ECON430-Topic #1: Supply of Money

Recently, many pundits and bloggers have been raising the alarms on the reduction of credit in the economy, and the increasing risk of runaway inflation. However, as the recession fades and growth returns, the Fed clearly has an eye on inflation. As the Fed tightens, the economy would be predicted to grow very slowly. This opens the possibility that we face a double dip recession, as is being predicted by Nouriel Roubini.

Questions you might try to answer:

  • Do you think the economy faces a high possibility of a double-dip recession? Focus on monetary issues here, but also consider fiscal issues. If not try to find some counter-factual evidence.
  • As the economy improves, do you believe that the economy will return to a high-inflationary norm? Why or why not? What factors in the supply of money will play a role in this.

I would like your statements to be as subjective as possible, or in jargon terms, positive and not normative in nature. Also, remember, I want you to keep your descriptions short, basic, and related to classroom content. Read other students comments before posting, and please leave your name with your posting.

10 thoughts on “ECON430-Topic #1: Supply of Money”

  1. I believe there to be significant risk of a double-dip recession because our appetite for quick-fix solutions will catch up to us. The small growth we are experiencing is simply smoke and mirrors; once the stimulus money is spent, Americans will continue with their newly formed saving habits and we'll be back where we started. I think that the government should first start reining in some of the stimulus money while simultaneously raising interest rates. If nothing is done, and the stimulus is gone, then we are left with no spending and inflation, not to mention rising energy prices, foreclosures, and unemployment. It is crucial for the US to invest in all types of energy, namely oil, nuclear, geothermal, and solar, immediately. This would create jobs and help alleviate the energy issue.I also don't agree with some of the negative talk surrounding banks. I think it is smart to implement stricter lending practices; after all it was bad loans that helped create this mess. This will be the toughest pill to swallow, since no one wants to live in a home that is decreasing in value, and have no credit, but it is a necessary thing. The lack of credit available isn't comfortable, but we should use some restraint and not attempt a quick-fix solution. To say that "the Fed will need to ratchet up the money supply or risk a double dip recession next year" (Madon) is wrong, in my opinion. One, the government cannot force the banks to loan money, and two; excess money will further advance the risk of inflation. I firmly believe that high inflation will be a concern because I think the government will continue to pump money into the system as a quick fix to a much bigger problem.Madon, Connie. "Why is U.S. credit shrinking at Great Depression rates?"Matt Gerboth

  2. I also agree with Matt that there is a significant possibility of a double dip recession. However, mainly because everyone including the Fed have their attention solely on the inflationary effect of the policies implemented, but fail to recognize the distinct deflation possibility. The enormous 180 degree turnaround from a 25 year spending bender to an annually increasing savings rate is the engine that may drive deflationary trends. Another hurdle contributing to the “saving spree” is the financial deleveraging going on now to try and refinance the bad mortgages beginning with the subprime debacle. Many consumers are simply worth way less and can’t borrow against their mortgage. The deleveraging contributes to the tightening of credit which also hurts investment by firms especially small businesses who rely on borrowing. The unforeseen increased savings and the financial deleveraging cause demand to nose dive. “Today, who would have the guts to tell a friend he paid the full sticker price for a vehicle? Years of rebates have trained car buyers to expect continuing and even bigger rebates. So they wait to buy. That leads to excess inventories that require even larger price concessions. Buyer suspicions are confirmed so they wait longer, promoting more inventory buildup, more price cuts, etc. in a self-feeding cycle…” Shilling believes that government regulation will contribute to the possibility deflation, I don’t necessarily agree. I believe that government regulation will slow economic growth, however, the regulation will help promote real growth instead of the illusion of growth we experienced caused by billions possibly trillions of dollars worth of bad loans supporting a housing bubble and our financial institutions. The end game pit fall that these factors will lead to is a liquidity trap. The Fed and our current administration are so concerned about future inflation, the notion that the extremely low interest rate and huge 700 billion dollar stimulation and TARP fund won’t bring full employment back has been overlooked. The government and the Fed need to focus on inducing people and firms to consumer more. I agree with Matt that the US needs to invest heavily in energy more specifically alternative sources to fossil fuels. Since institutions are not lending, and one can’t force them to lend, simply bypass them by creating jobs. I really don’t believe that the economy will experience heavy inflation as we recover and grow simply because that’s what everyone is expecting so it will planned for and minimized. I think the real problem is a gun shy population and financial sector and the real threat is deflation. Slow Long-Term Growth, And Government's Response By Gary Shilling

