The ECB cut its IOR to minus 0.5%; it should have been minus 50%
The ECB should stop playing around with negative interest rates and simply put a prohibitive tax on excess reserves (something I proposed in 2009). If a small amount of excess reserves are needed to clear interbank balances, then exempt a modest amount of bank reserves from the negative 50% interest rate (aka 50% tax rate.)
It’s time to abandon interest rate targeting and move to a monetarist approach to policy. In the short run, this heavy tax would lead banks to convert deposits at the ECB to currency. To some extent, they’ve already been doing so under the minus 0.4% deposit rate:
The interest rate on the ECB deposit facility was lowered to 0% on 11 July 2012. It was then lowered by a further 0.10 percentage point on 11 June 2014, on 10 September 2014 and again on 9 December 2015. These decisions did not have a noticeable impact on the amount of cash held by MFIs (i.e. in their vaults and in cash dispensers, referred to as vault cash) until 16 March 2016, when the Governing Council decided to lower the interest rate on the ECB deposit facility to ‑0.40%. This decision represented a pivotal point for some MFIs, after which they decided to convert part of their liquidity into cash, as illustrated in Chart A. For these MFIs, the costs of cash (i.e. costs associated with cash storage and handling) were obviously less than the losses resulting from the negative yields from the ECB deposit facility and current accounts held at NCBs. An average of €50.1 billion was held as vault cash by MFIs between January 2008 and March 2016. Between March 2016 and December 2017 the amount of vault cash held by MFIs increased by €21.1 billion and reached €76.8 billion, i.e. 6.6% of the total value in circulation. The increase in vault cash was mostly driven by German MFIs (69.4% of the increase) and, to a lesser extent, by Italian, French, Austrian and Spanish MFIs. . . .
This increase in vault cash has, however, remained limited. Logistical constraints such as storage capacities or maximum amounts covered by insurance are the most likely limitations on MFIs holding larger amounts of cash.
This 21 billion euro increase in vault cash is trivial. Less than 2% of bank reserves have been converted, despite the strong incentive to do so. If banks are forced to hold almost all of their vast reserves in cash, then interest rates may fall further. But why stop there? Apply the 50% tax to excessive bank cash holdings as well as reserve deposits at the ECB. This will force the currency out into circulation. Large institutions will now hold more currency, but they also have their limits:
Big institutions and individuals are finding creative places to put their cash and avoid negative rates. Banks including UBS Group AG received some requests, even recently, from big institutional and wealthy private clients to withdraw cash from their accounts and hold it in physical notes in their vaults as a way around negative interest rates. For very big amounts, this has generally not been possible, while for smaller amounts it has been done. Money kept in cash limits the effectiveness of negative rates.
The cash will become a hot potato, and increasingly end up in the hands of many individuals and small businesses. Because interest rates on their bank accounts will be substantially negative (more than 100 basis points negative), European savers will search for alternative investments:
In Switzerland, some individuals are putting cash into real estate, prompting fears of overbuilding. “Holding cash,” said Swiss Bankers Association chief economist Martin Hess, “is simply more expensive than building an empty house.”
The hot potato effect will continue until NGDP starts rising rapidly. At that point, nominal interest rates will rise above zero and the ECB’s main problem will be holding down inflation. In the long run, my plan will give savers higher nominal returns than the current policy regime. Actually, if the ECB were truly serious about this then interest rates would rise even in the short run.
Ultimately, the ECB needs to make a decision on the “socialism or inflation” question. Which do they dislike more, higher inflation of a bloated balance sheet? I can’t answer this question for them—it’s a political decision for the Europeans to make.
PS. Completely off topic, here’s a brain teaser:
At precisely 3pm today, Monday, September 16, 2019, I will be in the second largest city in the third largest country (by area) in the world. This country also has the world’s largest GDP. Where will I be?
The hard part of this question is that there are two correct answers.
You can be in two places at the same time.
Tags:
15. September 2019 at 18:38
If it takes 50% negative interest rates to get monetary stimulus through globalized capital markets, central banks and commercial banking systems… perhaps we should at least peek at money-financed fiscal programs.
