Do Bank Reserves Matter?

By: Steve Saville, The Speculative Investor

The following is excerpted from a commentary originally posted at www.speculative-investor.com on 8^th September 2013.

The answer to the above question is yes, but not in the way that most people think. Most financial commentators believe that commercial banks expand their loan books by ‘piggybacking’ on their reserves, with something known as the “money multiplier” determining the amount of additional loans that can be made in response to an increase in bank reserves. In reality, however, there is no relationship between bank lending and bank reserves; at least, there isn’t in the US.

Our statement that there is no relationship between US bank lending and US bank reserves will probably be controversial, but it can be quickly verified using some charts sourced from the St Louis Fed’s database. Here we go.

The first chart shows the total of bank reserves held at the Fed from the early-1970s through to the beginning of 2008, and the second chart shows the total loans and leases of US commercial banks over the same period. There is no evidence in these charts that an increase in bank lending requires an increase in bank reserves or that bank lending is in any way dependent upon bank reserves. Notice, in particular, that total loans-and-leases rose from less than $500B in the early-70s to almost $7,000B ($7T) at the beginning of 2008 while total bank reserves FELL from about $23B to less than $10B. Also take note of the period from 1993 to 2000. During this period the total quantity of reserves held at the Fed plunged from $25B to only $5B while the total loans-and-leases of the US commercial banking system doubled from $2T to $4T.
 

The next two charts show the same quantities from the beginning of 2008 through to the present day. Whereas the charts presented above make the point that a huge expansion of bank lending can happen independently of bank reserves, the charts presented below make the point that a huge increase in bank reserves will not necessarily prompt an expansion of bank lending. Notice, in particular, that since August of 2008 there has been very little net change in the total amount of loans-and-leases despite a veritable ‘moonshot’ in bank reserves from almost nothing to more than $2T.

continue article at GoldSeek.com:

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