Best of the Week
Most Popular
1.Trump Delirium Triggers Stock Market Brexit Upwards Crash Towards Dow 20,000! - Nadeem_Walayat
2.The Future Price Of Gold Will Drop Below $1000 In 2017 -InvestingHaven
3.May Never Get Another Opportunity to Buy Gold at this Level Again - Chris_Vermeulen
4.Delirium - The Real Reason Why Donald Trump Won the US Presidential Election - Nadeem_Walayat
5.Why Nate Silver / Fivethirtyeight is one of the Most Reliable Election Forecasting Indicator? - Nadeem_Walayat
6.Gold Price Forecast: Nasty Naughty November Gold Price Trend - I_M_Vronsky
7.Gold Mining Stocks Screaming Buy! Q3’16 Fundamentals - Zeal_LLC
8.Delirium of Trump Mania Win's Mr BrExit US Presidential Election 2016 - Nadeem_Walayat
9.The War On Cash Goes Nuclear In India, Australia and Across The World - Jeff_Berwick
10.Hidden Signs for Gold and Silver - P_Radomski_CFA
Last 7 days
India's Stock Market: Nothing "Random" About It - 9th Dec 16
Gold Futures Selling Exhausting - 9th Dec 16
Cheap Large Icicle Christmas LED Lights Review - B&M Stores - 9th Dec 16
US Interest Rates and the Toughest Man Who Ever Lived - 9th Dec 16
Amazon UK Christmas Shopping Useless Delivery Tracking Warning Alert - 9th Dec 16
Euro-zone Crisis - The Soon To Erupt Euro Experiment - 9th Dec 16
Global Market Perspective 3 Killer Charts, 2 Fast Looks at Politics - 9th Dec 16
Trump Could Fuel A Nuclear Energy Boom In 2017 - 8th Dec 16
Our Future Economy, Jobs, Banking, And Governance – Part2 - 8th Dec 16
Developing Knowledge-Intensive Society and Knowledge Industrial Hub in Kerala - 8th Dec 16
Crude Oil and Gold, Silver Precious Metals Link - 8th Dec 16
Stock Market and the Great Middle Class Revolt Gets Bigger - 8th Dec 16
Protectionist Trump Policies To Crash Dollar, Gold and Bitcoin to Soar - 8th Dec 16
The Jaws of Life : The Most Hated Stocks Bull Market in History! - 8th Dec 16
Infrastructure A Budding Asset Class - 8th Dec 16
Trump Stocks Bull Market Furious Rally Towards Dow 20k as Bear Mantra Persists - 8th Dec 16
More Talk About More Economic Growth and More Globalization - 7th Dec 16
Cracks In US Treasury Bond Market, The Japanese Factor - 7th Dec 16
The Rise of Anti-Establishment Italy - 7th Dec 16
Trump Likely to Drive Another Bump in Stock Market Buybacks — Here’s How to Hedge - 7th Dec 16
World War II and the Origins of American Unease - 7th Dec 16
Online CFD Trading for Traders on a Budget - 7th Dec 16
Silver Bullion Price Buying Opportunity for 2017? - 7th Dec 16
The Imminent Multi-Trillion Dollar Surge In Social Security & Medicare Costs - 7th Dec 16
Gold Bullion Price Buying Opportunity for 2017? - 6th Dec 16
Shariah Gold Standard Approved for $2 Trillion Islamic Finance Market - 6th Dec 16
THE Gold Play for 2017 - 6th Dec 16
Trump Sets The Stage For A Huge Gold Rally In 2017 - 6th Dec 16
BrExit Tsunami Claims Emperor Renzi's Scalp, Counting Down to End of the EU, Next? - 6th Dec 16
Failed EU - Means an Expanded Dictatorship - 6th Dec 16
Crude Oil Prices: "Random"? Hardly - 5th Dec 16
The Coming Stock Market Crash and WWIII - 5th Dec 16
This Past Week in Gold Market - 5th Dec 16
Stock Market Short-Term Correction Underway - 5th Dec 16
If Trump Doesn’t Do This, We Will Have the Great Depression 2.0 - 5th Dec 16
India’s Demonetization Could Be the First Cash Domino to Fall - 5th Dec 16
Our Future Economy, Jobs, Banking, And Governance - 5th Dec 16
Gold and Silver Bullion Buying Opportunity for 2017? - 4th Dec 16
First UK BrExit then Trump, Next BrExit Tsunami Wave to Hit Italy HARD Sunday! - 3rd Dec 16
The 10YR Yield and SPX Stocks Bull Markets - 3rd Dec 16
Gold And Silver – Do Not Expect Much Difference With Trump Compared To Obama - 3rd Dec 16
Gold, Currencies and Markets Critical 61.8% Retracements - 2nd Dec 16
Gold Junior Stocks Q3’16 Fundamentals - 2nd Dec 16
Adventures in Castro’s Cuba - 2nd Dec 16
We Are Putting Off the Inevitable - 2nd Dec 16
Macroeconomic Cycles & Demographics - A Fuse, An Explosive and The Igniting Catalyst - 2nd Dec 16
How Moving Averages Can Identify a Trade - 1st Dec 16
Silver Prices and Interest Rates - 1st Dec 16
America, is it Finally time for us to say Goodbye? - 1st Dec 16
Blockchain Technology – What Is It and How Will It Change Your Life? - 1st Dec 16
Burn the Flags, Can Trump Salvage The Sinking US Economic Ship? - 1st Dec 16
Will US Housing Real Estate Market Tank in 2017? - 1st Dec 16

Free Instant Analysis

Free Instant Technical Analysis


Market Oracle FREE Newsletter

$10000 Gold

Fed Policy Change That Will Increase the Gold Price

Commodities / Gold and Silver 2013 Dec 18, 2013 - 03:13 PM GMT

By: Douglas_French

Commodities

For investors having a rooting interest in the price of gold, the catalyst for a recovery may be in sight. "Buy gold if you believe in math," Brent Johnson, CEO of Santiago Capital, recently told CNBC viewers.

