Fed Chief's Exit Options

I read an article in the Business Times (16 Feb 2010) and came across the options available to the central bank to exit from their current predicament.

There are three options highlighted in the article. The first option is to encourage banks to store money at the Fed by increasing interest rates. This measure would put significant upward pressure on all short-term interest rates. This would also force many banks to raise their rates in order to compete with the Fed as a place to deposit their money This effectively would tighten the money supply.

The second option is to enter into "reverse repurchase agreements". This agreement allows the Fed to sell securities such as Treasury bonds to investors for a short period and then buy them back at a slightly higher rate at a later date, allowing it to remove some money out of circulation for a time.

Having term deposits is the third option. These term deposits would help to encourage banks to place their money with the central banks for a longer period. Thus, this in effect would tighten the country's money supply.

Idle Cash Drags on Profitability

Ratio of cash to corporate loans has more than quadrupled since June 2008. This is because banks are fearful that regulators might further tighten regulatory requirements on banks and the slack demand for loans.

Currently, the industry is looking at a ratio of 98 cents to a dollar of corporate loans. This would reduce the return on equity by 33%. Of course, with a stronger balance sheet, banks will be able to operate more flexibly.

More Steps to Cut Greece's Budget Deficit

To reduce Greece's current budget deficit of 12.7% of GDP to 8.7% of GDP this year is the target of Greece's current Finance Minister. The current Greece's government has pledged to slash the shortfall to the EU limit of 3% in 2012 by cutting spending, freezing wages, raising taxes on items like alcohol and cutting down on tax evasion.

It has been recently uncovered that Greece is using swaps to cover up the true amount of its deficit. The EU is promising support on the condition that all the requested measures are met. However, the tricky problem here is that once Greece is helped the dam would be broken and Spain and Portugal will be counting on help from the EU to cut their own budget deficits.