Looks like the beginning of a bank run in Greece.



“Excess” reserves are reserves in excess of the requirements created through the creation of loans. Excess reserves could be used, but, are not. Will they be used? What if they were?


With earnings season again approaching, one sector, banks, are set to disappoint, if not this quarter, possibly the next.


Banks traded all of their MBS garbage, which had been largely written down, or at least discounted by the market for shiny new Treasuries, which, for a while provided some nice capital gains.

With yields taking off currently, those capital gains will evaporate, and in their place, some more write-downs which hurt earnings. The bond bear is not going to be a happy place for quite some time.


Read the full article here


In changing from reserve targeting to interest rate targeting, the Federal Reserve upended that natural relation of interest and quantity. The FOMC now sets a target for the Fed Funds market and promises, through two-week “maintenance periods”, to issue or “fund” a potentially unlimited amount of “reserves” to maintain a specified interest rate target.

There is a need to clarify here exactly what is being funded and by whom. By saying that the Federal Reserve “funds” the wholesale markets, it really means that the Fed is providing a liquidity backstop. In almost every case, the Fed provides little actual funding into wholesale markets – the banks do that themselves by expanding their own balance sheets. What allows them to do so is this implicit backstop, knowing that the Federal Reserve will, if it is forced, create “money” to maintain whatever it is targeting (interest rates or reserves). The Federal Reserve only “fine tunes” money markets through open market operations, either adding or draining minor quantities of reserves in pursuit of whichever target level.

But the overall transition from reserve targeting to interest rate targeting was a fundamentally different approach to monetary engineering and banking in general. From the perspective of the banking system, in a reserve target environment there is an explicit limit to credit production, a marginal dollar if you will, which will trigger a rise in the cost of funding. At that marginal dollar, there is no guarantee or reliable estimate as to how much that marginal dollar will actually cost, and certainly less idea about a second marginal dollar. This is scarcity at work.

In a scarce dollar environment, banks view attaining “risky” positions far differently than if they have certainty about any marginal dollars. This imposes the process of intermediation upon banks; they must actively manage risk due to very imprecise knowledge about how much marginal funding will cost to add additional risk – they have to choose between risky propositions rather than opt for all of them. This is the beauty of monetary symmetry between quantity and cost.

By contrast, under the interest rate targeting scheme marginal dollars all cost the same. If the Federal Reserve targets a Fed funds rate of 1%, as Alan Greenspan did following the dot-com bust, then banks are assured of a 1% cost of marginal dollar funding. They know they can add risk to any level with only a minimal funding cost at inception. The only risk/funding parameter they have to model out is when that interest rate target is moved upward, and by how much. That provided little challenge to banks intent on adding to credit production or risky positions since they were explicitly guided by FOMC policy statements about what to expect – Greenspan telegraphed that rates would stay low and only gradually rise once the FOMC was assured of whatever economic variables they wanted to see moving in the “right” direction. It reduces the link between funding uncertainly and risk appetite to essentially nothing.


Reuters) – Cyprus clinched a last-ditch deal with international lenders to shut down its second largest bank and inflict heavy losses on uninsured depositors, including wealthy Russians, in return for a 10 billion euro ($13 billion) bailout.

The agreement came hours before a deadline to avert a collapse of the banking system in fraught negotiations between President Nicos Anastasiades and heads of the European Union, the European Central Bank and the International Monetary Fund.

I’m not so sure that this has a happy ending. Corporations will repatriate money from banks that are even moderately suspected of being weak.

Money will quite possibly flow from cash as demand deposits to less liquid, but perceived to be ‘safer’, Treasuries etc. This has the same effect as a bank run.

Although the futures are currently trading higher…


Blogoland is awash with Cyprus commentary. There are opinions on both sides:

If lawmakers approve the terms of the bailout, it will set a dangerous precedent that will send shivers throughout Europe. If the Cyprus Parliament rejects the deposit tax, the aid package would be in jeopardy, potentially setting the stage for default, which would be akin to dominoes laced with dynamite given the leverage in system and the derivatives holding the global construct together.

