So let me get this straight…

There is $800 billion in excess reserves sitting in the banks. (I’d imagine that these are heavily concentrated in the few largest banks.)

Now the banks can either earn 25 basis points a year parking these reserves at the fed, or they can earn 500 basis points or more lending to the private market.

What’s more, with a 10% reserve ratio, the banks can “multiply” these reserves to $8 trillion by lending in the private market.

So the choice is between earning $250 million a year ($800 billion times 0.25%) or earning $50 billion ($8 trillion times 5%).

Is there anything to suggest that banks are going to leave a potential $49.75 billion dollars on the table?

This explanation – specifically Fed pumping lagging loan creation – is very similar to the “endogenous money creation” theory of Steve Keen, a post-Keynesian.

Although Keen tries to use this to disprove the money multiplier, he does so by assuming that the Fed will always provide funds to meet reserve requirements rather than penalizing the bank. This of course means that money supply can be expanded indefinitely without regard to reserve levels – so the multiplier does not limit the money created through FRB.

http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/

I’m a bit unclear on the mechanisms Shostak describes regarding “real savings”. For example – “It is real savings that imposes restrictions on banks’ ability to lend.” Does this imply a lack of demand for new loans?

So, the Maestro now predicts that money creation will cause double digit price inflation…. I’m Shocked!

BB – I think you are right, all the money creation they do will have little effect if all they do is squirrel it away in vaults. But I’m not sure this is all the story nor will this continue forever. When this money begins to get lent out, something’s gotta happen.

USA – I think they are afraid to lend it out now because they’ve gone back (somewhat) to the old standards – i.e. when they lend, they actually care if the borrower pays it back – and there’s so few credit worthy borrowers around today. The problem was that they were lending too freely because they knew they were going to simply transfer the loan to the freddies – i.e. all they really cared about was getting the loan initiation fees and dumping the loan off on someone else. I’m not sure, but I doubt they can do this so easily right now.

Can someone explain to me why excess reserves are not considered to be part of the money supply, as Shostak states here and in his description of the True Money Supply? a “dual claim” to deposited cash is created at the moment it is deposited, whereby the depositor has a claim to withdraw it on demand and the bank has a claim to lend it or otherwise spend it at will. This dual claim exists until the cash is withdrawn.

All money is always and everywhere being held in storage by someone. Some of the “money supply” is physical paper cash, and much of it is duplicate (or triplicate, or quadruplicate…) claims to that physical cash. Why should the legal claims to stored money by banks, which are defined as excess reserves, be excluded from this definition?

I found the above article most interesting. For some time I have been trying to figure out what the Fed hopes to accomplish by creating excess reserves and then borrowing them back from the banks.

If I understand the article correctly the Fed creates money and uses it to buy Treasury Bonds from banks. Then, the Fed borrows it back at low interest. If the banks don’t need the money for commercial loans, how has this helped the banks or saved anyone from anything?

The Fed then buys more Treasury Bonds with the money it created and borrowed back. If it buys the bonds from government, government will spend the new money. If the Fed buys from privates sources, those privates sources have more money to spend. Thus, it seems that the money supply has already increased one way or another.

If the banks recall their reserves from the Fed, it will have to either sell some of its bonds to private interest, get government to repay some of its bonds (good luck on that one), or issue more new money creating another shot of inflation.

Thus, it seems that the Fed. has lost all control over the excess reserves it has created, other than the selling of Treasury Bonds. It already had the power (and the will) to do this. It seems that all this new scheme does is allow the Fed. to collect interest by borrowing low and lending high. How important can this be to the Fed that can create and lend all the new money it wants to? How is what the Fed has done any different from it having simply used the new money to buy T Bonds directly from non banks? What was accomplished by adding the banks to the loop? The Fed’s new power seems like and illusion.

One more question, why are the banks selling treasury bonds to create excess reserves and replacing them with loans to the Fed that presumably
pay a much lower rate of interest? Something is going on here that I haven’t figured out. I smell the heavy hand of government up to no good.

BB wrote:“It won’t be inflationary because the money isn’t going into general circulation in exchange for nothing, it’s going into bank vaults where it’s swallowed up and vanishes. That can go on till the end of time and it won’t cause inflation. “

The new money pumped by the Fed is deposited in the bank accounts of the recipients, thus increasing the money in the ‘general circulation’, while, in the same time, increasing the banks reserves by the same amount.

This new money doesn’t vanish, on the contrary, it is very present in the banks reserves and in the ‘general circulation’.