Lost in Transmission

On Wednesday, Federal Reserve Chair Janet Yellen offered several insights into what she wants you to believe she’s doing.  For starters, she wants you to think that, definitely maybe, she will raise rates soon.  But not too soon.  And certainly not now.

Apparently, the Fed believes the economy is strengthening.  Though it’s not strengthening quite enough to raise the federal funds rate from practically zero…where it has reclined for over six years.  That would take a willingness to deflate the stock market.

Naturally, the Fed doesn’t want to deflate the stock market.  They want to inflate it.  For everyone loves an inflating stock market.  The appearance of ballooning wealth makes one feel richer, smarter, better looking, and younger too.

Following the Federal Open Market Committee meeting, and the obligatory Fed statement, stocks immediately spiked.  The DOW jumped 180 points.  Yet the gusto quickly faded…and the DOW finished out the day just 31 points from where it started.  Then, yesterday, the animal spirits roared back to life; the DOW closed up 180 points.

However, the best entertainment, the greatest knee slappers, came during the post meeting news conference, where Yellen parsed her words carefully.  In fact, he parsed them so close it was hard to comprehend what she was saying.  Here are several highlights, including translations…

Hoping for Inflation

“Once we begin to remove policy accommodation we continue to expect that, as we say in our statement, even after employment and inflation are near mandate consistent levels, economic conditions may for some time warrant keeping the target federal funds rate below levels the committee views as normal in the longer run.”

In other words, the Fed really wants positive inflation.  This is the primary objective of their policies.  They intend to keep the federal funds rate ultralow for as long as possible.  Moreover, even after they begin raising the federal funds rate, they will raise it really slowly.

But will they raise the federal funds rate this year?

“And clearly most participants are anticipating that a rate increase this year will be appropriate.  Now, that assumes, as you can see, that they are expecting a pick-up in growth in the second half of this year, and further improvement in labor market conditions.  And we will all be – we will be making decisions, however, that depend on the actual data that we see in the months ahead…

“But again the important point is no decision has been made by the committee about what the right timing is of an increase.  It will depend on unfolding data in the months ahead.  But certainly an increase this year is possible; we could certainly see data that would justify that.”

Again, the Fed recognizes there’s an expectation they’ll raise the federal funds rate this year.  However, they’ll need to see more inflation first.  So far, they’ve been promoting it for over six years.  But they still haven’t achieved the inflation they want.

Lost in Transmission

The theory, according to Yellen and her cohorts, is that artificially suppressing interest rates will encourage borrowing and spending, which will thus stimulate the economy and reduce unemployment.  They believe if they keep rates low enough for long enough, they will juice the economy.  This policy, in practice, has been a bust.

Still, like the youth and skinny jeans, it continues on all the same.  The fact is, a robust recovery and economic boom following the Great Recession never really came.  The average rank and file wage earner has watched their paycheck shrink for the last five years.

All the while, those at the top have never had it so good.  The prices of their assets have expanded like an inflating balloon.  Thus, the disconnect between the economy and stock prices shows that the Fed’s credit creation machine is broken.  It no longer pushes credit based money into the economy.

That’s why the price inflation that should have logically followed the Fed’s extreme policies of mass money supply inflation have yet to come.  The cheap credit the Fed provides merely pumps money into financial assets.  But it hardly drips into the economy…gross domestic product lurches along like a sick dog.

In short, the transmission device for Yellen’s funny money malfunctioned.  Rather than flooding into the economy, the new money becomes lost on bank balance sheets.  This transmission effect, or lack thereof, in central banking parlance is called pushing on a string.

The central bank pushes on one end of the string by expanding the money supply and the other end of the string, which is represented by the money’s entry into the economy, doesn’t budge.  The inflation’s lost in transmission.

Sincerely,

MN Gordon
for Economic Prism

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