This to my mind is the risk that exists. If lawmakers essentially can lay claim to your property, viz, money, the rule of law is devalued. Suddenly the holders of physical gold, not in a bank, look eminently sensible.

There is the argument from the other side that the EU Central Bank will provide whatever liquidity is required to prop up any bank that finds itself a ‘victim’ of a bank run.

Will they charge the same ‘depositor haircut’ to provide that bailout? It is the precedent that is important, if it is deigned ‘policy’ then we have a major problem.

Sound banks are critical to capitalism. The current model, utilising fractional reserve lending are not sound. They are highly leveraged on a foundation of illegality. That this illegality is sanctioned by the State brings us to the problem.

Without Capitalism, we have Socialism. That is a dead-end street.


When Cyprus’s banks reopen on Tuesday morning, every depositor will have some of his or her money seized. Accounts under 100,000 euros will have 6.75% of the funds seized. Accounts over 100,000 euros will have 9.9% seized. And then the Eurozone’s emergency lending facility and the International Monetary Fund will inject 10 billion euros into the banks to allow them to keep operating.

Whoever made that decision, really needs their head tested. With world economies already on the ropes, five years of bailouts, recapitalisations, QE, etc, only stabilised the financial system, not much else. Now, in a single stroke you could possibly put the whole financial system back at risk.

Why would you even bother, Cyprus as an economy is tiny. It is obviously not about the money. It is about a message. Is this the message, at this point in time, that you really want to send?

The market, will not like this much, although, gold, will probably love it.

I don’t really follow his blog too closely now, but every now and then, something like this pops up.

Why Do We Pay Interest on Money Created Out of Thin Air?
08/08/2012 12:56 PM CULLEN ROCHE 11 COMMENTS

I’m pulling this one out of the “Ask Cullen” section….it’s a basic, but important question that might help many people better understand the role of banks in our economy. There’s an interesting conflict of interest (no pun intended!) between institutions who issue the social construct that allows us to do many of the most essential things in life while also being motivated by profit generation (in essence, banks issue the social construct designed for public purpose, but do so primarily with private purpose in mind).

But banks aren’t inherently evil institutions just because they’re profit motivated. In fact, you could easily argue that a competitive banking system is far superior to a government run banking system where profit is not the primary goal (I’ll leave that up for readers to debate). But it’s a fact that some bankers take advantage of their power for the benefit of themselves and their shareholders over the benefits of society.

But as I described in the Understanding the Modern Monteary system paper, banks are a necessary cog in the machine. Monetary Realism thinks of them as the oil that lubricates the system and the entities that disperse the power of money creation away from a centralized government. They are not the driver of growth, but like the government, can be an important facilitator. Obviously, there are a lot of moving parts here….Feel free to discuss as always….

And the original question and answer.

Anyhow, here’s the Q&A:

Mark D Carmichael: Why do we pay interest on money created out of thin air?

CR: “Banks are in the business of giving you access to money before you have obtained it. So, a student can borrow money to pay for an education even though they have not worked to obtain the means by which to pay for this education. The business of giving someone money now with the expectation that they will give it back to you at a later date involves enormous and various risks for the creditor. So they charge you an interest rate on this money. Money is a social construct that must be earned (in most cases though not all public purposes). If you have not earned it then you must essentially rent it. And for renting it, you pay a fee….

That’s an oversimplified answer, but the basic gist of it.”

Cullen, as usual, doesn’t answer the question, never mind being incorrect on what constitutes originary interest.

The question is why do we pay interest on money created out of thin air. The reader wants to know how, why, a bank, who have not earned the money they loan, nor borrowed it themselves, but simply created it out of thin air, ethically, can charge you interest?

Cullen avoids answering the question entirely.

Investors are demanding the highest ever yields to lend to Spain, with yields on Spanish 10-year notes hitting at around 7.17%. Not good. Yields above 7% are seen as being unsustainable over time.

