Fed's Williams: Cutting rate on banks' reserves 'would make sense'

SAN FRANCISCO Tue Dec 3, 2013 7:43pm EST

The facade of the U.S. Federal Reserve building is reflected on wet marble during the early morning hours in Washington, July 31, 2013. REUTERS/Jonathan Ernst

The facade of the U.S. Federal Reserve building is reflected on wet marble during the early morning hours in Washington, July 31, 2013.

Credit: Reuters/Jonathan Ernst

SAN FRANCISCO (Reuters) - The Federal Reserve has more reason than ever to cut a key U.S. lending rate it has kept at just above zero since the depths of the financial crisis, a top Fed policymaker suggested on Tuesday.

The Fed set the interest rate it pays banks on their excess reserves at 0.25 percent when it introduced it in 2008, and it has sat there ever since.

Investors have lately been abuzz with speculation that the Fed could cut that rate as a way to signal its seriousness about keeping interest rates low even after it reduces its $85 billion-a-month bond-buying stimulus program.

"As everybody says, it's not going to be a game changer, but given that we're doing a lot of unconventional policy and pushing hard, I think it would make sense," San Francisco Federal Reserve Bank President John Williams told Reuters in an interview. "If you can get the funds rate trading a little lower and bring down interest rates a little lower, that's a positive."

Williams is a strong supporter of the Fed's bond-buying program. On Tuesday, he said he believes that the Fed needs to do more to prove it is committed to keeping short-term rates low as long as needed to support the recovery.

Most importantly, he said, the Fed should give better guidance on what would induce it to raise rates once the U.S. unemployment rate falls to 6.5 percent, the level at which the Fed said has said it would consider an interest-rate hike.

Williams participates in the meetings of the policymaking Federal Open Market Committee, but he will not become a voting member of the FOMC until 2015.

The rate the Fed paid on excess reserves is distinct from the Fed's main policy rate, which it has kept at between zero and 0.25 percent for nearly five years.

But reducing that rate could force more money into the broader financial system in the form of loans to stimulate investment, hiring and economic growth. Banks keep about $2.5 trillion in excess reserves.

"Most participants" at the Fed's latest policy-setting meeting thought lowering the rate was "worth considering at some stage," according to minutes of the meeting released last month.

Critics worry whether money markets can still function if rates fall to zero; indeed, over the years, the Fed has considered and rejected the idea of reducing the rate in part because of that very concern.

But a new central bank tool blunts that risk, Williams said on Tuesday.

Known as a fixed-rate full-allotment reverse repo facility, the tool has been touted as a way to mop up excess cash in the financial system once the Fed needs to start raising rates. <ID: nL2N0JH20N>

But it could also be helpful should the Fed decide to lower the rate it pays to banks, Williams said.

"We do have this ability through this reverse repo that's been tested by the New York Fed that basically makes sure we can control short-term interest rates even if we ... lowered the interest on reserves closer to zero," Williams said.

Still, Williams did not suggest the idea is necessarily on the Fed's front burner.

"On the margin, I thought the pros slightly outweigh the cons," he said. "Obviously, that's not what we are doing. It's been an issue we've discussed several times over the years. It's always been part of that mix: 'How do you weigh the costs and benefits?'"

(Additional reporting by Jonathan Spicer in New York; Editing by Jan Paschal)

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/
Comments (1)
Afrodo wrote:
Lowering the top five banks’ reserves, will loosen extra $$ to prop up the markers and Gov. entities when needed.
~ But, at the same time, taxes should be lowered on the working middle class.
~One thing to worry about, is the bankruptcy of Detroit which will kill the credit for a lot of folk in that part of the country . I hope contagion does not happen.

Dec 03, 2013 8:37pm EST  --  Report as abuse
This discussion is now closed. We welcome comments on our articles for a limited period after their publication.

Recommended Newsletters

Reuters U.S. Top News
A quick-fix on the day's news published with Reuters videos and award-winning news photography and delivered at your choice of one of four times during the day.
Reuters Deals Today
The latest Reuters articles on M&A, IPOs, private equity, hedge funds and regulatory updates delivered to your inbox each day.
Reuters Technology Report
Your daily briefing on the latest tech developments from around the world from Reuters expert tech correspondents.