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I'm reading Joseph Wang's Central Banking 101 and there are two statements which seem to be contradictory to me, and I'm guessing there's an element of misunderstanding on my part which I'm looking to clear up.

These are two quotes from the book:

Statement 1 (Chapter 1 - Common Questions)

As discussed, central bank reserves can only be held by commercial banks and can never leave the Fed's balance sheet. The level of reserves held by banks is determined by the Fed's actions.

Statement 2 (Chapter 1 - Fiat Currency)

Commercial banks that need more [fiat currency] can convert their central bank reserves into currency by calling the Fed. The Fed stands ready to send armored vehicles loaded with currency to meet commercial bank needs.

My confusion

According to statement 1, reserves can never leave the Fed's balance sheet, meaning that during a period of quantitative easing the size of its balance sheet will continually grow until the Fed decides to taper its balance sheet.

However, by statement 2 commercial banks are able to convert their reserves into fiat currency, which get physically delivered to the commercial bank by the Fed. This means that the Fed's balance sheet is reduced by amount of fiat that the commercial bank decides to take out of its reserve holdings, but according to statement 1 the Fed is the only party in control of the size of its balance sheet.

Where is my misunderstanding?

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    $\begingroup$ Currency is also a liability of the Fed on its balance sheet $\endgroup$
    – dm63
    Jul 25, 2021 at 13:01
  • $\begingroup$ @dm63 Do you want to put this as an answer (as short as it may be) so that I can accept it? $\endgroup$
    – quanty
    Aug 12, 2021 at 13:50

1 Answer 1

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As requested: Currency is also a liability of the Fed on its balance sheet. Thx

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