A Fed Puzzle
If I were paid to blog, I would whip up a really fancy post for y’all, with purdy charts and commentary. But I’m not, so I won’t.
The intriguing Von Pepe sends me this very important Zero Hedge article looking at the Fed’s activities from numerous angles. It is truly a “must read” for those who are trying to figure out exactly what Bernanke’s up to, and when the inflation is going to hit.
However, something doesn’t add up. The guy shows a chart where total Fed assets and Excess Reserves move in tandem, but then starting in early March, Excess Reserves decline while total Fed assets continue to rise. This leads the guest author to write:
The net printing shown above has come through a decline in bank Excess Reserves. Whereas before such declines in Excess Reserves were met by Fed sterilization through a shrinkage of the Fed’s own balance sheet (for example, see May – July 2009), nothing of the sort has happened this time. That money is just being allowed to enter the system, period.
This stunned me, because I have been watching this stuff on FRED like a hawk. I thought that the Excess Reserves were still bottled up nicely.
I went and checked again; yep, the gap between Total and Excess Reserves is the same, up through the data points that this guy is using.
So what’s the deal? Since March, apparently total Fed assets have been rising, while Total Bank Reserves have been falling. Does anyone know this stuff enough to explain what’s going on?
This is just conjecture, but perhaps the decrease in reserves is due to the collapse in home prices and the attendant write-offs this brought about. One point: the decrease isn’t that great from an historical perspective. Right now, it is down to its December 2009 levels, which were still quite high. But if housing market problems explain the drop in excess reserves, then that would explain the falling reserves while Fed assets continue to rise.
I have long wondered whether the real reason for the shocking increase in excess reserves over the last two years had more to do with maintaining banking system solvency when housing prices eventually fell than with reigniting an inflationary bubble.
I don’t think bank write-offs would alter reserves. On a bank’s balance sheet, it would reduce the value of the assets, and then on the other side it would reduce shareholders’ equity. But it wouldn’t change the actual quantity of reserves in the system, right?
If Robert Murphy, one of the most famous Austrian economists, cannot answer this, who other Austrian economist can? Maybe we have to, alas, look to the Keynesians for answers…
Bob says, “If I were paid to blog, I would whip up a really fancy post for y’all, with purdy charts and commentary. But I’m not, so I won’t.”
That was so funny I put it on my Facebook status.
Random, after hanging out on Keynesian blogs it can be very refreshing to hear an economist actually admit to not immediately having the answers, and then ask the community to help find those answers.
Way too often Keynesians just resort to their Statist handbook of proverbs to answer things that deserve some theoretical scrutiny. This is probably why they get so many things wrong.
I think hrg is on to something. It seems like a reasonable explanation.
There is no reason that total assets must move in tandem with excess reserves. There’s a zillion ways that assets can end up on the balance sheet that have nothing to do with reserves.
You are correct to watch the spread between excess reserves and total reserves, if that shrinks then indeed funds are being moved from excess to required, which would have an impact on money supply.
Ok, maybe it’s a problem with my English, and this is a really stupid question (which I have a feeling it is) but I don’t get it.
What exactly is the contradiction between:
1. the gap between totres and excres = const
2. total fed assets going up
3. totres going down
So the scenario the guy presents, added with your observations is:
Banks have decreased totres, and since totres-exres = const, that means that they have lended out some excres. Since total fed assets are going, the Fed isn’t sterilizing that move at the moment.
So the guy says that part of excres went into the treasury market. The idea is plausible (don’t know how much the numbers are). So what am I not getting here? (please note it’s 4am here in Alabama:)
If all the banks’ deposits are held fixed, then for every dollar reduction in Total Reserves, there is a dollar reduction in Excess Reserves. I think you are reasoning as if they are independent variables.
fourth paragraph: …total fed assets are going *up*…