The textbook I’m reading says that the reserve ratio is like the biggest “tool” that the fed has. They are increasing interest rates, but then they are having the reserve ratio at 0% and they are engaging in reverse repo to make sure that banks have plenty of cash. I don’t get it.
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The reserve ratio is a powerful tool only if banks are bumping against the ratio. Previously, banks kept reserves as low as possible because it tied up money and did not pay any interest. In 2008, new legislation allowed the Fed to start paying interest on reserves. Since they are getting paid a market rate, banks don’t hold the bare minimum. Given that environment, the Fed found that the reserve ratio was not really as powerful as it used to be.
The Fed put the rate at zero in March 2020 (near the peak of the Covid crisis). Many people were hoarding cash, etc. and the Fed didn’t want banks running out of cash and adding to the panic. Fast forward to today, and in the interest the Fed pays on deposits is high (5.4%) so many banks keep cash in reserves just to earn the interest which restricts the money supply.
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