<p>You’re right, this is a big deal. If these reserves get pumped back into the economy, then interest rates will no longer be controllable by the Fed and inflation would probably ensue (see <a href=“http://www.businessdictionary.com/definition/money-multiplier.html[/url]”>http://www.businessdictionary.com/definition/money-multiplier.html</a>) . That’s no good because rampant inflation would basically be a tax on everyone equally (as opposed to progressive taxes that we normally prefer). </p>
<p>Selling T-bills would oppose the whole point of fiscal conservatism; the Fed would be paying interest on these T-bills just to avoid having rampant inflation–putting us in even a worse crisis. </p>
<p>But it’s really not as terrible as it sounds, at least according the CBO and the Fed. The Fed now pays interest on these reserves, so there’s actually no incentive for banks to pump these reserves back into the market once the recession is over. </p>
<p>You’d think that this isn’t much different from paying interest on T-bills–it still forces the Fed to pay interest to avoid inflation. But according to the CBO, the riskier securities the Fed has taken on should increase revenue enough to offset the losses in interest ([Director’s</a> Blog Blog Archive The Budgetary Impact and Subsidy Costs of the Federal Reserve?s Actions During the Financial Crisis](<a href=“http://cboblog.cbo.gov/?p=948]Director’s”>http://cboblog.cbo.gov/?p=948)). So, I think we might find that these new ridiculous reserve levels can get lent out very slowly because the central bank is incentivizing banks to hold onto their reserves. </p>
<p>For a straightforward explanation of the Fed’s new method of paying interest on reserves, see <a href=“FEDERAL RESERVE BANK of NEW YORK”>http://www.newyorkfed.org/research/staff_reports/sr380.pdf</a></p>
<p>In short, the high excess reserves might have no effect on the federal debt or any initiatives to balance the budget.</p>