A Conversation with Raghuram G. Rajan

GENE AMROMIN: My name is Gene Amromin. I lead the finance research team at the Chicago Fed. And it really is my pleasure to welcome you back for an exciting second half of our program, after what was an engaging morning. So the next item on our agenda is a very special after lunch treat, which is a conversation between two distinguished economists and policymakers, Austan Goolsbee, the president and CEO of the Chicago Fed, and Professor Raghuram Rajan of the University of Chicago Booth School.

As a reminder, we're going to live stream and record this conversation. And so any audience Q&A we include will be shared without attribution. As you must have noticed from their conference bios, our speakers have played key policy roles in a number of US and global institutions over the past two decades.

In addition to his current role on the Federal Open Market Committee, President Goolsbee served as a member and later chair of the Council of Economic Advisors from 2009 through 2011. And before joining the Chicago Fed, Austan was a professor at Chicago Booth. Professor Rajan served as the governor of the Reserve Bank of India between 2013 and 2016, as vice chairman of the Board of the Bank for International Settlements between 2015 and 2016, and as chief economist at the International Monetary Fund between 2003 and 2006.

So you probably suspect that even listing select highlights of their careers would keep me here for a good 15 minutes, while you're going to be squirming in your seats waiting for the conversation to begin. So let me not do this. And please join me in welcoming President Goolsbee and Professor Rajan.

AUSTAN GOOLSBEE: Thanks, Gene. Do we have the iPads for questions? When we have questions, were there going to be iPads? Or-- they're going to bring them up. OK. Well, good afternoon. I am Austan Goolsbee. I'm president of the Chicago Fed. I started in January. So I'm still relatively the new guy.

It is my great pleasure and honor to welcome everybody to the financial market group's fall conference eighth year. Right? We've been doing this for a while. We try to bring in a range of participants to engage in these conversations of these key issues affecting financial markets.

And given the firms that are here in the seventh district, we have a lot of focus on derivatives and clearing. My long-time colleague, Raghu. And we taught a class together for several years about policy, including through the pandemic. And we were the-- we were the test case of trying to teach class on Zoom. It went OK.

RAGHURAM RAJAN: OK.

AUSTAN GOOLSBEE: Yeah, I thought it went OK. My goal for this conversation today is, I want you to get Raghu's perspective on a bunch of the issues that have come up in the panels and that we've been thinking about. And it'll be a real treat for us to do that. So Raghu, I want to start by asking you a little bit about your research and your views on some of these topics. And then we're going to open it up to questions on the iPad.

Your recent research kind of ties together this nexus of central bank balance sheet expansions, liquidity in the financial system, what are the implications for financial stability, things of that nature. OK. So in your paper, you've written about what happens to the availability of liquidity in the system as the central bank starts expanding the balance sheet, the risks of the liquidity when they start shrinking the balance sheet. And this August, you published an update on your paper. Can you start, maybe, with this concept of banks hoarding the spare liquidity, explain what that is and why your view is that banks might be holding back this spare liquidity to other firms, even if it might be profitable for them?

RAGHURAM RAJAN: I mean, let me-- I have a question for you. I'll keep that for later.

AUSTAN GOOLSBEE: OK.

RAGHURAM RAJAN: First, thanks for having me here. It's always fun to be with Austan. And let me start by saying, liquidity is a very nebulous concept. Right? You know, Maureen O'Hara likened it to pornography. How do you define pornography? How do you define liquidity? And it's sort of-- it's there until it isn't there. And then when it disappears, all sorts of bad stuff happens. So what are the conditions under which liquidity sort of disappears? And why might it result in certain parties holding whatever little there is?

Now, under a variety of circumstances, many assets are really quite liquid. But a lot of it depends on finely transforming these assets into settlement media, into reserves. And so system works quite well with even a small quantity of reserves until, suddenly, there is a big need for reserves to satisfy the need for immediacy. And then suddenly, nobody can get access to this final settlement media.

Prices of getting overnight borrowing go through the roof. And so the question is why does the system get into this state? And so one of the things we did in this paper is look at what happens when the central bank expands its balance sheet. Of course, we have more data on the Fed, so we looked at the Fed.

