The Veil of Secrecy at the Fed Has Been Lifted, Now It’s Time for Change By Senator Bernie Sanders


November 2 (Huffington Post) — As a result of the greed, recklessness, and illegal behavior on Wall Street, the American people have experienced the worst economic crisis since the Great Depression.

Mosler: Nov 8, 2011

Not to mention the institutional structure that rewarded said behavior, and, more important, the failure of government to respond in a timely manner with policy to ensure the financial crisis didn’t spill over to the real economy.


Millions of Americans, through no fault of their own, have lost their jobs, homes, life savings, and ability to send their kids to college. Small businesses have been unable to get the credit they need to expand their businesses, and credit is still extremely tight. Wages as a share of national income are now at the lowest level since the Great Depression, and the number of Americans living in poverty is at an all-time high.

Mosler: Nov 8, 2011

Yes, it’s all a sad disgrace.


Meanwhile, when small-business owners were being turned down for loans at private banks and millions of Americans were being kicked out of their homes, the Federal Reserve provided the largest taxpayer-financed bailout in the history of the world to Wall Street and too-big-to-fail institutions, with virtually no strings attached.

Mosler: Nov 8, 2011

Only partially true. For the most part the institutions did fail, as shareholder equity was largely lost. Failure means investors lose, and the assets of the failed institution sold or otherwise transferred to others.

But yes, some shareholders and bonds holders (and executives) who should have lost were protected.


Over two years ago, I asked Ben Bernanke, the chairman of the Federal Reserve, a few simple questions that I thought the American people had a right to know: Who got money through the Fed bailout? How much did they receive? What were the terms of this assistance?

Incredibly, the chairman of the Fed refused to answer these fundamental questions about how trillions of taxpayer dollars were being spent.

The American people are finally getting answers to these questions thanks to an amendment I included in the Dodd-Frank financial reform bill which required the Government Accountability Office (GAO) to audit and investigate conflicts of interest at the Fed. Those answers raise grave questions about the Federal Reserve and how it operates — and whose interests it serves.

As a result of these GAO reports, we learned that the Federal Reserve provided a jaw-dropping $16 trillion in total financial assistance to every major financial institution in the country as well as a number of corporations, wealthy individuals and central banks throughout the world.

Mosler: Nov 8, 2011

Yes, however, while I haven’t seen the detail, that figure likely includes liquidity provision to FDIC insured banks which is an entirely separate matter and not rightly a ‘bailout’.

The US banking system (rightly) works to serve public purpose by insuring deposits and bank liquidity in general. And history continues to ‘prove’ banking in general can work no other way.

And once government has secured the banking system’s ability to fund itself, regulation and supervision is then applied to ensure banks are solvent as defined by the regulations put in place by Congress, and that all of their activities are in compliance with Congressional direction as well.

The regulators are further responsible to appropriately discipline banks that fail to comply with Congressional standards.

Therefore, the issue here is not with the liquidity provision by the Fed, but with the regulators and supervisors who oversee what the banks do with their insured, tax payer supported funding.

In other words, the liability side of banking is not the place for market discipline. Discipline comes from regulation and supervision of bank assets, capital, and management.


The GAO also revealed that many of the people who serve as directors of the 12 Federal Reserve Banks come from the exact same financial institutions that the Fed is in charge of regulating. Further, the GAO found that at least 18 current and former Fed board members were affiliated with banks and companies that received emergency loans from the Federal Reserve during the financial crisis. In other words, the people “regulating” the banks were the exact same people who were being “regulated.” Talk about the fox guarding the hen house!.

Mosler: Nov 8, 2011

Yes, this is a serious matter. On the one hand you want directors with direct banking experience, while on the other you strive to avoid conflicts of interest.


The emergency response from the Fed appears to have created two systems of government in America: one for Wall Street, and another for everyone else. While the rich and powerful were “too big to fail” and were given an endless supply of cheap credit, ordinary Americans, by the tens of millions, were allowed to fail.

