I.e., the intermediaries have shrunk in size & the size of the member banks has remained essentially the same. The non-banks are financial intermediaries – intermediaries between saver & borrower. The member banks are new money and credit creators (they always create new money in the lending process, member banks do not loan out existing deposits).

A trillion dollars + in monetary savings (if you count just the verifiable portion in excess reserves), was siphoned out (via redemptions, etc.), of the non-banks (e.g., hedge funds, investment banks, finance companies, insurance companies, mortgage companies, pension funds, etc.).

I.e., interest-bearing deposits at the financial intermediaries were siphoned out of the economy (in the form of loans and investments at the non-banks (mortgages, etc.). I.e., net debt (or velocity), has contracted (but not net new money).

Non-banks (contrary to Lord Keynes), are not in competition with member commercial banks. Savers never transfer their savings out of the banking system (unless they are hoarding currency). This applies to all investments made directly or indirectly through intermediaries.

Shifts from time/savings deposits to other deposit types within the CBs (and the transfer of the ownership of these deposits to the thrifts/non-banks), involves a shift in the form of bank liabilities (and a shift in the ownership of (existing) deposits (from savers to thrifts, et al).

The utilization of these savings by the thrifts has no effect on the volume of deposits held by the CBs, or the volume of their earnings assets. I.e., the non-banks are customers of the member, money creating, depository banks.

The financial press has attributed this to deleveraging. However, the member banks (18% of the lending market, Z.1 release), has suffered no dis-intermediation (just portfolio readjustments).

Monetary savings (savings held beyond the income period), are impounded within the banking system. They are lost to investment, consumption, or to any type of payment (if held in this form). I.e., savings held within the monetary system have a transactions velocity of zero, and are a leakage in the Keynesian national income concept of savings.

Such a “cessation of circuit income” has adverse effects on production and employment, and requires large dosages of money to counter-act.

Thus under one view, the quantitative easing performed by the FED (an increase in legal reserves), has been substantially erased. But we are not done. If the FOMC raised the average reserve ratios on member bank deposits, the volume of required reserves would increase (which if large enough, could induce bank credit contraction), ceteris paribus.

This process is the same as if the FOMC raised the remuneration rate on excess & required reserves, vis a’ vis other competitive instruments and yields. It would also increase the volume of legal reserves, ceteris paribus (which also acts to reduce the monetary system’s lending capacity).

I.e., the BOG increased reserve-deposit ratios by increasing the volume of inter-bank deposits held in the District Reserve Banks, owned by the member banks (in the form of IORs).

I.e., the FED has followed a downward spiraling contractionary policy in the midst of a recession/depression.

Quantitative easing was tried, but there were opposing forces that rendered it immeasurable.

The solution is to redirect savings to the non-banks, and velocity (consumption & investment), will rebound, without unnecessarily forcing prices (stagflation), higher. This re-routing was successful in the housing crisis of 1966 (such targeted redirection is used in a command economy). In 66, both the member bank’s and non-bank’s profits were revived, and the housing market (and the economy along side it), recovered thereafter, etc.

Bottom line, the Fed is betting on a real recovery, and on the output gap controlling expectations in the meantime. At the same time, it is misinforming the people by arguing that it can manage inflation expectations (by controling Excess Reserves) without raising interest rates.

I’m not sure I understand your point on required reserve interest. Say the Fed raises the rate on Excess Reserves to 1% and leaves the RR rate at .25%. That means that banks wanting reserves to support lending can borrow them at .25%. The Fed would have to provide them with any amount funds such that the rate does not climb above that target Fed Funds rate. Do the banks lend out Excess Reserves at 1%? It doesn’t matter — they have as many (Required) reserves from Open Market Operations as they need to support lending at .25%.

In a sense, the above jibes with what “Flow5″ is saying. Banks don’t lend out reserves. They make loans and either borrow Required Reserves (from the Fed as a system) or use existing Excess Reserves. So if you raise the ER rate but not the RR one, banks just use RR’s to support the loans they make. At a rate of .25% on RR’s they will lend as much as they would have had the ER rate also remained at .25%.

Bottom line, for the Fed to restrain lending, they have to raise interest rates. For the Fed to sell assets, they have to put upward pressure somewhere along the curve: short end if they conduct reverse repo’s; long end if they sell MBS or Treasuries. There is no balance sheet shrinkage or restraint of lending that can occur without raising SOME borrowing cost. The fact that people believe otherwise is testament to the Fed’s rather effective disinformation (“we have other options besides raising rates”) campaign

From a systems viewpoint, “member banks” (as contrasted to financial intermediaries): never loan out, and can’t loan out, existing deposits (saved or otherwise) including existing transaction deposits (TRs), or time deposits (TDs) or the owner’s equity, or any liability item.

When member banks (MBs) grant loans to, or purchase securities from, the non-bank public (which includes the U.S. Treasury & every person), (except the commercial and the Reserve Banks), MBs acquire title to earning assets by initially, the creation of an equal volume of new money- (transaction deposits) — somewhere in the banking system.

I.e., commercial bank deposits (as well as interbank demand deposits held at the District banks owned by the member banks), are the result of lending, not the other way around.

An individual bank can create deposits up to an amount approximately equal to its excess reserves (unused lending and investment capacity). I.e., while an individual bank is limited to its excess-reserve position, the system as a whole is able to create deposits by a multiple of the total excess reserves in the system.

Like I said, the banking system *as a whole* can never withdraw money from the Fed, except for coins and notes. Reserves will always be “sitting at the Fed”. If lending in private society expands, some of the reserves will be called required instead of excess, but it will still be “sitting at the Fed”.

Yes, like saying that only mortal people are taxed.

http://blogs.wsj.com/economics/2009/11/03/guest-contribution-fed-likely-to-have-trouble-with-exit-strategy/