Wednesday, September 5, 2018

Fed Nixes Narrow Bank

A narrow bank would be a great thing. A narrow bank takes deposits, and invests 100% of the money in interest-paying reserves at the Fed. (The Fed, in turn, mostly invests in US treasuries and agency securities.)

A narrow bank cannot fail*. It cannot lose money on its assets. A narrow bank cannot suffer a run. If people want their money back, they can all have it, instantly. A narrow bank needs essentially no asset risk regulation, stress tests, or anything else.

A narrow bank fills an important niche. Individuals can have federally insured bank accounts which are (mostly) safe. But large businesses need to handle cash way above the limits of deposit insurance. For that reason, they invest in repurchase agreements, short-term commercial paper, and all the other forms of short term debt that blew up in the 2008 financial crisis. These are safer than bank accounts, but, as we saw, not completely safe. A narrow bank is completely safe. And with the option of a narrow bank, the only reason for companies to invest in these other arrangements is to try to harvest a little more interest. Regulators can feel a lot more confident shutting down run-prone alternatives if a narrow bank is widely available.

The most common objection to equity-financed banking is that people and businesses need deposits. Well, narrow banks provide those deposits, and can do so in nearly unlimited amount. Narrow banking, providing completely safe deposits, opens the door to equity-financed banking, which can invest in risky assets and also be immune from financial crises.

Why not just start a a money market fund that invests in treasuries? Since deposit -> narrow bank -> Fed -> Treasuries, why not just deposit -> money market fund -> treasuries, and cut out the middle person? Well, a narrow bank is really a bank. A money market fund cannot access the full range of financial services that a bank can offer. If you're a business and you want to wire money to Germany this afternoon, you need a bank.

Suppose someone started a narrow bank. How would the Fed react? You would think they would welcome it with open arms. Not so.

TNB, for "The Narrow Bank" just tried, and the Fed is resisting in every possible way. TNB just filed a complaint against the New York Fed in District Court, which makes great reading. (The complaint is publicly available here, but behind a paywall, so I posted it on my webpage here.) Excerpts:
2. “TNB” stands for “the narrow bank”, and its business model is indeed narrow. TNB’s sole business will be to accept deposits only from the most financially secure institutions, and to place those deposits into TNB’s Master Account at the FRBNY, thus permitting depositors to earn higher rates of interest than are currently available to nonfinancial companies and consumers for such a safe, liquid form of deposit. 
3. TNB’s board of directors and management have devoted more than two years and substantial resources to preparing to open their business, including undergoing a rigorous review by the State of Connecticut Department of Banking (“CTDOB”). The CTDOB has now granted TNB a temporary Certificate of Authority (“CoA”) and is fully prepared to permit TNB to operate on a permanent basis. 
4. However, to carry out its business—indeed, to function at all—TNB needs access to the Federal Reserve payments system. 
5. In August 2017, therefore, TNB began the routine administrative process to open a Master Account with the FRBNY. Typically, the application procedure involves completing a one-page form agreement, followed by a brief wait of no more than one week. Indeed, the form agreement itself states that “[p]rocessing may take 5-7 business days” and that the applicant should “contact the Federal Reserve Bank to confirm the date that the master account will be established.” 
6. This treatment is consistent with the governing statutory framework. Concerned by preferential access to Federal Reserve services by large financial institutions, Congress passed the Depository Institutions Deregulation and Monetary Control Act of 1980 (the “Act”). Under the applicable provision of the Act, 12 U.S.C. § 248a(c)(2), all FRBNY services “shall be available” on an equal, non-discriminatory basis to any qualified depository institution that, like TNB, is in the business of receiving deposits other than trust funds. 
7. TNB did not receive the standard treatment mandated by the governing law. Despite Connecticut’s approval of TNB—as TNB’s lawful chartering authority—and the language of the governing statute, the FRBNY undertook its own protracted internal review of TNB. TNB fully cooperated with that review, which ultimately concluded in TNB’s favor. At the same time, the FRBNY also apparently referred the matter to the Board of Governors of the Federal Reserve System (the “Board”) in Washington, D.C.  
8. In December 2017, TNB was informed orally by an FRBNY official that approval would be forthcoming—only to be called back later by the same official and told that the Board had countermanded that direction, based on alleged “policy concerns.” 
9. TNB’s principals thereafter met with staff representatives of the Board, as well as the President of the FRBNY, to explain that there was no lawful basis to reject TNB’s application for a Master Account. On information and belief, the FRBNY and its leadership agreed with TNB and were prepared to open a Master Account. 
10. Though TNB had satisfactorily completed the FRBNY’s diligence review, the Board continued to thwart any action by the FRBNY to open TNB’s Master Account, reportedly at the specific direction of the Board’s Chairman. 
11. Having delayed the process for nearly one year—effectively preventing TNB from doing business—the FRBNY has repeatedly refused either to permit TNB to open a Master Account or to state that the FRBNY will ultimately do so. 
12. The FRBNY’s conduct is in open defiance of the statutory framework, its own prior positions, and judicial authority. See Fourth Corner Credit Union v. Fed. Reserve Bank of Kan. City, 861 F.3d 1052, 1071 (10th Cir. 2017) (“The plain text of § 248a(c)(2) indicates that nonmember depository institutions are entitled to purchase services from Federal Reserve Banks. To purchase these services, a master account is required. Thus, nonmember depository institutions . . . are entitled to master accounts.”) (Bacharach, J.) (emphasis added). 
13. Further, the FRBNY’s actions, especially in the context of other recent conduct by the Board,1 have the effect of discriminating against small, innovative companies like TNB and privileging established, too-big-to-fail institutions—the very dynamic that led Congress to pass the Act in the first place. 
14. TNB therefore brings this action for a prompt declaratory judgment that it is entitled to a Master Account.
Why does the Fed object?

