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Banks are not 'Mystical'

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April 02, 2012 – Comments (24)

If you have been following this, there has been public debate / back and forth between Paul Krugman and Steve Keen regarding banking operations. If you want to read a very good detailed post regarding why Paul Krugman's statements on this matter are incorrect, please read this post by Scott Fullwiler who has probably the deepest understanding of monetary and banking operations of any economist: Scott Fullwiler: Krugman’s Flashing Neon Sign. The post is very long and detailed, which is important because the details most certainly matter in this debate.

And here is another way to look at the whole 'banks lend deposits' nonsense which begets the whole 'money multipler model' of bank lending, which has been thoroughly discredited despite this myth continuing to persist:

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Banks Are Not Mystical
April 2, 2012 By Cullen Roche

http://monetaryrealism.com/banks-are-not-mystical/

The recent crisis has been beneficial in at least one way – it has begun to shed light on some of the myths of our monetary system that have poisoned economics and politics for many decades.  If I had to rank some of these myths I would almost certainly put the currency user vs. currency issuer myth at the top of the list.  But a close second is the myth of the money multiplier.  Students are generally taught that our banking system works through some sort of “loanable funds” market or “money multiplier” whereby banks obtain deposits so they can then loan them out.  There’s just one problem with these ideas – they’re not right.

These ideas have all come to a head in recent weeks when Paul Krugman and Steve Keen got into a bit of a back and forth about the operational realities of the banking system.  I won’t comment specifically on the ideas of either men, both of whom are fantastic economists, but I think this conversation exposes the degree to which most people continue to misinterpret modern banking and requires some brief discussion.

The standard banking model says that banks are reserve constrained and that the amount of loans a given bank can make is a multiple of its reserves.   But the recent crisis has shot king sized holes in this myth.  The Fed has substantially expanded the amount of reserves in the banking system, but lending has flat-lined:



This is a monumentally important chart so it’s important to understand a few points if you’re going to understand why the above chart looks the way it does:

-- Reserve balances are determined by the Federal Reserve who acts as the monopoly supplier of reserves to the banking system.  Banks can never “get rid” of reserves in the aggregate.  They can shuffle them among each other, but only the Fed can destroy or create reserves through open market operations.   The Fed oversees the payments system and in doing so must act to ensure that banks can obtain reserves in order to settle payments and meet reserve requirements as needed.

-- Bank lending is not reserve constrained (in fact, many countries don’t even have reserve requirements at all).  This means that banks do not need reserves before they make loans.  Instead, banks make loans first and obtain reserves in the overnight market (from other banks) or from the Fed after the fact (if needed).   New loans result in a newly created deposit in the banking system.

-- Banks are capital constrained.  Banks can always find reserves from the central bank so banks do not check reserve balances before making loans.  Instead, they will check the creditworthiness of the borrower and their own capital position to ensure that the loan is consistent with the goal of their business – earning a profit on the spread between their assets and liabilities.

-- Banks attract deposits because they want to maintain the cheapest liabilities possible in order to maximize this spread on assets and liabilities.   Banks are, after all, in the business of making a profit!

That pretty much sums up the above chart.  You don’t need to understand balance sheet recessions or liquidity traps to know what’s going on there.  You just need to understand how banking works.   Yes, it’s true that the balance sheet recession has been a truly unique period in American history.  But the above chart is only unique in that it exposed this great myth to the public.   When the demand for credit collapsed the Fed was nearly helpless in reviving the credit markets.   Despite a $1.6 trillion reserve injection the lending markets just didn’t budge.  This might have appeared like an anomaly to some, but to those who understood banking this made perfect sense.  More reserves were never going to result in more loans.  This was not because it had temporarily become true, but because this is the way banking works.  Not just inside a balance sheet recession or liquidity trap or whatever you want to call it, but always….

24 Comments – Post Your Own

#1) On April 02, 2012 at 10:18 AM, Schmacko (56.85) wrote:

"The standard banking model says that banks are reserve constrained and that the amount of loans a given bank can make is a multiple of its reserves.   But the recent crisis has shot king sized holes in this myth.  The Fed has substantially expanded the amount of reserves in the banking system, but lending has flat-lined:"

I'm not arguing for or against the writers position or taking a stance on the which came first the loan or deposit argument... however the chart and case presented doesn't actually disprove or shoot king size holes in said myth.  If a bank's lending were limited to a maximum size equal to some multiple of it's total reserve balance, then increasing the reserve balance would theoretically mean the bank could lend out a greater amount.  However it does not mean that banks will at all times have lending equal to that multiple, which is all that chart shows.  Banks aren't required to make bad/unwanted loans just to keep their loan to reserve ratios maxed out at all times.

