From Yves Smith & Naked Capitalism : Guest Post: The Fed Is Responsible for the Crash in the Money Multiplier … And the Failure of the Economy to Recover
Greg Mankiw noted in January 2009:
Econ prof Bill Seyfried of Rollins College emails me:
Here’s an interesting fact that you may not have seen yet. The M1 money multiplier just slipped below 1. So each $1 increase in reserves (monetary base) results in the money supply increasing by $0.95 (OK, so banks have substantially increased their holding of excess reserves while the M1 money supply hasn’t changed by much).
Since January 2009, the M1 Money Multiplier has crashed further, to .786 in the U.S. as of February 24, 2010:
(Click for full image; underlying data is here)
That means that – for every $1 increase in the monetary base – the money supply only increases by 79 cents.
Why is M1 crashing?
Because the banks continue to build up their excess reserves, instead of lending out money:
These excess reserves, of course, are deposited at the Fed:
Why are banks building up their excess reserves?
As the Fed notes:
The Federal Reserve Banks pay interest on required reserve balances–balances held at Reserve Banks to satisfy reserve requirements–and on excess balances–balances held in excess of required reserve balances and contractual clearing balances.
The New York Fed itself said in a July 2009 staff report that the excess reserves are almost entirely due to Fed policy:
Since September 2008, the quantity of reserves in the U.S. banking system has grown dramatically, as shown in Figure 1.1 Prior to the onset of the financial crisis, required reserves were about $40 billion and excess reserves were roughly $1.5 billion. Excess reserves spiked to around $9 billion in August 2007, but then quickly returned to pre-crisis levels and remained there until the middle of September 2008. Following the collapse of Lehman Brothers, however, total reserves began to grow rapidly, climbing above $900 billion by January 2009. As the figure shows, almost all of the increase was in excess reserves. While required reserves rose from $44 billion to $60 billion over this period, this change was dwarfed by the large and unprecedented rise in excess reserves.