The Fed may worry about controlling the size of its balance sheet -- how many reserves banks have at the Fed, and how many treasuries the Fed correspondingly buys. If narrow banks get really popular, the Fed might have to buy more treasuries to meet the need. Alternatively, the Fed might have to discriminate, paying narrow banks less interest than it pays "real" banks, in order to keep down the size of the narrow banking industry. It would then face hard questions about why it is discriminating and paying traditional banks more than it pays everyone else. (It's already a bit of a puzzle that it often pays interest on reserves larger than what banks can get anywhere else, even treasuries.)

But why does the size of the balance sheet matter? Why does it matter whether people hold treasuries directly, hold them via a money market fund, or hold them via a narrow bank, which holds reserves at the Fed, which holds treasuries?

"Money" is no longer money. When the Fed pays interest on huge amounts of excess reserves, the size of the balance sheet no longer matters, especially in this regard. If people want to hold more treasuries indirectly through a narrow bank and the Fed, and correspondingly less directly, why should that have any stimulative or depressing effect at all? Even if you do think QE purchases -- supply-driven changes in the balance sheet -- matter, it is not at all clear why demand-driven changes should matter.

The Fed already allows a "reverse repo program,"  in which 160 institutions such as money market funds to hold reserves. It currently pays those 20 basis points (0.2%) less than it pays banks, to discourage participation.

The second argument, made during the discussion about reverse repos, is that narrow banks are a threat to financial stability, not a guarantor of it as I have described, because people will run to narrow banks away from repo and other short term financing in times of stress.

This is, in my view, completely misguided. Again, narrow banks are just an indirect way of holding treasuries. There is nothing now stopping people from "running" to treasuries directly, which is exactly what they did in the financial crisis.

Furthermore, the Fed does not, in a crisis, seek to force people to hold illiquid assets having a run. The Fed pours liquid assets into the system like Niagara falls, and buys illiquid assets from them, all in massive quantities.

Moreover, the whole point of the narrow bank is that large businesses don't hold fragile run-prone short term assets in the first place. By paying interest on reserves, and allowing more and more people to enjoy run-proof government money, there is less gasoline in the financial system to begin with. If the Fed is worried about financial crises, it ought to encourage narrow banks and give others a gold star for using them rather than shadier short-term assets in the first place.

The emptiness of both arguments is easy to see from this: Chase and Citi are narrow banks -- married to investment banks. Both take deposits, and invest them as interest paying reserves at the Fed. Right now there are more reserves than checking accounts in the banking system as a whole. If there were some threat to monetary policy or financial stability from banks being able to take deposits and funnel them in to reserves, we'd be there now. The only difference is that if Chase and City lose money on their risky investments, they drag down depositors too and the government bails out the depositors. The narrow banks are not separated from the investment banks in bankruptcy. A true narrow bank just separates these functions.