And it turns out that, obviously, when the Fed puts out reserves, the most liquid asset on the planet, somebody has to finance it. And who finances it? Typically, it is banks, commercial banks. So commercial banks gain an asset, which is reserves. Either they have to let go of another asset or they have to create a liability. Right? That's the only two ways it gets financed.

And it turns out, during the process of QE, it gets financed by issuing liabilities. And typically, these tend to be uninsured demand deposits. If you look at the central commercial bank balance sheets, steadily from 2008 to 2022-- I wish I had the slide, I could put it up-- you see a steady increase in demand deposits to assets. Uninsured demand deposits to assets for small banks, medium banks, big banks. OK? Over the period.

And then what you find in 2023 is it all comes crashing down a little bit, with the March 2023 episode. So what's happening? You are financing assets with a more demandable claim. Of course, you have an offsetting, sort of, very liquid asset. So it's not hard to see that maybe this is just basic risk management. Really liquid asset with a really low cost liability, which requires the liquid asset to fulfill it when push comes to shove.

The problem is every time reserves shrink, your demand deposits don't shrink. They maybe flatten out and then start building up again every time you pump more reserves in. So there's a ratcheting up of these demandable claims. And it's not just your uninsured demand deposits are going up, your time deposits are coming down. And you're also writing other kinds of claims on liquidity, such as lines of credit. And those also keep moving up. They don't come down.

So what do we have at the end of it? We have at the end of it, that when the central bank expands its balance sheet, then contracts some, then expands again, the commercial banking system is ratcheting up claims on liquidity relative to reserves. And so when you pull back the liquidity, for example, through a process of quantitative tightening, the system backs up before it gets back to where it was earlier because it has many more claims on liquidity now than it used to have, earlier. So in other words, there's hysteresis in this process.

AUSTAN GOOLSBEE: And is that-- that feels like it would be super dependent on expected versus unexpected. So if you put a quantitative tightening with enough of a runway and everybody sees what's happening, wouldn't they be able to--

RAGHURAM RAJAN: You would think so. And that's what we thought. You should see this coming down in the banking system. People should say, look, there's shrinking reserves. I can't have so many outstanding. It turns out it doesn't quite work that way. Part of the reason, only part of the reason, is when they're shrinking reserves, what happens is they are selling securities, very liquid eligible securities, to the banking system. And the banking system is buying them with reserves. That's how the reserves shrink.

So in a sense, the banking system shrinks reserves by doing the asset swap, not by shrinking liabilities. So now what you have in place of that very liquid reserve is almost as liquid long-term or medium-term treasury. OK? But then when you go for getting that final sort of liquid asset, you have to repo these in the market to get that final liquid asset. In other words, you're running the system with everybody thinking they have claims on liquidity. But everybody's claim on liquidity is not as good as it was before you started shrinking reserves.

AUSTAN GOOLSBEE: Is that why you-- is your view that quantitative easing, quantitative tightening does not need to be symmetric? So the people who look at the quantitative easing and say, it didn't seem like it did a whole lot, they then look and say, quantitative tightening probably won't be that problematic because all it will do is just reverse the small thing that was done before. But you've had a view that it's not symmetric.

RAGHURAM RAJAN: Exactly. I mean, you hit the nail on the head. First, on real activity, I think the jury is still out on how much quantitative easing did. I think what is absolutely clear is the first phase, QE 1, was very helpful in repairing markets in Europe. Some of the early quantitative easing helped in the sense of strengthening bank balance sheets by, again, repairing sovereign markets. You remember Draghi's famous, "we will do what it takes, and believe me, it will be enough". That repaired the sovereign market, that increased bank asset values, that increased bank capital, they could lend out. So there was some effect on real activity in the first phase of QE. After that, it's harder to discern. And our colleague, Lubos Pastor, has a paper with a number of colleagues, which basically says it depends on the eye of the beholder. If you're a central bank--

AUSTAN GOOLSBEE: Whether it did anything.

RAGHURAM RAJAN: Yeah. If you're a central bank, it did more. If you're an academic, ambivalent. If you're the Bundesbank, it was awful.

AUSTAN GOOLSBEE: Yeah.

