I've read the following Wiki page:
http://en.wikipedia.org/wiki/Excess_reserves
And I didn't understand the following statement:
"Although research by Fed found that it is interest paid on reserves that helps to guard agains inflationary pressures.[2] Under a traditional operating framework, in which central bank controls interest rates by changing the level of reserves and pays no interest on excess reserves, it would need to remove almost all of these excess reverves to raise market interest rates. Now when central bank pays interest on excess reserves the link between the level of reserves and willingness of commercial banks to lend is broken.[2] It allows central bank to raise market interest rates simply by raising interest rate it pays on reserves without changing the quantity of reserves thus reducing lending growth and curbing economic activity."
I'd appreciate to hear an explanation.
Thank you!
It's a lot of overly-complicated double-talk from a Fed with conflicting directives, ones that go beyond its putative so-called "dual mandate" from Congress, which is anything but "dual": (actual mandates in bold)
"The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall:
1)
maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to
2)
promote effectively the goals ofa) maximum employment,
b) stable prices and
c) moderate long-term interest rates."
The quotes you cited are from a report from the New York Fed entitled "
Why Are Banks Holding So Many Excess Reserves?" - which was released in response to criticisms that commercial banks are hoarding excess reserves intended to inject liquidity into economy -
not just the banks.
Most of that report a dodgy, evasive double-talk that says everything while saying nothing.
From that document:
The buildup of reserves in the U.S. banking system during the financial crisis has fueled concerns that the Federal Reserve’s policies may have failed to stimulate the flow of credit in the economy: banks, it appears, are amassing funds rather than lending them out.
Well, fucking duh. That is clearly the charge being leveled by many, including members of Congress who want to take action that would essentially force banks to lend, by penalizing them for holding onto excess reserves. One measure proposed is a tax on excess reserves held by banks (Sumner, 2009), while another seeks to place a cap on the amount of excess reserves each bank is allowed to hold (Dasgupta 2009).
So what says the report about the charge? Note the slippery-bastard weasel language (in bold).
However, a careful examination of the balance sheet effects of central bank actions shows that the high level of reserves is simply a by-product of the Fed’s new lending facilities and asset purchase programs. The total quantity of reserves in the banking system reflects the scale of the Fed’s policy initiatives, but conveys no information about the initiatives’ effects on bank lending or on the economy more broadly.
That's nice greasy bastard-speak for
"Just because commercial banks have excess reserves doesn't prove anything. That doesn't mean banks don't want to lend."
And indeed they don't, because the Fed is, for the first time,
paying commercial banks to park excess reserves. In other words, the economy is in trouble, but the banks only are put into ICU and hooked up to the QEx injection bottles, with ADDITIONAL QE in the form of interest to assure the banks' survival.
Commercial banks depend on interest from lending for their survival, so they are more than willing to lend. They would continue to flood the market with currency if they could when interest rates are at zero, but there's no economic bubble out there to convince them of anyone's ability to service their
long term debts if they did borrow. Meanwhile the entire banking system's Ponzi scheme has put the entire system in danger of collapse. So only Google, Apple, Microsoft and other shining economic stars with AAA credit ratings end up actually borrowing (and hoarding) all that juicy cheap cash from commercial banks.
If the Fed cut back all the excess reserves available to commercial banks it would indeed raise interest rates, but only because it made reserves more scarce. But this would leave little for the many already insolvent banks to lend, and that does not help the banks. That puts us back to two primary objectives of the Fed:
1) Make banks solvent
2) Clamp down on inflation
without raising interest rates
From that document again:
1)
interest paid on reserves helps guard against inflationary pressures.
In other words, and right off the bat, the Fed pleads GUILTY to being the very cause of banks' unwillingness to lend, while simultaneously using sleight-of-hand verbal distraction that points to other causes. The Fed is providing excess reserves to the banks and then paying them interest to park them. That keeps banks solvent, while clamping down on inflation, by preventing that money from actually multiplying out into circulation as debt money that would be price inflationary, and could get quickly out of control.
In other words, the entire economy, excluding the well-healing banks and a few others, are on a deflationary austerity program. The QE injections (to the banks and major borrowing players only) are designed to make us all feel that the Fed is indeed flooding "
the economy" with money, while really trying to fulfill its mandate of price and inflation control.
2)
A central bank that controls interest rates by changing the level of reserves would need to remove almost all excess reserves to raise market interest rates.
In other words, make money available for credit more scarce, and therefore more valuable (the price of debt-currency - in the form of interest paid on loans - goes up). The problem with that: it does nothing for to rectify the insolvency of commercial banks.
3)
When the central bank pays interest on excess reserves the link between the level of reserves and willingness of commercial banks to lend is broken.
Again we have the Fed justifying
paying banks not to lend, while implying that they are doing the opposite. Note that they say
the link between the level of reserves and willingness of commercial banks to lend is broken. They don't say in which way, specifically. We're supposed to fill in the blank for ourselves,
as if the Fed has implied that paying interest to banks gives them incentive to lend, when careful reading of the rest of the document (as well as a lick of common sense) screams THE EXACT OPPOSITE.
And here's their rationale, along with another
mea culpa, from that same document:
Traditionally, bank reserves did not earn any interest. If Bank A earns no interest on the reserves it is holding...it will have an incentive to lend...[which] ...may lead to an increase in inflationary pressures.
That last piece of shit double-talk is a condensed version of its original form. The Fed is basically stating the obvious:
"If we don't pay the banks not to lend they will have an incentive to lend!" In other words,
ACTUALLY LENDING OUT EXCESS RESERVES MAY BE INFLATIONARY!
4) The central bank can raise market interest rates simply by raising interest rate it pays on reserves without changing the quantity of reserves. This reduces lending growth and curbing economic activity.
...which of course was
the intended effect all along of the "new Fed policy" of paying banks interest on excess QE reserves -- so that it wouldn't actually blow up the economy any more than it already has.
In other words, the Fed is trying desperately to save a thoroughly debauched currency, and the banks that channel them, first and foremost. It's controlled deflation, a form of Fed-imposed austerity, which might otherwise become known as a
prolonged deflationary depression.
Best thing for the currency, really, its therapy was going nowhere.