Mosler: Nov 8, 2011

The Fed necessarily sets the cost of funds for the economy through its designated agents, the nations Fed member banks. It was the Fed’s belief that, in general, a lower cost of funds for the banking system, presumably to be passed through to the economy, was in the best interest of ‘ordinary Americans.’ And note that the lower cost of funds from the Fed does not necessarily help bank earnings and profits, as it reduces the interest banks earn on their capital and on excess funds banks have that consumers keep in their checking accounts.

However, there was more that Congress could have done to keep homeowners from failing, beginning with making an appropriate fiscal adjustment in 2008 as the financial crisis intensified, and in passing regulations regarding foreclosure practices.

Additionally, it should also be recognized that the Fed is, functionally, an agent of Congress, subject to immediate Congressional command. That is, the Congress has the power to direct the Fed in real time and is thereby also responsible for failures of Fed policy.


They lost their homes. They lost their jobs. They lost their life savings. And, they lost their hope for the future. This is not what American democracy is supposed to look like. It is time for change at the Fed — real change.

Mosler: Nov 8, 2011

I blame this almost entirely on the failure of Congress to make the immediate and appropriate fiscal adjustments in 2008 that would have sustained employment and output even as the financial crisis took its toll on the shareholder equity of the financial sector.

Congress also failed to act with regard to issues surrounding the foreclosure process that have worked against public purpose.


Among the GAO’s key findings is that the Fed lacks a comprehensive system to deal with conflicts of interest, despite the serious potential for abuse. In fact, according to the GAO, the Fed actually provided conflict of interest waivers to employees and private contractors so they could keep investments in the same financial institutions and corporations that were given emergency loans.

The GAO has detailed instance after instance of top executives of corporations and financial institutions using their influence as Federal Reserve directors to financially benefit their firms, and, in at least one instance, themselves.

For example, the CEO of JP Morgan Chase served on the New York Fed’s board of directors at the same time that his bank received more than $390 billion in financial assistance from the Fed. Moreover, JP Morgan Chase served as one of the clearing banks for the Fed’s emergency lending programs.

Mosler: Nov 8, 2011

This demands thorough investigation, and in any case the conflict of interest should have been publicly revealed at the time.


Getting this type of disclosure was not easy. Wall Street and the Federal Reserve fought it every step of the way. But, as difficult as it was to lift the veil of secrecy at the Fed, it will be even harder to reform the Fed so that it serves the needs of all Americans, and not just Wall Street. But, that is exactly what we have to do.

Mosler: Nov 8, 2011

Yes, I have always supported full transparency.


To get this process started, I have asked some of the leading economists in this country to serve on an advisory committee to provide Congress with legislative options to reform the Federal Reserve.

Here are some of the questions that I have asked this advisory committee to explore:

1. How can we structurally reform the Fed to make our nation’s central bank a more democratic institution responsive to the needs of ordinary Americans, end conflicts of interest, and increase transparency? What are the best practices that central banks in other countries have developed that we can learn from? Compared with central banks in Europe, Canada, and Australia, the GAO found that the Federal Reserve does not do a good job in disclosing potential conflicts of interest and other essential elements of transparency.

Mosler: Nov 8, 2011

Yes, full transparency in ‘real time’ would serve public purpose.


2. At a time when 16.5 percent of our people are unemployed or under-employed, how can we strengthen the Federal Reserve’s full-employment mandate and ensure that the Fed conducts monetary policy to achieve maximum employment? When Wall Street was on the verge of collapse, the Federal Reserve acted with a fierce sense of urgency to save the financial system. We need the Fed to act with the same boldness to combat the unemployment crisis

Mosler: Nov 8, 2011

Unfortunately employment and output is not a function of what’s called ‘monetary policy’ so what is needed from the Fed is full support of an active fiscal policy focused on employment and price stability.


3. The Federal Reserve has a responsibility to ensure the safety and soundness of financial institutions and to contain systemic risks in financial markets. Given that the top six financial institutions in the country now have assets equivalent to 65 percent of our GDP, more than $9 trillion, is there any reason why this extraordinary concentration of ownership should not be broken up? Should a bank that is “too big to fail” be allowed to exist?

Mosler: Nov 8, 2011

Larger size should be permitted only to the extent that it results in lower fees for the consumer. The regulators can require institutions that wish to grow be allowed to do so only in return for lower banking fees.


