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The Fed Should Cut Interest On Excess Reserves

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"The Fed Should Cut Interest On Excess Reserves"

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In his testimony before Congress, Ben Bernanke also got even more explicit about the fact that he has tools at his disposal to boost economic growth, tools he simply prefers not to use:

Even with the federal funds rate close to zero, we have a number of ways in which we could act to ease financial conditions further. One option would be to provide more explicit guidance about the period over which the federal funds rate and the balance sheet would remain at their current levels. Another approach would be to initiate more securities purchases or to increase the average maturity of our holdings. The Federal Reserve could also reduce the 25 basis point rate of interest it pays to banks on their reserves, thereby putting downward pressure on short-term rates more generally. Of course, our experience with these policies remains relatively limited, and employing them would entail potential risks and costs. However, prudent planning requires that we evaluate the efficacy of these and other potential alternatives for deploying additional stimulus if conditions warrant.

It’s important to call a bit of BS on this business about “potential risks and costs,” especially as applied to the paying of interest on excess bank reserves. The Federal Reserve system never did this until the fall of 2008. There’s no scary economic risk involved in going back to the policies that we used successfully for decades. The interest on excess reserves policy was launched in the middle of the banking panic and has done nothing but exacerbate the subsequent recession.

Meanwhile, for some reason the president of the Dallas Fed thinks there’s nothing more that can be done. He needs to pay more attention.

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