Statistics can sometimes, as
we all know, be very misleading. Take
the unemployment report for example. If
you examine the numbers out of context, you’d be forced to conclude that
workforce participation has steadily increased over the last four years. A behind-the-scenes look at those numbers,
however, reveals a startling discovery: most of those gains have occurred because
job seekers have simply given up looking for a job.
Federal Reserve Chairman
Bernanke is acutely aware of this, which is why he is intent on continuing to
provide monetary stimulus through the central bank’s quantitative easing (QE)
policy. A growing body of evidence
suggests that while QE has been extremely beneficial for the stock market, it
has been decidedly less helpful in stimulating the U.S. economy.
With the Fed providing a virtually
limitless expansion of the monetary base since 2008, one must ask why this hasn’t
had more of an impact on increasing wage growth or reducing unemployment? Before we can answer this question we must
first have a look at just how strong has been the Fed’s commitment to fighting
the anti-growth forces that were ignited during the credit crisis. The logarithmic rise in the U.S. monetary
base can be seen in the following graph.
At any other time such an
explosion in the monetary base would correspond with major inflation along with
sky-high interest rates. The reason of
course that interest rates remain relatively subdued is because the Fed
continues to purchase $85 billion/month in Treasuries and mortgage
securities. The monetary base rose to a
record $3.6 trillion as of Oct. 16, compared to $1.5 trillion when QE was first
initiated in late 2008.
As economist Ed Yardeni
points out, “There hasn’t been much bang per buck in all this ‘high-powered
money.’” The reason can be seen in the
following chart.
Even as the monetary base
has soared since 2008, the velocity of M2 money has plummeted. (M2 velocity is calculated by dividing
nominal GDP by M2 money stock). This
chart provides a perfect description of how inflationary pressure has been kept
subdued by the deflationary undercurrent
of the long-term/long-wave economic cycle (e.g. the Kress/Kondratieff
cycles).
Velocity can also be
colloquially defined as the rate of turnover in money, i.e. how much money is
changing hands in the economy. During
times of true economic growth the money supply is increasing while interest
rates are rising and money velocity is also rising. But in recent years money turnover is
actually falling even as money creation is exploding. The economy’s demand for more and more money
during a period of true inflation is funneled into chasing fewer goods to
higher prices. In today’s undercurrent
of deflation, by contrast, the demand for money isn’t so that consumers and
financial institutions can spend it, but rather so it can be hoarded.
The reason behind this
hoarding mentality is simple fear: fear born of uncertainty about the future in
a world where the cost of living keeps rising even as wages are declining. It’s also a fear based on the observation that
the culprits of the credit crisis (the reason for the economic slump) were
never properly dealt with. In other
words, producers and wage earners alike rightly fear for the safety of their
hard-earned savings.
Yardeni suggests that
monetary policymakers “seem oblivious to the possibility that their gusher policies
maybe contributing to this disappointing [GDP] performance.” Instead, he adds, “they’ve pursued Krugmanomics:
If a trillion dollars didn’t stimulate the economy, try another trillion
dollars.” So far it still hasn’t
alleviated the hemorrhaging in the job market participation rate.
Washington and the Fed have
shown they aren’t above sacrificing the U.S. dollar in the name of preventing
deflation, which in turn would benefit consumers. The Fed has shown a commitment to a weak
dollar policy via QE, which in turn has prevented the deflationary long-term
cycle from doing its work of flushing out weak competitors and reducing prices
across the board. Washington intervened
during the deflationary wave of 2008 by declaring certain institutions as being
“too big to fail.” This concept undermined
the work of the economic long-wave and has created the present situation of
underemployment, sluggish growth and too-high prices for essential goods.
Monetary policy has a point
of diminishing returns, however, and that point may have already been
reached. Indeed, economist David
Rosenberg believes QE has already reached the point of diminishing returns and
has only benefited a small segment of the economy. He points out that the so-called “wealth
effect” of monetary stimulus only works “if the positive shock is deemed to be
permanent as opposed to transitory.”
With Fed officials making it clear that QE3 will be phased out at some
point in the near future, its positive effects can already been seen to be
diminishing (most notably in higher bond yields).
Underscoring my point about
monetary velocity, Rosenberg observed, “What
the Fed managed to do this cycle was help the rich get richer with no major
positive multiplier impact on the real economy.” The rich have certainly benefited from the
past four years’ recovery. The question
is does anyone else feel richer?