4. The Federal Reserve has the responsibility to protect the credit rights of consumers. At a time when credit card issuers are charging millions of Americans interest rates between 25 percent or more, should policy options be established to ensure that the Federal Reserve and the Consumer Financial Protection Bureau protect consumers against predatory lending, usury, and exorbitant fees in the financial services industry?

Mosler: Nov 8, 2011

Banks are public/private partnerships chartered by government for the further purpose of supporting a financial infrastructure that serves public purpose.

The banks are government agents and should be addressed accordingly, always keeping in mind the mission is to support public purpose.

In this case, because banks are government agents, the question is that of public purpose served by credit cards and related fees, and not the general ‘right’ of shareholders to make profits.

Once public purpose has been established, the effective use of private capital to price risk in the context of a profit motive should then be addressed.


5. At a time when the dream of homeownership has turned into the nightmare of foreclosure for too many Americans, what role should the Federal Reserve be playing in providing relief to homeowners who are underwater on their mortgages, combating the foreclosure crisis, and making housing more affordable?.

Mosler: Nov 8, 2011

Again, it begins with a discussion of public purpose, where Congress must decide what, with regard to housing, best serves public purpose. The will of Congress can then be expressed by the institutional structure of its Federal banking system.

Options available, for example, include the option of ordering that appraisals and income statements not be factors in refinancing loans originated by Federal institutions including banks and the Federal housing agencies. At the time of origination the lenders calculated their returns based on mortgages being refinanced as rates came down, assuming all borrowers would be eligible for refinancing. The financial crisis and subsequent failure of policy to sustain employment and output has given lenders an unexpected ‘bonus’ through a ‘technicality’ that allows them to refuse requests for refinancing at lower rates due to lower appraisals and lower incomes.


6. At a time when the United States has the most inequitable distribution of wealth and income of any major country, and the greatest gap between the very rich and everyone else since 1928, what policies can be established at the Federal Reserve which reduces income and wealth inequality in the U.S?

Mosler: Nov 8, 2011

The root causes begin with Federal policy that has resulted in an unprecedented transfer of wealth to the financial sector at the expense of the real sectors. This can easily and immediately be reversed, which would serve to substantially reverse the trend income distribution.

Fitch says China credit bubble unprecedented in modern world history By Ambrose Evans-Pritchard


June 16 (Telegraph) — China’s shadow banking system is out of control and under mounting stress as borrowers struggle to roll over short-term debts, Fitch Ratings has warned.

The agency said the scale of credit was so extreme that the country would find it very hard to grow its way out of the excesses as in past episodes, implying tougher times ahead.

“The credit-driven growth model is clearly falling apart. This could feed into a massive over-capacity problem, and potentially into a Japanese-style deflation,” said Charlene Chu, the agency’s senior director in Beijing.

“There is no transparency in the shadow banking system, and systemic risk is rising. We have no idea who the borrowers are, who the lenders are, and what the quality of assets is, and this undermines signalling,” she told The Daily Telegraph.

While the non-performing loan rate of the banks may look benign at just 1pc, this has become irrelevant as trusts, wealth-management funds, offshore vehicles and other forms of irregular lending make up over half of all new credit. “It means nothing if you can off-load any bad asset you want. A lot of the banking exposure to property is not booked as property,” she said.

Concerns are rising after a string of upsets in Quingdao, Ordos, Jilin and elsewhere, in so-called trust products, a $1.4 trillion (0.9 trillion) segment of the shadow banking system.

Bank Everbright defaulted on an interbank loan 10 days ago amid wild spikes in short-term “Shibor” borrowing rates, a sign that liquidity has suddenly dried up. “Typically stress starts in the periphery and moves to the core, and that is what we are already seeing with defaults in trust products,” she said.

Fitch warned that wealth products worth $2 trillion of lending are in reality a “hidden second balance sheet” for banks, allowing them to circumvent loan curbs and dodge efforts by regulators to halt the excesses.

This niche is the epicentre of risk. Half the loans must be rolled over every three months, and another 25pc in less than six months. This has echoes of Northern Rock, Lehman Brothers and others that came to grief in the West on short-term liabilities when the wholesale capital markets froze.