Shadier speculations are natural as well.

Banks are making a tidy profit on their current activities. JP Morgan Chase pays me 1 basis point on my deposits, as it has forever, and now earns 1.95% on excess reserves. The "pass through" from interest earned to interest paid to depositors is very slow. This is a clear sign of lack of competition in the banking system. The Fed's reverse RP program was put in place, in part, to pressure banks to act a bit more competitively, by allowing an almost-narrow bank to take investor money and put it in reserves. The Fed is now scaling that program back.

That the Fed, which is a banker's bank, protects the profits of the big banks system against competition, would be the natural public-choice speculation.

Perhaps also my vision of a run-proof essentially unregulated banking system isn't as attractive to the Fed as it should be. If deposits are handled by narrow banks, which don't need asset risk regulation, and risky investment is handled by equity-financed banks, which don't need asset risk regulation, a lot of regulators and "macro-prudential" policy makers, who want to use regulatory tools to control the economy, are going to be out of work.

To be clear, I have no evidence for either motivation. But the facts fit, and large institutions are not always self-aware of their motivations.

Whatever the reason, it is sad to see the Fed handed such an obvious boon to financial stability and efficiency, and to slow walk it to regulatory death, despite, apparently, clear legal rights of the Narrow Bank to serve its customers.

*Well, almost. For the Fed to fail, there would have to be a large-scale US default on treasury debt. Even so, Congress could exempt the Fed by recapitalizing it, making good its losses. So Congress would have to decide that it won't even recapitalize the Fed, so that reserves also default. If there is one bank that really is too big to fail, it's the Fed, as its failure would bring down the entire monetary system. Literally, all of the ATMs and credit card machines go dark. This is a pretty improbable event.

Update: Endi below asks "Why do you say that with the existence of narrow banks, equity-financed banks would be immune from a financial crisis?" See "A Blueprint for Effective Financial Reform", "Equity-financed banking and a run-free financial system," "Toward a run-free financial system",  All here.

Update 2: Matt Levine at Bloomberg has excellent coverage.   Michael Derby at WSJ too. As Matt and a commenter below explain,  I got ahead of myself on TNB. This particular company is not planning to offer banking services or retail deposits. They won't even wire money for you. The reason: if they were to do so, they would face lots of anti-money-laundering regulations. This particular business is focused on giving money market funds and other large institutions access to the 1.95% that the Fed pays on reserves, which is more than the 1.75% that money market funds can get via reverse repo at the same Fed, or (paradoxically) the rate that short term treasuries have been offering lately.

Update 3: an excellent WSJ editorial. The Fed remains silent. My forecast: The Fed will remain silent, fight the lawsuit with obfuscation and delay.  It can surely let this rot in the courts for a decade or more. By that time the TNB folks will be out of money and have to give up, and any potential copycats will get the message.


  1. Could TNB takeover a small bank that already has a Master Account, sell or gather in the existing loan portfolio and carry on its desired business model?

  2. Putting lipstick on a pig. Central banks are unstable currency issuers. Try some more basic questions.

    Why does government have all the loans on record, and member banks have all the deposits? Why are the government loans at the Fed involuntary, no a specific action by Treasury? And you basic question, how can the central bank be stable without free entry and exit of member banks? Since the distribution of loans is ill-matched with the distribution of deposits most mathematicians tell you the system should cycle; and it does, generating periodic recessions and generational defaults. If the argument for TNB is valid, then the argument for free banking is valid, why not make that case?

  3. John,

    Maybe I just don't get it, but I really don't understand what all of the belly aching is about.

    "Banks are making a tidy profit on their current activities. JP Morgan Chase pays me 1 basis point on my deposits, as it has forever, and now earns 1.95% on excess reserves. The "pass through" from interest earned to interest paid to depositors is very slow."

    If you want higher interest rates from your savings, buy Treasuries directly - see:

  4. A fascinating and thought-provoking post.

    I have long pondered if the Federal Reserve, gaining more regulatory authority, has also been captured by the industry it regulates.