15. September 2019 at 18:55
https://heisenbergreport.com/2019/09/14/how-draghis-qe-infinity-actually-paves-the-way-for-fiscal-policy-to-take-over/
Interesting post. One could wonder if perma-QE is just MMT in drag….
15. September 2019 at 21:11
The constant fear of overbuilding everywhere is so weird. The typical home in Dallas is probably twice the size or more of a home in Manhattan. It’s not like all that extra building means that people in Dallas live in small home while half the city sits empty. They just live in larger, better homes. If low yields lead to better, larger, or more homes in Switzerland in the long run, who cares?
15. September 2019 at 22:48
Flying from Melbourne to LA gets you arriving before you depart, so I’m guessing you’re flying from Beijing to LA taking account of various territorial definitions/ claims and GDP at either nominal exchange rates or PPP.
Can you explain how converting reserves that were taxed at 0.5% pa into cash enhances the hot potato effect? I understand how positive IOER is contractionary, but once IOER becomes negative, how is it expansionary to reduce IOER (raise the tax on reserves) beyond the holding costs of cash? Or is that holding cost as high as 50% pa?
16. September 2019 at 00:10
Scott, with -50% IOR, why wouldn’t there be vault businesses which specialize in storing cash? Are you saying the free market is incapable of coming up with *any* scalable solution to a simple problem like “safely store large amounts of cash”?
I’m visualizing a private firm setting up a Fort-Knox-style fortification somewhere outside of EU jurisdiction, and allowing companies/banks to ship cash to them for safekeeping. With sufficient optimization you might get the cost down to a couple percent. And some shell companies combined with legal loopholes will prevent the banks from being penalized for this in the EU, in case you are thinking of imposing a penalty.
Of course, doing all this will incur a deadweight loss on the economy, because storing fiat currency would consume real resources. That is why everyone agrees that very-negative IOR is a bad idea. Are you just trolling here?
16. September 2019 at 01:43
Canton
16. September 2019 at 01:54
@rajat
The holding cost of cash is likely not a flat proportion of the amount of cash held. And Scott suggests, if necessary, he would be in favour of making the costs grow faster than proportional via legislation and regulations.
@benjamin
As far as I can tell Scott thinks that eg the Japanese example shows that fiscal programs ain’t a good idea. However, I think he’s all in favour of the orthodox handing over of central bank profits to the fisc.
So if banks keep holding lots of reserves despite a negative interest ‘tax’ on them, the proceeds would be paid out to the fisc.
@kevin
Yes, the fear of overbuilding is crazy. A charitable interpretation might be that part of that fear is a fear of leverage. NGDP targeting would help a bit with that, because it would stabilise nominal incomes necessary to service debt. The other side would be to put equity and debt on equal tax footing. (I think Switzerland might actually be not too bad? They have some interesting tax system for imputed rent. But you are the expert on that topic.)
The discussion in the US west coast sounds often even worse, because they often seem to imply that building fancy housing will create rich people from thin air and will never have any positive impact on affordability..
16. September 2019 at 02:35
“I will be in the second largest city in the third largest country (by area) in the world. This country also has the world’s largest GDP.”
Include territorial waters or not and US or China is third largest country.
PPP or nominal GDP China or US.
City is left as an exercise for the reader.
16. September 2019 at 05:39
I am guessing LA because you wrote your review on China and assume you are flying back to USA. Agree with Tim also.
16. September 2019 at 05:54
Re: economic policies. Sometimes I believe it really is a matter of “taste”. For example, Europe appears to like its large income sharing framework, as does Canada. The only hassles on health care is “time”. No one worries about the cost of college as it is almost free. Vacation time is virtually mandated. Everyone still has cars, WiFi, clean living conditions etc.
The USA is really similar, but mildly more free markets. But if one wants real growth, lower government spending, which is generally inefficient, particularly at the state level too. This will create more private spending and investment, which is likely more efficient.
Best practices monetary policies would not change, I assume, but the conditions in which it functions would. Monetary policy appears to be agnostic as it relates to Fiscal policy.
