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Why are banks holding so many excess reserves?

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Listed:
  • Todd Keister
  • James J. McAndrews

Abstract

The quantity of reserves in the U.S. banking system has risen dramatically since September 2008. Some commentators have expressed concern that this pattern indicates that the Federal Reserve's liquidity facilities have been ineffective in promoting the flow of credit to firms and households. Others have argued that the high level of reserves will be inflationary. We explain, through a series of examples, why banks are currently holding so many reserves. The examples show how the quantity of bank reserves is determined by the size of the Federal Reserve's policy initiatives and in no way reflects the initiatives' effects on bank lending. We also argue that a large increase in bank reserves need not be inflationary, because the payment of interest on reserves allows the Federal Reserve to adjust short-term interest rates independently of the level of reserves.

Suggested Citation

  • Todd Keister & James J. McAndrews, 2009. "Why are banks holding so many excess reserves?," Staff Reports 380, Federal Reserve Bank of New York.
  • Handle: RePEc:fip:fednsr:380
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    References listed on IDEAS

    as
    1. Huberto M. Ennis & John A. Weinberg, 2007. "Interest on reserves and daylight credit," Economic Quarterly, Federal Reserve Bank of Richmond, vol. 93(Spr), pages 111-142.
    2. Sumner Scott, 2009. "Comment on Brad Delong: Can We Generate Controlled Reflation in a Liquidity Trap?," The Economists' Voice, De Gruyter, vol. 6(4), pages 1-2, March.
    3. Dasgupta Swapan, 2009. "Comment on Luigi Zingales: Why not Consider Maximum Reserve Ratios?," The Economists' Voice, De Gruyter, vol. 6(4), pages 1-2, March.
    4. Huberto M. Ennis & Todd Keister, 2008. "Understanding monetary policy implementation," Economic Quarterly, Federal Reserve Bank of Richmond, vol. 94(Sum), pages 235-263.
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    More about this item

    Keywords

    Bank reserves; Federal Reserve System; Liquidity (Economics); Inflation (Finance);
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