What are banks going to do with their 1+ trillion dollars in excess reserves?

If you follow the money, you know that banks (after bailouts, Fed purchases of toxic assets, guarantees, etc.) now have over $1 trillion in excess reserves per the Federal Reserve. Banks normally lend this money out and with over $1 trillion of reserves; they could create over $80 trillion in new credit. But is this a reality in today’s environment?

The housing problem is still not solved and will require banks to write off billions more in “bank assets.” They could loan this money to businesses, but few of them really want to take on additional loans with the economy in such bad shape. They could lend to consumers but they can’t afford more debt and their FICO scores have dropped making them less “qualified.” Anyway, consumers have decided to become more frugal.

If banks were to pump out trillions of dollars in new credit that went directly into the economy (to companies producing goods and services and consumers buying goods and services), it would certainly cause GDP to spike up and maybe we would be off to another bubble. But, adding that much credit into the economy would significantly reduce the value of the dollar and thereby cause serious inflation.

Yet, this is what a lot of people think will happen. The government continues to spend money hoping to fill the demand gap in the economy. The Federal Reserve keeps “printing money” for the government to spend; and at the same time, keeps interest rates low to encourage spending and to help prop up the housing market. Once everything becomes perfect again, the government can cut spending and the Federal Reserve can contract the money supply eliminating the threat of inflation. Bingo! Utopia.

Since we know this is a fairy tale, how about another alternative for all those “excess reserves” the bank has. What if this “excess” money in the banking system simply gets re-circulated. Banks could put all that money back into the financial system rather than back into the economy (the goods and service producing segments.) For example, they could buy assets like stocks, bonds, gold, real estate, etc. (GDP wouldn’t go up much.) They could buy these assets around the world (reducing the inflation potential here) and they could finance real things like factories, but overseas (Oh, darn, they couldn’t bring the profits home because of taxes.)

Is it possible? I don’t know. I am not a conspiracy theorist but we have to keep our critical thinking skills sharp and keep looking for possible alternative futures.