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Economy in Brief

Federal Reserve Injects Liquidity Into Banks
by Tom Moeller February 11, 2010

Injection of liquidity by the Federal Reserve into the banking system typically raises inflationary concerns in the credit markets. And this time is no different. Long-term interest rates have remained fairly stable as the Fed funds rate has lingered near zero for over one year. The steepened yield curve thus suggests a future inflationary problem.

Not only has the Fed held interest rates low, it's provided liquidity to the banks, particularly through its Term Auction Facility (TAF). Through last year this provision fell as banks re-liquefied. But so far, it has not stimulated bank lending and money supply growth has decelerated sharply. Instead, the liquidity has been used to shore up balance sheets.

Indeed, money supply growth (M2) has decelerated as demand deposit balances have been flat since the middle of last year. Precaution remains the operative word for banks as they lend and also for individuals who remain cautious about job prospects.

The data referenced above can be found in Haver's WEEKLY database.

Interest on Required Balances and Excess Balances from the Federal Reserve Board is available  here.  Earlier this week, Chairman Bernanke indicated in Congressional testimony that the interest rate shown here would become a key tool in the Fed's liquidity management going forward.  These data are also in Haver's WEEKLY database.

Liquidity Measures January 2009 2008
Reserve Bank Assets - Term Auction Facility $3,8531M $7,518 $450,319
Yield Curve (10 Yr. Treas. less Fed Funds) 3.62% 3.10% 1.74%
Money Supply - Demand Deposits -0.5% y/y 24.4 % y/y 11.3
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