47. Lower the interest rate earned on excess reserves held by banks to 0% Lower the target Federal Funds Rate by 0.5% Policy Proposal
Editor's Notes
LIBOR : London Interbank Offered RateForeseen risk causes rate to riseIncreasing interest rates make it less appealing to borrow moneyHigher interest rates also make some banks and financial bodies unable to borrow moneyWithout the availability of liquid assets, lending power shrinks, causing banks to lend lessLBIOR Overnight 5.375 (5.38%)Calculated by averaging rate at which top 7 banks willing to lend funds overnight
Similar to LIBORAlternative method to raise liquidityRiskier method to raise liquidityAlso up drastically in past month, past year and a half on bottomHigher Interest Rate denotes greater risk of default and loss of principal funds
VIX Volatility Market, CBOE is Chicago Board Options ExchangeVolatility rate shows distrust in market, worries about ability to raise funds / selling of stocksTED rate is difference of T-Bills and Eurodollar rate, indicator of how safe banks see lending to eachother
VIX Volatility Market, CBOE is Chicago Board Options ExchangeVolatility rate shows distrust in market, worries about ability to raise funds / selling of stocksTED rate is difference of T-Bills and Eurodollar rate, indicator of how safe banks see lending to eachother
VIX Volatility Market, CBOE is Chicago Board Options ExchangeVolatility rate shows distrust in market, worries about ability to raise funds / selling of stocksTED rate is difference of T-Bills and Eurodollar rate, indicator of how safe banks see lending to eachother
In response to the weak economy and financial markets the Federal Reserve has responded aggressively through open market operations, lending at the discount window and by creating new facilities to provide liquidity to the market. The orange line shows the target federal finds rate over the past year. As you can see, the fed has been very active with using expansionary monetary policy to help the economy. The blue line shows the effective federal funds rate over the same time period. Recently, an excess supply of reserves has encouraged banks to borrow and invest more freely, however, the substantial increase in monetary base shows banks are still unwilling to lend.
In addition to lowering the target fed funds and discount rate, the fed has also introduced a variety of facilities to provide liquidity to different markets. Facilities have recently resulted in the easing of commercial paper rates to more normal levels and investors have returned their funds to mutual funds.
As you can see, the increased use of open market operations, lending at the discount window, and newly created lending facilities has increased the monetary base substantially. Even though banks have been receiving more liquidity, they are still very skeptical about providing new loans and the result is a large increase in excess reserves. The excess supply of reserves within the monetary base has lead to a lower effective federal finds rate.Monetary Base (M0) – the volume of money in the economy that includes only currency and commercial bank reserves with the central bank. High supply leads to lower effective rate
Although the monetary base has increased significantly and the federal funds target is low, inflation worries are currently not a major problem. As you can see on the graph, the money multiplier has decreased significantly during the same time frame that monetary base has increased. The result of an increase M1 to not as of a drastic increase in monetary base results in a lower money multiplier. Banks have been squeezing credit, as a result, monetary base continues to increase, leading to an even lower money multiplier. While the money multiplier continues to decrease, future inflation concerns are not the main concern of the Fed.1.23 on 10-22-2008Money Multiplier – the maximum amount of money that the banking system generates with each dollar of excess reserves.Inflation levels after the dot com bubble crash? – MM constant, MB up