So increasing reserves does not necessarily equate to an increase in lending because the ratios aren't fixed.  It does not however disprove that banks could increase their lending to a new higher level if they so chose to do so.

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#2) On April 02, 2012 at 11:12 AM, leohaas (31.49) wrote:

Binve, I respect you contributions tremendously, but I was going to post the exact same response as Schmacko. It is not possible to push on a string!

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#3) On April 02, 2012 at 11:42 AM, ETFsRule (99.94) wrote:

Comments 1 & 2 nailed it.

Krugman never claimed that increasing reserves would lead to an increase in lending.

For instance: This Age of Hicks

1. It says that once adverse demand shocks have pushed the economy into a liquidity trap, even very large increases in the monetary base — the sum of currency and bank reserves, which is what the Fed controls — will be basically sterile, leading neither to a boom nor to inflation.

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#4) On April 02, 2012 at 11:43 AM, binve (< 20) wrote:

Schmacko ,

Agreed that the chart is not definitive proof in dispelling the myth simply by itself. The myth has been dispelled by many people many times (I discuss it myself in several posts: here, here, here).

The point is that once you understand that banks are not reserve constrained and that the money multiplier model is a myth then the above chart makes sense. That you don't need the 'special sitation' of a 'liquidty trap' to try to justify what is going on right now.

So increasing reserves does not necessarily equate to an increase in lending because the ratios aren't fixed.  It does not however disprove that banks could increase their lending to a new higher level if they so chose to do so.

The point is not to argue about 'lending reserve ratios', as you point out they are variable. The point is to discuss the causality.

Krugman and IS-LMists who adhere to the loanable funds theory say that banks lend deposits and as a monetary transmission phenomenon when the monetary base is increased then new loans will be created via the money multiplier model expanding the overall money supply.

This is the simplified textbook explanation. Except it doesn't bear out with real world observations. So the story gets revised so that the money multiplier is not constant and that it is variable. Another more accurate phrasing would be that it is *arbitrary*. Another ad-hocery is to come up with a 'liquidty trap' explanation to say why banks won't lend.

This all misses the causality involved.

Banks are *capital* constrained. Banks are also profit making enterprises. They loan when they feel there is a favorable spread on extending a loan. The extension of loan is not 'financed from reserves'. It is an impairment against capital. As I explain in the 3 links above, when a bank needs to meet reserve requirements it worries about getting those reserves after the fact via the overnight market. Especially read the piece by Fullwiler at the top of the post.

This means that bank lending is primarily determined from the demand side of the equation, not from the supply side. Increasing the monetary base does not 'entice' banks to lend as they 'seek to leverage those reserves'. That line of thought completely misses the causality involved.

The reality is that the 'loanable funds market' does not exist. The money multiplier is a myth from a causality perspective.

leohaas , .

Thanks man, I appreciate that.

It is not possible to push on a string!

The context in which this phrase is often used in incorrect. i.e. that increasing the monetary base now doesn't help because we are in the special situation of a 'liquidity trap'. See my response above to Schmacko why this is incorrect reasoning.

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#5) On April 02, 2012 at 11:44 AM, ETFsRule (99.94) wrote:

.

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#6) On April 02, 2012 at 11:46 AM, binve (< 20) wrote:

ETFsRule,

You need an ad-hoc 'liquidity trap' explanation only if you labor under the incorrect assumption that there is a loanable funds market. See my response above to Schmacko.

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#7) On April 02, 2012 at 12:21 PM, ETFsRule (99.94) wrote:

The point is that once you understand that banks are not reserve constrained and that the money multiplier model is a myth then the above chart makes sense. That you don't need the 'special sitation' of a 'liquidty trap' to try to justify what is going on right now.

Actually you do.

I graphed the monetary base against loans, and found that, with only 4 exceptions, loans always increased whenever the monetary base was also increasing.

Those 4 exceptions all took place during a recession, or in the immediate aftermath of a recession. So it looks like the Keynesians are right again; loans are always correlated with the monetary base, except for the special situation of a liquidity trap.

