Dismal.com: Fed Stance Is Not Yet Feeding Inflation

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Fed Stance Is Not Yet Feeding Inflation

By Scott Anderson

05/30/01 8:30 AM ET

A curious thing happened the last time the Fed cut interest rates-long-term bond yields rose. Inflation fears have surfaced as the bond market starts to fret about a Federal Reserve rapidly cutting interest rates. Some have even characterized the Fed's rate cutting as too aggressive.

Moreover, media and government discussion of energy shortages and $3 per gallon gasoline this summer plays right into rising inflation worries. As such, gold prices have risen 14% since April 2. Nevertheless, a sober analysis of the Fed's monetary policy stance indicates that the Fed is actually being quite cautious in its approach.

If you only consider the fall in Fed funds rates, it appears the Fed has been moving very aggressively. The Fed has cut interest rates now fives times in as many months, bringing the rate down by 250 basis points to 4%. Moreover, asset growth in savings accounts has exploded to over 12.5% from a year ago. The broad money aggregates of M2 and M3 have also been growing strongly (see chart). M2, which includes currency, checkable deposits, money market, savings, and small denomination time deposits, is growing at a rate of over 8% from a year ago. Meanwhile, M3, which includes everything in M2 plus large denomination time deposits, is growing at over a 10.5% annual rate.

It is easy for one to mistake this rising level of liquidity as a sign of an overly aggressive Fed, making the world awash in cash. This feeds inflation fears as visions of too many dollars chasing too few goods points to potential monetary-induced inflation as seen in the 1970s.

However, a more logical explanation for the jump in money market and savings account assets is a flight to liquidity in the face of rising risks to global capital markets. A re-allocation of portfolio assets has been going on for some time now, culminating in net equity mutual fund outflows for two consecutive months in February and March. March's outflows totaled over $20 billion -- the largest one-month decline ever in dollar terms. This is the first two consecutive months of equity outflows since Iraq invaded Kuwait more than a decade ago. One must go all the way back to the stock market crash of 1987 to find a similar period, when stock outflows occurred for eight consecutive months due to domestic troubles.

Perhaps a better measure than looking at the level of the Fed funds rate or broad money aggregates to judge the relative tightness or looseness of monetary policy is the percent change in the adjusted monetary base. This measure is the narrowest definition of money, and relates most closely to Fed monetary stance. Essentially, it includes total reserves of the banking system plus currency in circulation, plus any vault cash not included in required reserves. This figure is adjusted to compensate for any regulatory changes in reserve requirements over the period so that comparisons can be made over time. It is from the monetary base that banks create money, and this is the base that the Fed actually has the most control over.

What this measure reveals is that the Fed has been loosening monetary policy, but not as aggressively as one would expect viewing only the Fed funds rate changes. The monetary base has grown by just 4% from a year ago (see chart). Not exactly the view of a Federal Reserve gone mad, busy printing money. In fact, it's just the opposite. The Fed has been very measured in its loosening of the monetary spigot.

The monetary base jumped to a 16% growth rate in late 1999 as the Fed added liquidity to prepare for the possible fallout from Y2K. When the world didn't end on January 1, 2000, the Fed just as quickly took that liquidity away, facilitating the current economic downturn. The current growth of the monetary base is still far below the average growth rate recorded over the last decade of over 7%. Moreover, during the last recession, the Fed increased the monetary base at an annual rate of over 10%.

The notion that the Fed is overdoing the current monetary easing does not hold up under careful scrutiny of the monetary base. Moreover, rising inflation pressures in the energy industry do not appear to be monetarily related. This is good news for the U.S. economy as the Fed is free to continue opening the monetary spigot, without fear of generating a monetary-induced inflationary spiral. It seems that bond market visions of money supply fueled inflation is just a mirage.

-- (M@rket.trends), May 31, 2001

Answers

Only things that really matter are keeping the Chinese products coming and allowing anyone and anybody breathing to immigrate here to work for peanuts.

Take these away and this Fed Plan implodes under the BS it is written on.

Seriously, can one buy anything NOT from China? I doubt they need our nukes when they are liquidating us with their clay pots and tin windchimes.

All this to sell them some Pepsi?

-- (bushandclinton@twofaced.scum), May 31, 2001.


BTW, J would label me as a Liberal, rolflmao.

Protect our workers and markets from products made by child slave labor and prison convicts? Ask that the same immigration standards be enforced as they were on the folks who built this great country? Downright Liberal! Evil them notions!

We put locks and doors on our houses. Why this does not apply to our country is beyond me. Course I am an American, not a NWO Capitalist who cares little which paper his capital is tallied up in. That makes me a Liberal, go figure.

-- (bushandclinton@twofaced.scum), May 31, 2001.


Unless you are a Native American, you are just another immigrant.

The rhetoric of "protection" has less to do with working conditions overseas and more to do with protecting uncompetitive domestic industries. If you are so concerned about Chinese labor practices, don't buy anything made in China. Vote with your pocketbook. You can exercise your economic freedom without limiting mine.

Protectionist policies are economic stupidity and have been proven such since David Ricardo. Are you familiar with the concept of "comparative advantage?" Free trade not only benefits the U.S., but it raise the standard of living for our trading partners. Prosperity will change China far more than tariffs and immigration quotas.

By the way, businesses have locking doors, too. Most firms are smart enough to realize that the only way to stay in business is to open the damn doors.

-- Remember (the@ld.forum.com), May 31, 2001.


Are you aware of the concept called appropriateness?

Your argument ignores as much.

Business do not allow shoplifters, hackers, and any joe in town to peddle their crap inside their doors.

Get it?

-- (bushandclinton@twofaced.scum), May 31, 2001.


here is your Pie-in-the- sky Comparative Advantage theory.

Call me skeptical, but I doubt DB2 comparable to a plastic set of teacups.

-- (bushandclinton@twofaced.scum), May 31, 2001.



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