RAGHURAM RAJAN: So it depends on which central bank does the research. Tongue in cheek. I mean, he's not suggesting any falsification in that analysis. It's just what people look at. But I think it's different. It's asymmetric. Why is it asymmetric? Because on the way up, what banks are doing is writing more claims on liquidity. And there's plenty of liquidity to support that. But on the way down, they're not retracting those claims on liquidity.

Let me give you an example. Lines of credit. Why do I write a line of credit as a bank? Well, there's some market. Let's say it's the leveraged loan market. They're borrowing outside the banks. Or they're lending outside the banks. But the client there wants a line of credit, also, in case they run into liquidity problems.

So the bank is supporting a whole set of loans with this line of credit. OK? And so just because the Fed sort of shrinks its reserves, am I going to go to my client and say, look, sorry. I can't extend that line of credit? Well, first, it may be longer maturity, three or four years. And second, it's a business. It's a business.

AUSTAN GOOLSBEE: That you don't want to mess up.

RAGHURAM RAJAN: I don't want to mess up with. And I may have fewer reserves, but I have treasuries. So the system is running on a more and more fractional reserve system.

AUSTAN GOOLSBEE: Yeah.

RAGHURAM RAJAN: And everybody believes they can get it when they go for it. But then you have the dash-for-cash in March 2020. And nobody can get their hands on it at that point. Now, there are also episodes like September 2019, when it's intraday liquidity, which is a problem. And the intraday liquidity problem is-- supposing the level of reserves in the system sort of shrinks and you've got these big money center banks, but they know that it's not plentifully supplied.

Then they may say, well, you know, payments come in. I don't send out payments because I'm holding liquidity. That's what Darrell Duffie shows in some work. And so all sorts of new behaviors sort of come about. We can talk about liquidity holding in more detail. But when there is a shortage of the liquid asset, then it's a little bit of, what's it, musical chairs? Everybody is looking for a seat and there are not enough seats.

AUSTAN GOOLSBEE: Let's have one-- let's think one more about the banks. And then let's think about non-banks. In your view, have we seen a permanent shift in the sensitivity of bank deposits to policy rates, to the deposit betas, this kind of thing?

RAGHURAM RAJAN: Right. I mean, that's a great question. So what was the situation earlier? So we've been talking only on the liability side of the banks. What came out in Silicon Valley Bank, which we hadn't paid any attention to, is how much there was an asset liability mismatch in these banks. So we knew they had uninsured demand deposits. What we didn't know is how much long-term debt they had bought-- very liquid, but long-term. Right? So interest rate sensitive. And what Silicon Valley Bank sort of suggested is that these entities had sort of splurged on the long-term stuff. So go back to your question. Your question was?

AUSTAN GOOLSBEE: Have the deposit betas gone up? Like, do they have to pay?

RAGHURAM RAJAN: So as people got sensitive to the solvency issues on the bank side, we had the beginnings of the runs, and so on. But at that time, also, it seemed as if with the rapid increase in interest rates that people also got sensitized to the issue-- well, even if my bank is solvent, is it paying me enough? I'm sort of taking risk by putting it in the bank and not putting it in a money market. And the money market Vanguard is paying me 4 and 1/2, now 5.5%. Why am I putting it in my bank, which pays me really nothing?

AUSTAN GOOLSBEE: So the crisis made it more salient.

RAGHURAM RAJAN: It made it much more salient, I think. And you see in the short span of time a big withdrawal of deposits from the banking system. And where do they go? Some of it goes to the big banks, flight to safety, but some of it goes outside the system to the money markets and so on. So I think-- so the whole idea behind banks borrowing short and lending long, why this once was not a recurrence of the SNL problem was that the bank deposit betas were low. They reacted very slowly to a rise in Fed interest rates because the banks had some kind of market power, depositors were asleep. We always call these sleepy depositors or-- there are other names for these.

AUSTAN GOOLSBEE: More insulting names.

RAGHURAM RAJAN: So they turned out to be not so sleepy, after all, especially once they saw how much they were missing out. And so the big problem. We've had this run in March quelled by what I think is still a little noticed or little commented upon in the press, but massive intervention in effectively insuring all uninsured deposits, as well as the massive lending by the Federal Home Loan banks. So how do you get around the problem of holding? Have the quasi government entities intermediate the liquidity. Because then you don't worry about things like credit risk. It goes through this.