In fact, the results are so clear that we can use this analysis to identify periods when we were in a liquidity trap.

Here are the 4 "special situations" that have occured since 1959:

1. 1975

2. 1991-1993

3. 2001-2002

4. 2008-2011

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#8) On April 02, 2012 at 12:22 PM, ETFsRule (99.94) wrote:

post, please...

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#9) On April 02, 2012 at 1:05 PM, binve (< 20) wrote:

did my response get eaten?

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#10) On April 02, 2012 at 1:06 PM, binve (< 20) wrote:

stupid comment system, let me try again!!

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#11) On April 02, 2012 at 1:09 PM, binve (< 20) wrote:

ETFsRule,

This is the perfect example of why correlation does not equal causation.

As loans increase, deposits increase. This is described here and many other places. Loans create deposits. So in order for the Fed to maintain control of the Federal Funds Rate, it must create reserves for the banking system. This is where proper understanding of the banking / monetary system is needed so you see how these pieces fit together.

 (continued in next comment)

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#12) On April 02, 2012 at 1:10 PM, binve (< 20) wrote:

As banks create loans, some portion of those loans move though the economy and becomes spending (income) which is eventually saved and deposited at banks. As the transactions settle and new deposits are made the reserves shift from the banks which made the loans to the banks that receive the deposits. If in aggregate more loans were created than were paid-off over a given time period (say one day), then there would be a system-wide deficit of reserves needed to meet reserve requirements. Banks by themeselves cannot make reserves or change the amount of reserves in the system, it only shuffles them amongst themselves. The only entity that can alter the net reserve position in the banking system is the Federal Reserve.

 (continued in next comment)

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#13) On April 02, 2012 at 1:11 PM, binve (< 20) wrote:

When the banking system is short of reserves as in the above example, this manifests as upward pressue on the overnight lending rate (the iterbank rate that banks pays to borrow reserves). Some banks have more reserves than they need to meet requirements and some banks have less. The banks that do have more want to lend their reserves to make a profit to the banks that need them. That level of supply/demand puts upward pressure on the overnight rate. If that rate goes above the Fed Funds rate (the Fed's policy rate target) then it responds by injecting reserves into the banking system (which it does by buying Treasury bonds). The opposite happens if the overnight lending rate drops below the Feds target rate. It sells Treasury bonds, which soaks up reserves (banks use the excess reserves to buy the bonds from the Treasury, thereby returning the reserves back to the Feds balance sheet where they promptly disappear into the ether).

 (continued in next comment)

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#14) On April 02, 2012 at 1:11 PM, binve (< 20) wrote:

This is the cause and effect:

1) Customers want loans, bank lending is determined from the demand side
2) Banks extend loans to any credit-worthy borrows when it feels it can make profit on the transaction, and if the loan does not violate capital requirements
3) Banks make the loan independent of their reserve positions and finds loans after the fact
4) The demand / supply of reserves manifests as movement in the overnight lending rate which the Fed responds to by adding or soaking up reserves such that the overnight lending rate meets the Fed Funds policy rate.

Once you understand this cause and effect then your 'monetary base against loans' chart becomes crystal clear: the Fed does *NOT* 'lead' credit cycles by increasing the monetary base, it *FOLLOWS* credits cycles and increases the monetary base based on loan demand.

This is a point properly made by Austrian Economist Vijay Boyapati (see here) His observation has shown that bank reserve creation by the Fed actually lags banking sector lending:

Given that commercial banks are effectively operating without a reserve requirement and that loan issuance is not constrained by reserves, it would be sensible to reconsider the temporal causality posited by the money multiplier theory of lending. If the causality were correct, one would expect changes in reserves to precede changes in the issuance of credit, ceteris paribus. Citing an empirical study on business cycle statistics conducted by the Federal Reserve, Steve Keen explains that the opposite is true:

…rather than [reserves] being created first and credit money following with a lag, the sequence was reversed: credit money was created first, and [reserves were] then created about a year later.

From an Austrian perspective, an empirical argument based on a temporal correlation is not definitive proof of an underlying causality — although it may be illustrative and suggestive of that causality. An explanation for the counterintuitive temporal sequence is provided in a Federal Reserve study of the institutional structure of the US banking system since 1990, conducted by Carpenter and Demiralp. They demonstrate that “reservable liabilities fund only a small fraction of bank lending and the evidence suggests that they are not the marginal source of funding, either.” Their point is that when a bank makes a loan, the matching liability used to fund the loan does not need to be reserves created by the Fed.
.