16. September 2019 at 07:24
You’re in LA or…Shanghai? IIRC there’s ambiguity on whether China or the USA has the larger territory, depending if you count lakes, also I take “GDP” to mean nominal, exchange rat, so I’ll go with USA and thus LA.
“It’s time to abandon interest rate targeting and move to a monetarist approach to policy.”
If CBs are going to move away from interest rate targeting (you never know), and replace it w/ a quantity of money LT, what money definition do they use? Is there a good definition? If you put me on the spot, I’d prefer targeting some index of foreign currencies, gold, maybe copper, plus your idea of more meetings and a possibility of smaller instrument increments. Targeting an index of non-ZLB assets doesn’t solve the NRFAPC problem, the way a monetary target does, but are there monetary targets that are reliably tethered to NGDP?
For some reason the lumpen-right-libertarians refuse to drop the line that “low rates hurt savers”. As though the only way to save is to keep money in a demand account or bonds. As though getting a return on savings was some iron law of the universe, rather than a potentially transient result of unprecedented productivity growth in the 19th and 20th century. Still, give the people higher nominal rates. Moderate inflation isn’t a big deal.
16. September 2019 at 07:38
Given that unemployment in the US is now near record lows, I’m puzzled as to why Scott wants a big increase in demand. A relatively small increase might be justified, but that can be done via standard fiscal measures for now. If and when the amount of money hoarded by the average household gets to Japanese levels, then perhaps we can think again. But I really don’t see what the problem is with Japanese levels of saving: unemployment in Japan is at about the same low level as in the US.
16. September 2019 at 07:43
You didn’t specify whether you meant second “largest” city by area, which would mean you’re in Juneau, Alaska. I assume you are using the word “largest” as shorthand for “most populous”, which would mean Los Angeles.
But since some say China has more area, and you say China has a larger GDP than the US, you might mean Beijing.
So I’m going to guess you flew from Beijing to LA. (Maybe with a layover in Juneau!)
16. September 2019 at 08:11
Beijing and LA.
Don’t know how one can be at two places at the same time though. Maybe a conference call or live broadcasting. But that would be too easy and probably some kind of cheating.
Or the Chinese have recreated a part of LA as a miniature in Beijing, for example Hollywood. Or you mean a part of Chinatown in LA.
Or a restaurant with a reference to LA in Beijing. Or a restaurant with a reference to Beijing in LA.
16. September 2019 at 09:31
Why do we currently need these measures? For most Germans they sound extreme, perhaps because unemployment is currently so low.
How could it come to this? Is it necessary because it took so long for the ECB to cut interest rates during the Great Recession? But people don’t understand that.
Would one need these measures if the ECB were simply credible? Isn’t it simply a credibility problem?
And how does the money get from the banks to “the many individuals and small businesses”? Through loans? Germans don’t like this, they still won’t use the money.
People also despise negative interest rates on their bank accounts. That would seriously damage the reputation of monetary policy and the reputation of neo-liberalism even more.
Why not cut taxes? Germany could easily reduce taxes, but nothing is happening. Conclusion for Scott to drive him mad: Merkel is worse than Trump by a long shot. =)
16. September 2019 at 09:43
Think about the insanity of what you’re proposing: banks are already barely profitable in the Eurozone, if the ECB implemented a 50% tax on reserves and excess cash holdings (many of which are required by law!!!), you’ll cause a collapse in their stock prices, which will likely kill demand more than anything through sheer panic, and even cause bank runs.
Just make the central bank buy government bonds through QE and then forgive a number of them, whatever number makes the Eurozone hit the 2% inflation target. Far less ridiculous way to boost inflation than what you propose.
16. September 2019 at 10:01
@Ben
I never understood why banks now allegedly make so little profit. They create money almost out of nothing, shouldn’t they be able to make more than enough profit??? It sounds like a really bad joke to me.
I also don’t really understand what interest has to do with it. Of course, interest rates are low, but so is inflation.
I don’t understand the same thing about the supposedly cheap loans that Scott once brought up. (I think it was in Denmark). Scott acted a little bit as if you were getting money for a loan. Negative interest rates, great, but hello, you still have to pay the loan. So what’s so great? The loan is the huge chunk, not the interest.
