Alan Blinder endorses negative rates on reserves
Here is Blinder:
– Interest on reserves. In October 2008, the Fed acquired the power to pay interest on the balances that banks hold on reserve at the Fed. It has been using that power ever since, with the interest rate on reserves now at 25 basis points. Puny, yes, but not compared to the yields on Treasury bills, federal funds, or checking accounts. And at that puny interest rate, banks are voluntarily holding about $1 trillion of excess reserves.
So the third easing option is to cut the interest rate on reserves in order to induce bankers to disgorge some of them. Unfortunately, going from 25 basis points to zero is not much. But why stop there? How about minus 25 basis points? That may sound crazy, but central bank balances can pay negative rates of interest. It’s happened.
Charging 25 basis points for storage should get banks sending money elsewhere. The question is where. If they just move money from their accounts at the Fed to the federal funds market, the funds rate will fall — but it can’t fall far. After all, it has averaged only 16 basis points since December 2008. If banks move the money into Treasury bills instead, the T-bill rate will fall. But even if it drops all the way to zero, that’s not a big change from its 12-month average of 11 basis points (for three-month bills). So charging 25 basis points is no panacea.
But suppose some fraction of the $1 trillion in excess reserves was to find its way into lending. Even if it’s only 10%, that would boost bank lending by 3%-4%. Better than nothing.
That’s what I keep saying—better than nothing. Right now the Fed is giving us nothing.
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26. August 2010 at 15:45
1. Don’t you have to do something to prevent banks from simply ordering currency from the Fed to hold for their own inventories, paying for it with reserves?
I.e. wouldn’t it require a new Fed rule limiting in some way currency inventories held by banks?
2. If you favor charging interest on reserves, why are you also not recommending lowering the Fed funds target (range)? E.g. (-25,0). Is it out of general disgust with that tool of monetary policy, or for some other reason?
(The fact that there is a technical glitch in the funds trading rates due to GSE non interest bearing/paying balances is a small matter in my view).
26. August 2010 at 15:56
Won’t the banks just buy US treasury notes/bonds?
26. August 2010 at 16:07
What dangers in the form of perverse incentives, if any, would result from negative rates on reserves?
26. August 2010 at 16:25
Could the remedy possibly be on the other side? Perhaps the banks holding the reserves have no interest (no pun intended) in loaning the funds when the Fed Funds rate is below the rate of interest paid on the reserves. Perhaps just raising the Fed Funds rate would accomplish what you want.
Also, do you see any dangers in negative interest rates in terms of underwriting especially if the deposits are FDIC insured?
I guess the difference is providing an incentive to loan or a penalty for not loaning.
Thanks,
Thanks
26. August 2010 at 16:27
“But suppose some fraction of the $1 trillion in excess reserves was to find its way into lending.”
Ah yes, the $100B in lending that banks view as a bad loan to make, that’s healthy.
Instead, let’s LISTEN TO MORGAN, like the bankers themselves are starting to:
http://www.calculatedriskblog.com/2010/08/are-lenders-procrastinating-on.html
Scott, for a second let’s really accept the MONEY ILLUSION is true. What matters is the hard assets, and more importantly what matters is how these hard assets are perceived by their owner.
The current model is that House A, in foreclosure is viewed as an ILLUSION by its owner the bank as $400K on its balance sheet.
It’s of course having a hard time with this illusion, because no one else accepts that it is worth $400K.
Now look at my model:
Let’s say there’s a guy, he’s a Republican, one who can’t yet afford to join the local country club, he owns three dry cleaners running just over break even right now, he’s pretty certain that he could go for two new satellite drop off store fronts, but he’s been in a holding pattern, Obama’s freaking him out, he doesn’t know which way the economy is going to go.
In my model, the guy just acquired that HARD ASSET for $80K (20% of last sale price), he had to put down $32K (40% of the loan).
He was willing to do it even though rates were raised 2% the week before, because sure as shit, the new interest rates was priced into his bid. And one of the remaining banks – they were DESPERATE to make the loan, after all – that house is a great deal.
Needless to say HE IS ECSTATIC. Amazing isn’t it? The asset is exactly the same, the money is still an illusion, but now the guy with capital looks at his balance sheet and think’s he just got the best deal of his life, he’s certain he can rent this thing out and year on year make 15% on a 15 year loan.
He’s in a totally different mood and not just because he’s got a great balance sheet, but because he feels like FINALLY is gong to bend over and let the BIG DOGS run – and he is a big dog, one of the big ones anyway in his town of 150K people.
And there are millions of big dogs ready to go.
He’s in a hiring mood. They’re all in hiring moods. It is morning in America.
Let go of your illusion Scott, lets let the right guy own the hard asset.