Mrs Chu said the banks had been forced to park over $3 trillion in reserves at the central bank, giving them a “massive savings account that can be drawn down” in a crisis, but this may not be enough to avert trouble given the sheer scale of the lending boom.

Overall credit has jumped from $9 trillion to $23 trillion since the Lehman crisis. “They have replicated the entire US commercial banking system in five years,” she said.

The ratio of credit to GDP has jumped by 75 percentage points to 200pc of GDP, compared to roughly 40 points in the US over five years leading up to the subprime bubble, or in Japan before the Nikkei bubble burst in 1990. “This is beyond anything we have ever seen before in a large economy. We don’t know how this will play out. The next six months will be crucial,” she said.

The agency downgraded China’s long-term currency rating to AA- debt in April but still thinks the government can handle any banking crisis, however bad. “The Chinese state has a lot of firepower. It is very able and very willing to support the banking sector. The real question is what this means for growth, and therefore for social and political risk,” said Mrs Chu.

“There is no way they can grow out of their asset problems as they did in the past. We think this will be very different from the banking crisis in the late 1990s. With credit at 200pc of GDP, the numerator is growing twice as fast as the denominator. You can’t grow out of that.”

The authorities have been trying to manage a soft-landing, deploying loan curbs and a high reserve ratio requirement (RRR) for banks to halt property speculation. The home price to income ratio has reached 16 to 18 in many cities, shutting workers out of the market. Shadow banking has plugged the gap for much of the last two years.

However, a new problem has emerged as the economic efficiency of credit collapses. The extra GDP growth generated by each extra yuan of loans has dropped from 0.85 to 0.15 over the last four years, a sign of exhaustion.

Wei Yao from Societe Generale says the debt service ratio of Chinese companies has reached 30pc of GDP – the typical threshold for financial crises — and many will not be able to pay interest or repay principal. She warned that the country could be on the verge of a “Minsky Moment”, when the debt pyramid collapses under its own weight. “The debt snowball is getting bigger and bigger, without contributing to real activity,” she said.

The latest twist is sudden stress in the overnight lending markets. “We believe the series of policy tightening measures in the past three months have reached critical mass, such that deleveraging in the banking sector is happening. Liquidity tightening can be very damaging to a highly leveraged economy,” said Zhiwei Zhang from Nomura.

“There is room to cut interest rates and the reserve ratio in the second half,” wrote a front-page editorial today in China Securities Journal on Friday. The article is the first sign that the authorities are preparing to change tack, shifting to a looser stance after a drizzle of bad data over recent weeks.

The journal said total credit in China’s financial system may be as high as 221pc of GDP, jumping almost eightfold over the last decade, and warned that companies will have to fork out $1 trillion in interest payments alone this year. “Chinese corporate debt burdens are much higher than those of other economies. Much of the liquidity is being used to repay debt and not to finance output,” it said.

It also flagged worries over an exodus of hot money once the US Federal Reserve starts tightening. “China will face large-scale capital outflows if there is an exit from quantitative easing and the dollar strengthens,” it wrote.

The journal said foreign withdrawals from Chinese equity funds were the highest since early 2008 in the week up to June 5, and withdrawals from Hong Kong funds were the most in a decade.

Mosler: Jun 17, 2013

Nothing that fiscal adjustment can’t keep from spilling over into the real economy.

But that’s not how the western educated offspring now in charge learned it…

Real economy continues to suffocate from a too small federal budget

Mosler: Jun 24, 2013

Markets remain in ‘QE off’ mode, with stocks down and longer term rates up.

‘QE on’ was a misguided speculative bubble in any case, as QE is, at best, a placebo, and in fact somewhat of a tax as it removes a bit of interest income.

But obviously global markets view it as a massive stimulus, as per the various market responses.

The real economy, however, continues to suffocate from a too small US federal budget made even smaller by the proactive tax hikes and spending cuts:

Yes, there is some private sector credit expansion trying to fill the ‘spending gap’ caused by the fiscal tightening, but all that and more is needed to keep it all growing in the face of the ongoing automatic fiscal stabilizers that make it an ‘uphill’ battle for the forces of non govt credit expansion.

So seems to me this all leads to lower equity prices as prospects for earnings and growth fade, and, at some point, lower bond yields as expectations for Fed rate hikes are pushed further into the future by the economic reality.