  3. Both a double-dip recession and the return to a high-inflationary norm are possible but unlikely. A slow painful U shaped recovery seems more probable. The recession has bottomed out, but due to tight credit and a probable overhaul of financial regulations, growth will be slow. Fiscal stimulus money should stabilize the economy as consumers resume spending. The Fed will likely continue monetary easing to account for banks unwillingness to lend until they can raise enough private capital to resume lending. As long as the Fed remains autonomous they should be able to contract the money supply in proportion to what is being created by the banks. Political pressure and rising energy/food prices may stall recovery but I do not think it will doom it to further recession.Lanman, Scott. “By Fed Growth Effort May Be Undermined by ‘Tight’ Credit”Roubini, Nouriel. “The risk of a double-dip recession is rising”Torres, Craig. “Bernanke May Accept Slow Recovery to Fight Inflation”

  4. There are some positive evidences we can find that our economy is in a recovery stage. Dow Jones is up to 9600 points, more than 40% up since last year. And Fed Chairman, Ben Bernanke said recession is very likely over this year through CBS 60 minutes. He carefully expressed optimism in our economy. Also there was a G-20 meeting regarding to this global financial crisis. World leaders are adopting durable economic growth framework to prevent more financial crisis. However some scholars predict that economy will face another recession after tremendous capital injections. Warren Buffet said that the massive amounts of monetary medicine that have been pumped into the financial system and now pose threats to the economy and the dollar. There are some evidences why economists worry about double dip recession. Unemployment rate is keep rising. Oil, energy, and food prices are rising fast, too. Countries are running account deficits. I think it is hard to say that our economy is facing another recession due to billions of dollars of capital injections to the financial system at this point. Stock market is the fastest and most sensitive representation of the economy. So I believe if we are facing another recessionary stage, stock market will show what is going on. However, right now Dow Jones and S&P500 are doing so great.

  5. According to Tom Drake of the Canadian Finance blog, there are two major factors that increase the chances of a double dip recession. The first of which is government policies that serve to increase debt in the long-run by forcing sales that would happen in the future to happen in the present, and the other is corporations increasing their bottom-lines by decreasing the number of employees, salaries, and general expenses. In our economy I see both of these factors, which leads me to believe that the dangers of a double-dip recession are real. The reasons listed by Roubini cause me to believe that with our credit crunch, and increasing prices our ability to avoid another recession is drastically decreasing. The American public has a major impetus to save money through this recessionary period when the only thing that will get the economy rolling again is spending. We must learn to save when we are not experiencing a recession in order prevent a recession like this from happening again.I think that for the economy to really improve we cannot return to a high-inflationary norm. The government’s continuance of using monetary stimulus to boost the economy must eventually stop if we plan to make any return to a stable and growing economy. The Fed and Congress will have to make a conscious effort to tighten up the reins on the money supply to prevent a huge inflationary period, because the effect of inflation long term is not something we, as the American people can handle. The lines of credit have tightened up severely and like Matthew mentioned previously, it was for a good reason, and however these lines of credit are going to have to open back up, slowly and carefully. Stricter lending practices are much needed but we have to be careful not to prevent lending from happening at all.Drake, Tom. "Is This A Double Dip Recession? | Financial HighwayLieberman, Mark. "First 'Post Recession' Data – FOXBusiness.comRoubini, Nouriel. "The risk of a double-dip recession is rising." Torres, Craig. "Bernanke May Accept Slow Recovery to Fight Inflation Justin Wilson

  6. If I go by Roubini’s explanation of his “policymakers are damned if they do and damned if they don’t” statement, a double dip recession seems possible. Policymakers will have to use the right measure of intervention to ease us out of all this stimulus spending. I think recovery will be more U shaped. The government will continue to assist at a diminishing rate as banks and consumers’ uncertainty diminishes. I also agree with Matt in disagreeing with Madon. I do not think increasing the money supply is the way to avoid a double dip recession. For one, banks are sitting on excess reserves because they are hesitant to lend to the public. And two as we have seen increasing the broad money will not necessarily increase the money supply. If the government continues to focus on easing uncertainty and we have truly reached the bottom as Bernanke and the data suggests our growth will likely be U shaped.Benjamin EarlMadon, Connie. "Why is U.S. credit shrinking at Great Depression rates?"Roubini, Nouriel. "The risk of a double-dip recession is rising."

  7. Abe Shearer post – take two…Just this last week Federal Reserve Governor Kevin Warsh noted that the CM would need to raise rates with "greater force" than it has in the past in order to keep inflation from getting out of control (Lanman). I disagree with this and actually believe that the fed will have plenty of time to slowly remove money and raise rates. This is because Americans have been hit hard and have drastically changed their spending/saving habits. Most have lost a large chunk of their savings when the markets plunged, nearly all have seen significant decreases in the value of their homes, many are struggling to keep/find jobs, and still many more are in debt and trying to figure out how to get out. All of that being said, even with the presence of massive amounts of money sitting in the systems like pools of cash, nobody is really actually interested in spending! Instead of consuming we have opted to save and therefore I do not see prices rising at a rapid pace. And while this lack of consumption would seem like a logical explanation for why a double dip recession is coming, I believe that other factors will at least help mitigate that risk and instead I anticipate a VERY slow recovery. Primarily, a weak dollar will encourage foreign spending in America helping companies to reamin in business. Furthermore, with interest rates so low, strong companies will begin to invest since they have put this off for the past couple of years which will in turn support other American companies. Lanman, Scott. "Warsh Says Fed May Raise Rates With ‘Greater Force’" (Bloomberg)Abe Shearer

