The Changing Nature Of Banks, Post-Crisis Edition

Written by Frances Coppola, CoppolaComment.Blogspot.Co.UK

Dr. Selgin has added a vertical line to indicate when the Fed imposed interest on excess reserves. I don’t propose to discuss that here, since I have engaged in an interesting and spirited discussion with Dr. Selgin and others about it on both Forbes and Twitter. I am more interested in what else this chart shows. It is truly fascinating.

Courtesy of Dr. George Selgin comes this chart from FRED:

The first thing to note is the fast rise in bank reserves from the latter part of 2008 onwards (blue line). This is due to emergency liquidity support and distressed asset purchases in the immediate aftermath of the 2008 financial crisis, and of course to QE.

Unsurprisingly, there was a sharp fall in interbank lending at the time of the crisis. It recovered somewhat early in 2009, but then interbank lending fell again during the main phase of QE1. This is not surprising, since QE1 gave banks more than enough reserves to settle deposit withdrawals. They had no need to borrow from each other.

Also during this time there was a considerable decline in bank lending, and a rise in purchases of safe assets (Treasury and Agency securities). Banks appear to have been substituting safe assets for risky ones. Reserves are, of course, safe assets. But it looks as if large though the reserves increase was, it wasn’t enough to meet the needs of damaged, distressed and risk-averse banks – or substitute for the loss of private sector “safe assets” when the market valuations of private label RMBS and their derivatives collapsed.

This is interesting enough in itself. But this chart ends in 2009. It only shows the acute phase of the crisis and ensuing recession. I wondered what happened next. So I’ve created another version of Dr. Selgin’s chart, covering the 10 years from January 2006 to January 2016:

This chart is even more interesting than Dr. Selgin’s.

Firstly, the three phases of QE can be clearly seen (sharp rises on blue line). Large though the rise in bank reserves was after the financial crisis, it is dwarfed by subsequent rises, particularly QE3.