The Fed eliminated the loop in their plot

A month ago or so, I noticed that the reverse repurchase lend lease triple play maneuver allowed the Fed to take deposits from non-member banks. Unfortunately, the member banks also take deposits from non-member banks, while leaving excess reserves on deposit at the Fed.  The result was a loop, known otherwise as the unit root and would have been unstable. I gave them a week before they would fix the problem, and sure enough they did.

John Cochrane reports:

The simple version, as I understand it, seems like great news. Basically, a company can deposit money at a bank, and the bank turns around and invests that money in interest-paying reserves at the Fed. Unlike regular deposits, which you lose if the bank goes under, (these deposits are much bigger than the insured limit) the depositor has a collateral claim to the reserves at the Fed.

This is then exactly 100% reserve, bankruptcy-remote, "narrow banking" deposits.  I argued for these in "toward a run-free financial system" as a substitute for all the run-prone shadow-banking that fell apart in the financial crisis. (No, this isn't going to siphon money away from bank lending, as the Fed buys Treasuries to issue reserves. The volume of bank lending stays the same.)


A second function of such deposits is that, like the new repo facility, it's going to help the Fed to raise rates. When the Fed wants to raise rates it will pay more interest on reserves. The question is, will banks pass that interest on to depositors? If they were competitive they would, but that's not so obvious. If large depostitors can access interest-bearing reserves through the repo program, or now through this narrow-banking program, it's likely to more quickly transmit the interest on reserves to the wider economy.

The repo program will be eliminated entirely.  This has been part of my plot to get central bankers to play with mud puddles and learn: Water in fills, water out empties. Central bankers, quite confused by their own mis-education.