The solution to the slow economy is not found with the banks but is found with the non-banks.
There is a misunderstanding of how the banking system works by both economists within and outside the Federal Reserve Bank. There is also a discriminatory bias within the Fed favoring commercial banks as the Fed is a creature of the commercial banking system.
It is a long standing myth that commercial banks are intermediaries. That they match savers with borrowers. That banks seek deposits in order to make loans. In fact, banks do not and cannot lend out their deposits. This is because when banks make loans they create the money with which to make the loans.
The banks want deposits to fund their other assets. It is another misnomer that banks borrow short and lend long. The borrowing short is to fund other than loan assets. Banks carry an inventory of Treasury bonds, securitized products, credit default swaps, interest rate swaps, and stocks used for making markets for their customers. You may remember the mortgage backed securities that the banks were speculating with leading up to the financial crisis of 2008. They were called toxic assets back then. Deposits are the cheapest short term borrowing banks have. Banks have been called hedge funds.
It is one big carry trade. Banks want deposits to fund these assets with the cheapest money they can get their hands on and that is deposits. Banks also borrow short as short term borrowing costs them less than they earn from the more illiquid assets they invest and speculate in. All this short term borrowing is called wholesale funding for the commercial banks.
The non-banks make loans but cannot create the money with which to make the loans. They must have the money first. The non-banks are the true intermediaries matching savers with borrowers.
Here is a non-inclusive list of non-banks. Insurance companies, pension plans, brokerages, accounts receivable lenders, issuers of letters of credit, equipment leasing companies, money market funds, second mortgage companies, private equity funds, corporate issuers of commercial paper, investment banks, your local pawn shop and your online peer to peer lender.
The banks have eight trillion dollars in savings accounts. This money does not support lending as stated. It supports bank’s investment in Treasuries, market making, and speculation. This money needs to be moved out of the banks and into the non-banks.
Doing this doesn’t reduce the amount of deposits at banks. It does change the ownership of the deposits and shifts the deposits from time deposits to demand deposits, or, checking accounts if you prefer. This is a good thing described later under “Note on velocity” below.
The banks must be forbidden from offering interest on deposits. Income earned from loans to non-banks should become tax free. Then Mr. & Mrs. Retiree can with draw their deposit from the bank and lend or invest it in a non-bank, say an insurance company. The insurance company then can make a construction loan (instead of the federal government paying for an infrastructure project using deficit spending). Since the insurance company has to maintain its bank account with a commercial bank, the commercial bank’s deposits are not reduced. The difference is that the deposit is owned by the insurance company and not Mr. & Mrs. Retiree. And, the deposit will be in a checking account where you want it to be instead of tied up dead in a savings account doing nothing for the economy except where there is a benefit from bank speculation and holding of Treasuries.
You want lending? Help the non-banks to do it.
Note on interest rates. Low interest rates are a sin. It kills the non-banks. The NBs cannot offer a high enough interest rate to attract money in relation to the income they can earn from loans to the private economy. Rates need to move up and with that the spread between interest cost and interest earned can widen. Low interest rates reduce money velocity.
There is so much money in the system. We don't need any more. We need the money velocity, the turn over of money, to increase.