    A stray thought: suppose we did away with fractional reserve banking. No new money would enter the economy through the commercial banking system. The economy would have to grow through deflation or much greater velocity.

    Or, new money could enter the economy through money-financed fiscal programs.

    This could end federal borrowing.

    1. Milton Friedman, Warren Mosler and Bill Mitchell advocated an end to Federal borrowing. See respectively:

      Friedman's para starting "Under the proposal..." here:

      Mosler’s last two paras here:

      For Mitchell, see:

      The real reason for public borrowing was set out very well by David Hume nearly 300 years ago. As he put it, “It is very tempting to a minister to employ such an expedient, as enables him to make a great figure during his administration, without overburdening the people with taxes, or exciting any immediate clamours against himself. The practice, therefore, of contracting debt, will almost infallibly be abused in every government. It would scarcely be more imprudent to give a prodigal son a credit in every banker’s shop in London, than to empower a statesman to draw bills, in this manner, upon posterity.”


  5. What is the difference between a narrow bank, and a money market mutual fund that invests solely in short term treasury bills?

    1. "What is the difference between a narrow bank, and a money market mutual fund"

      Probably the ability to write a demand check on an account at a narrow bank with a Master Account.

    2. The key difference between a narrow bank and an MMMF is that under Fed rules the narrow bank gets a 1.95% return on Fed reserves, while the MMMF only gets 1.75%.

      I'm of course oversimplifying, but from what I've read that seems to be the entire game: TNB is going to invest at 1.95% and pay-out at something between 1.95% and 1.75%. If I understand correctly, TNB's business model is to serve the 160 existing funds already using the reverse-repo program, not the world at large.

      Or maybe your question was why do some MMMFs want to use reverse repo rather than just buying actual treasuries? I have no clue, but I guess it doesn't really matter here... the point is that for whatever reason there are 160 funds already doing so today. TNB intends to snatch up the .2% arbitrage and split the proceeds with those funds.

    3. "Well, a narrow bank is really a bank. A money market fund cannot access the full range of financial services that a bank can offer. If you're a business and you want to wire money to Germany this afternoon, you need a bank."

  6. Very interesting. One question, though. Why do you say that with the existence of narrow banks, equity-financed banks would be immune from a financial crisis?

    1. Obviously I can't speak for John Cochrane, by my reason is that where an equity funded bank's assets fall in value due to silly lending, all that happens is that the value of the shares fall pari passu. Unlike the present system, the bank does not actually go bust.

    2. Well, isn't that what happens now? Or are we talking about 100% equity-financed banks?

  7. And the lending role of banks? How would transform savings to loans?

  8. I kinda wonder if the denial is more boring/pragmatic/personal: the CONCEPT behind TNB could reinvent banking, but all this particular iteration wants to do is help MMFs capture the spread between 1.75 and 1.95. And the guy behind it is a former high-ranking employee of the Fed.

    So perhaps this is not a question of macro level concerns, the pathologies of large institutions, etc. Perhaps the Feds are just struggling on a personal level with the idea of making their former colleague a billionaire for what amounts to regulatory arbitrage of the reverse repo program. I'm not saying that makes it right of course, just that it might explain the delay.

  9. This comment has been removed by the author.

  10. Excellent post, and the Wall Street Journal pickedup on the story in today’s (9/6/18) edition. Two comments.

    I doubt the Fed fears losing control of its balance sheet. If they do not buy or sell any assets —more precisely, if their portfolio path Is not altered by the operations of TNB — then the amount of reserves plus currency plus RRPs plus Teasury deposits on the liability side of the balance sheet cannot change. I don’t see how the operations of TNB would change the Fed’s asset holdings. To place a deposit at TNB, one must transfer some existing bank deposit to them, which is settled by the transfer of reserve account balances; total reserves are unchanged. I may be missing something you had in mind, though, John.