But then, of course, somebody is taking the credit risk. And that's the Federal Home Loan banks. Or pushing it off to people who are junior to the Federal Home Loan banks in the pecking order against bank assets. So what we're seeing is, that run has stopped. But the underlying profitability of the banks is still problematic because their assets were priced as if their deposit beta were really low. If their deposit beta is pretty much close to one--

AUSTAN GOOLSBEE: Yeah, right. Then it's totally different.

RAGHURAM RAJAN: They're toast, right? I mean, in the sense of, if you contracted 2% mortgages or 3% mortgages and you're paying 5% on them-- I mean, this market to market stuff doesn't make any sense. Right?

AUSTAN GOOLSBEE: So that sounds like you are still a little sensitive of those, that there's a risk there.

RAGHURAM RAJAN: I think there's--

AUSTAN GOOLSBEE: Not permanent, at least at this moment, that remains salient. So the deposit franchise and the NIM are maybe not as--

RAGHURAM RAJAN: Right. I think what we will have to watch out for is how many of these are really slow burning cases.

AUSTAN GOOLSBEE: Yes.

RAGHURAM RAJAN: You are seeing, with the latest federal loan officer survey, that they are tightening credit. And that would be the natural reaction, also, to having less capital. There will be a tendency for more of these guys to merge. Maybe the deposit franchise still has some value that they can trade for. But there's also, as you well know, risks coming down-- commercial real estate, et cetera-- which are also focused here. So I mean, all in all, I would say that the immediate panic has been alleviated, but there's a slow burning problem at the small and medium banks.

AUSTAN GOOLSBEE: And it might be rooted in this bit with the deposits--

RAGHURAM RAJAN: Exactly. Exactly.

AUSTAN GOOLSBEE: And the elasticity.

RAGHURAM RAJAN: Exactly.

AUSTAN GOOLSBEE: OK. Let's turn now to non-banks. OK? In your 22 Jackson Hole conference paper, you documented this increase in bank deposits and the credit lines. And let's think about the credit lines. The central bank just kind of serves as the liquidity backstop for banks. But for non banks, it's these lines of credit facilities at banks that are the liquidity backstop. So in your research, as we change the bank reserves, that spillover effect that you've kind of talked about, does that mean that as the balance sheet is shrinking, as they are in the US and in a bunch of other countries, that basically the availability of the credit lines to non banks are going to shrink, too?

RAGHURAM RAJAN: I think so. So three points, or three data points. One, my co-author on all this work is Viral Acharya at the New York-- at the New York, NYU. And Viral has a paper with Mora, which looks at the global financial crisis. And there, they find that the banks that had written credit lines were particularly susceptible to not finding liquidity afterwards. And they were much more reliant on government sources of liquidity because they weren't getting private sources of liquidity.

In other words, these credit line draw-downs are a risk that the banking system is aware of and takes into account. And so if you have relationships, you're the relationship guy at the center of a bunch of credit lines, unless you're really big, you may find your sources of financing drying up. After which, you will contract the credit lines. So that is one place.

2020, March 2020, look at the guys who had contracted credit lines. Of course, when you look at the stock price, you get only a small fraction of those guys. The clear relationship-- the guys who had contracted more credit lines go down further in stock price. And the guys who had not, obviously less.

It's also true of demand deposits. March 2023, run that regression again. You see exactly the same thing. Interestingly, you also see a demand deposit effect. Because this time the deposits ran. In March 2020, there wasn't a solvency issue. It was a liquidity issue. March 2023, there was also a solvency concern. And you see there the deposits are running on the guys who have promised more liquidity.

AUSTAN GOOLSBEE: I see.

RAGHURAM RAJAN: So the guys who have more lines of credit outstanding also see a deposit shrinkage, as do the guys who have more deposits outstanding.

AUSTAN GOOLSBEE: For the non-banks, does the knowing this and seeing that we're going to keep tightening, does that make you think that their managing their liquidity properly? Is there a systemic risk associated with that?

