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Mainstream economists know that CPI isn't accurate because of changes in demand. So they created other indicators (like chained CPI [0]) to account for changes

Mainstream economists know that CPI isn't accurate because of changes in demand. So they created other indicators (like chained CPI [0]) to account for changes in the basket of goods. Normalizing against the M1 is an not very meaningful because ignores the fact that the price of a dollar is subject to demand as well. In times of high demand for dollars (like right now), the supply of money (the M1) needs to increase to for the price of a dollar to not rise. In other words, stock prices normalized to the M1 has the same amount of meaning as stock prices normalized to the number of loaves of bread the country produces, or the number of cars. It's nonsense — you're comparing a price to a metric that only takes into account half of the equation (only supply)! Sidenote: When the price of a dollar rises, that's deflation; when it falls, that's inflation. That's also why "asset price inflation" isn't precise — inflation measures the change in price of a currency, not an asset. Maybe individual assets go up or down in price, but that happens in response to consumer demand shift. The Fed's mandate is to manage inflation, which is affected by changes in aggregate consumer demand. Therefore, Congress delegated it tools to influence consumer demand as a whole, but not tools to shift demand from one asset to another. The phenomenon you're observing is: the Fed's monetary policy helps the US grow, which benefits corporations and increases stock prices. The only way the Fed can prevent that is to... stop the economy from growing by letting our currency deflate? Which sounds bad? I.e. the Fed can't do anything to shift consumer demand, short of causing a recession. TD;DR: If you think stonks are overvalued, then blame Congress, not the Fed. They're the ones who have the power to change that without causing a recession. [0] https://www.brookings.edu/blog/up-front/2017/12/07/the-hutchins-center-explains-the-chained-cpi/ https://www.brookings.edu/blog/up-front/2017/12/07/the-hutch...

mawise 6y ago
> Normalizing against the M1 is an not very meaningful because ignores the fact that the price of a dollar is subject to demand as well. I was thinking exactly this. Is there any reasonable measure economists use for the demand for dollars? Other than I suppose inferring it from CPI and M1...
alexpetralia 6y ago
Can you expand on the "high demand for dollars"? Is this from foreign investors in the form of FDI? Do you mean domestic investors (in which case I'd ask if borrowers and stock issuers are really demanding dollars, as opposed to merely accepting supplied dollars at very cheap rates)? Edit: According to this link, it would appear the foreign demand for dollars has declined? https://www.marketwatch.com/investing/index/dxy https://www.marketwatch.com/investing/index/dxy
- eldavido 6y ago
  Google the term "liquidity preference". It's generally understood to be a function of real GDP and interest rates. GDP up = more demand for currency to be able to transact. Lower rates = holding cash has less opportunity cost (there are fewer opportunities to invest in other things with higher yield).
  - alexpetralia 6y ago
    This appears to be a theoretical term. Is there any empirical chart that demonstrates this, or more generally, "money demand"?
    - zwaps 6y ago
      There is no non theoretical way to measure demand and supply separately from market data. All prices, for example, already include not only costs, but expectations of demand. You need data that includes so called demand shifters or demand multipliers, to estimate the supply and vice versa. That is, if you observe a supply independent shift of demand, you can use that measure of to identify supply parameters. Even if you di this non parametrically, you implicitly impose a model. Supply and demand is one of the origin problems of the theory of statistical identification and causal analysis.
- tylerhou 6y ago
  The demand for dollars is internal to the US. Both businesses and consumers pay for things with expected future cash flow — for example, they pay their rent with their income (whether from customers or from a job). Or they took out loans with the expectation that they could pay the monthly payment with that cash flow. When that cash flow stops — people stop eating out at restaurants, or consumers lose their jobs — they need cash (dollars) to pay their obligations. The supply of money is the same — the same number of dollars exist — but the demand is higher now. Essentially, everyone is getting margin called all at once. If there is no intervention, businesses and people that are in sustainable & healthy in the long-term go bankrupt and fire workers, and our society loses a lot of organizational capital. We don't want a short term shock (a pandemic) to hurt our long term growth. To avoid that, the Fed injects some money so that the supply can meet the demand. Then businesses can borrow money to pay their employees (and their rent), plus we don't fall into a deflationary spiral.
georgeplusplus 6y ago
>>>Sidenote: When the price of a dollar rises, that's deflation; when it falls, that's inflation. That's also why "asset price inflation" isn't precise — inflation measures the change in price of a currency, not an asset. The argument is that the textbook definition of the way inflation is described has become detached from reality. people are undoubtly affected and suffering by the price increases in the asset markets. look at the currency markets where the dollar has dropped 10% against a basket of the largest foreign currencies. Using your definition, would you call this inflation then? Because 10% is much higher than the 2.1 or whatever the fed had just declared.
- tylerhou 6y ago
  How are stonks going up causing people to suffer? (Besides distributional issues.) People can still buy food and water, which is the primary objective. Also, the Fed can't change asset prices without slowing growth. Is that desirable? > dollar has dropped 10% against a basket of the largest foreign currencies. No reasoning from a price change. Another explanation for the drop in the dollars value is decreased demand. And since CPI is still stable, more likely IMO that it's a decrease in demand.
CyberRabbi 6y ago
What makes you think there is high demand for the dollar? I don’t see anything that indicates that.
- tylerhou 6y ago
  2020 saw all-time highs for both corporate bond & equity issues. That's clear demand for capital.
  - CyberRabbi 6y ago
    Hasn’t the aggregate demand for the dollar really just stayed more or less flat, all other things equal? The “lack” of capital people/businesses are facing is not due to relative dollar scarcity in the market but inability to perform the functions that get dollars to flow.
- ric2b 6y ago
  Yup, if that was true interest rates should be going up, right?