    Second, I would offer another conceivable motivation for resistance/contemplation: the Fed fears erosion of deposit insurance premiums. My understanding is that the business model is predicated on not offering insured deposits,and thus escaping the FDIC levy on total assets. In fact, that’s part of what makes prospects for the TNB so promising. This is a corollary of the erosion of the margins earned by accepting insured deposits. This motivation would be a bit surprising, because the Fed has not historically been terribly concerned about the financial health of the Deposit Insurance Fund. In fact, discount window lending to help delay the closure of failing institutions has typically disregarded the extent to which it increases the cost of closure to the DIF. But perhaps the FDIC has raised objections behind the scenes.

    1. Excellent points, and thanks for writing. I couldn't make much sense of the lose control of balance sheet argument either. Of course the stop runs argument makes less sense to me. I'm doing a bad job of expressing ideas I think are wrong, I guess!

    2. Maybe the concern has to do with the aggregate balance sheet of all deposit-taking institutions.

      If a significant portion of total deposits are matched with Treasuries (indirectly, in a broader move toward narrow banking), would the JPMs and Citis then reduce their government security holdings vis-à-vis loans to keep the total amount of loans constant?

      TNB may not become large enough to tip the scales, but at some narrow banking market share, you might expect the aggregate balance sheet of deposit-taking institutions to consist of a higher percentage of government securities and a lower percentage of loans than the current mix.

      Is it something that the FOMC might be thinking through, Jeff?

    3. *Addendum to earlier comment:

      Because the initial balance sheet effect on the asset side is just a transfer of reserves from JPM/Citi to the narrow banks, I should have added that I'm thinking of reserves as a proxy government security.

      I'm saying that maybe the Fed is wondering if JPM/Citi would allow their ratio of loans to reserves+governments to creep ever higher if narrow banks were to capture a large portion of total deposits.

  11. The solution to this is truly private "money" and "banking", perhaps using distributed ledger technology.. See the works of F.A. von Hayek, "The Denationalization of Money, E. C. Riegel and his "valuns", and A. L. Hargis, among others.

  12. Valter Buffo, Recce'd, MilanSeptember 7, 2018 at 3:20 AM

    Excellent piece: I am trying here to offer a few contributions. I will start with: "If people want to hold more treasuries indirectly through a narrow bank and the Fed, and correspondingly less directly, why should that have any stimulative or depressing effect at all? Even if you do think QE purchases -- supply-driven changes in the balance sheet -- matter, it is not at all clear why demand-driven changes should matter." End of quote. In my view this is a crucial point. And I find something of a technical weakness in this proposition; since no, banks do NOT want to hold Treasuries through the Fed. There would simply be NO rationale for such a choice: it is so easy to buy Treasuries on the market. Banks hold reserves at the Fed since reserves are CASH, a Treasuries are not. QE was a (often misunderstood) gigantic transfer of default risk to the public from private insitition, at false (non-market) prices. So, Fed reserves are NOT equal to Treasuries in the eyes of their holders: banks hold reserves in echange for Tresuries because the Fed can create money from nothing (fiat money, that is). This is policy, monetary policy: but also policy at large. Favour some parts of the economy, move the burden to other parts of the economy. A narrow bank environment would reduce margins of discretionary policy, and this is in my view the only avaliable answer to your question "Why does the Fed objects?" And here, if I interpret correctly, we are in agreement or at least our views are not far away. As a conclusion, let me object to the "contribution to financial stability": in my view, as of today, there has been none. Unsolved problems have been simply moved problems forward in time. No ills have been cured.

  13. Valter Buffo, Recce'd, MilanSeptember 7, 2018 at 3:27 AM

    Adding to the previous comment. If narrow banking is un-realizable, at least in the short term, what could we possibly promote? In my opinion, we should move to help stability by limiting discretionary power in monetary policy, and at the same time preserving, as wide as possible, the capability of market mechanisms to determine prices in financial markets, eliminating all external, un-conventional, interferences from policy makers of all sorts. We understood the need for budget discipline in the Seventies, now we are on the verge of learning that a monetary discipline is needed as well.

  14. "Why not just start a money market fund that invests in treasuries?"

    In fact, some mutual fund companies are starting to offer banking services. For instance, VanguardAdvantage provides a debit card, check writing, bill payment, etc. All against your Federal Money Market sweep account which is currently yielding 1.95%. Plus, interest earned there is exempt from state and local taxes, unlike income from a regular bank account.