RAGHURAM RAJAN: Well, I don't know. I mean, I see some of these crowded trades and I worry that if they blow out, whether there is going to be a huge demand for liquidity-- I think the Bank of England mentioned that it was thinking of making sort of liquidity lines available to non-banks. I personally think that we do have to understand why we should not do it. In other words, the presumption should be that it's not just the commercial banks that have privileged access to liquidity.

If others have good collateral that they can repo with the window, I don't see why the non-banks should not also have access. There's some underlying fear of regulation, of these guys are not well-regulated, et cetera. But so long as they come with good collateral, isn't the job of the central bank to liquefy that collateral rather than just say there are the anointed and the unanointed. And I will not give the unanointed any? So I think when you put that liquidity out, I don't see why it should be confined to one segment rather than the other. But again, the important emphasis is on good collateral. The sort of, I'll lend to you against anything to full face value, you don't want to do that.

AUSTAN GOOLSBEE: Yeah. Yeah. Yeah. Let's shift gears and think a little bit about interconnectedness in the financial system. You spent a lot of time thinking about that topic throughout your research and your career, whether it's Bank of India, IMF, and others. Our team at Chicago Fed has spent a lot of time thinking about that, given our history researching, derivatives, markets, central counterparties, et cetera.

What are the benefits, what are the drawbacks of a highly interconnected financial system? Do you feel like we've made any progress in the-- my team kind of laid out the time. 25 years ago, we had LTCM fail. 15 years ago, we had Lehman go bankrupt. We've had a lot of changes to the regulatory regime, trying to reduce the spillover damage of dominoes falling that kind of characterized the great financial crisis. Yet, at the same time, the financial market participants-- feels like they've gotten more integrated. As you take a step back and look at that, is that still a big area of concern for you? Or do you think we've made progress?

RAGHURAM RAJAN: Well, I think we always make some progress. But we have to be-- we have to guard against complacency that we've solved all the problems. I mean, each one of these, you can offer a counter example. Right? So supposing I make one part of the financial system rock solid, let's say money center banks. I've just added on a tremendous amount of capital. I've made them rock solid. Does that make the system safer? Well, in a way, yes. You've protected the high ground in the system.

The problem, however, is if there is a panic, what happens? Everybody moves to the high ground. Right? So one, you've sort of created visibly different entities and there will be a movement. Now, that's not always a bad thing. In fact, it can be a good thing if they recirculate the money back into the system, they sort of re-lend into the system, and re-float it. That was the famous JP Morgan in the Knickerbocker crisis, walking down the street and saying we are the soul of trust and we're going to-- but what if they don't lend it back?

I mean, I talked to a money center bank CEO in October. And he said, there's no way-- this was last October-- there's no way. I know something's going to happen, but there's no way we're going to go out into the market and lend at that point. Because one, it's politically not viable because you get a lot of flak if you do certain things and make money. And second, we're not sure of what's what within the system. Turns out-- and they will-- this person will remain nameless, but they did intervene. And they did help. But that's the kind of sentiment you could have, that the high ground doesn't want to transfer the resources.

AUSTAN GOOLSBEE: They just don't want to get involved.

RAGHURAM RAJAN: They don't want to transfer, both because of the usual, I don't know where the bodies are buried, I don't know what the political ramifications will be if I rescue some of the bodies, and there's also a statement that's often been made. I don't at the end of the day, what the regulators will say. Will they say that I took too much risk in moving back into the system? You know, better just sit tight.

AUSTAN GOOLSBEE: Just wait. Yeah.

RAGHURAM RAJAN: And you've seen the size of the loans the Federal Home Loan banks are making. That's suggesting that they're really becoming the intermediaries in the system because money is not flowing in the right direction at this point. So I do think making part of the system safe may not be all it's cut out to be.

Similarly, interconnections. You would think interconnections are a good thing because the liquidity can flow to every last corner of the system. That's the rationale. But then insolvency can flow back through every last corner of the system. So which do you fear more, the liquidity flowing or the insolvency flowing? Right? So it seems like what you want is sort of a firewall that can be put in place very quickly. If I think this part of the system is sort of problematic, how do I wall it off?

AUSTAN GOOLSBEE: Yes.

