You can use whatever terminology you want, but at the end of the day, the Federal Reserve is creating money out of thin air and using it to buy real assets. You can argue that the effect of this is not as dramatic as printing money to buy a bunch of luxury condos or sports cars, but at that point we're just debating the degree of influence. The whole point of Fed money printing is to influence the economy, so if it didn't anticipate any difference, it wouldn't be doing it.
Monetary policy is just swapping one kind of USD denominated assets for another. It doesn't really change the size of private bank balance sheets, hence it is not the printing of money. But increasing the size of the deficit does indeed increase the sizes of private bank balance sheets.
But, and I feel there is being something lost to semantics in this thread, we have an article reporting "the U.S. money supply has grown 20%". Given that the US economy has been partially shut down for most of that time it is hard to see what that can be described as except money printing. The alternatives are polite euphemisms for money printing or appeals to it all somehow being so complicated a measured >20% change doesn't count.
I still don't understand why people are so keen to let the government go unchecked (we don't send our best & brightest to be politicians) and to keep kicking salary earners to the benefit of asset earners (pretty sure we all earn a salary).
"The federal government ran a budget deficit of $3.1 trillion in fiscal year 2020, CBO estimates, more than triple the shortfall recorded in 2019"
By my definition, we did print $3.1 trillion of money this year.
I don't go by the size of the Fed balance sheet as money supply. There are many reasons for this, and plenty of people on this thread are trying to explain this view point.
The government borrows the money from bond buyers, so that's also not printing money. (The Fed does buy these bonds, but not directly from the government because the government can't do anything with bank reserves. The Fed can only "print" bank reserves therefore it can only buy assets from banks.)
It's fairly straightforward to prove that increasing the size of the government deficit = printing money.
1. The first step is that the government prints debt (a Treasury instrument, for example). I think we would agree on this.
2. The government then needs to monetize the debt... essentially swapping the new debt with reserves held by some bond buyer. There is no shortage of reserves (this is certainly true today. But even when there were reserve requirements, or in the time before 2008, there was still practically no shortage of reserves. I can provide a separate explanation for this). You may stop and say "but what if there is no bond buyer?" or "but what if there are bond vigilantes?" US banks will always swap excess USD reserves (where excess means beyond what is necessary for settlement) for USD treasury instruments because the latter pays higher interest.
3. The government now spends its reserves, transferring from the US Treasury to a private bank upon making purchases. This becomes new bank credit, aka freshly printed money. In other words, a private bank receives reserves via the Fed's payment system and must credit the recipient's private checking account with new money.
4. The reserves that were considered "excess reserves" in step 2 are now back in the banking system, ready to be swapped again for new debt instruments.
In other words, the net impact on private bank balance sheets is, just from fiscal spending (no activity from the Fed other than as a payment/settlement system):
- The assets side gains a treasury instrument
- The liabilities side is credited with new money caused by purchases by the US Treasury. This is spendable US dollars.
- No change is seen in the quantity of bank reserves
Merely having a different purchase value from maturity value is not enough to qualify a bond purchase as borrowing either, because Bond issuing is not restricted by any economic opportunity cost. The amount of Bonds issued is an simply edict by Congress, when it passes a Budget resolution.
My only question is why banks agree to this deal: exchanging U.S. treasuries for bank reserves (which they only can use as a collateral for lending) ?
The CPI, meanwhile, has been stable, or even under the Fed's target. Presumably because those are basics, and you don't really need to buy much more of the basics just because you have more money. (The people with newfound stock wealth, that is; the people without it don't have any more money to spend in the first place.)
It's still a little unclear to me why the S&P 500 has remained in the "inflated but not insane" through most of the past decade -- though for the past week or so it's trending back to "insane" (a P/E ratio well above 20). That means that earnings were coming from somewhere, and if not from core consumer products, then presumably from other things that the stock-market-wealthy were buying from each other, at presumably inflating prices, or at least quantities.
On an inflation adjusted dollars-per-square-foot basis, housing is exactly the same price as it was in the 1970s [1] -- right around $115/sqft in constant dollars. 2008 didn't actually make a big dent on average.
