Bank Reserves and Basel III, 2021 #2: LCR and NSFR
Today, we will catch up on what JP Morgan Chase’s LCR and NSFR look like. October 31, 2021: Bank Reserves and Basel III, 2021October 21, 2019: Basel III and Demand for Bank Reserves The Liquidity Coverage Ratio and Net Stable Funding Requirements are the primary framework that banks adopted as part of Basel III, beginning in 2010 and fully phased in during 2019. This requires banks to hold a large portion of their assets in the form of Federal Reserve deposits (bank reserves, a form of base money). Basically, you can look at this as the bankers’ equivalent of a vault full of $20 bills. If someone comes asking for their money, they have plenty of cash on hand to make payouts. Wikipedia on LCR and NSFR Today, Domestic banks like JP Morgan Chase have about 14% of total assets in the form of Fed bank reserves. This mirrors past banking practice, when it was common to hold 10%-12% of assets in the form of “cash.” Today, this “cash” is almost 100% Fed deposits (bank reserves), although in the past it was mostly overnight lending. Here is how it looked on JP Morgan’s 10Q from 3Q21: We see that the LCR was around 112%, which is basically the minimum since you need a little cushion above the required 100%. It’s worth noting, however, that this “HQLA” consisted of $690B “cash,” defined in the footnote as Central Bank deposits, out of $724B total as of September 30, 2021. In other words, the HQLA-eligible assets were 95% CB deposits. The remainder was “eligible securities,” which is mostly or entirely government bonds I would imagine. A year earlier, in September 30, 2020, “cash” was 68% of HQLA. So, banks have moved more toward “cash,” in the process absorbing more base money from the
Bank Reserves and Basel III, 2021
Today we will catch up on a topic that I first addressed in 2019, regarding new regulations for banks arising from Basel III, and bank reserves, which are a form of base money and a liability on the Federal Reserve’s balance sheet. October 21, 2019: Basel III and Demand for Bank Reserves October 29, 2019: Basel III and Demand for Bank Reserves #2: Return to Normalcy The conclusion of those items were that new regulations arising from Basel III and finalized in November 2010, and phased in through the end of 2019, led banks to hold much higher levels of bank reserves (Federal Reserve deposits) than had been common previously. This was actually a return to old-fashioned banking principles, of the 1950s and decades previous. At the end of 2019, bank reserves were low compared to this new requirement, setting up a minor crisis as banks scrambled for reserves that didn’t exist. This drove short-term lending rates over 8% in some instances. In 2020, the Federal Reserve increased bank reserves dramatically, by buying Treasury bonds. This resolved the shortage that existed at 2019-end, and also, added more, which was required because banks’ balance sheets also expanded dramatically, leading to a need for more reserves. By early 2021, banks’ reserve requirements seemed to be entirely satisfied. The drama then became: what will happen when the Fed expands more than is necessary to accommodate these new Basel III requirements? But, this didn’t happen. The Fed was on track to do this, but canceled out (“sterilized”) further expansion through the expansion of the Reverse Repo function, which reduced the monetary base. This brings us to today, where it seems that banks have fully satisfied their reserve requirements, but things have not obviously exceeded that level by very much. Unfortunately, the precise Basel III
Rationalizing Tariffs
Economic Nationalism tends to boil down into two basic policies: tariffs, and limited immigration. Sometimes, in the past, it has meant currency devaluations, but today that is not really proposed. On a broader basis, it means that economic policy should result in positive outcomes, for the whole of the population. This might mean suppressing some elements of “free enterprise,” for example, limiting child labor, or banning consumer lending at rates above 10% — which used to be a common law among States, until around 1980. Minimum wage laws might be included here as well. Controlling immigration is a much more important topic, these days and probably throughout US history, than tariffs. But, let’s look now at tariffs. In the past, the US Federal Government was funded by two basic indirect taxes: excise taxes, and tariffs. This followed a long tradition of “indirect” taxation, as a principle of liberty and good government, going back to the days of Ancient Greece. “Excise taxes” are basically taxes on individual items. A dollar tax on a gallon of gasoline, for example. For over a thousand years previous, governments had experimented with “turnover taxes,” a tax on the sale of anything. But, this would tax an item, or the raw materials of the item, several times as it moved to market. Also, it was a tax on asset transactions such as equities or land. In practice, it could easily become highly destructive, and played a part in both the demise of the Arab Empire (the Saracens), and also Imperial Spain. (A major rise in a “turnover tax” in Germany in 1932 was probably a big reason for the horrible collapse of the German economy that year, among the worst in the developed world, while neighboring France, which didn’t raise taxes, was almost untouched. That was
Prescription Drugs Should Be Almost Free, And Actually, They Already Are
