What is the Federal Reserve Up to?
By SBE Council at 3 February, 2017, 8:11 am
by Raymond J. Keating-
Based on the Federal Open Market Committee’s statement released on February 1, 2017, it looks like the Fed is just doing more of the same on the monetary policy front. But is some kind of shift under way that’s might be going unnoticed?
After raising the federal funds rate from the 0.25%-0.5% range to the 0.5%-0.75% range on December 14, the Fed’s latest decision is to basically stand pat on policy, and in general on where the economy is. Consider a few key points from this latest communique:
• “…the labor market has continued to strengthen and that economic activity has continued to expand at a moderate pace. Job gains remained solid and the unemployment rate stayed near its recent low. Household spending has continued to rise moderately while business fixed investment has remained soft. Measures of consumer and business sentiment have improved of late.”
• “In view of realized and expected labor market conditions and inflation, the Committee decided to maintain the target range for the federal funds rate at 1/2 to 3/4 percent. The stance of monetary policy remains accommodative…”
• “The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run.”
To sum up, the Fed’s stated view on the economy and monetary policy has changed very little, that is, moderate economic growth, soft business investment, low interest rates, and accommodative, or loose, money persisting – along with, however, some improvement in consumer and business sentiment.
But when looking at the recent trend in the monetary base (that is, the sum of currency in circulation and reserve balances, which deposits held by banks and other depository institutions in their accounts at the Federal Reserve), over which the Fed has the most direct control, a subtle shift seems to be under way.
Consider that the move to unprecedented loose money that started in the summer of 2008 continued to September 2015, with some tapping on the breaks occurring here and there along the way. The monetary base went from $875 billion in mid-September 2008 to $4.2 trillion in mid-September 2015. However, the bulk of this stimulus simply pushed bank reserves to incredible levels – from $9 billion in mid-September 2008 to $2.7 trillion in mid-September 2015.
But since mid-September 2015 to mid-January 2017, a notable decline occurred in the monetary base – from that $4.2 trillion to $3.7 trillion. At the same time, bank reserves dropped from $2.7 trillion to $2.1 trillion (still an astronomical level, of course), and currency in circulation rose from $1.39 trillion to $1.5 trillion.
Trying to figure out what’s going on with monetary policy, especially its effects, since 2008 has been a daunting undertaking. But there a few points we can make.
First, the Fed’s vaunted loose money strategy to save the economy accomplished very little, if anything, and more likely just added uncertainty to a troubled economy.
Second, for the past sixteen months, there has been some actual reining in of the monetary base by the Fed – one might call it a slight deceleration, but with historic loose money still reigning.
Third, the decline in bank reserves might be signaling some stepped up lending activity.
If this sounds like there are many uncertainties, numerous unanswered questions, and a lurking policy fog, you would be correct. But it just might be that the Fed has begun the very slow process of trying to unwind an unprecedented eight-plus years of loose money. If so, that would be a welcome development.