 6: Where We Are Now
Current Balance Sheet (January 2026):
| Component | Level | Change from Peak |
|---|---|---|
| Total Assets | $6.64 trillion | -26% from April 2022 |
| Treasury Securities | $4.25 trillion | -$1.5T from peak |
| MBS | $2.03 trillion | -$0.7T from peak |
| T-Bills | $235 billion | 🟢 Growing with purchases |
December 2025 was notable: The balance sheet grew by approximately $105 billion in December—the largest single-month expansion since QE ended. Fed T-bill purchases are working.
Composition Shift:
| Component | Direction | What It Means |
|---|---|---|
| MBS | ↓ Continuing to roll off | Mortgage payoffs reduce holdings |
| T-bills | ↑ Growing | Fed purchasing short-term |
| Net effect | Shorter duration portfolio | More flexibility for future policy |
Monthly Flow Projection:
| Factor | Monthly Impact | Direction |
|---|---|---|
| T-bill purchases | +$40B | 🟢 Expanding |
| MBS runoff | -$15-20B | 🔴 Contracting |
| Net effect | +$20-25B | 🟢 Slight expansion |
Reserve Trajectory:
| Month | Projected Reserves | Status |
|---|---|---|
| Jan 2026 | ~$2.88T (current) | 🔴 Below floor |
| Mar 2026 | ~$2.96-3.00T | 🟡 Approaching floor |
| Jun 2026 | ~$3.08-3.12T | 🟢 Rebuilding buffer |
| Dec 2026 | ~$3.25-3.35T | 🟢 Well above floor |
Note: Projections isolate Fed operations and assume TGA neutrality. Actual trajectory will reflect TGA movements and other factors.
Section 7: Thesis Connection
The Fed’s balance sheet pivot provides crucial context for the Pierce & Pierce liquidity thesis.
From Headwind to Tailwind:
| Period | Balance Sheet Flow | Effect on Liquidity |
|---|---|---|
| June 2022 - Nov 2025 | -$60B/month | 🔴 42-month headwind |
| Dec 2025 onwards | +$40B/month | 🟢 New tailwind |
| Swing | $100B/month | Significant shift |
Combined Liquidity Channels:
| Channel | Monthly Flow | Status |
|---|---|---|
| Fed T-bill purchases | +$40B | 🟢 Ongoing |
| TGA drawdown (variable) | +$40B | 🟢 Ongoing |
| MBS runoff | -$15B | 🔴 Continuing |
| ON RRP release | ~$0 | 🔴 Exhausted |
| Net injection | ~$65B | 🟢 Multiple channels positive |
Important Distinctions:
| Factor | Past Liquidity Rallies | Current Setup |
|---|---|---|
| Fed intent | Economic stimulus | Technical plumbing |
| Purchase type | Long-dated bonds | Short-dated bills |
| Pace | $120B/month | $40B/month |
| Yield impact | Lowered long-term rates | Minimal |
| Status | 🟢 Explosive | 🟡 Supportive |
⚠️ Transmission Caveats:
| Factor | Risk |
|---|---|
| Bank deployment | Reserves may be hoarded, not deployed |
| Regulatory constraints | LCR, NSFR trap some reserves |
| Credit demand | Must exist for reserves to stimulate |
| Risk appetite | Macro concerns can override liquidity support |
| Fed commitment | Purchases could slow if conditions change |
The balance sheet shift provides structural support for liquidity conditions. It does not guarantee asset price appreciation.
What Would Change the Trajectory:
| Risk | Likelihood | Potential Impact |
|---|---|---|
| Inflation resurgence | Medium-High* | Could halt purchases |
| Financial stability event | Low | Could accelerate purchases |
| Political pressure | Low-Medium | Uncertain direction |
| TGA dynamics | Medium | Could require adjustment |
*The December 2025 FOMC revised core PCE projections higher and signaled fewer cuts expected in 2026, indicating heightened inflation sensitivity.
Section 8: What To Watch
Primary Data Sources:
| Source | What It Shows | Frequency |
|---|---|---|
| FRED: WALCL | Total Fed balance sheet | Weekly (Thursdays) |
| FRED: TREAST | Treasury holdings | Weekly |
| FRED: WSHOMCB | MBS holdings | Weekly |
| NY Fed SOMA Holdings | Detailed breakdown | Weekly |
Balance Sheet Interpretation:
| Level | Status | Interpretation |
|---|---|---|
| >$6.6T | 🟢 | Growing, supportive |
| $6.4-6.6T | 🟡 | Stable, neutral |
| <$6.4T | 🔴 | Shrinking, headwind (should not occur) |
Growth Rate Calculation:
Monthly BS Change = Current WALCL - WALCL 4 weeks ago
| Result | Status | Interpretation |
|---|---|---|
| Positive | 🟢 | Balance sheet expanding |
| Near zero | 🟡 | Maintenance mode |
| Negative | 🔴 | Unexpected drainage |
Quick Reference
| Item | Detail |
|---|---|
| The Mechanic | QE expands balance sheet by purchasing securities, creating reserves. QT shrinks it by letting securities mature, draining reserves. |
| The Nuance | Reserve management purchases are different from QE. They target bills not bonds, aim for technical reserve levels not stimulus, operate at fraction of QE’s scale. |
| QT2 Stats | June 2022 to November 2025. 42 months. ~$2.5 trillion drained. |
| Current Status | Balance sheet at $6.54 trillion. QT ended Dec 1. T-bill purchases began Dec 12 at $40B/month. |
| Trajectory | 🟢 Slight expansion (~$20-25B/month net) targeting reserve maintenance |
| Transmission | Reserve injections support liquidity but do not guarantee asset price gains |
| Monitor | FRED series WALCL (weekly), TREAST (Treasury holdings), NY Fed SOMA data |
What’s Next
Brief #5: Global M2 & The Liquidity Lag
Why Bitcoin correlates with money supply, why global M2 matters more than US M2 alone, and why the lag typically runs 70-90 days.
Sources:
Federal Reserve Economic Data (FRED) | FOMC Meeting Statements and Minutes | NY Fed Open Market Operations | Federal Reserve Balance Sheet Reports | Fed Staff Working Papers on QE Transmission | Brookings Institution Monetary Policy Analysis
Methodology Note:
Balance sheet data from FRED series WALCL, TREAST, and WSHOMCB through December 2025. Historical QE/QT analysis from Fed research publications. December 2025 policy details from FOMC statements and NY Fed operating policy announcements. All figures represent publicly available data from official sources.
This publication is for educational purposes only. Not financial advice. Cryptocurrency investments carry substantial risk of complete loss.
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