Dallas Fed Chief Defends ''Left Side'' Strategy

Excerpt from today’s speech by Dallas Fed chief Richard W. Fisher.

In rapid order, over the course of a year, we took at least eight major initiatives:

(1) We established a lending facility for primary securities dealers, taking in new forms of collateral to secure those loans;

(2) we initiated so-called swap lines with the central banks of 14 of our major trading partners, ranging from the European Central Bank to the Bank of Canada and the Banco de México to the Monetary Authority of Singapore, to alleviate dollar funding problems in those markets;

(3) we created facilities to backstop money market mutual funds;

(4) working with the U.S. Treasury and the FDIC, we initiated new measures to strengthen the security of certain banks;

(5) we undertook a major program to purchase commercial paper, a critical component of the financial system;

(6) we began to pay interest on reserves of banks;

(7) we announced a new facility to support the issuance of asset-backed securities collateralized by student loans, auto loans, credit card loans and loans guaranteed by the Small Business Administration;

and (8) at the end of November, we announced we stood ready to purchase up to $100 billion of the direct obligations of Fannie Mae, Freddie Mac and the Federal Home Loan Banks, as well as $500 billion in mortgage-backed securities backed by Fannie, Freddie and Ginnie Mae.

And, as you all know, in a series of steps, the Federal Open Market Committee (FOMC) reduced the fed funds rate, a process which I fully supported once it became clear that the inflationary tide was ebbing. Simultaneously, and again in a series of steps, the Board of Governors lowered the rate it charges banks to borrow from our “discount window” so as to lower their cost of credit. That rate now rests at 0.5 percent.

All of this has meant expanding our balance sheet. [L]ast Friday night, the total footings of the Federal Reserve had expanded to $2.254 trillion–an almost three-fold increase from when we started the year. And I believe we made it quite clear in our press release after Monday and Tuesday’s meeting of the FOMC that we stand ready to grow our balance sheet even more should conditions warrant. For example, we will expand purchases of mortgage-backed securities, should we feel such purchases would be productive.

You will note that the emphasis of our activities has been on expanding the asset side of our balance sheet–the left side, which registers the securities we hold, the loans we make, the value of our swap lines and the credit facilities we have created. We feel this is the correct side to emphasize. The right side of our balance sheet records our holdings of banks’ balances, Federal Reserve Bank notes or cash (currently over $830 billion) and U.S. Treasury balances.

When the Japanese economy went into the doldrums, the Bank of Japan emphasized the right side of its balance sheet by building up excess reserves and cash, only to find that accumulation did too little to rejuvenate the system.

As I said earlier, in times of crisis many feel that the best position to take is somewhere between cash and fetal. But it does the economy no good when creditors curl up in a ball and clutch their money. This only reinforces the widening of spreads between risk-free holdings and all-important private sector yields, further braking commercial activity whose lifeblood is access to affordable credit.

We believe that emphasizing the asset side of the balance sheet will do more to improve the functioning of credit markets and restore the flow of finance to the private sector. In the parlance of central banking finance, I consider this a more qualitative approach to “quantitative easing.” It is bred of having learned from the experience of our Japanese counterparts. . . .

See full text of Dec. 18, 2008 speech on “Historical Perspectives on the Current Economic and Financial Crisis” as posted at the Dallas Fed web site.

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