Hey Joe, Banks Can’t Lend Out Reserves

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I began another post critical of Joe Stiglitz’s analysis with the caveat that I like Joe. I’ll add to that that I respect his intellect too, both because he’s very bright—you don’t win a Nobel Prize (even in Economics!) without being very bright—and because compared to some other winners, he is very capable of thinking beyond the limitations of the mainstream.

But there are some mainstream concepts that are so deeply embedded in even highly intelligent, flexible thinkers like Joe, that they continue thinking in terms of them, when a bit of really serious thought would show that the concepts are in fact nonsense.

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About Steve Keen

I am Professor of Economics and Head of Economics, History and Politics at Kingston University London, and a long time critic of conventional economic thought. As well as attacking mainstream thought in Debunking Economics, I am also developing an alternative dynamic approach to economic modelling. The key issue I am tackling here is the prospect for a debt-deflation on the back of the enormous private debts accumulated globally, and our very low rate of inflation.
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22 Responses to Hey Joe, Banks Can’t Lend Out Reserves

  1. F. Beard says:

    “So why can’t banks do what the vast majority of economists believe they can and should do—lend the excess reserves that QE has created to the public? ” Steve Keen

    It’s really this simple, Steve: Banks can’t lend out their reserves because individuals, businesses, etc. MAY NOT have accounts at the central bank. Otherwise commercial banks COULD lend their reserves to the public, same as they do to each other and to the central bank itself.

    It’s really that simple and that outrageous too when one considers that the public is FORCED to lend their fiat (aka reserves) to commercial banks, credit unions, etc. since the monetary sovereign, eg. US Treasury, has NO OTHER CHOICE but to direct its payments to commercial banks, credit unions, etc. since individual, business, etc. accounts are not allowed at the central bank.

    If you’re not outraged then you do not yet understand how the poor are forced to lend their fiat to the commercial banks, credit unions, etc. but when it comes to “loans” (actually new liability/deposit creation by the commercial banks, etc) they are the least so-called credit worthy.

  2. twowithinthreethatisone says:

    Individuals are not forced to lend their money to banks, but they are forced to borrow in order to increase their incomes other than work for pay. Considering that aggregate individual income is rapidly being reduced by innovation and AI, and also that virtually every business creates a greater flow of costs than it distributes in individual incomes….the only way this cost inflationary and income deflationary condition can be resolved is for the central bank to open its membership to every individual and have a policy mandate to GIFT the individual with a supplementary income.

  3. F. Beard says:

    Of course the poor may withdraw their fiat in the form of physical cash (paper bills and coins) but that’s far inferior to inherently risk-free accounts at the central bank, which EVERYONE should be allowed to have if equal protection under the law means anything.

  4. F. Beard says:

    “Individuals are not forced to lend their money to banks” twowithinthreethatisone

    In the case of those who receive payments from the monetary sovereign (eg. US Social Security recipients, US Federal workers, the US Military, contractors to the US Federal government, etc.) they are indeed forced to lend their fiat, at least temporarily, to commercial banks, credit unions, etc. since there is nowhere else* to send the direct deposits. Likewise with physical checks from the monetary sovereign; they cannot be deposited to individual, business, etc. accounts at the central bank since those are not allowed but must be deposited to commercial banks, credit unions, etc.

    *ie. individual, business, etc accounts at the central bank.

  5. F. Beard says:

    … and have a policy mandate to GIFT the individual with a supplementary income. twowithinthreethatisone

    Except that is properly a function of the monetary sovereign, not the central bank.

    But yes, new fiat, besides that created by deficit spending by the monetary sovereign, should be equally distributed to citizen accounts at the central bank. From there it can be lent peer-to-peer to the commercial banks, etc., if desired, or to other peers at the central bank (individuals, businesses, etc).

  6. JohnSmith says:

    @Steve Keen:
    Even if the central bank were allowed to lend “reserves” by really transfering reserves ((like handing over a bar of gold) then the accounting in “Table 3” and “Table 4” are faulty. Why?
    It is an asset swap, and not a balance sheet extension. So there is no change of the liability side. The reserves were just swapped with the loan. So it looked like:
    Assets: reserves -1$, loans +1$
    Liabilities: no change.
    The sum is still zero as you can see and it makes sense since there is no additional liablity that the central bank had to serve. 😉
    But since we know that it is forbidden to transfer reserves this is just theoretical. Best!

  7. JohnSmith says:

    Just saw that the balance sheets were from the commercial bank and not the central bank in the tables. Sorry for that! But the accounting pattern would be the same, if handing out real cash or gold.

  8. JohnSmith says:

    @multiplier effect and bank lending:
    If a commercial bank hands out a loan its balance sheet would change like followed (as Prof. Keen explained):
    Assets: loans +1$
    Liabilities: deposits -1$
    So in this case it is a balance sheet extension and can be done as long as the balance sheet stays in the regulations like Basel II, which has two major constraints:
    – reserve requirement of at least 1% of total deposits
    – capital/equity requiremnt of at least 8% (in 2015) of loans
    The second constraint usually is more restrictive than the first in practice.
    If for example a new opened bank had:
    Assets: reserves +2$ and Liabilities: equity -2$.
    Then by the first rule a bank were able to hand out loans of size 2$(reserve)/1% = 200$, but the second rule restricts it to 2$(equity)/8% = 25$.
    But still in this sense there could be a multiplier effect. But the bottleneck is the capital/equity not the reserves of banks. 😉

  9. twowithinthreethatisone says:

    So what are your policies to stabilize the system Dr. Keen?

