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Comment by Retric | Hacker News Reader

They are both important but they do different things. Reserve requirements is how you avoid infinite inflation.

Right, you beat me to it. Captial requirements are there to prevent banks from going insolvent. Reserve requirements are there to prevent the money supply from spiraling out of control. These are completely different objectives.

Thanks for pointing this out. Our problem now is that even with reserve requirements, banks can use securitization to expand the money supply infinitely: http://arxiv.org/abs/0904.1426 . Reserve requirement aren't normally the binding constraints on banks, but they might have helped prevent some pathological situations in the past. The rise of shadow banking has shown that they are no longer a sufficient constraint.

As I understand it, the Fed would control the amount of inflation by setting the interest rates directly. Essentially, banks would be able to create money when they are able to find a lending opportunity that will pay a greater amount of interest than the federal funds rate. By raising or lowering the rate, the Fed can control the amount of inflation. This is at least my understanding of how it would work, I'm not an expert in banking, but you can follow sites like this one http://reservedplace.blogspot.com/2009/04/easing-understandi... or winterspeak.com to learn more.

> As I understand it, the Fed would control the amount of inflation by setting the interest rates directly.

Except that you can't control the amount of inflation by setting "the" interest rate. You can try to affect inflation with interest rates, but you can't control it.

Inflation is too much currency chasing too few goods. Interest rates paid by banks aren't the only currency supply drivers. Velocity matters, and so does govt spending, among other things.

Your points are correct, the interest rates affect inflation rates, but do not fully control inflation rates. In my own opinion, interest rates are a terrible way to regulate inflation.

Are you seriously interpreting this as "Bernanke wants banks to be able to infinitely inflate the money supply"?

You do realize that Bernanke's briefing explains alternate mechanisms for accomplishing the same goal without the drawbacks of the current system, right?

And you do realize that one of those drawbacks is that if banks are currently keeping a much higher level of reserves than the minimum, one of the dangers is that they might start opening the lending spouts and spur inflation, right?

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