January 20, 2021
.In the wake of the economic meltdown caused by the government’s dramatic measures to halt the spread of the corona virus the Fed leaped into action. It boosted its balance sheet by about $3.0 trillion in March and April primarily via purchases of U.S. government securities. When it purchases government securities the proceeds of the transaction are put into a bank’s “reserves” account at the Fed. Think of this as that bank’s checking account. Excess reserves in the banking system have jumped from $1.7 trillion in February to $3.2 trillion. This measures the ability of the banking system to make additional loans. Banks are awash in funds just waiting to be lent to needy businesses.
Banks have been busy. Their loan portfolios have increased by $800 billion in March and April. To put that in perspective, total bank loans increased $450 billion in 2019. In two months they lent almost double they did all last year. Most of the March/April increase in lending was to businesses. Commercial and industrial loans climbed by $600 billion in that 2-month period of time as businesses wanted to be sure they had enough liquidity to stay afloat during the crisis.
When banks lend to consumers and/pr businesses, they put the proceeds into a checking account. At that point the money supply begins to grow. In March M-2 grew at a 21.0% annual rate. In April it climbed by 46%. In the past year M-2 has climbed by 25% Those are funds that businesses can use to pay their workers, pay the rent, and keep the lights on.
The point of all this is that, to its credit, the Federal Reserve stepped into the credit void to make sure that banks had adequate funds to lend to businesses to keep the economy functioning. If the virus begins to show signs of slowing down, more businesses will be permitted to re-open and the economy can begin a gradual and sustainable recovery.