  8. I think that there is a real probability of a “W” shaped recession. This current economic recovery appears to be somewhat similar to the double dip recession of the 1980s. Housing has started to turn the corner, and consumer confidence may be rising, but there really hasn’t been anything to prove that the consumer has overcome its debt problems and is ready to start spending. I feel, that when people look back at this recovery, they will see that the consumer was the real driver of economic recovery, not companies beating earnings estimates by lowering costs. I think the lack of revenue “backing” for this recovery exponentially increases the probability of a second dip. The government and fed have essentially done everything they can to keep the U.S. economy afloat, with interest rates at 0 and an unprecedented stimulus package. This level of easing has, in my opinion opened the floodgates for inflation. The government in 2008 was printing money at an alarming rate, as evidenced by a plummeting dollar. Once deflationary fears subside, I think that inflation fears will skyrocket, sending inflation alarmingly high in a short period of time. This inflation could cause another “panic” of sorts, causing a second dip in the economy.David HullSkeptics Continue to AboundDave Kansas WSJ.

  9. I believe that the recession will most likely take another dip due to a combination of the fed’s attempts to jump start the economy and the not quite fully understood scarring that the destruction of major financial entities has left us. As stated in some of the previous posts, the government and the fed have been taking desperate steps, evidencing themselves through the stimulus package, quantitative easing, low interest rates and constricting credit policies, all trying to correct this recession by pumping in money and further regulating loans. I believe that although all steps taken up until this point make a lot of sense why they would work, I believe that the fairly recent dissolution of major shadow banking markets took out too much space for money creation and consumer confidence for a “V” shaped recovery to take place. There is much money being streamed into the system with nowhere to go given low aggregate demand and tight credit. The initial boom in the housing market that made it possible for all this money to be created and that heavily intertwined different financial sectors is now significantly weaker. With the boom gone and the intermediaries injured, I agree with Matt’s view that investment in alternative energies would help aid our slow crawl back towards recovery by giving us another sector with potential gains in employment and productivity to confide in.Y-Van TruongRoubini, Nouriel. “The risk of a double-dip recession is rising”

  10. Juan Carlos Larriva, In my opinion, the recovery of the U.S. economy will be slow but certain. As we have learned in economics class, things rarely move in a straight line. We are witnessing evidence of growth in many sectors of our economy but this doesn’t mean that there won’t be temporal setbacks or even a double-dip recession. The Dow Jones, NASDAQ, and the S & P 500 indexes have been steadily increasing since March 2009, this is important because the performance of the stock markets strongly represents the performance of the economy as a whole. Many economists believe that we have endured the worst and that the economy is on the path to recovery; however, the possibility of a double-dip recession is certainly there. In the article “The risk of a double-dip recession is rising”, Nouriel Roubini offers two scenarios that could potentially send our economy in to a double-dip recession. “There are risks associated with exit strategies from the massive monetary and fiscal easing: policymakers are damned if they do and damned if they don’t. If they take large fiscal deficits seriously and raise taxes, cut spending and mop up excess liquidity soon, they would undermine recovery and tip the economy back into stag-deflation. But if they maintain large budget deficits, bond market vigilantes will punish policymakers. Then, inflationary expectations will increase, long-term government bond yields would rise and borrowing rates will go up sharply, leading to stagflation. Another reason to fear a double-dip recession is that oil, energy and food prices are now rising faster than economic fundamentals warrant, and could be driven higher by excessive liquidity chasing assets and by speculative demand.” The United States is likely to maintain large budged deficits, as it has for most of its history. If Roubini’s prediction is correct, this would lead us to stagflation. I don’t think that there is a clear solution to our current situation; nonetheless, I do believe there are some things that have to be done if we want to stabilize our economy. First and foremost, the public needs to be aware that sometimes what is best for the individual is not what is best for the economy as a whole. This is significant because policy makers and political figures will promise tax cuts and government spending to appeal to the individual as a source of votes. People are more likely to vote for the politician that is going to increase their wealth and not for the politician that wants to raise taxes. American’s need to understand that sometimes taxes must go up and government spending must go down in order to achieve equilibrium. Another solution to this issue is to make the central bank fully independent and give them the power to use monetary and fiscal policy to their discretion. The United States also has to reform its energy plan. Right now we are sending billions of dollars abroad to buy oil, money that could be kept domestically to create jobs and promote investment, especially because oil prices are rising. The U.S. has to invest in alternate energy like, wind, hydro and nuclear solutions to wean ourselves from our addiction to foreign oil. This would create jobs, promote growth, help the environment and at the same time rout our economy in a better direction.

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