The reason houses are more expensive today than they were in the past is that they're on average twice as big. This is due to city zoning ordinances, not inflation.
Similarly house prices exploded in major metros like SF because of artificial supply constraints. The city won't allow new building -> refuses to allow smaller units -> prices go up. Again, not inflation.
[1] https://fee.org/articles/new-homes-today-have-twice-the-squa...
I think that is the reason CPI hasn't increased. CPI only accounts for rent and not the cost of actually buying the house. There are definitely highly inflated price to rent ratios particularly in land constrained urban areas.
I think a better way to put it is that there is low/no Consumer Price Inflation but there is tremendous Asset Inflation (in stuff that wealthy people buy).
And perhaps if there did need to be inflation, then perhaps this is better than the reverse (i.e. high CPI inflation which would impact people's ability to buy the basics)?
The point I was making was that the price of housing on average ($/sqft) is the same as it has always been. Since we know major metros have gone up it likely means that tier-2 and below cities have actually gone down.
Further, it might be nuanced, but major urban areas aren't land-constrained. They are constrained by their city councils staunch refusal to permit new, tall construction to the benefit of existing landowners and at the detriment of renters. This is not an inflation-linked issue however but a city policy issue. It's strictly supply and demand.
It isn’t a given that you need to increase earnings to increase your P/E ratio. The “E” is your Earning Per Share. Buying back shares lowers your denominator and magically increases EPS, which drives the price higher.
It also lowers your P, so the net effect should be 0, no?
I believe the big question of "Where is the inflation" has to do with lending excess reserves. The amount banks have to keep in reserve is set, but it changes. They can lend the balance after that, although there's a rate set by the fed that also works as a lending/holding incentive too.
"Excess reserves are capital reserves held by a bank or financial institution in excess of what is required by regulators, creditors or internal controls. For commercial banks, excess reserves are measured against standard reserve requirement amounts set by central banking authorities"
So, this money actually hasn't really hit circulation. It doesn't really explain what's up with the SP (perhaps: credit based on reserve holdings, to hand wave a ton of complexity...), but it explains why there's no direct pipeline from Fed money prints -> my wallet -> CPI.
By Standard and Poor's
https://www.kreditordnung.info/docs/S_and_P__Repeat_After_Me...
The possibly essential caveat being that the ETF's being purchased are (as far as publicly known) all bond ETF's.
[0]: https://www.federalreserve.gov/releases/h41/current/h41.htm
It's a disgraceful system that is extremely morally questionable.
Theoretically, yes. If loans are 2% instead of 4% then that may induce people to take one up to do some kind of economic activity (start business, renovate house, buy a new car, etc).
But it is not guarantee: people may feel too financial vulnerable to take risks with borrowed money. This is where the limits of monetary policy are run it.
There are points where the government starts spending on various projects: if a contractor is hired to build a bridge, and it will take "x" years, then all of its employees may feel more confident and do more spending because for the next "x" years they're set. Their money then goes into other people's pockets, into other people's pockets, etc.
Public/government spending to kickstart demand is what Keynesian economics basically is.
Only if there is a net margin between what the central bank pays on reserves and what the bank has to pay out on the matching deposits.
Once central bank renumeration gets low, the cost of unsecured deposits matches or exceeds the central bank remuneration because of the draw to cash.
On this chart [0] you can see how lending increase when crisis started, kind of matching inflation of the dollar. But lending is slowing down, and no amount of QE can speed it up, indicating probable deflation of the dollar.
The quantity of reserves in the system limit the quantity of money that the private banks can lend to the real economy (actually, not really, but that's another discussion), but the existence of reserves doesn't make the bank to lean. For the banks to lean, it's necessary that there is demand for credit first.
Because there is not demand for credit, never mind the number of reserves in the system. The central bank have not power to stimulate the economy in this situation, that's the reason central bankers are pushing the governments to spend directly.
Sounds very political for a supposedly independent central banking system!