I don’t understand the banking system, but with Scott I get the impression that he doesn’t understand the banking system either. His critics will of course say that this is a weak point regarding his ideas on monetary policy.
16. September 2019 at 10:16
A flight from Beijing to Los Angeles would allow you to be in both places at 3pm on 16 September 2019.
16. September 2019 at 10:43
Ok how are we defining city? Chongqing is the biggest city on earth.
16. September 2019 at 15:27
Rajat, Correct on the puzzle.
As for the negative 50%, obviously interest rates would not fall that low. You are right that going beyond the cost of holding cash does nothing. I picked minus 50% so that no one would question that it was beyond the cost of holding cash.
Anon85, I certainly agree that companies would store cash. But because it’s costly it would accelerate the hot potato effect. As far as deadweight losses, “it takes a heap of Harberger triangles to fill an Okun’s gap.”
Tim and Michael, Yes, Beijing to LA.
Justin, I don’t want them to target the money supply, just use changes in the base to hit their NGDP or inflation target.
Ralph, I was talking about Europe, not the US.
Christian. I was in Beijing at 3pm Beijing time, and LA at 3pm LA time.
Ben, You said:
“Think about the insanity of what you’re proposing: banks are already barely profitable in the Eurozone, if the ECB implemented a 50% tax on reserves and excess cash holdings (many of which are required by law!!!), you’ll cause a collapse in their stock prices, which will likely kill demand more than anything through sheer panic, and even cause bank runs.”
I’m not proposing a tax on reserves they are required to hold. They would not in fact hold the reserves being taxed, so they would pay less tax than today.
IVV, That’s right.
Justin, Yes, but Chongqing is better thought of as a province. Perhaps 10 million of the 30 million actually live in the Chongqing metro area.
16. September 2019 at 17:29
Scott,
Just copying comments over from an earlier post.
One thing that strikes me is that in the case of the Fed, I don’t think there is even a theoretical need for negative IOR. As far as I can tell there is no legal requirement for the Fed to accept excess reserves as deposits. So no need for a negative rate, they could just control the amount of ER by limiting the amount they will accept as deposits from member banks.
That said, controlling the amount of ER is a trivial problem, a slightly more interesting question is how to keep banks (and firms and individuals from hoarding cash.)
There’s been some discussion of electronic cash with negative rates of interest, but I think it would be much simpler if the Fed just charged for excess cash withdrawals.
The Fed could target an annual net increase in cash at some rate (e.g. equal to targeted increase in NGDP plus some adjustment for expected/desired change in velocity and/or seasonal cash demands.) Then the Fed allocates the increase to member banks based on their assets (or required reserves as a proxy for assets.) Banks can make annual NET withdrawals of cash up to their allocation. Beyond that they pay a fee (e.g. 5% of the excess cash withdrawn.)
Banks would obviously intermediate amongst themselves so no fees would be paid until the banking system as whole exceeds the aggregate target rate of cash expansion. Beyond that excess aggregate withdrawals get hit with the fee.
This effectively has the same effect as a negative interest rate on cash, but has the advantages of…
1. Possibly no need for new laws or regulations.
2. No need or cost for setting up infrastructure for electronic money.
3. No loss of anonymity for cash transactions (although some might view this as a negative.)
16. September 2019 at 20:53
Scott, if you’re conceding that you need to throw real resources in the trash in order to mitigate a monetary or business cycle problem, then you might as well go with a fiscal policy solution. Just have the government borrow money and spend it, Keynesian style. At least that way the resources would be wasted on something popular, instead of on better bank vaults and security guards (not to mention the waste from the various negative effects of increased theft, which could easily cause spillovers to other crimes).
17. September 2019 at 01:35
dtoh, I’m not sure how the charge for withdrawing cash would reduce the demand for cash, as hoarding is the problem, not transactions use. The total amount of cash would be controlled by the Fed. But I need to do some more thinking about the idea.
Anon85:
“Scott, if you’re conceding that you need to throw real resources in the trash in order to mitigate a monetary or business cycle problem, then you might as well go with a fiscal policy solution.”