RAGHURAM RAJAN: Sounds easy in concept, very hard in practice. How do you-- how do you actually wall off that? And what happens within that? You can't leave that outside to fester and burn. You got to do something there. But I think we need to keep thinking about this. What are creative ways--

AUSTAN GOOLSBEE: Do you have some favorite tools that you've seen?

RAGHURAM RAJAN: It's not something I have spent a lot of time thinking about. I do think that-- I mean, to some extent, the point we just made. If you have hard assets, don't prevent the flow of liquidity to those entities. So make it available widely. That's one. And the wider you make it available against high quality assets, the more it will flow to the parts that you can't access. So that's, to my mind, a good thing without taking excessive risk. But more than that, how do you-- how do you work this out the right way? I can't say I have any bright ideas for it.

AUSTAN GOOLSBEE: OK. We're going to go to some questions. Let me ask you one last one while they hand me the thing here, which is, the long rates rising really on a rapid basis-- I'm not saying on no news, but on relatively subtle news-- do you have thoughts of what's happening?

RAGHURAM RAJAN: Well, it depends on what your-- what your prior was before that. Right? Did you wonder about why the long rates weren't rising? Why were they so stable and relatively contained before?

Look, I think part of it has to be that the markets think this fight is for longer, finally, are convinced the Fed is not going to start cutting interest rates in March next year. And that it's going to be higher for longer because inflation is more persistent. Even though it's come down, the last mile and a half will be really hard to get it down. I don't think worker actions right now aid comfort to the feeling that somehow wages are contained. I mean, Kaiser went on strike today. There have been others.

AUSTAN GOOLSBEE: The weird thing about that is, if you look at the market expectations of inflation for the same duration, it doesn't seem like that's what's driving it.

RAGHURAM RAJAN: So that's the problem. Right? So at different points in time, different factors seem to kick in. And they don't all add up to telling you a good story.

AUSTAN GOOLSBEE: Yeah. Right.

RAGHURAM RAJAN: So if you think about where an investor would want to be today, they're basically thinking, OK, long rates. There is some uncertainty about how this inflation battle will play out. I'm getting 5 and 1/2 on my short investments. Long, wherever it is, it's going to fluctuate a little bit, if I'm wrong on inflation. So I'm taking risk with the long stuff. So if I know the short is going to last for some time, as opposed to the short--

AUSTAN GOOLSBEE: Then it changes that calculation.

RAGHURAM RAJAN: It can change the calculation towards I want more from long, to actually move to long. And then there is this notion, the Treasury has been sort of issuing short for some time and reaching the limits of how much it can issue short, so it's going to start issuing long. The Fed is selling long. So where's the market for long?

AUSTAN GOOLSBEE: I see.

RAGHURAM RAJAN: So all these calculations start coming in. Some of it might be sort of short term micro sort of price pressure kinds of stories. Some of it are just longer, that the market's finally, basically, given up on rates being cut very quickly. And it thinks that--

AUSTAN GOOLSBEE: Something, even though it seemed like the SCP or whatever was subtle, maybe it was a change that wasn't subtle.

RAGHURAM RAJAN: Exactly. And if they think short is going to be higher for longer, long has to be higher still to offset that. So, I mean, they're simple stories. I'm sure it's more complicated than that.

AUSTAN GOOLSBEE: OK. Let me ask some of these. It says, what's your view on the supply and demand for safe money like assets? And how should the Fed think about broadening access to its balance sheet and the impact on financial stability?

RAGHURAM RAJAN: Oh. When you say access to the bank's balance sheet, are you thinking about these--

AUSTAN GOOLSBEE: You put me in a tough position here, Raghu. I can't-- David, how do I reply? No. OK. But let's collect them and see.

RAGHURAM RAJAN: Yeah. I'll answer the questions I can--

AUSTAN GOOLSBEE: We'll see what-- OK.

RAGHURAM RAJAN: That are easier.

AUSTAN GOOLSBEE: He says, private credit has been talking about $2 trillion of dry powder waiting to be deployed. Oh. I violated our agreement by saying their names? OK. Sorry. Someone who asked a question-- private credit has been talking about $2 trillion of dry powder waiting to be deployed. What do we make of it? Growth of non-banks, negated Fed tightening?

RAGHURAM RAJAN: So I have to ask you a question. Right? My question is, you were known as the funniest policy maker in Washington. When are you going to get that title on the FOMC?

