|February 11, 2013
Over the past two weeks we have reported that just like during the spring and summer of 2011, all the cash generated by Fed excess reserves, has gone to foreign banks operating in the US, which according to the Fed, are vastly composed of European financial institutions. In other words, the cash that the Fed is creating out of thin air by monetizing the US deficit, is going solely and exclusively to European banks and a handful of other foreign banks. This can be seen both in the chart below, and is confirmed by the Fed itself, which in a paper from November 2012, admitted just this when it said that "the recent unprecedented build-up of cash balances by [foreign banks] was almost entirely composed of excess reserves."
What is notable about the chart above is that while cash parked at US-domiciled banks, both small and large, has been relatively flat in the past 3 years at just about $800 billion, it was been foreign banks that absorbed the bulk of the Fed's newly created reserves.
Just as importantly, and as also shown previously, the excess reserve cash parked at foreign banks just hit a record $954 billion as of the week ended January 31.
What is still a mystery, however, is just what do foreign banks use this cash for: does the cash undergo collateral transformation whereby the cash collateral is transformed into various "safe" intermediary securities via the shadow banking system (as Monte Paschi was discovered to have done recently), and if so what is the ultimate use of free Federal Reserve funds.
We hope that before the Fed loses all control of the economy and markets we will get the answer to this budding question.
But even assuming foreign banks do nothing with this cash and it merely sits on the Fed's books, this does pose another question, one which we hope someone from Congress will ask Chairman Ben at the upcoming Humphrey Hawkins presentation at the end of February. Namely: why has the Fed paid some $6 billion in interest to foreign banks, in the process subsidizing and keeping insolvent European and other foreign banks, in business and explicitly to the detriment of countless US-based banks who have to compete with Fed-funded foreign banks and who have to fire countless workers courtesy of this Fed subsidy to foreign workers?
As readers will recall, on December 18, 2008, the Fed dramatically changed its policy to control the suddenly all critical fungible liquidity bailout reserve level, by implementing a cash interest paid on reserve balances held at Reserve banks, amounting to 25 basis points on the excess reserve balance. The Reserve banks included all foreign banks operating in the US. It is these banks that now have a record $954 billion in cash as of the week ended January 30, and it is this $954 billion that now accrues an interest of 0.25% per year.
We show the surge in the foreign bank cash level, as well as the cumulative cash interest paid to these banks assuming a weekly cash interest payment. What the chart shows is that from December 2008 through the last week of January, the Fed has paid out some $6 billion in cash (red line) to European banks simply as interest on excess reserves.
But that's just the beginning. If we are correct in assuming that QE3 will be a replica of QE2 when all the new reserves created ended up as cash on foreign bank balance sheets, it means that we can quite accurately forecast what the total foreign bank cash position will be on December 31, 2013 (as the Fed will certainly not end its open ended monetization of the US deficit before then, or likely, ever). The result: just under $2 trillion in cash held be foreign banks operating in the US, which also means that in calendar 2013, the Fed will fund and subsidize foreign banks a blended interest payment of $3.5 billion! This is entirely separate from the $2 trillion liquidity subsidy that Bernanke will also have handed out to keep these banks afloat, and is $3.5 billion that will flow right through the P&L and end up in the pockets of offshore shareholders who otherwise would very likely be wiped out had it not been for the Fed's relentless efforts to bailout foreign banks.
And since it is improbable that excess reserves held by any banks will decline at all in the coming years, one can also assume that the annualized interest paid to foreign banks, which would amount to at least $5 billion pear year, every year, will continue indefinitely as a direct Fed subsidy to the bottom line of Foreign banks.
All of this, of course, ignores what happens should the Fed hike interest rates across the board, which will also mean rising the rates on IOER, once inflation finally strikes: simple math means a 1% IOER means some $20 billion in interest paid to foreign banks, 2% - $40 billion, 5% - $100 billion paid to foreign banks, and so on. Putting these numbers in perspective, let's recall that Italy's third largest bank just got a €3.9 billion bailout (its third), and has a market cap of some €2.9 billion.
We can only hope someone in Congress asks Ben Bernanke in two weeks just under which Fed charter it is that the Fed is more focused on generating profits (not just trillions in excess liquidity) for European banks, than on opening up consumer lending which has been stuck in "petrified" mode for the past 4 years, with the total amount of loans outstanding currently at all US banks - foreign and domestic - at levels last seen the week Lehman filed for bankruptcy.