I don't know how it smells to you, but to me Fed backstopping
credit risk to infinity smells hyperinflationary. Balance
sheet limits? No more. Your credit deflation is nowhere
to be found, so far, as all credit going bust is being
replaced at warp speed.
nowandfutures.com
Fed looks to extend debate on liquidity
ft.com
By Krishna Guha in Washington
Published: April 29 2008 01:13 | Last updated: April 29 2008
01:13
Federal Reserve policymakers will discuss paying interest on
bank reserves in a closed door meeting on Wednesday. Such a
move could in theory allow the Fed to expand its liquidity
support operations without limit.
The discussion will take place alongside the Fed’s regular
meeting on monetary policy, at which officials are expected to
agree to cut rates another quarter point (25 basis points) to
2 per cent and hint at a possible pause in June.
Under a law passed in 2006, the US central bank will gain the
authority to pay interest on reserves in 2011.
The meeting on Wednesday is based on that timeframe and will
not be followed by any announcements.
However, the meeting could spark an internal debate as to
whether the Fed should consider asking Congress to bring
forward this authority to help it deal with the current credit
crisis.
Many experts think that would be a good idea. Vincent
Reinhart, former chief monetary economist at the Fed, said
paying interest on reserves would allow the Fed to “expand
their liabilities to support more asset purchases”.
A number of other central banks already have the authority to
pay interest on reserves, as well as the authority to lend
banks money.
In normal times they can use these deposit and lending rates
to put a corridor around the main policy rate, and prevent it
from being buffeted too far away from the level they aim to
set.
But at times of financial market stress, the ability to pay
interest on reserves takes on added significance. Currently,
the Fed cannot expand or contract its balance sheet without
altering the overall supply of reserves and changing its main
policy rate, the Fed funds rate.
All it can do is change the composition of its balance sheet –
absorbing more duration risk, liquidity risk or credit risk
from the private sector.
But if the Fed was able to pay interest on deposits, it could
use that rate to put a floor under the Fed funds rate.
That would free the US central bank to conduct liquidity
operations that were larger than the size of its current
balance sheet – roughly $800bn.
“The point...would be to allow the Fed to expand its balance
sheet without having to drive the fed funds rate to zero in
the process,” said Goldman Sachs. |
