RickAckerman
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The stock market often swings wildly on insignificant news, but yesterday Wall Street appears finally to have taken some real news in stride, flatlining in response to one of the most delicately and judiciously worded speeches we’ve heard from Mr. Bernanke since he took office. The Fed chairman was addressing perhaps the most crucial economic topic of them all — namely, how the Fed plans to wean the financial system off easy credit in the wake of the most spectacular monetary blowout in U.S. history. Turns out, he does have a plan. And although we have rarely given Mr. Bernanke a passing grade for anything he has said or done, this time he gets an ‘A’ for handling a tough topic without roiling the markets even slightly. Given the choices available, the plan is probably the best we could have hoped for.
Very simply, the Fed intends to replace the federal-funds rate as its main policy tool, relying instead on adjustments in the interest the Fed pays to banks on excess reserves. Here’s how the Wall Street Journal explained it: “Raising the excess-reserves rate would give banks an incentive to park more funds at the Fed instead of lending them out to companies or households. In this way, the Fed would be able to restrain an economy that risks overheating and sparking inflation. Moving this rate would pull up other short-term rates, including the federal-funds rate, long the Fed’s main tool for steering the economy.”
Deflation Bonus
Excess reserves currently earn 0.25%, but in today’s deflationary environment, with nominal rates at historical lows, it’s not hard to imagine banks turning into hard-core “savers” if the incentive to park funds risklessly at the Fed were raised even a skoach. What’s more, the process makes tightening sound more like a reward than a punishment. Instead of raising interest rates to throttle credit, the Fed would be raising them indirectly by giving the banks a greater incentive not to lend. The very word “tightening” always scares hell out of investors, but yesterday’s subdued reaction to Mr. Bernanke’s speech suggests he has found a way to say what needs to be said without causing a stampede. Although we don’t expect the Fed to attempt tightening in any way, shape or form for the foreseeable future, it’s mildly comforting to know that there may be way to at least talk about it without bringing the whole house of cards tumbling down.
Source: www.rickackerman.com
Very simply, the Fed intends to replace the federal-funds rate as its main policy tool, relying instead on adjustments in the interest the Fed pays to banks on excess reserves. Here’s how the Wall Street Journal explained it: “Raising the excess-reserves rate would give banks an incentive to park more funds at the Fed instead of lending them out to companies or households. In this way, the Fed would be able to restrain an economy that risks overheating and sparking inflation. Moving this rate would pull up other short-term rates, including the federal-funds rate, long the Fed’s main tool for steering the economy.”
Deflation Bonus
Excess reserves currently earn 0.25%, but in today’s deflationary environment, with nominal rates at historical lows, it’s not hard to imagine banks turning into hard-core “savers” if the incentive to park funds risklessly at the Fed were raised even a skoach. What’s more, the process makes tightening sound more like a reward than a punishment. Instead of raising interest rates to throttle credit, the Fed would be raising them indirectly by giving the banks a greater incentive not to lend. The very word “tightening” always scares hell out of investors, but yesterday’s subdued reaction to Mr. Bernanke’s speech suggests he has found a way to say what needs to be said without causing a stampede. Although we don’t expect the Fed to attempt tightening in any way, shape or form for the foreseeable future, it’s mildly comforting to know that there may be way to at least talk about it without bringing the whole house of cards tumbling down.
Source: www.rickackerman.com
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