26. August 2010 at 16:30
I thought the banks had the right to ask for physical withdrawal – that is – armored-truck delivery in actual cash currency.
Now, maybe the cost of receiving and securing (vaulting, guarding, insuring etc…) such a large quantity of cash is above 0.25%, not to mention the loss convenience of electronic funds, but then again, maybe not. Maybe they build a giant mattress and stuff like there’s no tomorrow.
Or maybe they don’t add to credit at all. Maybe they start viewing the low-risk, well-collateralized, good-credit-base as a kind of limited or shrinking pie, and try to use their hot-potato money to outbid their rivals.
“Got yourself an old 6% mortgage from Bank of America, do ya? How’d you like to replace it with a nice, new 4% Mortgage from JPMorgan, with no points and no fees?”
For the next step in the game, to protect themselves against such loan-refinance vulturing, banks would have to spontaneously offer these free refinancings to their own customers. Oh snap, it’s already here.
26. August 2010 at 16:54
http://www.americanbanker.com/issues/175_165/foreclosures-modifications-california-1024663-1.html
26. August 2010 at 17:06
ROFL! Oh, I can’t believe this: I had just posted on my blog to criticize that very passage, and you go on again to defy caricature and actually agree with it!
Do I understand you right, scott_sumner? That it’s “better than nothing” to get banks to make $400 billion in new loans just because their arms are being twisted? That it’s a good thing to base a financial intermediary system on, “we make loans to keep the money from shriveling up”?
You think that loans made under these circumstances represent an actual reorganization of the economy along sustainable lines, rather than desperate attempts to go in the politically-favored direction?
Just so we’re on the same page, do you see bank loans as a means or an end in themselves?
26. August 2010 at 17:14
This is an interesting idea. When I lived in Suisse many years ago, they had a negative interest rate on savings accounts. It was the price of a Suisse bank account and privacy. Maybe the Fed should charge the same for implicit guarantee.
26. August 2010 at 17:17
Why wouldn’t Blinder have included on his list the possibility of the Fed to commit to a higher and explicit inflation target?
26. August 2010 at 17:26
JKH, You let banks hold x amount of vault cash interest free (make it so most banks would not want any more) and then put the negative interest rate on excess vault cash above that level.
I’m fine with a zero ffr. W/O IOR, the rate would fall to zero anyway, wouldn’t it?
W. Peden Market rates would not go negative, they’d go to zero. The negative rate would be on excess reserves in my proposal, but that means banks would choose not to hold ERs. So banks wouldn’t actually pay significant interest to the Fed.
Morgan, Let me pump up NGDP with easier money, and then we let all assets find their true value. We pull away all the government supports. That’s the way to get a clean recovery.
Indy, Vault cash is part of reserves, the Fed can charge negative interest on that as well. See my answer to JKH.
Silas, If banks don’t have any good options for loans, they’ll just loan the money to the federal government (T-bonds.)
26. August 2010 at 17:38
@scott_sumner: If we pull away all the government supports, then interest rates go back up from their new historic lows, which wipes out most of the value of the loans you’ve just arm-twisted them into making. Then we get insolvent banks and yet another re-calculation. So the Fed gets to buy toxic assets at par again? Where does it end?
26. August 2010 at 17:40
“I’m fine with a zero ffr. W/O IOR, the rate would fall to zero anyway, wouldn’t it?”
Right.
I’m thinking more of the case of charging interest on reserves. Why not change the fed funds target (range) officially to accommodate a negative fed funds rate trading range?
26. August 2010 at 17:44
As I said months ago the result would only be more debt (= more lending)
Negative interest should be charged on every money deposit and not only on bank reserves (yes, you should take banknotes and coins out of circulation for this to work = politicaly difficult if not impossible).
I hope the situation doesn’t worsen to the point you need to take currency demurrage seriously (did you know that the BOJ wondered about it ?)
26. August 2010 at 18:50
Scott, I’m REALLY wondering…
Do you not believe there are a couple million local big fish in small ponds that will whip out their checkbooks if they can by a house for 20% from last sales price?
If you accept that they are out there….
How could each of these guys each buying a couple super cheap houses and becoming landlords, with fattened up balance sheets NOT PRODUCE A BIG SPIKE in the economy.
Let’s say they buy 6M homes * $60K per house – we’re talking about $360B in activity (just to start)… and that’s ONLY $144B of their money down.
But to them they just put EASILY $700B+ on their balance sheet, and the banks lose $1T from theirs.
You REALLY think this is far fetched?
THEN, if that doesn’t kick start it, you can pump money – and the Tea Party / Republicans will LOVE IT.