AUSTAN GOOLSBEE: You will never know for five years. It's quarantine for five years. But as far as you know, it was DC's funniest celebrity, first of all.

RAGHURAM RAJAN: OK. So he was bigger than the policy maker.

AUSTAN GOOLSBEE: Bigger than policy. Second, it was a contest. And it's true that I won. But as you know, I always say the central question of economics is, compared to what? And the runner up at the contest was Grover Norquist, the tax guy. So that tells you what the competition was.

RAGHURAM RAJAN: OK. On this question, private credit. This is the big unknown. Right? So why hasn't the bank credit tightening had more effect? And I think part of what's going on is private credit is moving in, is substituting for banks, and some of it is just, they accumulated a fair amount of dry powder, as the questioner asks, in the run up, in the easy money times.

Some of it is private equity is moving to private credit, transferring some of the resources because the returns from private credit look pretty healthy at this point, given there are reasonable credits that are being shut out of the banking system. So I do think this is something to watch. I don't think you can count on $2 trillion without making mistakes. There are easy pickings for some amount of money. But to think that there's two trillion worth of easy assets to pick up, I think is a little optimistic.

AUSTAN GOOLSBEE: OK. You know what I don't want to name names on this one. Is there a risk that treasuries are no longer a reliable source of cash liquidity in all environments?

RAGHURAM RAJAN: I don't think so, for the following reason that if they become difficult to raise liquidity with, the Fed will step in. So long as the Fed has facilities that people will be willing to go to, I don't think treasuries will be a problem, as far as cash liquidity. But it will imply greater and greater reliance on the Fed coming in and dousing fires. And that's the question I think that one needs to worry about, how much is too much?

AUSTAN GOOLSBEE: I see. And do you have a view-- anybody can keep sending their-- questions are dribbling in-- but I don't how you do it. But do they know how to do it? It refreshes automatically. OK. Nobody's voting for the questions. If you see a question you like, you can vote for it.

But as you look at-- as you look at the issues like commercial real estate that might be sitting behind the scenes there, or if you look at the historic relationships of how long credit crunches take to develop, does that make you lean toward there's still a bunch that's coming down the pipe that over the next one to three years, we'll feel it? Or do you subscribe more to the view that everything's sped up now because of the role of expectations and, in a way, financial conditions were already tightening and so there's not actually a lot more to come?

RAGHURAM RAJAN: No. I'm always worried that-- I'm Chicken Little. I worried the sky is going to fall on my head. I think it could take time. I don't think it's a-- I'm not predicting any crisis or anything of that sort. I just think we have to be careful for some time more. I mean, one of the pictures that I found very vivid is by these guys, including Jos Luis Pedro, who has done a lot of work on banking. And he basically shows a u-shape before every banking crisis in monetary policy rates. The policy rate comes down and then it shoots up.

And that's when the crisis gets kicked off. And he shows that is a standard pattern before every crisis. And, I mean, the obvious point that he's trying to make-- not obvious-- obvious once you see those graphs is like, a period of easy money followed by tight money is when the stuff becomes really problematic. And that's true every time. And the non crisis is always monetary policy is much, much flatter. So I mean, we've had exactly that. Right? Down and the--

AUSTAN GOOLSBEE: Do we have the down? Or you're talking over like 15 years?

RAGHURAM RAJAN: Well, no. We also had some down before the-- till 2018 when the Fed reversed, we had some up, then down. But I would also say the QE during the pandemic was huge. And that, too, tended to depress long rates, make money easier. So you put all that together, we have easy money during this period. I mean, I think financial conditions will tell you a better story than interest rates, policy interest rates. Financial conditions easy and then tightening suddenly. And of course, today, 7 and 1/2% mortgage rates. So I do worry that we haven't seen the end. I would just be cautious.

AUSTAN GOOLSBEE: Do you think that global real rates will likely increase above reasonable estimates of neutral due to fiscal deterioration globally from GFC, COVID, demographics, green transition, et cetera? The r-star discussion. And are we going back to low rates? Or do you think we're going back to historical type rates.

