Some of my regular readers are aware of the chart I pulled out of a presentation by Christina Romer that I’ve posted quite a few times, with the claim that the asset holdings of the Federal Reserve remained flat until very late in 2008. Now that the transcripts from the FOMC meetings have been released up to December 2008, I’ve had the chance to read through some of them and that claim is no longer just conjecture.
A limited ability to sterilize appears to have prompted the implementation of the IoER program, as discussed here in a FOMC conference call on September 29, 2008:
MR. MADIGAN. Thanks, Mr. Chairman.
As the Chairman indicated, the TARP legislation includes a provision that accelerates the effective date of the authority to pay interest on reserves from October 1, 2011, to October 1, 2008. The Federal Reserve staff believes that we’re ready to start paying interest on reserve balances beginning with the reserve maintenance period that starts on October 9. Assuming that the legislation is passed by the Congress and signed by the President later this week, we plan to recommend shortly thereafter to the Board that the Board direct the Reserve Banks to begin paying interest on reserves on October 9. Specifically, we plan to suggest that required reserve balances be remunerated at a rate of the target federal funds rate less 10 basis points, and more significantly in current circumstances, that excess reserve balances be remunerated initially at a rate of the target federal funds rate less 50 basis points. We anticipate that the spread between the excess reserves rate and the target federal funds rate may well need to be adjusted over time, but we’re suggesting a 50 basis point spread initially. We’re proposing no other significant changes to the reserve maintenance framework at this time, although we’ll be recommending a few relatively technical changes that are motivated by the ability to pay interest on reserves. In more normal circumstances, we’d think of the system that we’re recommending at this time as being a type of a corridor system but with required reserves. The primary credit rate should set the ceiling for the federal funds rate; the excess reserves rate should set the floor.
In the current circumstances, though, it may turn out that the system will operate more like what we have been calling a floor system in which the gap between the target federal funds rate and the excess reserves rate is narrow. This is because, as was discussed earlier, our tools to absorb reserves provided by, again, various lending operations could be constrained given the limited remaining capacity to sell securities and possibly reluctance on the part of Treasury to expand further the supplementary financing program. In any case, the interest rate on excess reserves should put a floor – possibly a soft floor, but a floor— under the funds rate and thereby allow the Federal Reserve to conduct monetary policy appropriately while providing liquidity consistent with financial stability. I would note that the overall reserve maintenance framework will remain very complex, possibly overly complex. The staff plans to continue the study that we presented to the Reserve Bank presidents and the Board members earlier this year, and at some point, we expect to bring significant further changes to the policymakers for consideration. But for now, we think that the changes that we’re proposing will make effective use of the authority that we expect we’ll have beginning on October1. Thanks, Mr. Chairman.
Limited remaining capacity to sell securities??? What circumstances might those be as people are piling into securities in droves? What this is saying to me is that they were coming down to the wire with what they had left to sell, and it wasn’t going to be enough!
So, for those who needed a smoking gun, here it is, at least the first puff.
And for the Bernanke defenders who have suggested that he played a passive role in the creation of the financial crisis, reluctantly gong along with his colleagues, their speculation is unfounded. In every meeting he presented his policy recommendation for a vote and the discussions rarely strayed from the question presented. They were his meetings and no one else’s.
More to come of the inflationophobic Crazy Train at the Fed… like the short term expiration of the TALF/discount window loans that they sold securities to fund.
QTM sure was thrown under that train to the peril of all.