This is why the 'liquidity trap' argument is bogus.

Because it assumes that there is a loanable funds market and that banks can't / won't make the loans because of some mythical 'aggregate loanable fund supply' being out of balance with demand.

But we see above, that is not how horizontal money (bank loans) is created endogenously at all. The 'seed stock' of monetary base has nothing to do with loan creation.

The 'liquidity traps' periods when viewed in the proper light are periods of weak customer demand for loans. The economy is in a recesssion and customers are paying off debt. This is a much more compelling explanation than a liquidity trap in which people are hoarding cash due to liquidity preferences, which again hearkens back to a false loanable funds theory.

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#15) On April 02, 2012 at 1:26 PM, binve (< 20) wrote:

And brining home this point:

Once you understand this cause and effect then your 'monetary base against loans' chart becomes crystal clear: the Fed does *NOT* 'lead' credit cycles by increasing the monetary base, it *FOLLOWS* credits cycles and increases the monetary base based on loan demand.

This is precisely why the explosion of the monetary base, the clear vertical line in the chart in comment #7 has *NOT* led any new bank lending. Because the whole monetary transmission mechanism by increases in the monetary base therby increasing loans is incorrect. 

It doesn't work that that way. The cause and effect based on the money multiplier theory is wrong.

And the retort 'the Fed is pushing on a string' is no kind of defense for the liquidity trap theory, because it proceeds from a false premise.

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#16) On April 02, 2012 at 3:54 PM, leohaas (31.49) wrote:

Clearly, a one-liner did not do the trick. It allows you to make all kinds of assumptions (which you obviously did). So let me try again.

I am not saying or implying that MMT is correct or incorrect, or that the "deposits first" model is right or wrong. However, for argument's sake only, let's assume that the "deposits first" model is correct.

What this model says is that banks can lend out more money if they have more reserves. It does not say that the banks will lend out more money if they have more reserves. As a matter of fact, supporters of the model (including Krugman) point out that in and after a recession banks will not lend out more, even if more reserves are available.

This is for two reasons:
1) On the supply side, banks establish stricter lending standards in a crisis, leading to fewer loans in the aftermath
2) On the demand side, individuals and businesses become less willing to take on risks and thus apply for fewer loans.

Of course you can argue that a whole theory is wrong. You do that convincingly. The only point I was trying to make here was that the figure you show does not prove your point. The "deposits first" model has a perfectly fine explanantion for what you see in the figure, therefore you cannot use the figure to prove that "depost first" has got it wrong.

 

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#17) On April 02, 2012 at 3:59 PM, leohaas (31.49) wrote:

"depost" s/b "deposit". Sorry.

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#18) On April 02, 2012 at 7:45 PM, ETFsRule (99.94) wrote:

3) Banks make the loan independent of their reserve positions and finds loans after the fact

The problem is, this theory hasn't been properly supported with evidence.

You cite Boyapati, who cites Keen, who cites Kydland & Prescott. Their paper includes a very brief analysis of the relative timing of M0, M1 and M2. This is from a Fortran analysis done 22 years ago, using data from 1954-1989. And if you look at what they actually said, their results were inconclusive.

Keen quotes them as saying that the M2 leads the business cycle, with (M2-M1) leading by even more than M2 alone. But he doesn't mention that Kydland & Prescott were only talking about the 80's expansion when they said this. That hardly represents a widely-applicable conclusion.

Also: from table 4 of their study we can see that the velocity of the M0 is exactly coincident with GNP, whereas the velocity of M2 lags GNP by 4 quarters.

To understand your position a little more, please clarify: when you say the banks will "find a loan after the fact", are you saying they will get a loan the next day, or the next week... or an entire year later?

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#19) On April 02, 2012 at 9:32 PM, binve (< 20) wrote:

leohaas ,

The only point I was trying to make here was that the figure you show does not prove your point. The "deposits first" model has a perfectly fine explanantion for what you see in the figure, therefore you cannot use the figure to prove that "depost first" has got it wrong.

I agree with you that the figure is not 'definitive proof' that either model is completely valid or invalid. It is not enough info by itself to make a conclusion. And I said basically that at the beginning of my response to Schmacko.

