Friday, February 5, 2016

A Repeating Pattern of Money Growth that Repeatedly Ends in Catastrophe



Posted by The Arthurian at 4:00 AM

6 comments:

Oilfield Trash said...

Art

I do not understand how one can simply look at change in stock and determine that is bad for GDP, with out looking at the velocity of the monetary stock relative to GDP.

100 (Monetary stock) x 1 (Velocity) = 100 GDP

90 (Monetary Stock) x 1.11111(velocity) = 100 GDP

10 % Reduction in Monetary Stock 0 reduction in GDP

We may wish to believe that putting more zero-interest money into the economy would lead people to go out and spend those idle balances, but that imagines some fixed ratio between economic activity and the amount of money outstanding. That’s the error. The velocity of money (nominal GDP / monetary base) isn’t fixed at all. What happens in practice is that as the Fed creates more zero-interest money, holders try to get rid of it by buying financial assets that provide a higher potential return – driving prices up and expected future returns down until they are indifferent between an overpriced financial asset and zero-interest money.

As the central bank creates more money and interest rates move lower, people don’t suddenly go out and consume goods and services, they simply reach for yield in more and more speculative assets such as mortgage debt, and junk debt, and equities.

I other words more private debt.


February 5, 2016 at 4:08 PM
Oilfield Trash said...

Graph of velocity is you want to see when things started to slow down it was early in the 1980.

https://research.stlouisfed.org/fred2/graph/?graph_id=284053#

February 5, 2016 at 4:13 PM
jim said...

Before 2008 the change in monetary base was pretty much equal to change in currency in circulation.

https://research.stlouisfed.org/fred2/graph/?g=3n2m

As far as I know the private sector determines how much currency in
circulation changes. Are you suggesting that the gradual fall in the demand for currency preceding 2008 somehow created the disaster?

February 5, 2016 at 5:26 PM
Oilfield Trash said...

I guess one could take the percentage change of base money and subtract the percentage change of velocity to see the if the monetary base is contracting or expanding relative to recessions. If I have time this weekend I will look at it.

February 5, 2016 at 5:52 PM
The Arthurian said...

Sorry about my delay in responding.

Oilfield: "We may wish to believe that putting more zero-interest money into the economy would lead people to go out and spend those idle balances ..."

But the circled areas on the graph don't show the Fed putting more money into the economy. They show the Fed putting LESS money into the economy.

Putting more money is push-on-a-string. Putting less money is pull-on-a-string. There is a difference.

I have a follow-up scheduled for Friday the 12th.
Thanks.

February 10, 2016 at 9:18 AM
The Arthurian said...

Jim: "Before 2008 the change in monetary base was pretty much equal to change in currency in circulation... Are you suggesting that the gradual fall in the demand for currency preceding 2008 somehow created the disaster?"

No Jim. But I think I finally have an answer to your question, which has been bothering me for a week and a half. (Good question!)

Given that the problem is... or
Given that I think the problem is the excessive expansion of broad money relative to narrow money, the only solution available to the Federal Reserve is to increase the narrow money -- to increase base money.

PS, when they don't do so, there seems to be a problem.

As you said yesterday:
"So why do the "policy makers" make Base money available to the public? Because when they don't very bad things happen to the economy."

Thanks for giving me the answer!

February 16, 2016 at 5:38 AM

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