mawise 6y ago

> Normalizing against the M1 is an not very meaningful because ignores the fact that the price of a dollar is subject to demand as well. I was thinking exactly this. Is there any reasonable measure economists use for the demand for dollars? Other than I suppose inferring it from CPI and M1...

alexpetralia 6y ago

Can you expand on the "high demand for dollars"? Is this from foreign investors in the form of FDI? Do you mean domestic investors (in which case I'd ask if borrowers and stock issuers are really demanding dollars, as opposed to merely accepting supplied dollars at very cheap rates)? Edit: According to this link, it would appear the foreign demand for dollars has declined? https://www.marketwatch.com/investing/index/dxy https://www.marketwatch.com/investing/index/dxy

eldavido 6y ago
Google the term "liquidity preference". It's generally understood to be a function of real GDP and interest rates. GDP up = more demand for currency to be able to transact. Lower rates = holding cash has less opportunity cost (there are fewer opportunities to invest in other things with higher yield).
- alexpetralia 6y ago
  This appears to be a theoretical term. Is there any empirical chart that demonstrates this, or more generally, "money demand"?
  - zwaps 6y ago
    There is no non theoretical way to measure demand and supply separately from market data. All prices, for example, already include not only costs, but expectations of demand. You need data that includes so called demand shifters or demand multipliers, to estimate the supply and vice versa. That is, if you observe a supply independent shift of demand, you can use that measure of to identify supply parameters. Even if you di this non parametrically, you implicitly impose a model. Supply and demand is one of the origin problems of the theory of statistical identification and causal analysis.
tylerhou 6y ago
The demand for dollars is internal to the US. Both businesses and consumers pay for things with expected future cash flow — for example, they pay their rent with their income (whether from customers or from a job). Or they took out loans with the expectation that they could pay the monthly payment with that cash flow. When that cash flow stops — people stop eating out at restaurants, or consumers lose their jobs — they need cash (dollars) to pay their obligations. The supply of money is the same — the same number of dollars exist — but the demand is higher now. Essentially, everyone is getting margin called all at once. If there is no intervention, businesses and people that are in sustainable & healthy in the long-term go bankrupt and fire workers, and our society loses a lot of organizational capital. We don't want a short term shock (a pandemic) to hurt our long term growth. To avoid that, the Fed injects some money so that the supply can meet the demand. Then businesses can borrow money to pay their employees (and their rent), plus we don't fall into a deflationary spiral.

georgeplusplus 6y ago

>>>Sidenote: When the price of a dollar rises, that's deflation; when it falls, that's inflation. That's also why "asset price inflation" isn't precise — inflation measures the change in price of a currency, not an asset. The argument is that the textbook definition of the way inflation is described has become detached from reality. people are undoubtly affected and suffering by the price increases in the asset markets. look at the currency markets where the dollar has dropped 10% against a basket of the largest foreign currencies. Using your definition, would you call this inflation then? Because 10% is much higher than the 2.1 or whatever the fed had just declared.

tylerhou 6y ago
How are stonks going up causing people to suffer? (Besides distributional issues.) People can still buy food and water, which is the primary objective. Also, the Fed can't change asset prices without slowing growth. Is that desirable? > dollar has dropped 10% against a basket of the largest foreign currencies. No reasoning from a price change. Another explanation for the drop in the dollars value is decreased demand. And since CPI is still stable, more likely IMO that it's a decrease in demand.

CyberRabbi 6y ago

What makes you think there is high demand for the dollar? I don’t see anything that indicates that.

tylerhou 6y ago
2020 saw all-time highs for both corporate bond & equity issues. That's clear demand for capital.
- CyberRabbi 6y ago
  Hasn’t the aggregate demand for the dollar really just stayed more or less flat, all other things equal? The “lack” of capital people/businesses are facing is not due to relative dollar scarcity in the market but inability to perform the functions that get dollars to flow.
ric2b 6y ago
Yup, if that was true interest rates should be going up, right?