The Fed’s recent interventions may have had more moral effect than practical effect. The Fed has huge impact on Keynes’s “Animal Spirits.” But it might be more placebo effect than anything else. Fed Chair Ben Bernanke made a joke out of it once; “The problem with QE is it works in practice but it doesn’t work in theory.” The uncomfortable implication is that it only worked because people believed it would work.
The data suggest “don’t fight the Fed” may be more of a folk belief than a quantifiable economic effect. At least in real economy terms. The evidence has pointed that way since 2008.
If that is correct, the main prop supporting the pandemic economy may not be the Fed’s mega-massive interventions. It is probably the “temporary” $600 a week unemployment benefit. Which is looking increasingly at risk.
Excessive faith in monetary intervention might lead Congress to assume they can turn off the fiscal taps. Rely on the Fed. Like we have learned to do over the last few cycles. Concentrating the benefit among asset holders. Why mess with success?
Because someday monetary interventions may not work in theory OR practice. Monetary velocity suggests that day may be now.
Money used to circulate around 2x a quarter. Now it is only circulates around 1.2x. This is, roughly speaking, a measure of the Fed’s growing impotence. More and more money supply is having less and less effect.
I keep finding my way back to the monetary velocity chart below. Its message is clear. We keep pushing more and more money into circulation, but we get less and less economy to show for it. What isn’t clear is why.
The chart shows US “monetary velocity” – how much economic activity do we get for each dollar of money in circulation? GDP divided by the money supply (MZM). If we have a GDP of $100 and $100 of money, velocity = 1. Every dollar changes hands once in a cycle. If we have $100 of GDP and $50 of money, velocity equals 2. Every dollar changes hands twice.
Declining velocity means money is changing hands more slowly. Instead of flowing in a rushing steam of commerce, it is collecting in increasingly stagnant pools and eddies of inactivity. Money is really only worth something when it is used to buy something else…
So the chart tells us most of the Fed’s post 2008 “money printing” never really found its way into the real economy. A problem that really started in 2001, just about when faith in the Fed became absolute. Monetary base keeps going up but GDP increasingly didn’t follow. We print a lot of money, but it fails to circulate.
Something is clearly busted. But what? What exactly is broken? That is less clear. What does it imply for the future? That is even less clear. I’ve got some thoughts I’ll try to write out in series over the next week. But take the time to click on the link and look at that chart. There is something rotten in there somewhere.
MZM Monetary Velocity: https://fred.stlouisfed.org/graph/?g=rtws
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