Johnson says central banks are printing money faster than gold is being pulled from the ground, so the gold price must go up. Johnson is on the right track, but central banks have partners in the money creation business—commercial banks. And while the FFed has been huffing and puffing and blowing up its balance sheet, banks have been licking their wounds and laying low. Money has been cheap on Wall Street the last five years, but hard to find on Main Street.


Professor Steve Hanke, professor of Applied Economics at Johns Hopkins University, explains that the Fed creates roughly 15% of the money supply (what he calls "state money"), while the banks create "bank money," which is the remaining 85% of the money supply.

Higher interest rates actually provide banks the incentive to lend. So while investors worry about a Fed taper and higher rates, it is exactly what is needed to spur lending, employment, and money creation.

The Fed has pumped itself up, but not much has happened outside of Wall Street. However, the Federal Open Market Committee (FOMC), during their October meeting, talked of making a significant policy change that might unleash a torrent of liquidity through the commercial banking system.

Alan Blinder pointed out in a Wall Street Journal op-ed that the meeting minutes included a discussion of excess reserves and "[M]ost participants thought that a reduction by the Board of Governors in the interest rate paid on excess reserves could be worth considering at some stage."

Blinder was once the vice chairman at the Fed, so when he interprets the minutes' tea leaves to mean the voting members "love the idea," he's probably right. Of course "at some stage" could mean anytime, and there's plenty of room in the word "reduction"—25 basis points worth anyway. Maybe more if you subscribe to Blinder's idea of banks paying a fee to keep excess reserves at the central bank.

Commercial banks are required a keep a certain amount of money on deposit at the Fed based upon how much they hold in customer deposits. Banking being a leveraged business, bankers don't normally keep any more money than they have to at the Fed so they can use the money to make loans or buy securities and earn interest. Anything extra they keep at the Fed is called excess reserves.

Up until when Lehman Brothers failed in September of 2008, excess reserves were essentially zero. A month later, the central bank began paying banks 25 basis points on these reserves  and five years later banks—mostly the huge mega-banks—have $2.5 trillion parked in excess reserves.

I heard a bank stock analyst tell an investment crowd this past summer the banks don't really benefit from the 25 basis points, but we're talking $6.25 billion a year in income the banks have been receiving courtesy of a change made during the panicked heart of bailout season 2008. This has been a pure government subsidy to the banking industry, and one the public has been blissfully ignorant of.

But now everything looks rosy in Bankland again. The banks collectively made $36 billion in the third quarter after earning over $42 billion the previous quarter—showing big profits by reserving a fraction of what they had previously for loan losses.

The primary regulator for many banks—the FDIC—is even cutting its operating budget 11%, citing the recovery of the industry. The deposit insurer will have one short of 7,200 employees on the job in 2014.

That's a third of the number it had in 1991 after the S&L crisis, but almost 3,000 more than it had in 2007 just before the financial crisis.

So with all of this good news, the Fed may indeed be thinking they can pull out the 25bp lifeline and the banks will be just fine. What Blinder thinks and hopes is the banks will use that $2.5 trillion to make loans. After all, one-year Treasury notes yield just 13 basis points, while the two-year only kicks off 31bps. Institutional money market rates are even lower.

Up until recently, banks haven't been active lenders. The industry loan-to-deposit ratio reflects a tepid loan environment. During the boom, this ratio was over 100%. Now it hovers near 75%. It turns out that what the Fed has been paying—25 basis points—has been the best source of income for that $2.5 trillion.

However, banks won't be able to cut their loan loss reserves to significant profits for much longer. Loan balances have grown at the nation's banks the last two quarters and this will have to continue. If the Fed stopped paying interest on excess reserves and bank lending continues to increase, those $2.5 trillion in excess reserves could turn into multiples of that in money creation.

Banks create money when they lend. As Blinder explains, Fed-injected reserves are lent "creating multiple expansions of the money supply and credit. Bank reserves were called 'high-powered money' because each new dollar of reserves led to several additional dollars of money and credit."

Fans of the yellow metal, like Mr. Johnson who sees the price going to $5,000 per ounce, have likely been too focused on the Fed's balance sheet when it's the banks that create most of the money.

When the Fed announces it won't pay any more interest on excess reserves, and banks start lending in earnest again, the price of gold will be very interesting to watch.

And when that happens, you'll want to be prepared. Find out all you need to know about the best ways to invest in gold—in the FREE 2014 Gold Investor's Guide. Click here to read it now.

© 2013 Copyright Casey Research - 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.

Casey Research Archive

© 2005-2016 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

Catching a Falling Financial Knife