No, I’m not conceding this at all, I’m saying it’s better than current policy. It’s far cheaper to engage in unlimited QE than massive fiscal stimulus.
I think you also missed the point that I don’t expect large cash hoarding to last for a significant period of time; the point is to push nominal rates above zero. The announcement effect might be enough.
17. September 2019 at 04:19
OT sort of:
I recommend this article for everybody, on many levels, from the Hong Kong Economic Journal.
Think about property zoning and control of development.
17. September 2019 at 04:49
Scott,
It’s very straightforward. Just like any financial asset. Price goes up, the yield goes down. Essentially, the Fed would be selling dollar bills for $1.05 so cash has a negative yield. This raises the cost of holding cash. Makes the potato hotter to use your favorite analogy.
17. September 2019 at 09:53
How would banks, as a practical matter, get rid of all their excess reserves?
It isn’t possible to lend them out (and in any case, banks already make all of the profitable loans that they can given borrower demand and capital constraints). Banks are generally prohibited from making large equity investments but perhaps banking laws in Europe are more liberal than in the US. In Europe, bond yields are low to negative broadly speaking. The banks can’t just pay the money out as a dividend or bonus to employees because that would destroy their capital.
Seems like that policy would do little but precipitate a financial crisis.
17. September 2019 at 10:07
–“I never understood why banks now allegedly make so little profit. They create money almost out of nothing, shouldn’t they be able to make more than enough profit??? It sounds like a really bad joke to me.”–
@Christian
Banks create money but they aren’t allowed to just book that money as profit. They are only allowed to create money in the context of lending.
So the bank makes a loan. This loan must be “funded” on the balance sheet. Put more concretely, the balance sheet must remain balanced and so there needs to be either equity or some liability, like a deposit, funding it. Banks are liability heavy, so in practice most loans and other investments are primarily funded by deposits and, to a lesser extent, bonds or other borrowings.
Also, the act of lending has the effect of creating deposits (you get a $40,000 loan to buy a car, and the dealer puts $40,000 into his bank account).
So the bank issues loans, and funds them with deposits and other liabilities. Between all assets and liabilities there is a net interest margin – the spread between the interest on loans/other investments and that on deposits/bonds. Loans also generate fee income.
However, the bank needs to pay for all of its operations, and absorb all of the losses from loans that go bad.
Banks in the Eurozone are having a tough time because, I suspect, they can’t get a decent net interest margin due to how low rates are, and because negative rates are qualitatively different than positive rates, it is hard to maintain the usual net interest margins. Can’t say for sure though as I haven’t done much research.
17. September 2019 at 13:59
Justin,
your idea sounds a bit like “Vollgeld” to me. But it doesn’t work like that. The reserve requirements are only 1%. Some countries have no reserve requirements at all, so that’s not really a limiting factor. Then there’s Basel II and III, so I assume the banks need some equity capital, but not too much. The “Capital to Risk (Weighted) Assets Ratio (CRAR)” should not fall below 8%. Why 8%? Nobody knows that. But that seems to be the regulation.
You talk a lot about interest rates, but that was not my point: The banks create money, basically out of nothing, and they need only 8% equity capital. So nobody can explain to me why they do not make an extreme profit because of that. Imagine you could do that.
When I look at the salaries of their managers, I suspect the banks still earn very well. Even at Deutsche Bank, a loser bank that has allegedly been making “losses” for years, managers still earn millions each year. So either they still make a lot of profit or they are some kind of Mafia, or as so often: both.
Give me the right to create money out of nothing, with 10% equity and no reserve requirement, and I’m sure I will have a “tough time”, too. No matter how high the interest rates are.
17. September 2019 at 14:08
dtoh, Wouldn’t the interest cost of transactions balances (spent frequently) be higher than hoarding balances (spend infrequently)?
Justin, They can buy bonds.
17. September 2019 at 16:20
https://news.google.com/articles/CAIiEJzwQ5pr0hsYkpAEmr1KRvkqGQgEKhAIACoHCAowocv1CjCSptoCMPrTpgU?hl=en-US&gl=US&ceid=US%3Aen
The Federal Reserve conducts $53 billion in quantitative easing in one night?
