Former Federal Reserve Board Chair Ben Bernanke posted a speech titled "Monetary Policy in the Future," on his blog at the Brookings Institution web site. The speech was delivered at the IMF's Rethinking Macro Policy III conference" today. He said, "The FOMC has indicated that it intends to let the Fed's portfolio run off over time, so that excess reserves in the banking system eventually return to levels comparable to those before the crisis. Of course, I have not been privy to the internal discussions, having left the Fed more than fourteen months ago, but I wonder if the case for keeping the balance sheet somewhat larger than before the crisis has been adequately explored. As I mentioned, a larger balance sheet should not affect the ability of the FOMC to change the stance of monetary policy as needed. Indeed, most other major central banks have permanently large balance sheets and are able to implement monetary policy without problems. Moreover, the fed funds market is small and idiosyncratic. Monetary control might be more, rather than less, effective if the Fed changed its operating instrument to the repo rate or another money market rate and managed that rate by its settings of the interest rate paid on excess reserves and the overnight reverse repo rate, analogous to the procedures used by other central banks." Bernanke continued, "Another potential advantage of a large balance sheet is that it facilitates the creation of an elastically supplied, safe, short-term asset for the private sector, in a world in which such assets seem to be in short supply. On the margin, the Fed's balance sheet is financed by bank reserves and by reverse repos, which can be thought of as reserves held at the Fed by nonbank institutions. From the private sector's point of view, Fed liabilities are safe, overnight assets that could be useful for cash management or as a form of reserve liquidity.... The principal objection to a permanently large balance sheet financed in part by a reverse repo program appears to be a concern about financial stability. The worry is that the availability of reverse repos would facilitate runs. For example, in a period of stress, money market funds might dump commercial paper in favor of Fed liabilities. I take that concern seriously but offer a few observations. First, the overall increase in liquidity in the financial system that would be the result of a larger Fed balance sheet would probably itself be a stabilizing factor, so that the net effect on stability is uncertain. Second, if private-sector entities ran to Fed liabilities, there are actions the Fed could take after the fact to mitigate the problem, including not only capping access to reverse repos but also recycling liquidity, for example, by increasing lending to banks (through the discount window) or to dealers (through repo operations). Finally, runs can occur even in the absence of a reverse repo program, as we saw during the crisis. Regulatory action to minimize the risk of or incentives for runs would seem to be the more direct way to deal with the issue. Put another way, if runs really are a major concern, getting rid of the Fed's repo program alone seems an inadequate response."

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