A lot of smart folks seem to be worried about this but I don’t completely understand why. From Brad Plumer

Even though Europe’s bank often has a lot more flexibility to get involved in open-market operations, Blinder adds, “they’ve been a lot more worried about stretching the law.”

That said, Blinder adds that the ECB also has good reason to be wary of un­or­tho­dox actions like quantitative easing. If the Fed loses money on its purchases, it has the U.S. Treasury to back it up. It’s not clear who would backstop Europe’s bank.

Lets suppose that either the Fed or the ECB takes a flyer on a bunch of debt. My immediate reaction is – so what?

There is the issue that you can’t contract the total quantity of reserves down to an arbitrarily low level if you don’t have an asset to sell in exchange for them.

However, if you are paying interest on reserves then you don’t have to do this. You continue to print reserves in order to meet the interest payments. If the interest on reserves is higher than the rate of growth of checkable deposits then you are going to have the issue that excess reserves will grow without bound.

However, first its not immediately clear why that’s a problem and second its not likely that growth rate on checkable deposits will be less than the interest rate on reserves indefinitely.

Over the long long run the supply of money is going to grow roughly at the size of the nominal economy which in turn is going to be greater than interest on reserves.

So, eventually you will back down out of this process. However, even if for some reason you didn’t what exactly are you afraid of going wrong? Its not clear to me.

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