This system is a disgrace and is governed by unelected technocrats who are able to yield a crazy amount of power over the economy without ever being subject to inquiries from the public, all in the interest of experimenting on the population with highly questionable economic models.
In my opinion we would never have been in this situation in the first place were it not for the artificial credit growth and consequent boom caused by central bankers.
> Sounds very political for a supposedly independent central banking system!
The phraseology makes it sound political, but it is not political.
Basically when a central bank cuts its rate down to 0.25%, 0%, or even negative (e.g., Switzerland), it's a signal that the central bank has done all it can do to get the economy going. (There are some other mechanism employed in recent years as well ("quantitative easing"), but the message is the same: we are at the limits of monetary policy.)
After that it is up to governments, if they so choose, to also do fiscal policy initiatives, e.g., Keynesian economics: create economic demand through public spending (since private business spending/demand is in the toilet).
Of course government are free not to do anything at all, which would generally entail lower economic growth and higher employment.
But central banks have a mandate to make sure the economy is in a certain middle-ground: not too hot to induce a lot of inflation, and not too cold to have a lot of people out of work.† Everyone agrees to these goals ahead of time:
> The Federal Reserve works to promote a strong U.S. economy. Specifically, the Congress has assigned the Fed to conduct the nation’s monetary policy to support the goals of maximum employment, stable prices, and moderate long-term interest rates.
* https://www.federalreserve.gov/faqs/what-economic-goals-does...
The "unelected technocrats" are doing what they were hired to do. They each have a fixed term (though renewable), and if they don't do what they're supposed to they are replaced.
They did not sneak into these positions: they were told to work towards certain goals, and they are using the tools at their disposal. They are no different than the Board of a corporation hired by the shareholders of the company: it's just that the "shareholders" are elected representatives (Congress, parliaments, etc).
If the Board is not doing a satisfactory job it can be sacked with cause if necessary.
† Sometimes you actually have both: see "stagflation".
I suppose you mean "unemployment".
Also, a bank is not limited by reserves to lend. In fact, in practice, banks first lend and then search for the reserves in the inter-bank market. Those demand-offer dynamics between banks determine the interest rate. If the Central Bank doesn't want to loss control of the interest rate, it has to increase reserves in the system when there is demand.
Central Banks have to choose, or they control the quantity or reserves or they control the interest rate. They target the later. The quantity is kind of irrelevant.
Not necessarily, no. But in practice they create inflationary pressure.
> Also, a bank is not limited by reserves to lend. In fact, in practice, banks first lend and then search for the reserves in the inter-bank market. Those demand-offer dynamics between banks determine the interest rate. If the Central Bank doesn't want to loss control of the interest rate, it has to increase reserves in the system when there is demand.
This is exactly what my original post said. Of course they search for reserves in the inter-bank lending market. But the more reserves there are in that market, the cheaper they are to borrow, which reduces the rate that banks have to charge to earn their spread, which increases demand for credit, which increases the money supply.
Generally correct, but it should be noted that if a bank has a lot of reserves, and the over-night lending market is cheap, that means the bank has access to 'cheap money' on the 'wholesale' end of things.
So if a retail bank can get 'cash' cheaply, it can lower its interest rates to its 'retail' customers (mortgages, business loans, etc).
If a bank wants (say) at least a 2% spread between its wholesale source of money/reserves and what it gives out to the real economy, then the Fed raising liquidity such that the over-night rates go from (e.g.) 2% to 0.5%, that means banks can drop their public facing rates as well.
Someone who was not considering borrowing money at 4% may change their mind at 2.5%.
We agree: when the interest rate arrive down to zero there is nothing more than the central bank can do to stimulate the economy. They could add infinite reserves to the economy and nothing would happen, because, obviously, the private sector is not interested in investment. Monetary policy is a blunt instrument.
> When the Fed buys assets (government bonds, Fannies, etc.) from a bank, the bank gets back 'bank reserves', which are just a number in the bank's Federal Reserve account somewhere.
