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Here's my attempt, without talking about apples or anything: Essentially, the 'money supply' is determined by the central bank, since they are the issuers of m
by jvm 14y ago
Here's my attempt, without talking about apples or anything:
Essentially, the 'money supply' is determined by the central bank, since they are the issuers of money. You can read on your US dollars that they are issued by the federal reserve. An excellent measure of the money supply is NGDP, since this is the number of dollars traded every year (that sort of quantifies how many dollars are available to be captured by working, trade, etc.). Unfortunately, in 2008, the US Fed decided to adopt an ultra-tight monetary policy, resulting in a severe drop-off in NGDP relative to previous trend (the worst since the Great Depression, graphs here: http://marketmonetarist.com/2012/06/19/guest-post-measuring-the-stance-of-monetary-policy-through-ngdp-and-prices-by-integral/ http://marketmonetarist.com/2012/06/19/guest-post-measuring-...)
It does not look like it will ever recover to the previous trend, so the money supply is much smaller than people would have expected before 2008. In theory, the nominal value of money shouldn't matter in the long run. However, since people before 2008 signed contracts (read, 30-year mortgages) anticipating a much higher aggregate money supply, this has triggered a shortfall in demand ever since, which has left our economy in the tank.
- nhaehnle 14y agoEssentially, the 'money supply' is determined by the central bank, since they are the issuers of money. It's not as simple as that. The amount of money in public circulation is largely determined by banks, because every loan given increases the amount of (electronic) money in circulation. The central bank then adjusts the amount of central bank money (reserves) by open market operations, but it does so defensively, to defend its interest rate target. So yes, with an interest rate target of essentially 0%, they can increase the amount of reserves out there, but this does not translate to more money in public circulation. Modern Monetary Theory contains probably the best summaries of how this works.
- jvm 14y agoThey may target interest rates, but they are perfectly welcome to target the money supply, they just choose not to.
- jvm 14y ago> So yes, with an interest rate target of essentially 0%, they can increase the amount of reserves out there, but this does not translate to more money in public circulation. Sorry just noticed this. This is a common misperception. They have been using QE to create more money in public circulation now that interest rates are 0, and there's nothing ineffectual about that. To see why this is possible, just consider the question, could the Fed create inflation at the 0-lower-bound by saying they will print money until they get it? The answer is clearly yes. Actually the Bank of Switzerland did that recently to set a Euro peg.
- nhaehnle 14y agoI guess it depends on what you mean by public circulation. QE was certainly effective in raising the amount of reserves, since that is what it is by definition. But reserves are only ever held by banks. The amount of money held by the non-bank public has not been changed significantly by QE. As for targeting the money supply, you're right, they could do that, and in fact they did try it a few decades ago. The problem that was observed is that it created extreme volatility in the interest rate. The lesson learned from the experiment is that either the interest rate or the money supply has to be volatile, and there's general consensus that a volatile interest rate hurts the economy, whereas a volatile money supply has marginal effects at best.