RAGHURAM RAJAN: Right. I mean, this is one of those questions, which is I think unanswerable. You can come up with any answer you want, depending on what you put more weight on. Right? So, oh, productivity is going to go through the roof because of all these new discoveries, AI, et cetera, et cetera. That's r-star going up because investment becomes more attractive.

Oh, we have aging and aging is going to-- aging, as you know, there's a lot of controversy about what aging will do. You know, Goodhart and Pradhan have one view, others have another view. So even that has any answer you want. Inflation risk premium going to go up after this bout of inflation. Well, that would push up the real rate because of that risk premium.

What about green investment? Is it going to push up investment because it's a forced investment? You have to do it. Or is it going to push down investment because increasing the costs and lowering the returns of investment? I mean, my answer is anybody pounding on the table and saying they the answer to this one has a particular point of view.

AUSTAN GOOLSBEE: They've got an axe to grind.

RAGHURAM RAJAN: They've got an axe. But really, to my mind, there are so many forces at work that it's really hard to say which way it's going to end up. I just think that--

AUSTAN GOOLSBEE: OK. Question from [MUMBLES]. In light of SVB, why shouldn't we require that banks mark their assets and exposures to market regularly?

RAGHURAM RAJAN: So I have never understood the answer to this. I've asked my accountant friends, what is this mark? You know, what's that, held to maturity. How does it matter whether you hold it to maturity? The NPV has shown up today. Yeah. So there's some sense that observers can't put two and two together. And maybe that's borne out in the data. I think it would be nice to know. And therefore, this masking of what's really going on. Sorry. This masking of what's really going on is somehow helpful in reducing risk. The other potential answer is, oh, there's this volatility. Well, I would say, if there's volatility, you can put it in an account, which is separate and say, this is the volatility. And the rest is pure profit. This is what comes from marking assets to market. And add the two to get--

AUSTAN GOOLSBEE: And just disclose it.

RAGHURAM RAJAN: Yeah. Just disclose it.

AUSTAN GOOLSBEE: It's just weird. Like in the financial crisis, it felt like there were all these pressures, the other way-- oh if we weren't having to mark all of this, to mark it at a weird moment when there's fire sales of all the assets and everything's depressed, then we wouldn't be-- people would not be thinking they were insolvent.

RAGHURAM RAJAN: Right.

AUSTAN GOOLSBEE: And now, we have the opposite problem.

RAGHURAM RAJAN: Right. Right. I can understand a worry about marking to market in very illiquid markets. But even there, I would say the market is trying to guess what that number is anyway. So if you have a reasonable process for getting at that number, I don't see why you're making things worse by just putting out that number. So long as you commit to not taking any action on the basis of that number.

You don't say, I'm going to close you today because-- but I think when you have long-term treasuries not being marked to market because it's a widely known and widely determined interest rate, I don't see where the liquidity problem is. It's not an illiquid market. It's a very liquid market. Why don't we mark to market and let everybody know. The problem is the more you hide it, the more there is a sense of we shouldn't disclose it now. People will be surprised. Well, if you disclosed it right from the beginning all the time--

AUSTAN GOOLSBEE: Though, in a way, we don't mark the deposits to market. And we don't mark the loans to market. So is there some question of why get as concerned about marking to market the part that's easy to mark?

RAGHURAM RAJAN: Yes and no. I mean, so I can see this is a similar issue which is raised in hedge accounting. Right? Do you mark both sides properly? And so on. Again, I mean, I think--

AUSTAN GOOLSBEE: They're doing it anyway.

RAGHURAM RAJAN: I think where-- yeah. Where you can do it, you should do it. And where you can't do it, you can't do it. Right? So this point about marking deposits to market, well, you really have to have a sense of beta, of the deposit beta and how that moves over time to do it properly. Right? And so that's a hard problem. And maybe there are lots of assumptions you have to make. And so you say this is the amount of uninsured demand deposits. This is the-- and you leave it at that. But assets which are clearly marketable-- you don't mark your loans to market as well. So I don't see why the worry.

AUSTAN GOOLSBEE: OK. I apologize, we didn't get to all the questions. We hit 2:45. Join me in thanking Raghu for expansive and well rounded opinions. And what do we have now? Now, we have a break. We take a break and then we're back to work. OK.