    1. This Vanguard service was discontinued in July, 2019:

  15. I'm not sure why the Fed would be opposed to this either. The one thing I can think of is in the context of keeping markets liquid. The financial crisis of 2008 saw the Fed do some extraordinary things, especially a massive expansion of their balance sheet due to credit being almost frozen in markets. They bought a huge trove of long term treasury bonds to keep rates low. But, they also sterilized this massive injection to prevent inflation it seems, since they started paying interest on reserves, which gave banks an incentive to hold on to their reserves and not lend it out to the larger economy (restricts credit and stabilizes banks). This is all in the context of keeping the macro economy from completely tanking - it helped stabilize the economy after a near disaster. So, the Fed may have some kind of PTSD after the whole mess.

    So, even if these narrow banks ended up buying treasury notes, I can't see how it would hurt the Fed's ability to use the almighty bazooka. It could put the Fed in a pickle where they have to find a way to buy more treasury notes. The Fed was, and I believe, still is, trying to unload their balance sheet, hence the tip-toe dance of rate hikes for fear of derailing the recovery.

    This all may sound noodly but I suppose I'm looking at it from the perspective of the Fed having access to the almighty levers. They already have issues with recognition lag -- but their implementation lag is amazing. In 5 seconds, they can inject or pull out liquidity. As for effectiveness, well, that's another analytical mess. It's easier to see the effects if one looks back in time -- even if patterns repeat, the past is no indication of the future, but since patterns DO repeat, the trick is to identify the proper set of metrics (signals).

    I know I'm half musing out loud, but these TNB could fulfill a niche to help with the *perception* of safety for other players in the economy. Ha.

    1. Could the Fed's opposition be more related to the trajectory of future pricing of the IOER being > 5 bpts lower than the top of the current band i.e. 1.95%? Some argue there may be 4 - 6 rates hikes ahead of us before we reach the neutral rate. Let's say the top of the neutral rate band is 3.25%. Where will the IOER be then? 3.05% ie. 20 bpts under. If so the business plan of TNB may be uneconomic at that point.

      The FED was happy to take on cheap money to enact QE and leverage the balance sheet. Shrinking the $4 Trillion balance sheet to enact QT requires them to lose expensive liabilities to effectively make asset divestment decisions. Discouraging growth of the $1.8 Trillion of Excess Reserves is the strategic priority of the Federal Chairman. That is a pre-requisite to assiduously inch toward the target quantity of Treasuries and optimize the duration of the portfolio as they perform a controlled "Operation Untwist".

      Maybe TNB just has it's timing wrong. The short term aim of the Fed is to shrink its balance sheet and liabilities need to be purged and substituted. I predict IOER will operate at a wider discount, Reserve Balances will fall and an increase in the cost effective "Currency in Circulation will grow, even in this digital age, given the current contagion within emerging markets.

      The transmission mechanism of fostering financial flows across to the real economy may underlie some reasoning behind the Fed's decision. Let's see what the IOER is when we move to the new band of 2.00 - 2.25% shortly. SOFR and IOER have a very interesting relativity at the moment. 1 bpt between them.

  16. Late comment: if a bank eschews FDIC insurance, doesn't fall outside the scope of federal regulators?

    So could a narrow bank exist but simply issue FDIC insurance? Arrange for private insurance and invest your deposits very carefully.

  17. Valter Buffo, Recced, MilanSeptember 9, 2018 at 10:08 AM

    As continuation to two previous comments.

    What follows is taken from an article in today's FT. Many would reply: "Easy to say, very hard to translate into a model". Right. Still: we need a fresh approach, and very few could be helpful to get us out of here. The central point, you find it in what follows.

    Quote from FT
    What might this entail? For starters, central bankers should make financial markets a more central part of their models. It is amazing that they are not already front and centre, given the rise of financialisation since the 1980s. Mr Powell admitted that “inflation sends a weaker signal” now than in the past, which makes it important to look elsewhere for signs of overheating. What metrics might the Fed and other central banks look at? I suggest three. First, the pace of run-up in debt, always the biggest predictor of market trouble. It has been growing more rapidly than gross domestic product for a number of years. The growth of financial assets relative to GDP is also near record levels. Margin debt, ditto.