The Spanish Flu pandemic of 1918 killed more people than the world war that preceded it.

The 1918 flu pandemic (the “Spanish flu”) was an influenza pandemic. It was an unusually severe and deadly pandemic that spread across the world. Historical and epidemiological data are inadequate to identify the geographic origin.[1] Most victims were healthy young adults, in contrast to most influenza outbreaks, which predominantly affect juvenile, elderly, or weakened patients. The flu pandemic was implicated in the outbreak of encephalitis lethargica in the 1920s.[2]

The pandemic lasted from January 1918 to December 1920,[3] spreading even to the Arctic and remote Pacific islands. Between 50 and 130 million died, making it one of the deadliest natural disasters in human history.[1][4][5][6][7] Even using the lower estimate of 50 million people, 3% of the world’s population (which was 1.86 billion at the time[8]) died of the disease. Some 500 million, or 27%, were infected.[1]

Now, will Spain, ignite a pandemic in European/World banking as the Spanish banking collapses? Of course, the bailouts will come thick & fast, but as the Eurozone has already demonstrated, they tend to procrastinate somewhat, which, could be fatal with the Spanish banking system. Greece was the Bear Stearns. Spain is more of a Lehman moment.

If this continued for a few more years a break-up of the euro would become possible without a meltdown – the omelet could be unscrambled – but it would leave the central banks of the creditor countries with large claims against the central banks of the debtor countries which would be difficult to collect. This is due to an arcane problem in the euro clearing system called Target2.

Target2 is the crux of the matter in Europe. Debits/Credits are never settled with real goods/services or like the Federal Reserve system, once a year, with gold certificates. It might be questioned whether there is real gold backing the gold certificate, but that is another question.

Target2 never settles. Therefore the debits/credits can grow to enormous proportions with no check on the reality of settlement ever taking place. So large now are these cumulative totals that a default of a PIIGS, or the withdrawal of Germany, and the edifice collapses.

In contrast to the clearing system of the Federal Reserve, which is settled annually, Target2 accumulates the imbalances. This did not create a problem as long as the interbank system was functioning because the banks settled the imbalances themselves through the interbank market.

See above.

But the interbank market has not functioned properly since 2007 and the banks relied increasingly on the Target system. And since the summer of 2011 there has been increasing capital flight from the weaker countries. So the imbalances grew exponentially. By the end of March this year the Bundesbank had claims of some 660 billion euros against the central banks of the periphery countries.

Correct. The Target2 system both allows, and encourages capital flight. Capital flight does not prevent the losses however due to the intertwined nature of the ECB and National Banks through the debit/credit Target2 clearance through the ECB. The losses at the ECB, are losses in the credits held by the ECB to the relevant National Bank, German in this case. The Germans lose.

The Bundesbank has become aware of the potential danger. It is now engaged in a campaign against the indefinite expansion of the money supply and it has started taking measures to limit the losses it would sustain in case of a breakup. This is creating a self-fulfilling prophecy. Once the Bundesbank starts guarding against a breakup everybody will have to do the same.

It can’t really limit the already incurred losses, all it can really do is prevent taking on new losses, which due to the virtual non-existence of any real value in collateral, is almost guaranteed.

This is already happening. Financial institutions are increasingly reordering their European exposure along national lines just in case the region splits apart. Banks give preference to shedding assets outside their national borders and risk managers try to match assets and liabilities within national borders rather than within the eurozone as a whole.

If that is the case, more fool them. You need to off-load junk, and hold quality. Whether that quality is Greece [highly unlikely] or Germany. The problem is that the destruction of capital now is so great that even formerly quality German assets are now likely to suffer real impairment.

The indirect effect of this asset-liability matching is to reinforce the deleveraging process and to reduce the availability of credit, particularly to the small and medium enterprises which are the main source of employment.

True. The unemployment, worldwide, will I expect start to rise again. I don’t think we have seen the bottom in unemployment, and this is going to be really brutal and ugly.

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