In Why Fed Inflation-Phobia Mattered, David Glasner writes
If you look at the St. Louis Fed’s statistics on the monetary base, you will find that the previous recession in 2001 had been preceded in 2000 by a drop of 3.6% in the monetary base. To promote recovery, the Fed increased the monetary base in 2001 (partly accommodating the increased demand for money characteristic of recessions) by 8.5%. The monetary base subsequently grew by 7% in 2002, 5.2% in 2003, 4.4% in 2004, 3.2% in 2005, 2.6% in 2006, and a mere 1.2% in 2007.
A quick check at FRED turned up the pattern Glasner describes:
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| Graph #1: Base Money Growth Rate, 1998-2008 |
And that graph reminds me of another. The pattern Glasner describes is one we have seen before:
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| Graph #2: Rate of Base Money Growth, and a Repeating Decline |
Glasner argues there is a link between Fed policy and the Great Recession:
The point is that for at least three years before the crash, the Fed, in its anti-inflationary zelotry, had been gradually tightening the monetary-policy screws. So it is simply incorrect to suggest that there was no link between the policy stance of the Fed and the state of the economy.
The pattern Glasner identifies is a repeating pattern. The growth of base money declines until a bottom is reached, and at that bottom the "state of the economy" is best described as the onset of depression. This happened not once, but twice in the last hundred years.
8 comments:
I'm sorry This whole thing with the monetary base looks like total bullshit to me.
Before QE the monetary base was entirely driven by the banks and the public's need/desire to hold currency as can be seen from this graph which shows the monetary base used to be pretty much just the cash currency held by banks and the public:
http://research.stlouisfed.org/fred2/graph/?g=sL1
The monetary base had nothing to do with bubbles or monetary policy or any of that nonsense. The monetary base was purely a mechanism to maintain faith in banking. People have to believe they can withdraw their money in cash and the Fed's contributions to the monetary base are entirely driven by meeting that goal of maintaining public confidence in the banking system. That is why you see an increase in currency in circulation and vault cash leading up to the Y2K scare and a decrease after Y2K fizzled.
The whole business with reserves has nothing much to do with how much a bank can lend or how much money is in the economy. Instead it is purely a mechanism to make sure that Joe Smoe can have some folding money in his wallet should he choose to do so. And more importantly it is driven by policy designed to assure Joe Smoe there is no chance he will be denied if he wants a little cash.
I can see no evidence that the monetary base is connected to any kind of economic activity other than the public's desire and bank's need to have some of their money in the form of currency. And the Fed has never been anything but 100% accommodating (after the lesson learned from 1929-1933).
-jim
Good graph, Jim -- as usual.
So is it just coincidence, then, that Glasner's 2001-2008 downtrend ended in the Great Recession, and that the other decade-long downtrend ended in the Great Depression?
It might be coincidence but that seems unlikely.
My point was that what you are seeing in that graph is evidence of the Fed "gradually tightening the monetary-policy screws" is a tail wagging the dog story. What you are seeing is evidence of trends in the public's desire for currency.
The public's desire for cash may have cyclical patterns that are related to cyclical patterns in the macro-economy, but where, in the real world, is the evidence that the Fed was making it more difficult for people to get their hands on cash?
People are continuously withdrawing cash from and depositing cash to banks. But I don't see the Fed having much influence on those flows and I don't see how that smallest of monetary aggregates (currency) has much influence on the much greater monetary aggregates that exist in the economy.
-jim
Just for the record, it is Glasner who sees evidence of screws. Maybe I don't have enough distance yet from what I wrote, but I think I was focusing only on the pattern Glasner describes. It fascinates me that the same pattern appears twice, each time before a major economic downturn.
I thought it would fascinate Glasner also, but all he said was "Thanks for the link". Oh, well.
Didn't Marcus leave a comment not to long ago to the effect that the monetary base is not a meaningful indicator of anything?
Maybe I'm remembering it wrong.
JzB
Hi Art,
I understood you were just reporting what Glasner wrote.
Also, I do think fluctuations in the monetary base are meaningful as an indication of the public's preference for holding folding money. I just don't think the Fed has much control over the fluctuations.
Jazz, that sounds right, but I couldn't find such a response from Marcus in the comments here...
Jim,
The follow-up post I had in mind to write was going to be called "Mindset". The mindset of the public -- your "fluctuations in ... the public's preference for holding folding money" for example -- together with the mindset of policymakers. I agree with a lot of what you've said in your recent remarks here.
Art -
Found it.
Not quite as I misrememberated.
"Art, what you showed is that base money is NOT an indicator of the stance of monetary policy!
Try NGDP!"
Cheers!
JzB
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