Fascinating story regarding spikes in overnight lending rates, and the Federal Reserve pumping in $53 billion to bring down the spikes.
When is quantitative easing not quantitative easing? Answer: When you don’t call it quantitative-easing.
17. September 2019 at 16:24
http://www.ejinsight.com/20190917-why-china-is-taking-a-critical-look-at-hong-kongs-tycoons/
Amazing article on Hong Kong housing markets and Beijing.
17. September 2019 at 16:30
Scott,
I’m not sure I completely understand the question so let me try to explain it this way.
First, remember the Fed is only charging for net cash withdrawals above a targeted rate of cash growth (e.g. the same rate as the Fed’s NGDP growth target/forecast). So if cash growth is equal to or less than NGDP growth, no fees are charged.
Also, it’s important to understand that it is not a fee on cash transactions, it’s a fee on new cash issued. This is effectively the same as if cash were to carry a negative rate of interest. It’s just like T-Bills that don’t pay a specific rate of interest…. they are just issued/traded at a premium or discount to par.
So to answer your question, because it’s a negative rate of interest on cash and not a cash transaction fee, the interest cost is the same for transaction balances and hoarding balances. A negative rate of interest on cash, will cause both types of balances to decrease (or to be more specific will limit their growth to the rate of NGDP growth, i.e. no velocity decrease.)
Second, if the fee for new cash actually comes into play, the market will dictate that the banks are just as willing to pay the fee to cash hoarders as they are to pay the fee to the Fed. This will cause dishoarding (or reduce the marginal increase in hoarding.)
If we think about this in broad terms of monetary policy, the goal of an expansionary monetary policy is to cause consumers and firms to spend more money. This get stymied when the delta between the interest rate on financial assets and the cost of holding money decreases. The potato becomes less hot. The relative cost of holding money decreases and instead of spending increasing, velocity decreases.
The is easy to fix on checking balances (or bank excess reserves) which can easily carry a negative rate of interest. The “theoretical” ZLB problem arises because traditionally we have assumed that banks, individuals and firms can hold cash at no (or minimal) cost. By imposing a negative rate of interest on cash, the theoretical problem goes away.
17. September 2019 at 18:57
Draghi’s QE Triumph Hinged on ECB Colleagues From Tiny Economies
Bloomberg headline,
So, what do you do when an independent central bank suffocates and economy?
Answer: Pray.
18. September 2019 at 07:07
While I was here a few years back, I haven’t been for some time, nor have I caught myself up on your current topic, but I do have a point to make on the “hot potato” effect.
Until the Fed did the first QE and started paying, necessarily, interest on excess reserves, banks always treated their excess reserve positions (including vault cash) as “hot potatoes.” That is, they always, without fail, sought to drive them to a zero balance by the end of a reporting period. Why? Because they earned no interest, so they sold them in the fed funds market to earn a rate.
If there were too many reserves in the system for a reporting period, the rate would fall, sometimes precipitously. Banks could carry an excess forward for only one week, so two weeks of a sustained excess position in the system would see the fed funds rate plunge to near zero on Wednesday afternoon as the “hot potatoes” circulated with no hope of disappearing unless the Fed did a late drain, which it normally didn’t.
Now banks are paid interest to hold the excess and they have no need to treat them as something to get rid of. So, instead of recognizing that the QE’s were a massive mistake in monetary policy and undoing them entirely, people are now trying to dream up new ways to get excess reserves to circulate. The old way worked fine for decades to control the money supply. (How well it was controlled is another matter entirely.)
My suggestion (which will work even with the current excess position): Lock in the current excess at a specific amount and pay interest only on that amount, stepping the amount down each week until it’s gone in a few years. Also, lock each bank into carrying their current excess. That is, forbid them from selling it in the funds market. It will just step down each week as the Fed withdraws it on the above-mentioned schedule. Once that is implemented, if the Fed adds as little as $1 billion in excess reserves, those reserves will circulate like the old-time hot potato, so long as the Fed manages the fed funds rate to a positive level, say 3% or so. They can do this by simply withdrawing reserves at 2.75% and adding them at 3.25% as they used to do. The markets will quickly fall into line and trade any excess within those limits, until the Fed makes its next policy change.
