Most Popular
1. THE INFLATION MONSTER is Forecasting RECESSION - Nadeem_Walayat
2.Why APPLE Could CRASH the Stock Market! - Nadeem_Walayat
3.The Stocks Stealth BEAR Market - Nadeem_Walayat
4.Inflation, Commodities and Interest Rates : Paradigm Shifts in Macrotrends - Rambus_Chartology
5.Stock Market in the Eye of the Storm, Visualising AI Tech Stocks Buying Levels - Nadeem_Walayat
6.AI Tech Stocks Earnings BloodBath Buying Opportunity - Nadeem_Walayat
7.PPT HALTS STOCK MARKET CRASH ahead of Fed May Interest Rate Hike Meeting - Nadeem_Walayat
8.50 Small Cap Growth Stocks Analysis to CAPITALISE on the Stock Market Inflation -Nadeem_Walayat
9.WE HAVE NO CHOICE BUT TO INVEST IN STOCKS AND HOUSING MARKET - Nadeem_Walayat
10.Apple and Microsoft Nuts Are About to CRACK and Send Stock Market Sharply Lower - Nadeem_Walayat
Last 7 days
The NEXT BIG EMPIRE WILL BE..... CANZUK - 25th June 22
Who (or What) Is Really in Charge of Bitcoin's Price Swings? - 25th June 22
Crude Oil Price Forecast - Trend Breaks Downward – Rejecting The $120 Level - 25th June 22
Everyone and their Grandma is Expecting a Big Stocks Bear Market Rally - 23rd June 22
The Fed’s Hawkish Bite Left Its Mark on the S&P 500 Stocks - 23rd June 22
No Dodging the Stock Market Bullet - 23rd June 22
How To Set Up A Business To Better Manage In The Free Market - 23rd June 22
Why Are Precious Metals Considered A Good Investment? Find Out Here - 23rd June 22
UK House Prices and the Inflation Mega-trend - 22nd June 22
Sportsbook Betting Reviews: How to Choose a Sportsbook- 22nd June 22
Looking to buy Cannabis Stocks? - 22nd June 22
UK House Prices Momentum Forecast - 21st June 22
The Fed is Incompetent - Beware the Dancing Market Puppet - 21st June 22
US Economy Headed for a Hard Landing - 21st June 22
How to Invest in EU - New Opportunities Uncovered - 21st June 22
How To Protect Your Assets During Inflation - 21st June 22
AI Tech Stocks Current State, Is AMAZON a Dying Tech Giant? - 20th June 22
Gold/Gold miners fundamental checkup - 20th June 22
Personal Finance Tips: How To Get Out Of A Tough Financial Situation - 20th June 22
UK House Prices Relative to GDP Growth - 19th June 22
Will Global Markets Be Pushed Deeper Into Crisis Event By The US Fed? - 19th June 22
Useful Things You Need To Know About Tweezer Top Candlestick Pattern - 19th June 22
UK House Prices Real Terms Sustainable Trend - 17th June 22
Why I’m buying the “new” value stocks… - 17th June 22
Optimize Benefits from R&D in Software Product Development with an R&D Tax Credit Software - 17th June 22
Want To Save On Your Business Energy? Here Are Some Helpful Tips - 17th June 22

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

Fed Chooses to Exit through Eye of Needle

Interest-Rates / US Interest Rates Feb 16, 2010 - 06:55 AM GMT

By: Michael_Pento

Interest-Rates

Ben Bernanke is making sure the Fed’s exit strategy goes as easily as a camel can pass through the eye of a needle. Instead of choosing to just sell assets and unwind the amount of securities it holds, the Fed chairman is seeking to be creative once again—as he was in the buildup of its balance sheet--and increase the amount of interest it pays on excess reserves. He said this in a prepared statement for the House Financial Services Committee that was released on Wednesday, “It is possible that the Federal Reserve could for a time use the interest rate paid on reserves, in combination with targets for reserve quantities, as a guide to its policy stance, while simultaneously monitoring a range of market rates.”


But in order to prevent intractable inflation, the Fed must at some point shed most of the $1.43 trillion worth of housing debt it will own by the end of March. The Fed’s balance sheet has increased to $2.25 trillion from $925 billion at the start of 2008 and excess reserves in the banking system now total more than $1 trillion.

Commercial bank deposits placed with the Fed that are not required to be held against loans are considered excess reserves. By paying interest on these central bank deposits, the Fed can raise the interest rate on interbank lending because loans to other banks are intrinsically more risky than loans given to Mr. Bernanke. But there are major flaws to this strategy. The Fed pays interest on reserves with yet more deposits held at the central bank. Therefore, paying interest on reserves further increases commercial bank deposits held at the Fed, and those new deposits will accrue interest as well…and so on. As a result, by choosing to not sell assets and drain liquidity from banks, the unwinding of their balance sheet will take many years.

Projections from the St. Louis Fed are that it will take 5-7 years for the Mortgage Backed Securities (MBS) to be paid off and unwound from the Fed’s balance sheet. That means Ben Bernanke is betting banks will not make more profitable loans to consumers and enterprises during those years and will instead opt for the lower return garnered from receiving interest on deposits.

Another risk that arises from deciding not to sell assets comes through the process know as sweeping. Banks currently have the ability to sweep money into Money Market Funds and time deposits. Those types of deposits do not have any reserve requirements. That means commercial banks do not need a large amount of excess reserves to create a tremendous amount of loan growth and new money. By concentrating on paying interest on reserves, the Chairman not only ignores the crucial action of dramatically reducing the Fed’s balance sheet but also fetters his ability to increase the level of interest rates to a level that would attenuate rampant loan growth. In other words, since paying interest on reserves also increases reserves, there is a limit on how high the Fed can pay on deposits.

Mr. Bernanke also made it completely clear that any such future disposal of assets would come at a snail’s pace. In regard to the speed of asset sales he said, “Any such sales would be at a gradual pace, would be clearly communicated to market participants and would entail appropriate consideration of economic conditions,”

The most import factors in keeping inflation and money supply growth quiescent are to remove most of the excess reserves held at the central bank and to raise interest rates to keep the demand for loans in check. And it is the cost of money that is the most import governor for inflation. After all, it was not a massive build up in reserves that caused the housing bubble. It was the exceptionally low interest rates for an extended period of time that caused consumers to dramatically increase their debt load and for banks to substantially boost the availability of credit. By focusing primarily on increasing the interest rate on deposits held at the Fed to keep prices in check, Mr. Bernanke misses the key factors behind money supply growth and inflation.

Be sure to listen in on my Mid-Week Reality Check and to follow my blog Pentonomics
Follow me on Twitter: http://twitter.com/michaelpento

Michael Pento
Senior Market Strategist
Delta Global Advisors
800-485-1220
mpento@deltaga.com
www.deltaga.com

With more than 16 years of industry experience, Michael Pento acts as senior market strategist for Delta Global Advisors and is a contributing writer for GreenFaucet.com . He is a well-established specialist in the Austrian School of economic theory and a regular guest on CNBC and other national media outlets. Mr. Pento has worked on the floor of the N.Y.S.E. as well as serving as vice president of investments for GunnAllen Financial immediately prior to joining Delta Global.

© 2010 Copyright Michael Pento - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Michael Pento Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in