But the point is this is a spot in the bigger picture, and if viewed through the IS-LM lens you get one conclusion (which I posit is incorrect) about what is happening. And if you view it though an MMT-like lens you view it another way (Keen is not an MMTer, FWIW), which is more accurate because it accounts for actual banking and monetary operations.

ETFsRule,

The problem is, this theory hasn't been properly supported with evidence.

Scott Fullwiler has done a study on this as well, but I don't have it at my fingertips, i will try to dig it up.

To understand your position a little more, please clarify: when you say the banks will "find a loan after the fact", are you saying they will get a loan the next day, or the next week... or an entire year later?

That was a typo. 3. should read: 3) Banks make the loan independent of their reserve positions and finds *reserves* after the fact.

They do so via the overnight market has detailed in comments 12 and 13..

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#20) On April 02, 2012 at 9:43 PM, binve (< 20) wrote:

ETFsRule, ,

While I am looking for the Fullwiler paper that I am trying to find, here is a good one from the Federal Reserve discussing the correlation between monetary base and aggregates and bank lending with regard to the money multiplier: http://www.federalreserve.gov/pubs/feds/2010/201041/201041pap.pdf..

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#21) On April 03, 2012 at 1:21 PM, ETFsRule (99.94) wrote:

"3. should read: 3) Banks make the loan independent of their reserve positions and finds *reserves* after the fact."

I think you are over-reaching with your logic.

It's true that banks can find reserves in the overnight market. However, this doesn't mean that banks make a loan independent of their reserve positions. Nor does it mean that they aren't reserve-constrained.

Look at it this way: My mortgage payment is technically due on the 1st of each month. However, there is a 15-day grace period, so I can actually pay it by the 15th of the month, without a penalty.

This doesn't mean that my mortgage doesn't have a due date, or that I can choose not to pay it, or that my personal finances are not "mortgage-constrained". I still need to come up with that money by the 15th, so it is still an issue. There is just a little bit of leeway in the due date.

There are 2 implications of the reserve requirement:

1. The Fed can sometimes cause less lending to occur, by not expanding the monetary base. This will only work if the banks are close to the reserve requirement - which they usually are (the current situation is an exception).

2. The Fed can sometimes cause more lending to occur, by expanding the monetary base. But again, this only works when the banks are close to the reserve requirement. And it only works if there is enough demand for loans.

An example is shown on the fourth page here, where the Fed stopped expanding the money stock in April 1966, and this caused a slowdown in bank lending starting in July of that year.

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#22) On April 03, 2012 at 1:58 PM, leohaas (31.49) wrote:

"But the point is this is a spot in the bigger picture,..."

No, it is not! You bring so many good points to the discussion. Base your argument on those good points, drop the one that does not provide any distinction between the theory you say is right and the theory you say is wrong. Both theories provide a fine explanation for what we see in the figure.

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#23) On April 03, 2012 at 2:22 PM, binve (< 20) wrote:

ETFsRule ,

"3. should read: 3) Banks make the loan independent of their reserve positions and finds *reserves* after the fact."

I think you are over-reaching with your logic.

No, I don't think so. There are a number of economists and banking officials (in the Federal Reserve and in industry) that have shown many times that banks are in fact capital constrained, they are not reserve constrained.

Fullwiler: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1658232
FRB-DC: http://www.federalreserve.gov/pubs/feds/2010/201041/201041pap.pdf
FRB-NY: http://www.ijcb.org/journal/ijcb10q3a3.pdf
BIS: http://www.bis.org/publ/bcbs_wp1.pdf?noframes=1
Brookings: http://www.brookings.edu/~/media/Files/rc/papers/2010/0129_capital_elliott/0129_capital_primer_elliott.pdf
Harrison: http://www.nakedcapitalism.com/2011/05/banks-are-not-reserve-constrained.html

And many more by Wray, Mosler, Kelton, etc.

It's true that banks can find reserves in the overnight market. However, this doesn't mean that banks make a loan independent of their reserve positions. Nor does it mean that they aren't reserve-constrained.

Yes, that is precisely what it means.

The operation of the modern banking industry is for banks to make loans and for the Fed to guarantee that enough reserves exist system-wide to meet reserve requirements. The is part of the Fed's mandate to promote orderly and smooth settlements of transactions.

The mechanism by which this occurs is described in comments 12, 13 and 14 above and in several of the papers I just linked to.