With the current excess position neutralized, the Fed will find that it again has available the traditional monetary tool that it abandoned with the imposition of Quantitative Easing. A small addition or withdrawal of excess reserves will drive the money supply dependably in the direction and to the level the Fed desires.
Following this, another recommendation would be to clean up the definition of transaction money, delineating a clear separation between savings balances and checking balances. That separation should be created by making savings balances available only after a wait of two or three days. Then put a relatively high reserve requirement on transaction balances and a low one on savings. The Fed would soon find that reserve growth was again driving money growth and doing so reliably.
18. September 2019 at 07:40
But money is not too tight! =)
Interesting 6 min read by Reuters on what happened Monday and Tuesday.
https://www.reuters.com/article/us-usa-fed-repo-tools-explainer/explainer-the-fed-has-a-repo-problem-whats-that-idUSKBN1W30EJ
18. September 2019 at 09:57
dtoh, You said:
“Also, it’s important to understand that it is not a fee on cash transactions, it’s a fee on new cash issued. This is effectively the same as if cash were to carry a negative rate of interest.”
This is what I don’t understand. And the T-bill analogy doesn’t help, because the price of T-bills rises as you get closer to maturity. Once cash has been inserted, and the fee paid, how does this discourage hoarding?
But I do agree with your broader point that liquidity traps are easy to cure.
Rodney, I also favor going back to the pre-2008 system.
18. September 2019 at 10:52
Interesting that Bullard wanted a larger cut. Does that seem warranted? What’s the predicted NGDP path right now?
BTW this is a neat tool I had not seen before.
https://blogs.wsj.com/economics/2019/09/18/parsing-the-fed-how-the-september-statement-changed-from-july-4/?guid=BL-REB-39601&dsk=y&mod=article_inline
18. September 2019 at 17:22
Scott,
You just need to think about it a bit more. It’s fairly simple, but it might require an aha moment since we’re not accustomed to thinking about money this way.
So think about it this way. Once the fee kicks in (or is expected to kick in,) the price of cash dollars everywhere rises. If you withdraw a cash dollar from your checking account, your account gets charged a $1.05. Conversely if you deposit a cash dollar, your checking account gets credited a $1.05. It works both ways. It’s not a fee, it’s just a higher price for cash dollars. The price applies regardless of whether you are buying or selling cash dollars.
So from the perspective of a hoarder, it may still makes sense to buy and hold cash dollars even at a cost of $1.05, if the alternative is leaving your money in a checking account for 10 years at a negative 2% rate of interest, but… the point is that you’ve made cash more expensive to hold relative to other assets so the amount of hoarding decreases. Once you’ve done that, there is no ZLB problem. It’s just a question of setting the right rate.
19. September 2019 at 15:07
Would love your opinion on the deposit tiering.
Excess reserves above some threshold (6x required or something) get a better rate. Isn’t this exactly backwards? Doesn’t this increase the rate that actually matters (marginal rate on the next/ last dollar in the account)?
19. September 2019 at 20:12
Talldave, Interesting.
Dtoh, It may be obvious to you, but it isn’t to me. I also suspect it isn’t to other economists, or they would not be worrying about liquidity traps. The quantity of money is not the issue—that’s determined by the Fed. The goal is to reduce the demand for money. Your proposal would seem to favor hoarding over spending.
Joe, Not sure what you are saying here, but in principle the interest rate on marginal reserves should be much lower than on inframarginal reserves. Thus you could pay 2% on reserves up to 6 times the reserve requirement, and negative 2% on reserves above that level.
19. September 2019 at 22:58
Scott,
You just need to think about it more. If other economists thought about it I agree, they would not be worried about liquidity traps, but they haven’t thought about it. That’s why they are still worried about it.
21. September 2019 at 09:45
Scott, agree 100%, but isn’t that the opposite of what the ecb is doing? -0.5% on reserves <= 6x statutory required and something higher above?