26. August 2010 at 22:06
Looks like I got part one of my wish, recall just a few days hence, I wrote on the freaking out thread</a/:
26. August 2010 at 22:55
JKH asks:
The IOR policy is set by the Board of Governors. The FF target is set by the FOMC. Consequently there is a clear political calculation here. Most of the inflation hawks are on the FOMC and not on the Board of Governors.
27. August 2010 at 04:10
Scott, is buying T-Bills risk free? Look at what is going on in other markets – isn’t that a trade that could be killer (in both the good and bad sense)?
Also, is that really the goal of your proposal?
27. August 2010 at 04:44
My guess is that a disprportionate amount of reserves would find their way into commodities and we’d have an immediate inflation problem with few jobs to show for it.
27. August 2010 at 08:06
Scott, do you EVER read Mish? Here he is on Binder:
“The real challenge for the Fed and President Obama is to admit neither the Fed’s policies nor Congressional policies are working, that there are no short-term cures or fixes, and that it is time to share the pain more equitably including huge concessions from public unions, a haircut by Fannie and Freddie bondholders, and a reduction in unsustainable spending, especially military spending.”
http://globaleconomicanalysis.blogspot.com/2010/08/former-fed-vice-chairman-vs-mish-is-fed.html
I’m asking because there are lot of really talented guys like Mish who do a far more credible job day-in, day-out than your band of navel gazers.
Why don’t you ever go long really debating someone who’s real?
27. August 2010 at 08:24
Jon,
I appreciate that.
I’m asking the question in the sense of what the right recommendation is in principle, rather than what is politically feasible.
It’s a big academic in that I understand that Scott is less enthusiastic about the idea of negative interest on reserves than earlier on.
Nevertheless I’m interested in his view on what a consistent and correct relationship would be between recommended interest on reserves and recommended fed funds targets, in the context of a hypothetical negative interest on reserve environment. At the same time, I wonder why he didn’t push for negative fed funds along with negative interest on reserves a year ago.
27. August 2010 at 10:27
Scott Sumner,
Thanks, that makes more sense than what I thought was being proposed.
27. August 2010 at 12:13
Michael, Yes I recall. But this would be on reserves, not bank accounts.
JTapp, He said today he is opposed.
Silas, Actually low rates hurt banks in a way. Banks made lots of money in 2006, and much less in 2009 when rates fell. (I think, I haven’t checked the data. Certainly stock prices fell between 2006 and 09.)) The problem with low rates is that they are associated with high default rates.
JKH, That might work, but I’m not sure. I assumed that at a negative rate, banks would hold almost no ERs, preferring T-bills which have rates that are supported by the alternative of cash held by the public. But since the fed funds market is reserves, you might be right. I can see how Bernanke is worried about the fed funds market drying up.
cucaracha, It will never reach that level. Bernanke doesn’t want to even have a 4% inflation target–says that’s too radical. There are many things they could and would do before currency is pulled out.
Jon, Very prophetic.
Jon, Good point about the IOR. But Bernanke seems unenthusiastic. Maybe a small cut is possible–to 0.1%
Cliff, I don’t follow–yes, it’s pretty risk free for banks.
mlb, Money never goes into markets. That’s a myth. Money is a medium of exchange. Commodity prices might go up, but that would be bullish for recovery. Commodity prices are very procyclical.
Morgan, you asked:
“Why don’t you ever go long really debating someone who’s real?”
Aha, I thought you were unreal. Seriously, I am not interest in his issues.
JKH, At this point I don’t see where you need a fed funds target. Remove IOR and rates fall close to zero. If they go below, that’s fine. Remove IOR and QE becomes the policy tool. That’s why I have given it less thought.
I’ve become less enthusiastic w/o really changing my views. I see it as less likely than other options, such as zero rates on interest, QE, communications strategies, etc. So I focus more on what is plausible. I also talk much less about futures targeting, but still like the idea.
27. August 2010 at 13:43
That really stumps me. I read Mish as readily as I read you.
It seems to me that when your ideas and his ideas start to move towards one another there’s a chance of action without more crisis.
Namely, if you really want to pump, and if you know it offends the senses of savers, why not figure out a politically viable solution that puts the new money into the hands of the savers – rewards them for saving? Who cares if they save half? Print twice as much. This way no one who hasn’t saved gets something for nothing.
Bribe your opposition Scott. This is politics.
28. August 2010 at 15:33
Morgan, My plan will eventually raise interest rates. Do savers like earning 0%? That’s the status quo.
28. August 2010 at 20:23
Scott writes to JKH: “JKH, At this point I don’t see where you need a fed funds target. Remove IOR and rates fall close to zero. If they go below, that’s fine. Remove IOR and QE becomes the policy tool. That’s why I have given it less thought. ”
See for instance: http://www.ny.frb.org/research/staff_reports/sr416.html
29. August 2010 at 08:32
Thanks Jon.