Key House Democrats are backing away from criticism of the Federal Reserve for using a monetary tool that involves payments to banks, providing political cover for the central bank as it attempts to tighten monetary policy with a method that could easily be perceived as a giveaway to Wall Street.
Rep. Maxine Waters, the top Democrat on the House Financial Services Committee, indicated Tuesday that the Fed has assuaged her fears about its plans to raise short-term interest rates by paying higher rates on excess bank reserves held at the Fed.
Previously, Waters had joined other Democrats and Republicans in raising alarms about the Fed’s plans to effectively pay banks not to lend by paying them a 0.5 percent rate on the $2.3 trillion in excess reserves they have parked at the Fed.
“After exploring this matter further and speaking at length with Chair Yellen, it has become abundantly clear that the net benefits to the public that result from this policy are substantial,” Waters said in a statement from her office Tuesday released as a House panel held a hearing on the topic.
The Fed’s plan for “normalizing” monetary policy after years of emergency measures, including driving short-term interest rates down to zero, meant to counteract the recession, involves raising interest rates by targeting higher levels of the rate paid on excess reserves.
The policy is meant to translate into higher interest rates throughout the economy, preventing money from becoming too loose and generating too-high inflation. The main tool for changing short-term interest rates the Fed used prior to the recession is thought to be unusable with the Fed’s massively expanded balance sheet.
Over time, however, the new strategy could involve paying hundreds of billions of dollars to the banks involved, a possibility that some experts have noted could create unhelpful appearances for the central bank.
“There is a concern about subsidizing the banks,” acknowledged Gwen Moore, the Wisconsonite who is the top Democrat on the subcommittee on monetary policy.
Moore nevertheless argued that raising the rate paid on excess reserves is the best way for the Fed to conduct monetary policy. “It’s horrible optics, but I don’t think in reality we are subsidizing the banks,” she said.
Democrats have mostly defended the Fed’s crisis-era interventions, while Republicans have increasingly become critical of the central bank’s actions. The concern over sums paid to banks threatened to be one area in which the Fed faced bipartisan hostility.
Subcommittee Chairman Bill Huizenga, R-Mich., said he planned to scrutinize the Fed’s new tools and hold the central bank accountable.
Referring to bank concerns about the committee’s line of inquiry about the Fed’s use of interest paid to banks, Huizenga suggested that the larger concern was about the Fed distorting markets or hurting community banks or other parts of the market.
“To the fine folks up on Wall Street, you’re on notice,” he said.