I also look for confidence readings, one of the few ‘bright spots’, to fade with the equity sell off as well.

And, at some point, ‘QE on’ ceases to matter, under the ‘fool me once…’ theory???

And should that happen, and the Fed be exposed as ‘the kid in the car seat with the toy steering wheel who everyone thinks is driving’, no telling what happens…...

MMT to the ECB- you can’t inflate, even if you wanted to

Mosler: Nov 26, 2011

With the tools currently at their immediate disposal, including providing unlimited member bank liquidity,lowering the interbank rate, and buying euro national govt debt, the ECB has no chance of causing any monetary inflation, no matter how hard it might try. There just are no known channels, direct or indirect, in theory or practice, that connects those policies to the real economy. (Note that this is not to say that removing bank liquidity and national govt credit support wouldn’t be catastrophic. It’s a bit like engine oil. You need a gallon or two for the engine to run correctly, but further increasing the oil in the sump isn’t going to alter the engine’s performance.)

Lower rates sure doesn’t do the trick. Just look to Japan for going on two decades, the US going on 3 years, and the ECB’s low rate policies of recent years. There’s not a hint of monetary inflation/excess aggregate demand or inflationary currency weakness from low rates. If anything, seems to me the depressing effect on savers indicates low rates from the CB might even, ironically, promote deflation through the interest income channels, as the non govt sector is necessarily a net receiver of interest income when the govt is a net payer. (See Bernanke, Reinhart, and Sacks 2004 Fed paper on the fiscal effect of changes in interest rates.)

And if what’s called quantitative easing was inflationary, Japan would be hyperinflating by now, with the US not far behind. Nor is there any sign that the ECB’s buying of euro govt bonds has resulted in any kind of monetary inflation, as nothing but deflationary pressures continue to mount in that ongoing debt implosion. The reason there is no inflation from the ECB bond buying is because all it does is shift investor holdings from national govt debt to ECB balances, which changes nothing in the real economy.

Nor does bank liquidity provision have anything to do with monetary inflation, currency depreciation, or bank lending. As all monetary insiders know, bank lending is never reserve constrained. Constraints on banking come from regulation, including capital requirements and lending standards, and, of course credit worthy entities looking to borrow. With the ECB providing unlimited liquidity for the last several years, wouldn’t you think if there was going to be some kind of monetary problem it would have happened by now?

So the grand irony of the day is, that while there’s nothing the ECB can do to cause monetary inflation, even if it wanted to, the ECB, fearing inflation, holds back on the bond buying that would eliminate the national govt solvency risk but not halt the deflationary monetary forces currently in place.

So where does monetary inflation come from? Fiscal policy. The Weimar inflation was caused by deficit spending on the order of something like 50% of GDP to buy the foreign currencies demanded for war reparations. It was no surprise that selling that many German marks for foreign currencies in the market place drove the mark down as it did. In fact, when that policy finally ended, so did the inflation. And there was nothing the central bank could do with interest rates or buying and selling securities or anything else to stop the inflation caused by the massive deficit spending, just like today there is nothing the ECB can do to reverse the deflationary forces in place from the austerity measures.

So here we are, with the ECB demanding deflationary austerity from the member nations in return for the limited bond buying that has been sustaining some semblance of national govt solvency, not seeming to realize it can’t inflate with its monetary policy tools, even if it wanted to.

Post script:

The only way the ECB could inflate would be to buy dollars or other fx outright, which it doesn’t do even when it might want a weaker euro, as ideologically they want the euro to be the reserve currency, and not themselves build fx reserves that give the appearance of the euro being backed by fx.

Mosler: Greek Default Not Logical Path Out of Crisis By Forrest Jones and Kathleen Walter


September 30 — Letting Greece default won’t end Europe’s crisis and won’t allow Germany and other core nations to brush themselves off and move merrily on their way, says Warren Mosler, principal and co-founder of AVM, an international bond firm with 30 years of experience in Europe and author of the 2010 book, “The 7 Deadly Innocent Frauds of Economic Policy.”

In fact, it will do the opposite. It will cost money and rattle key export markets for Germany and other countries targeting European periphery countries.

