Janet Yellen has her Ph.D. in economics, not nuclear engineering. But according to a new guide by analysts at Barclays, she will have to make like a nuclear power plant operator to keep the U.S. economy from overheating.
The analogy isn’t as far-fetched as it sounds. Nuclear plant operators cool things off by inserting control rods into the reactor core. The rods absorb neutrons, preventing them from causing fission. The operator can speed up fission by pulling the rods back out. (You can refresh your memory on nuclear plants here.)
Likewise, say Joseph Abate and Michael Gapen, who work in the New York office of the British bank, the U.S. banking system will have $3 trillion in excess reserves before the Fed is through buying Treasury bonds and mortgage-backed securities. Those, they say, are like the fuel in a nuclear power plant. Banks can’t lend out excess reserves, but their availability removes one constraint on bank lending.
Since 2008, the Fed has had authority from Congress to pay interest on excess reserves. The higher the rate, the less incentive the banks have to lend their excess reserves to other banks, as the San Francisco Fed explains. In Barclays’ nuclear terminology, interest on excess reserves “acts like the graphite control rods in a nuclear reactor—speeding or slowing economic activity—depending on where the rate is set.”
The Fed probably won’t sell assets, but it won’t replace them when they mature—the equivalent of allowing nuclear fuel to decay, say the Barclays analysts. This is a delicate process, and a slow one. Barclays doesn’t expect “normalization” until about 2021.
And there you have it: monetary policy as nuclear engineering.