  10. twowithinthreethatisone says:

    I understand you have advocated a modern debt jubilee which I completely agree with, but isn’t a one off type action like that kind of a static policy when the system is ongoing and dynamic?

  11. rhk says:

    “The first stage is the Central Bank makes a loan to the Private Bank—say of $1 million. That is shown in Table 2, and at this point the accounting is accurate. QE itself is both an asset for the banks, and a liability: they get the reserves from the Central Bank, and they are liable to return them to the Central Bank if it asks for them”.

    steve ..have u made a mistake here..??

    My understanding was that QE was the FED purchasing financial assets from the Private Banks and paying with outside money ( ie. creating reserves in the deposit accts that Banks have with the FED.)

    That Money belongs to the Private Banks…. they are free to spend it or lend it out.. in the same way we can write a chq against the deposits in our own transactional accts.
    ( I’m using simple common sense… I do realize that the reserves are outside money and don’t “physically” leave the reserve system …unless they might be withdrawn as “cash”..?? ).

    Simple common sense would ask… Why on earth would banks swap financial assets for reserves if they could never spend those reserves..??

    The main reason that the Banks are not lending much…might be that they are still healing their balance sheets, or there are few “credible” borrowers…or they are still “fearful”..

    just my view.

  12. guima says:

    ‘Simple common sense would ask… Why on earth would banks swap financial assets for reserves if they could never spend those reserves..??’

    Well swapping a junk asset for a solid asset like reserves would be great for bank in danger of going insolvent. An asset swap will of course not allow a bank to lend more money to the general public because it has not increased their equity. If the reserves are given as a gift though, that would be a different story.

  13. Tim Ward says:

    Bank lending is not reserve constrained. Bank lending is capital constrained.

    Bank lending is constrained by writing standards (loan quality).

  14. Bhaskara II says:

    It might be different for excess reserves.

    I googled, banks-lend-excess-reserves. And hit control-F and typed in lend to search for the word lend.

    7th paragraph of

    “Before October 2008, the costs and benefits of holding reserves were clear. The cost included foregone interest, and the benefits included guarding against last-minute outflows that required immediate cash, much as a depositor might set aside cash to cover emergency expenses, or an investor might hold reserves enabling him to seize an unforeseen opportunity. If a bank did need additional funds, it could obtain reserves through an overnight loan in the federal funds market, where banks with extra reserves lend to other banks. The difference between what a bank could lend and what it could borrow represented the benefit of holding a reserve asset versus the opportunity cost of lending it out.”

    One can do the same search in the wiki article.


  15. Bhaskara II says:

    More on excess reserves.

    Wiki article above claims reserves and excess reserves are not in different accounts in the second paragraph.

    “In the United States, bank reserves are held as FRB (Federal Reserve Bank) credit in FRB accounts; they are not separated into separate “minimum reserves” and “excess reserves” accounts. The total amount of FRB credit held in all FRB accounts, together with all currency and vault cash form the M0 monetary base.”

    A definition of excess reserves.



  16. Bhaskara II says:

    Cartoon, Graduates talking at graduation.

    “You{ve got a money making gig?”

    “I run an online cap and gown rental business.”


  17. Bhaskara II says:

    It seems clearer to sepperate the excess reserves and reserves concepts. But, one might consider excess reserves as reserves (in excess).

  18. Bhaskara II says:

    The examples in the wiki article on double entry are very confusing for the new learner. Because the article puts examples special books (origonal books of entry) and subsidiary journals in place of the beginning concept examples of general journal entries.

    Those books reduce the amount of entries in a manual paper and pencil system of accounting and are very important later on. But, most of all accounting text books cover the general journal first for pegigagical clarity. And the other books above are covered later for manual efficiency and organization and simplicity for casheers, buyers, whoes transactions are repetative.

    All those books look different. The general journal is uniform and all accounting entried can be posted there. Thus the journal is covered first in text books.

    Those books in the wiki article meet double entry requirements by posting individual entries or sums to the complementry accounts. This is harder to understand before learning the more clear general journal entry method.

    A complete accounting system can be implemented and taught with a journal and ledger only.

    Amost any accounting text better explains accounting more simply than this wiki article.

    So the section on books of account makes this article pegigogicly overly complicated.

  19. Tim Ward says:

    Reserves in the US are based on/ defined by deposits, not loans.

    Loans create capital requirements.

    The reserves are concerned with the liability side of banks balance sheets, not asset side of balance sheets.

  20. Bhaskara II says:

    Here are two decent articles on debit and credit. I commented that debit and credit can apply to things in addition to money.

    “In accounting, if credit is what goes out, then why does income come under credit?”

    This definition of funds includes things as funds.

    “The Language of Business!”

    Professor Keen´s +s are debits and -s are credits. Frome the point of view of the accounts that works very well.

  21. Bhaskara II says:

    Thus the + and – entries sum to zero.

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