Greece has run up debts and may default and exit the euro, yet many in wealthier nations such as Germany oppose bailouts for Greece and other debt-ridden Mediterranean nations.

They also have opposed backing euro-wide bonds, which basically shores up the Greek economy via the financial backing of the Greece’s richer northern neighbors.

However, allowing the European Central Bank to play a role in Greece’s economic reform will not put the load on German, French and other taxpayers, Mosler says.

“It’s a question if a bailout now is good for Germany and France but not so good for Greece, because if Greece is allowed to default, then their debt goes away. They are agreeing to wipe out their debt and it reduces their payments,” he said in an exclusive Newsmax.TV interview.

“But if they fund Greece, and don’t allow them to default, then Greece has to continue to make these payments. So the whole dynamic has changed from doing Greece a favor to disciplining Greece by not allowing them to default.”

That makes default, arguably, less imminent.

“I would think the odds are shifting to the endgame where Greece doesn’t default, where at the end of the day Greece is forced though the austerity measures to run a primary balance or primary surplus, the interest payments will largely wind up with up with the European Central Bank, who is buying Greek debt in the marketplace,” Mosler says.

Furthermore, the logic that applies to keeping Greece in the eurozone applies to the other nations such as Italy.

“It used to be if Germany, France and the others bailed out Greece, and then suddenly they have to bail out Ireland, Portugal, Spain and Italy, they could never have the capacity to do that. It’s now understood that there is no limit, no nominal limit to the check that the European Central Bank can write,” Mosler says.

Plus, Europe can expect no side effects of such Central Bank involvement.

“It will not weaken the euro, it will not cause inflation and it will not increase total spending in the region. In fact it will help reduce total spending in the region because the European Central Bank imposes terms and conditions when it intervenes.”

Should Greece default, however, Europe would feel the pain, but it shouldn’t be too bad in the United States, Mosler says.

Yes, regulators would have to react.

“The FDIC would have to decide how they would want to respond to a drop in equity. Would they want the banks to raise more capital? Would they give them time to do it?”

But they wouldn’t have to react too much.

“They don’t need to shut the banks down, it doesn’t need to be disruptive to the real economy.”

Turning to the United States and President Barack Obama’s economic policies, Mosler says the president is on the right track by running deficits, but adds he’s doing a poor job of explaining the rationale behind his policies.

Or he just doesn’t understand it.

The euro zone is operationally sustainable as is

Mosler: Sep 24, 2011

While the way the euro zone is currently function would not be my first choice for public policy, it is operationally sustainable.

The ECB is writing the check, and can continue to do so indefinitely.

For example, as long as the ECB buys sufficient quantities of Greek bonds in the secondary markets, Greece will be able to fund itself.

The ECB debt purchases merely shift net financial assets held by the ‘economy’ from Greek govt. Liabilities to ECB liabilities in the form of clearing balances at the ECB, which does not alter any ‘flows’ in the real economy.

So as long as the ECB imposes austeric terms and conditions, their bond buying will not be inflationary. Inflation from this channel comes from spending, and in this case the ECB support comes only with reduced spending.

For the ECB this also means they accrue substantial net interest margins on their portfolio of Greek debt. And as long as they keep funding Greece in any manner, Greece need not default.

This means the ECB books profits from their portfolio that adds to their stated capital. While this is of no operational consequence, it does help satisfy political concerns over ECB capital adequacy.

Nor is this ‘Ponzi’ in any sense, as the ECB is not dependent on external funding to make payments in euro.

Additionally, the ECB no officially has stated it will provide unlimited euro liquidity to its banks. This too is not inflationary or expansionary, as bank assets remain constrained by regulation including capital adequacy and asset eligibility which is required for them to receive ECB support.

So while politics is and will always be a factor in government in general, the current state of affairs can be operationally sustained.

The problem then shifts to political sustainability which is necessarily less certain.

The near universally accepted austerity theme is likely to result in continually elevated unemployment, and a large output gap in general characterized by a lagging standard of living and high personal stress in general.

With ECB continuing to fund, this can, operationally be readily adjusted via a loosening of the Growth and Stability Pact budget constraints, but politically this possibility remains remote without a substantial increase in popular opposition.

