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Yes, the Fed Really Is Holding Down Interest Rates

• https://www.lewrockwell.com

The very sluggish recovery of the economy since the financial crisis — despite zero and near zero interest rates — presents the dominant school of New Keynesian macroeconomists with a conundrum. Many have attempted to resolve the riddle by arguing that such unprecedentedly low interest rates are not the doing of the Fed and therefore do not indicate an expansionary monetary policy. Although not formally a New Keynesian, George Selgin has taken up and vigorously defended this position. According to Selgin, the view that interest rates have been "held down" by "the Fed's easy money policies" is based on a "myth." "The unvarnished truth," according to Selgin, "is that interest rates have been low since the last months of 2008, not because the Fed has deliberately kept them so, but in large part owing to its misguided attempt, back in 2008, to keep them from falling in the first place." Indeed, in Selgin's view, the Fed's monetary policy actually has been "too tight" since 2008.

Let us analyze Selgin's argument, which consists of a number of empirical and theoretical claims. We'll start with his empirical claims. Selgin contends that the policy of "quantitative easing" (QE) "represented an easing of monetary policy only in a ceteris paribus sense." That is, QE would have expanded the money supply had it not been neutralized by other Fed policies. These policies include the payment of interest on excess reserves (IOER) and the Treasury's Supplementary Financing Program (SPF), which either increased the demand by commercial banks for the reserves that the Fed was creating (IOER), or funneled them into a special Treasury account held at the Fed (SPF). Now it is certainly true that in theory these programs could offset or even reverse the expansionary effect of QE on the money supply. But it is easy to determine the actual effect of these programs by simply examining the data on the growth rates of monetary aggregates since 2008. Curiously, rather than following this obvious and simple procedure, Selgin presents a single chart showing the changes in total deposits at Federal Reserve banks held by the Treasury under the Supplementary Financing Account, commenting, "At one point . . . the SPF program alone immobilized almost $559 billion in base money preventing it from serving as a basis for private-sector [i.e., fractional-reserve bank] money creation." But Selgin's chart shows that this large neutralization of reserves only occurred for a few months in 2008, and never sidelined more than $200 billion in reserves from 2009 until the early 2011 when the program was terminated. More important, this chart gives us no indication whatsoever of the net effect of the combination of QE and the countervailing programs on monetary growth.


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