  18. Banks are not mere conduits; they add value by underwriting credit. To say that TNB needs to be a "bank" because only "banks" provide certain conveniences seems to me to miss the point. ANY institution that does not underwrite credit is not, from a public policy perspective, a "bank." It may meet some other definition of "bank," and it may provide the incidental services provided by banks, but it doesn't bank, and the Fed is a consortium of bankers, institutions that bank, not those that just happen to be called "banks."

    Because a narrow bank takes no risk, it adds no value. So who needs it? If the Fed wanted to pay Apple for putting its money on deposit, it could do so. Chartering a narrow bank amounts to the same thing. That's TNB's alleged value proposition. But it doesn't add value; it just delivers wealth to the wealthy out of the public fisc. Why would that be a good thing?

    It won't do to call Chase or Citi "narrow banks" merely because they have more deposits than they need. They are in the business of banking, and they provide the ancillary service of holding QE money that needs holding somewhere. The Fed pays the banks IoER as compensation, i.e., to convert the reserves into demand T-Bills by another name. Banks have always bought Treasuries, but as part of a mix of assets. The safe assets are essentially capital, not part of the bank's actual business of banking. The essence of banking is the OTHER lending that the bank does. Take that away, and you don't have "a bank that lends to the government"; you have a thing that isn't a bank.

  19. Central banks will not allow narrow banks for the same reason they don't offer accounts to the general public: why would Janet Public have a transactional account with a commercial bank when she can have a cast-iron account at the Fed? She, and all her fellow citizens, would liquidate their bank accounts to shift the funds to the central bank. This would be a run on the entire banking system, which is near the top of the things central bankers are trained to avoid.

    1. Spot on! I was wondering why nobody picked this up earlier. The bank run argument + Lawrence J. Kramer argument of missing value added implies that the current (imperfect) banking system that offers maturity, liquidity and risk transformation (= value added) to its customers would/might be replaced by a piggy bank that offers none of these important economic functions. Thus the Fed has lots of good reasons to deny a banking licence to TNB.

  20. Probably just a restatement of Laurence Kramer's thoughtful post above but isn't fractional reserve banking premised on the pile of irrational/loss averse/dumb money that only wants to hold safe assets. The equity financed bank won't attract the amount of capital that a fractional reserve bank does and you get lower equilibrium lending and capital accumulation. It's not a "subsidy" because you are correcting the market failure of irrational/loss averse/dumb money. You don't buy this of course but this is the standard line of the economists in the NE.

  21. You mention the banks, which profit from the current arrangement, and the Fed with its own reasons not to want to see their piece of the pie shrink.

    There is another class of stakeholders though, and they should not be forgotten. I mean the risky borrowers - such as the real estate development industry. Surely in a fairer system, where the taxpayer wouldn't subsidize the traditional banking model, they would have to pay higher interest rates on their loans. If JPM Chase lost you as a customer, and would have to pay market rates on risky deposits instead, where could they make up the lost profit but from their risky borrowers?

    Why would the Fed care about that though? Call me a cynic: I am not so sure that the Fed chairman specifically is entirely independent from such powerful interests.

    Why would the risky borrowers care to crush a gadfly like NTB? Perhaps they see what happened with electric cars: dealers should have made a much greater effort as soon as the first Roadster came out; now it's too late. You need to kill an idea that gets in your way while it is still so new and so small that nobody cares.

  22. There is a money market fund that says it only invests in U.S. Treasuries. I own some shares of it. The ticker is VUSXX. I hope they really do only invest in Treasuries and that there is not some sort of derivatives overlay or non-Treasury allocation that they do not have to reveal.

  23. Very well put. As a bank regulatory and securities lawyer for bank holding companies, I see the ugly side of day-to-day asset-risk regulatory compliance, which includes advisors charging egregious fees for access to their former employers (federal banking agencies). The system is a total mess.

  24. My prediction: TNB wins the case. The law's absolutely clear. They should demand a writ of mandamus and they'll get it. Quickly. But by the time they do, it'll be irrelevant.

    What the Fed will do in the meantime is to stop paying interest on reserves. It really should never have been paying interest on reserves in the first place. When the Fed stops paying interest on reserves, TNB's business model... well, it won't *fail*, since some people will want their money in a super-secure location, but it won't get a lot of customers.


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