Are We in a Liquidity Trap After All?
A while back, I argued that we’re not in a liquidity trap. But then Greg Mankiw pointed out that the two series on his webpage had different endpoints, leaving the matter again in doubt. Now Jeff Hummel says that excess reserves have indeed risen almost 1:1 with the rise in the monetary base:
[Y]ou can tease out recent estimates by going to the Fed’s weekly H.3,
H.4.1, and H.6 releases and by checking against how much of the base
increase has ended up as currency in the hands of the general public.
Using these means, I put total reserves for the entire banking system
(not adjusted for changes in reserve requirements and not seasonally
adjusted but counting all vault cash and clearing balances) at $72
billion in August. Currently, as of October 22, total reserves are
somewhere between $343 and $358 billion. Notice how close this comes to
matching the corresponding increase in the base, from $847 billion to
But Jeff adds that it’s premature to cry “liquidity trap”:
But this hardly indicates a liquidity trap, for at least four reasons:
(1) Base money can only be held as reserves or currency, and the
allocation of a massive base increase between the two tells you
absolutely nothing about the overall demand for base money. (2) At the
same time that the Fed stomped on the monetary accelerator, it began
paying interest on bank deposits at the Fed, obviously increasing the
demand for reserves. (3) A sudden SHIFT outward in the demand for base
money does not in and of itself demonstrate a liquidity trap, as the
history of bank panics teaches us. (4) You must allow for lags to see
whether this incredibly sudden base increase works its way into the
broader monetary aggregates.