(This item originally appeared at Forbes.com on October 1, 2021.) For a long time, people have been debating drug prices in the United States. This is stupid. Today, about 90% of all prescriptions are for generic drugs. Probably, the percentage should be higher than this. (It is 97% in China). Generic prescription drugs should be like Tylenol — almost free. Actually, they already are almost free. Quick: Name the most important new drugs of the last twenty years. Tough question, right? There haven’t been any new drugs that are so important that regular people know their name. I used to say: “except for Viagra,” which always got a laugh. But actually, Viagra is now off patent, and available generically — at $0.15 a pill, at Kroger’s. Generics have rapidly accounted for nearly all prescriptions. In 2005, 60% of prescriptions were for generics. In 2019, 90% were. Even for those remaining 10% of patented medicine, generics could be substituted. A March 2021 study found that, among 169 million prescriptions for branded drugs paid for by Medicare, 30% involved prescriptions were generics were available. On top of that, branded drugs were often used to fill “open prescriptions” where generics were available. We have been told, by the biotech hypesters, about the amazing new drugs that are just over the horizon. The reality is that patented drugs have had a 75% decline in market share in just 15 years, which are Blockbuster Video kinds of numbers. Instead, what has happened is: the same old drugs are now available for amazing new prices. A 2017 study estimated the costs of production of the World Health Organization’s Model List of Essential Medicines, including hundreds of generic drugs. Most of them cost less than $0.10 per pill. If you want to see the lowest prices for
We Are Going To Have A Much Smaller Federal Government
(This item originally appeared at Forbes.com on September 15, 2021.) The original Federal government of the Constitution was framed on the principle of a limited government of “Enumerated Powers.” In other words, it would handle a short and definite list of responsibilities. All other functions of government would be the responsibilities of the States. Basically, the Enumerated Powers amounted to the military, foreign trade, immigration and foreign policy — all the “foreign” stuff. All the “domestic” stuff, such as education policy, was for the States to determine. This was emphasized in the Tenth Amendment to the Constitution. The United States actually followed this principle pretty well, until the Great Depression and New Deal. But, things didn’t really get out of hand until the Great Society period of the 1960s. Today, most of the Federal government’s budget is consumed by domestic programs that didn’t exist before 1930. This includes: Social Security, all healthcare including Medicare, over a hundred means-tested Federal welfare programs, education, and dozens if not hundreds of other minor topics. I think it is very important to have a good idea of what you want, even if achieving it seems politically remote. Like many today, I have recommended the “eventual” devolution of all these Federal programs to the States, to manage as they see fit, and impose taxes appropriately to pay for them. I think we are in a Crisis Era today, and that before too long, big changes might come to the Constitution, or the “effective Constitution,” that is: the way things are actually done. For example, a sovereign debt crisis of some sort might force the Federal Government to cut its spending in a hurry. Or, a threat of secession might be countered by an offer: “We’ll just take care of military defense, and all the other
Demographic Collapse #2: Ponzi Schemes
I have been arguing that a decline in population (“demographic collapse”) need not be a bad thing. If per-worker productivity remains high, or better yet rises considerably, then individuals and the society in general will remain wealthy and prosperous. The main issue, as I see it, is not the total population, but the increasing skew toward seniors that results when birthrates are low. Seniors have already become a very high percentage of the population, compared to historical precedent, due to increased lifespans. We will have to adjust our social institutions and expectations in a way that is compatible with this fact. Here is how it looks in Japan, which is something of a forerunner in these issues. By the way, the difference between the fertility rate in Japan (1.36 children per woman) and the United States (1.70) is entirely attributable to the high rate of births to unmarried women in the US (40%) compared to Japan (3%). The fertility rate of married women is about the same. This might be more of a good thing than a bad thing. Although it means that Japan’s population would shrink more rapidly, it also means that 97% of the children would be born to married households, avoiding all the pathologies of children raised to single moms. I have argued that a rational response to declining birth rates is: A focus on increasing productivity per worker, especially as the ratio of unproductive adults (seniors) to working adults rises. This basically means good economic policy, which is: Stable Money and Low Taxes. Moves toward reducing the economic costs of seniors, which probably means shared households, either seniors moving in with their grown children, or seniors banding together into large senior households or institutions. It probably means reducing government-funded healthcare expenses for seniors with little useful
Demographic Collapse
There’s a certain amount of hand-wringing these days about “demographic collapse,” or, declining population due to low fertility rates. Virtually the whole world these days has fertility rates below replacement rates of about 2.1 children per woman. Africa has been the exception; but fertility is plummeting there too, and may fall below 2.0 in not very many years. Concern has been particularly acute for the developed countries, including the US, Europe and developed Asia. We can include here China, which has a very low fertility rate (some people think the official numbers are dramatically overstated). This has led to a lot of worrying. Much of this, it seems to me, is vague association. In the past, declines in population were commonly associated with all kinds of bad things, such as plagues. Sometimes, factors such as deforestation, desertification or salinization of the soil might cause a once-prosperous region to be no longer habitable. A big factor has been oppressive governments and poor economic policy: eventually, people will either die off from famine (China under communism), or migrate elsewhere (Venezuela today). In other words, population decline has often been accompanied by a decline in economic prosperity. So, we today have vague but powerful associations along these lines. But, today’s demographic decline is from entirely different factors. Mostly, it is a result of prosperity. The most prosperous places (Singapore, for example) have the lowest fertility rates. There are a number of reasons for this, which you can either guess or read about elsewhere. One factor is that children become a lot more expensive due to extended educations, while their economic benefits to parents decline. Children were once useful on farms, and in old age, grown children were the primary supports of elderly that were no longer able to be as productive as in
