From Peter Stella.
What many are calling central bank “money creation” “helicopter money” or “rolling the printing presses” may – in combination with tighter leverage ratios – lead to a tightening of bank credit and deflationary pressures.
Pointer from John Cochrane.
Read (and re-read) the whole thing. Stella’s interesting argument is that highly-rated securities are more liquid than bank reserves. Therefore, when the Fed supplies bank reserves in exchange for highly-rated securities, it is draining liquidity from the system.
My initial reaction is that this is just too cute. It makes it sound as though investment bankers make loans, using securities as reserves. I think of investment bankers as holding inventories of securities, financed by short-term debt. The larger the inventories they have to finance, the lower their demand for securities, and the higher the interest rates on those securities. So I still think that the Fed’s purchases go in the direction of pulling down rates on securities. Of course, I count myself as a skeptic that these effects are significant.
Arnold –
Question for you on money – though perhaps you will answer it in your book.
In trying to pull a signal out of the noise of economic commentary and thus assess the possible outcomes of FRB policies, I have been delving into some papers on money.
Like most non-economists who are educated professionals (if you count Harvard Law as an educational institution), my starting point is the classic Econ I view that the key is fractional reserve banking. Banks take deposits, make loans, hold reserves as required, make more loans, and so on. The loans create money, and the overall money supply is determined by the FRB through its reserve requirements and their multiplier effects and through interest rates on reserves.
Recent papers, including one by FRB staff, say this is not true (and Stella’s piece is in this chain). In fact, the FRB makes reserves available as banks need them for loans, and the basic tool for controlling the money supply is the interest rate, which may or may not be effective. In fact, says the FRB paper, the macro models do not use the reserve model at all, even if that is still the dominant narrative of public discourse and the text books. (That is, to the extent that they use financial models at all; I understand that many models do not.)
Apparently, the economists & central bankers changed these key premises underlying monetary analysis, but did not bother to tell anyone about it, and have not replaced them with anything. Indeed, the official FRB intellectual models seem quite simplistic (see Yellen speech)
All this leaves me befuddled as to what the FRB and the econ profession are using as a model of the money machine. So I ask you, as an economist who has always had my respect, WTF is going on?
As the line has it in “Margin Call” – “speak as you would to a small child or a golden retriever” (or a Harvard Law graduate).
Some of the papers to which I refer:
Yellen Speech http://www.federalreserve.gov/newsevents/speech/yellen20130302a.htm
FRB paper – “Money, Reserves, and the Transmission of Monetary Policy: Does the Money Multiplier Exist?”
http://www.federalreserve.gov/pubs/feds/2010/201041/201041pap.pdf
Modern Central Bank Operations— The General Principles -http://www.cfeps.org/ss2008/ss08r/fulwiller/fullwiler%20modern%20cb%20operations.pdf
Bindseil, Monetary Policy & Reserve Position Doctrine
http://www.ecb.europa.eu/pub/pdf/scpwps/ecbwp372.pdf
David Malpass & Vernon Smith articles —
http://www.cato.org/cato-journal/fall-2013.
Myth of the Money Multiplier
http://econospeak.blogspot.com/2013/02/the-myth-of-money-multiplier.html
Stella articles & comments
http://johnhcochrane.blogspot.com/2013/09/is-qe-contractionary.html#more
http://www.voxeu.org/article/exit-path-implications-collateral-chains
http://www.voxeu.org/article/other-deleveraging-what-economists-need-know-about-modern-money-creation-process
Can QE Cause Market Distortions & Even Bubbles?
http://pragcap.com/can-qe-cause-market-distortions-even-bubbles#xVjBmQDB2qvPAHEa.99
Interest Rates, Savings Rates and Their Impact on the Economy
http://viableopposition.blogspot.ca/2013/09/interest-rates-savings-rates-and-their.html
Best,
Jim