It’s anyone’s guess what Fed Chairman Ben Bernanke’s legacy will be, but the possibilities are still wide open.
For those who think monetary policy falls short of perfection these days, there’s reason to read the recent weekly updates on money supply and wonder what comes next. Seasonally adjusted M2 money supply shows a rise of 5.0% from a year earlier (using a 52-week formula), according to the latest numbers from the Federal Reserve. In fact, M2 money supply has been rising by 5.0%-plus now for the past three weeks relative to levels of 52 weeks previous. As the chart below illustrates, that pace represents something of a minor milestone in money supply trends. The last time money supply was rising at 5% or higher on a consistent basis was early 2005.
For confirmation that the rolling 52-week trend is no statistical anomaly, we also ran the numbers on seasonally adjusted M2 on a 10-week rolling basis. The trend, however, confirms what the 52-week analysis shows: the supply of money is rising at higher rate than in the recent past.
The question is whether the new bull market in money is temporary or the start of something big. That’s hardly an innocent question with fears of inflation threatening. Only the Fed knows what comes next in matters of money supply, but for those of us on the outside there’s reason to keep an eye on the Thursday dispatches from the central bank regarding the quantity of dollars in circulation.
The Fed is trying to win over the bond market’s respect and admiration, but we wonder how that project will ultimately turn out if the path of least resistance in money supply is upward. A few weeks a trend does not make, of course, when it comes to overseeing the near $7 trillion of currency swirling around in the system. But a billion here and a billion there eventually add up to something more than a footnote if the momentum isn’t checked.
To be blunt, something looks amiss if the Fed is raising interest rates on the one hand while pumping more money into the system with the other. In fact, the two trends can’t coexist for very long, short of suspending the laws of supply and demand. (Yep, they apply to the quantity of money too.)
Of course, the devil’s in the details, and we’re the first to recognize that money supply can rise even as interest rates do. It’s all a matter of degree and timing, and on that score there’s enough moving parts in the American economy and monetary levers to keep observers like us guessing for quite some time. Big trends, in other words, are confirmed or denied only over relatively lengthy time periods. But the proverbial thousand-mile journey starts with the first step.
Nonetheless, we can’t help but notice that today’s report on second-quarter GDP shows the economy advancing at an annual pace of 2.5%, or about half as fast as money supply growth these days. Clearly, the economy’s slowed considerably from the blistering 5.6% advance in the first quarter. As such, reasonable minds in central banking can argue that a little stimulus is in order to keep the economy from slipping further; thus, the uptick in money supply growth of late.
That would be the end of it except for the fact that core rate of inflation is showing signs of building a head of steam. On a year-over-year basis, core CPI has now climbed by 2.6%, based on June numbers. As Anthony Chan, chief economist of J.P. Morgan Private Client Services, told CNBC’s “Squawk Box” last week, “With 2.6% year over year, it is a number that’s way too hot for the Federal Reserve. It’s certainly out of the comfort zone.”
Life isn’t getting easier for Bernanke and the Fed. The central bank’s twin mandate of minimizing inflation and maximizing employment has always been a difficult task. It’s also been relatively easier in years past because of disinflationary winds blowing. Those winds may in fact still be blowing on global basis, but for the moment the monetary breeze is pushing prices upward in the United States.
To be fair, Bernanke’s a banker and a professor of monetary economics. That’s a powerful position, but he’s not omnipotent. He can only do so much, and in fact may have to choose to do less than he would like, starting with the thankless task of emphasizing inflation fighting or economy stimulation. Doing both effectively, at the same time, is probably impossible. Everyone knows that and recognizes the limits of central banking’s influence. Nonetheless, Bernanke has compounded the challenge with missteps as it relates to honing perceptions of the Fed in the trading pits. To right this ship he needs to a) convince the bond market that he means what he says; and b) communicate the Fed’s intentions in no uncertain terms.
Meanwhile, we’re all data dependent, subject to flying any which way the wind blows.