The money in my saving (or chequing) account is just a number in the bank's account somewhere, but it is still "money" that I have with them. Similarly the Federal Reserve is a bank account for the banks: so your bank (BoA, Chase, Wells Fargo, etc) has money at the Fed just like I have have money at (e.g.) Citibank.
Otherwise, your statement "the Feds buys assets" makes no sense: with what exactly does the Fed buy the assets if not money? "Money" in the modern economy is (1) a means of exchange, (2) a unit of account, and (3) a store of value. In this case we are using (1). Just because the "money" is in digital form does not change its essence.
> […] so swapping a US Treasury with cash is just turning one type of money into another; no net creation.
Can US Treasury bills be used for reserve calculation purposes? Because if they cannot, then the higher reserve accounts mean that banks would be able to create more loans (assuming they can find borrowers).
While reserve holdings and T-bills may have similar net values, each may be have restrictions on how they can be used in various circumstances, which could have knock-on effects.
The credit department of a bank, doesn't check if the bank have enough reserves before lending. They only check if the new lending make senses from a business perspective. If it does, it concede the credit to the customer.
The bank is legally obliged to have the reserves, so, a posteriori (and not before) the bank will try to get the reserves in the inter-bank market (from other banks). If there are not enough reserves in the system the price of the reserves will go up. That's the interest rate.
Central banks don't target the quantity of reserves, they only care about the interest rate. So, if they want to keep the interest rate in their target, they have to create new reserves. So, it's the lending what create reserves, not the other way around.
https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/m...
https://www.forbes.com/sites/bobhaber/2020/03/16/the-fed-fir...
https://www.cnbc.com/2020/03/15/federal-reserve-cuts-rates-t...
OP gave the correct textbook description - but that description has been superceded by changes in bank regulation since the 1980's.
For the record, reserve requirements are not universal. Canada, for one, eliminate theirs in 1992:
* https://en.wikipedia.org/wiki/Reserve_requirement#Canada
The main thing limiting how much Canadian banks can lend out would be to remain profitable: too many loans, to too many bad investment ideas, means losses.
Yes! This!
In fact, not only does the Canadian system have zero reserve requirements... it has near zero reserves.
https://en.wikipedia.org/wiki/Large_Value_Transfer_System
How it works is this:
- Banks send payments in real time. The system does not involve any transfer of assets, but it does require pledging collateral (often government debt). Asset transfers occur outside of the system. For example, if bank A sells a government debt instrument to bank B, then bank B sends a payment to bank A in the system, and then A transfers the instrument to B outside of this system.
- At the end of each day, settlement is done. Each private bank has a net balance at the end of the day. The net balances sum up to zero across the system, and post-settlement, each individual bank must have a net zero balance. In order to do so, they can either send/receive payments from/to another private bank for overnight loans. Or they can deal with the central bank, by having their reserve balance credited/debited, or by getting an overnight loan from the central bank at a rate determined by the central bank. With overnight loans, no assets are transferred... there's just a promise to pay back the next day via sending a payment.
A few notable things about reserves in the system:
- Use of reserves is totally optional. In practice, banks hold very little reserves.
- The quantity of reserves is entirely determined by demand from private banks.
- Reserves are never transferred from one private bank to another. They are only transferred between central bank and private bank.
If the FED weren't buying, banks would have to bid the market to sell, lowering the price.
Kinda makes the banks whole and also makes the Treasury market higher, lowering rates for the ever increasing US deficit.
Also bank reserves can be used as collateral for further loans, just because you don't lend out the actual reserves doesn't mean more money isn't being created, it's just done in a roundabout fashion.
What do you mean by that? I don't think that it how it works.
In the current economy, a reactivation of the economy have to come from government spending (fiscal policy). Central Banks (monetary policy) are powerless when the interest rate have gone all the way down.
https://fred.stlouisfed.org/series/M2
The is (give or take money market funds) the total sum of money in US bank accounts. Compare and contrast with 2008 for example, where the asset money creation was restricted to the asset side because it was used to take dodgy loans out of the banking system and put them into runoff.