The Fed Plan to Revive High-Powered Money By Alan S. Blinder


December 10 (WSJ) — Unless you are part of the tiny portion of humanity that dotes on every utterance of the Federal Open Market Committee, you probably missed an important statement regarding the arcane world of “excess reserves” buried deep in the minutes of its Oct. 29-30 policy meeting. It reads: “[M]ost participants thought that a reduction by the Board of Governors in the interest rate paid on excess reserves could be worth considering at some stage.”

Mosler: Dec 13, 2013

They don’t realize paying interest on Fed liabilities is a subsidy to the economy any more than Professor Blinder does.


As perhaps the longest-running promoter of reducing the interest paid on excess reserves, even turning the rate negative, I can assure you that those buried words were momentous. The Fed is famously given to understatement. So when it says that “most” members of its policy committee think a change “could be worth considering,” that’s almost like saying they love the idea. That’s news because they haven’t loved it before.

So what exactly are excess reserves, and why should you care? Like most central banks, the Fed requires banks to hold reservesmainly deposits in their “checking accounts” at the Fedagainst transactions deposits. Any reserves held over and above these requirements are called excess reserves. Not long agosay, until Lehman Brothers failed in September 2008banks held virtually no excess reserves because idle cash earned them nothing..

Not long ago, say, until Lehman Brothers failed in September 2008banks held virtually no excess reserves because idle cash earned them nothing..

Mosler: Dec 13, 2013

No, because Fed policy was to keep banks net borrowed, and then implement its policy rate via the Fed’s interest rate charges for the subsequent ‘reserve adds’ which were functionally loans from the Fed.


But today they hold a whopping $2.5 trillion in excess reserves, on which the Fed pays them an interest rate of 25 basis pointsfor an annual total of about $6.25 billion. That 25 basis points, what the Fed calls the IOER (interest on excess reserves), is the issue.

Mosler: Dec 13, 2013

Yes, thereby supporting their policy rate decision, which happens to be a ‘range’ a bit above 0, which also happens to be a display of the Fed’s failure to understand monetary operations.


At this point, you’re probably thinking: “Wait. If the Fed charged banks rather than paid them, wouldn’t bankers shun excess reserves?” Yes, and that’s precisely the point. Excess reserves sitting idle in banks’ accounts at the Fed do nothing to boost the economy. We want banks to use the money.

At this point, you’re probably thinking: “Wait. If the Fed charged banks rather than paid them, wouldn’t bankers shun excess reserves?” Yes, and that’s precisely the point. Excess reserves sitting idle in banks’ accounts at the Fed do nothing to boost the economy. We want banks to use the money.

Mosler: Dec 13, 2013

Reserves are assets. They can’t be ‘used’ to boost the economy. Banks can sell their reserves to other banks, but in any case the total persists as Fed liabilities. Nothing the banks can do will change that.


If the Fed turned the IOER negative, banks would hold fewer excess reserves, maybe a lot fewer. They’d find other uses for the money. One such use would be buying short-term securities. Another would probably be lending more, which is what we want.

Mosler: Dec 13, 2013

When banks buy securities or lend, their reserve account is debited and the bank of the seller of the securities or of the borrower gets its reserve account credited. That is, the assets called reserves are merely shifted from one bank to another, with the quantity of reserves held by the banking system remaining unchanged.


A second reason for cutting the IOER answers some of the criticisms the Fed has taken for its asset-buying programs called quantitative-easing: Doing so would stimulate the economy without increasing the size of the Fed’s balance sheet. In fact, the Fed could probably shrink its balance sheet.

Mosler: Dec 13, 2013

Why would charging banks a fee stimulate the economy?

And further note that, before the current budget agreement, these ‘fees’ were called taxes, and for a good reason! ;)


To understand why, think back to the good old days, when excess reserves were zero. When the Fed injected reserves into the banking system, banks would use those funds to increase lending, thereby creating multiple expansions of the money supply and credit. Bank reserves were called “high-powered money” because each new dollar of reserves led to several additional dollars of money and credit.