“Money Printing” in the 1960s #3: Martin and Johnson
Today, we will add to our look into monetary policy in the 1960s, and a tendency toward deterioration that culminated in the effective abandonment of the Bretton Woods world gold standard system in 1971. Before, we looked at some statistical data, such as interest rates and open market gold prices. Now, we will take a more historical approach. “Money Printing” in the 1960s Series In particular, we will start with this paper from the Richmond Fed: 1965: The Year the Fed and LBJ Clashed The first thing I learned, from the paper, was that the Federal Reserve’s primary interest rate tool in those days was the Discount Rate. The Federal Funds Rate (the rate at which banks lend to each other) did not take precedence until the 1980s. In effect, if the interbank lending rate was below the Discount Rate, then the Fed would be inactive. If it was above, then banks would go to the Fed to borrow. This produced an effective ceiling, but not a floor, on overnight interest rates, which is what we see at that time. It also means that Discount Lending was continuously active, while it was inactive during the 1990s and later. This graph shows the quantity of bills discounted, indicating that discount lending was highly active. Here is the discount rate and the Fed Funds Rate. Obviously, there is a discrepancy beginning around the end of 1965 — exactly the time of the argument between Martin and Johnson described in the article. This included a notorious episode where Johnson physically bullied Martin, pushing him up against a wall at his Texas ranch. The Richmond Fed article mentioned that the Fed — following the Monetarist principles of Milton Friedman — was increasingly looking to base money growth rates as a policy indicator. The article
“Money Printing” in the 1960s #2: Rising Interest Rates
We’re building up a little narrative of the latter 1960s, the leadup to the demise of Bretton Woods in 1971. “Money Printing” in the 1960s Series Today, we will just look at interest rates of that time, as things were getting out of hand. Here is the monthly 10yr Treasury Yield. The yield was very low coming out of WWII, due to extreme risk-aversion. It rose a bit as the economy expanded, although the 1950s were actually quite difficult with four recessions in a decade. Going into 1960, the dollar was rather weak, and the open-market price of gold was said to have hit $40/oz. (from its $35/oz. parity). But, the election of the Sound Money-favoring Kennedy in 1960, the good management of Bill Martin at the Fed, and the dollar-positive effects of a trend toward lower taxes, helped stabilize both the dollar and interest rates during the Kennedy years. Johnson, however, was plainly pressuring the Fed for an easier stance. We will look into the nature of this “pressure” later. Here, from the Richmond Fed, is an account of the battles between Johnson and Martin: 1965: The Year the Fed and LBJ Clashed Also, I think the Fed itself adopted the precepts of Monetarism sometime in the early 1960s. This basically amounted to a policy of maintaining a stable growth rate of the monetary base, in line with nominal GDP. Friedman himself proposed a Constitutional Amendment (!) mandating a steady growth rate of 3-5%. The amendment specifies that, “Congress shall have the power to authorize non-interest bearing obligations of the government in the form of currency or book entries, provided that the total dollar amount outstanding increases by no more than 5 percent per year and no less than 3 percent.” (Free to Choose, p. 308). This was a
“Money Printing” in the 1960s
I was going to do something on the last years of Bretton Woods, involving William McChesney Martin at the Fed, and Presidents Johnson and Nixon. But, to do this properly would take some serious research, which I never got around to. (It would make a nice book.) So, today — the fiftieth anniversary of the official End of the Bretton Woods system on August 15, 1971 — we will instead take a step-by-step approach, piecing together little clues along the way. As I have described in my books, the final breakup of Bretton Woods in 1970-71 had to do with the end of Bill Martin’s term at the Fed in January 1970, and his replacement by Arthur Burns, who was hand-picked by Nixon for his “easy money” strategy. However, there is the idea out there that the breakup of Bretton Woods had something to do with the Fed “printing money” to fund Vietnam and Great Society spending in 1967-68. I have found that there is actually a lot to these claims, which we will look into. At the surface, it doesn’t make much sense. Deficits in the 1960s were quite small, existing Federal debt/GDP was low, and there was hardly any reason for the Federal Reserve to finance the government with printing-press finance. In practice, there is not much evidence that the Fed did this. Its monetary base growth statistics are very modest, and in line with what one would expect for the growing economy of that time. The biggest deficit/GDP of the 1960s decade was in 1967, of 2.67% of GDP. Most of the time, the deficit was under 1%. With modest deficits and rising GDP, the debt/GDP ratio had fallen to low levels in the 1960s. There was no need for desperate measures. Just sell a few more