A bank will be able to find reserves at some interest rate to meet its obligations. So reserve 'availabiltiy' is never a real constraint on a bank's lending decision. The real constraint is meeting capital requirements, which is a different issue altogether.

Your points 1 and 2 above in comment 21 are therefore fallacious. Especially with the addition of the qualifier 'sometimes'. This means that there is a spurious link between reserves and bank lending. And when you investigate and understand why you must include the term 'sometime', as I do above, you understand that the causaulity for bank lending is not at all detemined by mechanisms you described.

I have now made my case, responded to all your points, and said my peace. It is now up to any readers to read all the links that we both have provided and to come up with their own opinions.

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#24) On April 03, 2012 at 8:29 PM, ETFsRule (99.94) wrote:

"There are a number of economists and banking officials (in the Federal Reserve and in industry) that have shown many times that banks are in fact capital constrained, they are not reserve constrained."

They are restrained by both.

"Fullwiler: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1658232"

He does a good job of explaining his position, which is pretty much the same as what you have been saying. But there is very little in the way of data - his is mostly an opinion piece, with some links to other people's opinions.

"FRB-DC: http://www.federalreserve.gov/pubs/feds/2010/201041/201041pap.pdf"

He writes: 

"Interestingly, reservable
deposits appear to Granger cause loans (row 3, column 2). Reservable" (!)

His conclusions are illogical, and he glosses over the most important statistical fact from his research: the data shows that reserves do, in fact, result in more loans! He has accidently made the case for the other side!

"FRB-NY: http://www.ijcb.org/journal/ijcb10q3a3.pdf"

Nowhere in this article do they claim that banks are not reserve-constrained.

They write:


"Smaller-sized banks that don’t have access to funding markets which would allow for a quick adjustment in their reserve balance typically demand some level of excess reserves as a source of liquidity, to guard against reserve-draining shocks. As a group, these smaller banks historically have held about $1.5 billion
of reserves in excess of their requirements each day. Reflecting their inability to access broad funding markets, this “frictional” demand amongst smaller banks has proven to be largely insensitive to both current trading conditions in the funds market and to the level of the funds target."

Why would they need to "guard against reserve-draining shocks", if such reserves were unimportant? This certainly does not seem to support your theory.

"BIS: http://www.bis.org/publ/bcbs_wp1.pdf?noframes=1"

They discuss capital requirements, but as was the case with the prior link, they never claim that banks are not reserve-constrained. I know you're trying to make the case that you know a lot about the banking system, but frankly this paper is irrelevant to the current discussion.

"Brookings: http://www.brookings.edu/~/media/Files/rc/papers/2010/0129_capital_elliott/0129_capital_primer_elliott.pdf"

See my previous comment.

"Harrison: http://www.nakedcapitalism.com/2011/05/banks-are-not-reserve-constrained.html"

This is just a blog post. He shares your opinion, but just because someone shares your opinion, that doesn't make it valid. He doesn't use facts or data to support his opinion.

He writes: "The loans come first, not the reserves."

That is true, but again, it doesn't mean that banks are not reserve-constrained. I don't know why this is so hard to understand.

How about this: if a burglar breaks into someone's house, he knows that he isn't going to be prosecuted and put in prison until after he has committed the crime. Does that mean that prosecution cannot act as a deterrent for potential burglars? Of course not.

"The operation of the modern banking industry is for banks to make loans and for the Fed to guarantee that enough reserves exist system-wide to meet reserve requirements. The is part of the Fed's mandate to promote orderly and smooth settlements of transactions."

The Fed is not obligated to make reserves available. They could stop making money available if they wanted to. And if any banks violated the reserve requirement, they could fine them.

I have already proven that the Fed can do this; they did it in 1966.

"At the January 11, 1966 FOMC meeting the Committee
voted to:
resist the emergence of inflationary pressures by moderating the growth in the reserve base, bank credit, and the money supply.
At the March 1 meeting the Committee voted to “resist inflationary pressures” rather than the “emergence of inflationary pressures.” In mid-April the FOMC directive called for “restricting” rather than “moderating” the growth in the reserve base, bank credit, and the money supply. The directive subsequently remained little changed until late 1966."

That was their approach - and it worked.

"Your points 1 and 2 above in comment 21 are therefore fallacious."

False.

"Especially with the addition of the qualifier 'sometimes'. This means that there is a spurious link between reserves and bank lending. "

Nothing is spurious about this link. I explained it already, and it really isn't all that hard to understand.

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