Here are the pools of money to back a $1 trillion infrastructure plan

There are two enormous pools of savings in America that the current debate has overlooked. One of these is a result of the accommodative monetary policy since the 2008 financial crisis. The other has existed for longer, and has always been large, but become larger since the financial crisis. Both are relatively unproductive, and can be made more productive, while still performing their current roles.

The first of these pools is the excess reserves of the commercial banks. A Depression-era rule requires banks to hold liquid assets so that they will be able to meet demand for cash withdrawals. The amount of cash reserves that they are required to hold is set by the Federal Reserve. If banks choose to hold more than the required amounts on deposit with the Federal Reserve, the excess amounts provide additional protection against runs. Recently, they have chosen to hold more than $2 trillion at the Federal Reserve.

{mosads}The second pool of savings are time deposits at U.S. commercial banks. Those include large and small deposits, and again are almost $2 trillion in aggregate value. These are very safe, because the small deposits are guaranteed by the Federal Deposit Insurance Corporation (FDIC), but they yield very little — less than 1 percent per year since the financial crisis. Monetary policy kept deposit interest rates low so that banks could rebuild their liquidity and their equity. Now is an opportune time to reexamine if those time deposits can be put to more productive use.

Time deposits have historically been a rock of stability for the commercial and savings banks. Bankers consider them “core” deposits, different from “demand” deposits, which are often withdrawn abruptly. So risk-averse savers hold these time deposits, because they have always felt safe holding them, and they provide stability to the banking system by doing so. But since the financial crisis the banks have not invested those deposits very productively, as we can see from the excess amounts the banks have on deposit at the Federal Reserve.

In total, therefore, the U.S. commercial banks have $2 trillion that can be mobilized and made to be more productive, and their depositors have $2 trillion of low-yielding, ultra-safe deposits that can also be mobilized. The excess reserves are particularly unnecessary. There are other ways to insure the safety of the banking system. In the event of a run on a bank, depositors are satisfied if they can withdraw Federal Reserve notes.

Those can be loaned by the Federal Reserve to the bank or banks that are experiencing a run. Those do not need to come from the reserve accounts of those specific banks. The pool of time deposits can also be allocated more productively. Depositors will require safety and FDIC insurance on their deposits. Provided that their money is safe, they will not care very much if it is invested more productively.

At this time there is a need to invest $1 trillion in infrastructure projects. Unfortunately, the political debate has assumed that the $1 trillion needs to come from tax revenues. That assumption threatens to derail the infrastructure program. The needed amount can come from mobilizing the underutilized reserve deposits and time deposits in the banking system. The infrastructure projects can be tax neutral. They need not be financed by deficit spending. Instead they can be financed by making a technical change to Federal Reserve regulations.

The proposed change is that the banks can be allowed to use their excess reserves to buy infrastructure bonds. These bonds would be a new category with legal protection and guarantees. These bonds would pay higher yields, for example 3 percent or 4 percent per year. The infrastructure projects, for example bridges and highways, would collect tolls to pay interest and principal on these bonds. The bonds would be held in the Federal Reserve accounts of the commercial banks, replacing the excess reserves. The bonds would count as reserves, and would be fully eligible to be discounted at the Federal Reserve discount window in the event of need.

This technical change to Federal Reserve rules would have the effect of raising the yield on the cash invested in time deposits. Right now, banks take in time deposits and send the cash to their Federal Reserve account, where it earns a very low yield and makes the banks safer but accomplishes little else. The banks cannot pay higher yields to savers because they are earning so little on the cash they have on deposit at the Federal Reserve. If they are allowed to buy a new kind of infrastructure bonds — issued by the entities that will operate the new highways and bridges — and count those bonds as liquid assets for purposes of computing reserve requirements, then the banks would have more income and then would be able to pay higher yields on certificates of deposit.

The proposed change would release productive capacity that is currently idle or underutilized. Construction workers would be hired to build the infrastructure projects. Goods and people would move faster and more safely. Risk-averse savers would earn more on their certificates of deposit, and would then have more discretionary income to spend. They could take their grandchildren to Disney World, or at least to the local zoo or museum.

John C. Edmunds is a professor of finance at Babson College. His teaching experience includes courses at Harvard University, the Fletcher School of Law and Diplomacy at Tufts University, the Arthur D. Little School of Management, Boston University, the Hult International Business School, and Northeastern University. Mark F. Lapham, CFA, is a consultant to Massachusetts-based companies. He holds degrees from Harvard University and Babson College.

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