Sir, American banks are not expanding their balance sheets to take advantage of fractional reserves the way the banking textbooks describe; instead they sit on more than $1.5tn of excess reserves at the Federal Reserve. One reason is their lack of capital. Another, more intriguing reason is articulated by Bill Gross ("Is ultra-cheap money the problem, not the solution?", Insight, December 20): "Zero-bound money ... creates no incentive to expand it." Good point, but it means that Mr Gross, like many economists, believes that there is a zero bound for interest rates. In fact, this zero limit does not exist. Negative interest rates are perfectly possible and have actually occurred numerous times.

To address Mr Gross's insight, the Fed could give banks a big incentive to expand by setting negative interest rates on their excess reserves. Why doesn't it? Perhaps because the Fed wishes to practise credit allocation by directing funds to housing finance through its own investments in mortgage assets, of which it has bought about $1tn. 

Alex J. Pollock
Resident Fellow
American Enterprise Institute
Washington, D.C.