Mosler: Dec 13, 2013

I’ll give Professor Blinder the benefit of the doubt and assume the ‘good old days’ were the days of the gold standard, a fixed fx regime, where banking was continuously reserve constrained, interest rates were market determined, and bank lending was thereby constrained by the necessity to keep ‘real dollars’ on hand to meet depositors potential demands for withdrawals.

With today’s floating fx policy none of this is applicable.


The financial crisis short-circuited this process. As greed gave way to fear, bankers decided to store trillions of dollars safely at the Fed rather than lend them out. High-powered money became powerless money.

Mosler: Dec 13, 2013

Here it seems he conflates the issue of liquidity and interbank lending with the issue of lending to the real economy, along with more inapplicable gold standard analysis.

Banking is always a case of loans creating deposits. And with today’s institutional structure, when deposits carry reserve requirements, in the first instance those requirements are functionally overdrafts in that bank’s reserve account at the Fed. And an overdraft is a loan, and booked as a loan from the Fed on statement day if it persists. So in fact loans create both deposits and any required reserves at the instant the loan is funded.

So rather than ‘high powered money’ as is the case with a gold standard, reserves today are best thought of as residual.


The Fed compounded the problem in October 2008 by starting to pay interest on reserves. And these days, the 25-basis-point IOER looks pretty good compared with most short-term money rates.

Mosler: Dec 13, 2013

As it always is due to ‘market forces’. The entire term structure of rates continuously adjusts to the Fed’s policy rate which generally imposed by targeting the Fed funds rate.


If banks were charged rather than paid 25 basis points, they would find holding excess reserves a lot less attractive. As some of this excess central-bank money became “high-powered” again, the Fed would want less of it. So its balance sheet could shrink.

Mosler: Dec 13, 2013

I don’t follow this part at all. Banks always find holding reserves ‘unattractive’ as the Fed funds rate is likewise their marginal cost of funds. So reserves are, in general, never a profitable investment, and banks are always looking for investments that yield more, on a risk adjusted basis, than their cost of funds.


What are the arguments against turning the IOER negative? Over the years, Fed officials have made three, none of them cogent.

One is that cutting the IOER would have only modest stimulative effects. Well, probably. But are there more powerful tools sitting around unused? Besides, there is at least a chance that we’d get more new lending than the Fed thinks.

Mosler: Dec 13, 2013

There’s a much larger chance that this new tax, though modest, will nonetheless reduce aggregate demand. With the economy a large net saver, and the govt a large net payer of interest, in general higher rates increase income and lower rates decrease income.


Second, there is a limit to how far negative the IOER can go. After all, banks can earn zero by keeping paper money in their vaults. So if the Fed charged a very high fee for holding excess reserves, bankers might find it worthwhile to pay the costs of bigger vaults and more security guards in order to keep huge stockpiles of cash. Sure. But a mere 25 basis point fee is not enough incentive for them to do so.

Mosler: Dec 13, 2013

If it was realized negative rates are a tax, the argument would never get this far.


Third, a negative IOER could drive short-term interest rates even closer to zero, as banks moved balances from their reserve accounts into money market instruments. And that, we are told, would wreak havoc in the money markets. Really? Perhaps that was a legitimate concern three years ago, but we have now lived with money-market rates hugging zero for years, and capitalism has survived.

Mosler: Dec 13, 2013

And if we eliminated the FDIC deposit insurance cap there would be no need for money market funds in the first place.


Besides, the Fed paid no interest on reserves for the first 94 years of its existence, the European Central Bank has been paying its banks nothing since July 2012, and the Danes have been charging a fee since then. In no case did anything terrible happen.

Mosler: Dec 13, 2013

Instead the banking system was kept net short reserves, and the Fed- the monopoly supplier of net reserves- used the rate charged to cover that ‘overdraft’ to set its policy rate..


That said, suppose the policy failed. Suppose the Fed cut the IOER from 25 basis points to minus 25 basis points, and banks didn’t react at all; they just held on to all their excess reserves. In that unlikely event, cutting the IOER would neither provide stimulus nor enable the Fed to shrink its balance sheet. However, the Fed would start collecting about $6.25 billion per year in fees from banks instead of paying them $6.25 billion in interesta swing of roughly $12.5 billion in the taxpayers’ favor. Some downside.

Mosler: Dec 13, 2013

Like any other tax….