/biz/ - Business & Finance

[Anonymous No.509525]

The Federal Funds overnight rate will stay near 0% for years. It won't admit it, but the Federal Reserve is stuck.

The Federal Reserve does not dictate the rate. The rate is set by banks in the free market based on supply and demand. Banks are required to keep around 10% of their deposits on reserve at the Federal Reserve. The amount on deposit is normally kept very low - a total of single digit billions for every bank in the country. That's because banks can make more money lending to consumers and businesses than they can make from excess reserves (when the economy is healthy.)

When you write a check and someone else cashes it, your money is transferred out of your bank and deposited in someone else'. Multiply that by tens of thousands of customers and sometimes, at the end of any given day, one bank has a deficit under 10% of the required reserves and another bank has a surplus. Banks with deficits then have to borrow money overnight from banks with a surplus.

The rate is negotiated between the banks. The Federal Reserve influences the rate. It deposits money in bank's reserve accounts in exchange for treasury debt to increase the supply of excess reserves and drive down rates. To drive rates up, it reduces the supply of money by taking it out of bank's reserve accounts in exchange for treasury debt.

In July, 2008 excess reserves totaled $1.88 Billion. That's about what it has to get down to in order to get the rate above 0%. Excess Reserves are now $2.68 Trillion. Treasury securities held by the Federal Reserve are $2.45 Trillion. Even if the Fed exchanged every single treasury security to mop up excess reserves, there would still be $225.66 Billion in excess reserves remaining. To much to get the overnight rate off the ground and doing it over just a few months would wreck all kinds of havoc. The only other asset the Fed has of that size is bad mortgages. It won't give those back to the banks. It won't raise the reserve requirements.

Where am I wrong?

[Anonymous No.509987]

What are you really asking?
What are you trying to prove/disprove?

[Anonymous No.510054]

>>509525
>The Federal Reserve does not dictate the rate. The rate is set by banks in the free market based on supply and demand.

This. If the rate was set by the free market, it would be a fuckload higher.

Why would more people want to lend cash in the most volatile economic times when everyone is on the brink of collapse? That's when people want to move back into cash. That is why the Fed creates money to fill that void created by people who wouldn't lend cash in the free market.

[Anonymous No.510433]

>>509987

I'm asking why just about everyone seems to think that the federal funds rate will start rising next year. I don't see how it can happen for several years.

[Anonymous No.510438]

>>510054
>If the rate was set by the free market, it would be a fuckload higher.
Not really- they'd only set it at 0.5% instead of 0.25%. You can just measure the differential between the Federal Funds rate and LIBOR/Eurodollar rates to get the TED spread.

Of course, it isn't always so close. In 2009 it was 400 bps or so, meaning the "free market" would lend at 5% or so instead of the Fed's 1% at the time.

[Anonymous No.510440]

>>510054

The Federal Reserve manipulates the rate by changing supply and demand, but it doesn't dictate what the rate will be. That's still determined by the banks creating the loan. "Free market" might have been the wrong term to use.

>Why would more people want to lend cash in the most volatile economic times when everyone is on the brink of collapse? That's when people want to move back into cash. That is why the Fed creates money to fill that void created by people who wouldn't lend cash in the free market.

The Federal Reserve tries to lower the overnight rate hoping it will filter down and lower other short term rates to push them lower than long term rates. Banks make money by borrowing at low short term rates and lending at higher long term rates. They don't like inverted yield curves and the Federal Reserve exists first and foremost to protect bank profits. It has to raise them when inflation looms. Inflation is not on the horizon right now because most of the money that the Fed created is just sitting as excess reserves on deposit with the Fed.

The Federal Reserve absolutely does not create money to fill a void created by people who wouldn't lend cash in a free market.

[Anonymous No.510444]

>>510433

All the big market participants started in the 1970's, so they're petrified of inflation and money printing and used to shallow recessions with fast recoveries. If you'd asked people in 2009 what the fed funds rate would be now, I guarantee not a one would have said "0%", with the possible exception of Krugman, Summers, and a few other academics who studied Japan, and nobody gave a shit about them.

Both the Fed and the futures markets have been absolutely BTFO in terms of their rates predictions. Pic related shows the predicted evolution of rates through time versus the actual movements.

[Anonymous No.510494]

>>510054
>The Federal Reserve does not dictate the rate
people believe this