As to why there isn't much inflation yet, well there is. The stock market is considerably inflated due to this, and inflation will creep into the rest of the financial system over time, as this works its way into regulatory capital.
but tldr: it is absolutely printing money - arguably it was the only thing they could do at the time, and the European Central Bank has done similar although less dramatic things, but the longer term consequences will definitely be interesting.
The fact that these are functionally the same to a bank is ignored (or deliberately obscured).
I mean, this is just common sense: if M1 or M2 expansion were printing money, then a rapid doubling of M2 should cause CPI inflation. But it doesn't.
As for inflation -- it's a really slow system that we're looking at here, the inflation depends on where the money ends up, hence the stock market behaviour, but over time it will cause inflation elsewhere.
We look back at historical periods like Weimar, like 1929 as if they happened instantly. But to the people trapped within those moments, they happened day by day, slowly playing out. Irving Fisher is notorious not because he called an end to the crash in 1929, but because he repeatedly called an end to the stock market crash for the next two years.
It would take 3 years for the immediate effects triggered by the US crash in September 29 to play out, and arguably another 20 or more years for the longer term ones. The US money supply actually started shrinking 6 months before the crash as it happened. This is all just the beginning.
As a thought experiment, imagine someone builds a real, functional money printer in their basement and dialed it to print 10% of current M1.
Would prices at the grocery suddenly skyrocket? Obviously not. Even though the money printer is running, and the money supply has grown, no one really knows about it. Even if a press release was put out about the increase in M1, there would likely not be CPI inflation (putting aside any concern about the money printer itself).
Now, to take the example further, let's say the owner of the money printer started buying up real estate with the cash. Would you see CPI? Still, no. You'd probably see some inflation in the local areas where the real estate was being purchased, if it was done in sufficient volume.
Now, to bring the argument to a close, what if you started buying junk bonds and securitized mortgages? Would you see CPI inflation? No. Would you see asset price increases? Yes, probably. It would be hard to correlate the asset price increases to the money printing, which might be the point. Mortgage originators can start climbing the risk ladder now that the money printer is buying up all these securitized mortgages, and companies can also behave in more risky ways and know that they'll get the financing from the money printer. Increased risk can drive an increase in earnings, which will be rewarded with stock appreciation.
With the money printer stepping in and providing loose financing, the cost of money goes down. Now, previous money lenders have a harder time getting yield, and may climb the risk ladder as well to find the yield they need. This will also be seen in asset appreciation, across bonds, stocks, real estate, & more.
What percentage of dollars issued in bank loans, whose issuance depended on this increase in Fed reserves, are expected to be issued to individual citizens who make $72,900 or less (the AMT threshold for 2020, iirc)?
What percentage of dollars are expected to be issued to businesses with gross revenue of $1mil/year or less?
There is no confusion, the term is called "monetizing debt" where they create 'money' out of thin air to buy government debt from banks who then use this money to create even more money via fractional reserve lending.
> bank's constraint against lending more is its equity reserve ratio
Wait, isn't this the same reserve? IE. By putting more capital in the reserve, the banks are able to lend proportionally more?
When the Fed buys assets (government bonds, Fannies, etc.) from a bank, the bank gets back 'bank reserves', which are just a number in the bank's Federal Reserve account somewhere.
Those reserves can't be lent out. The bank can make no change to its lending, because it's a one-to-one swap (highly liquid government treasury -> bank reserve). A bank's constraint against lending more is its equity reserve ratio, which is unchanged by Fed asset purchases.
Again, this is not printing money; functionally speaking, US Treasuries are already 'money' to a bank (they are extremely liquid, widely traded internationally, safe, and in many contexts actually preferable to cash), so swapping a US Treasury with cash is just turning one type of money into another; no net creation.
There's a simple reason the Fed doesn't clear up this confusion: the central bank prefers people to think they are printing money, because credibility is important to their effectiveness. And the Fed doesn't actually print money, because they don't have the legal authority to do so. This is why Powell is regularly getting in front of Congress to urge more stimulus spending: he knows it's the only way to get dollars directly into the hands of ordinary Americans.