The monetary base is exploding. So what?
Traditionally, when the base grows, the monetary aggregates grow thereafter. Since inflation is a monetary phenomenon, the concern is that the cash will find a home in consumer goods, and inflation will rise. Is this realistic?
Well no and yes. No, because the monetary base is really an artifact of the bank bailout, the Fed’s liquidity programs, and the interest that the Fed now pays on reserve balances. A year ago interbank lending dried up on credit fears, so the Regional Federal Reserve banks became clearinghouses for overnight loans. Our statistics don’t adjust for this, so it looks like monetary growth is booming. But when you make the adjustments, it really isn’t.
So money growth won’t spark inflation anytime soon. But what about further out? The concern there is politics. As the economy recovers, interest rates will need to rise. Since the Fed is more political now, they may get behind the curve and allow inflation to accelerate. After all, it was former Labor Secretary and politician Robert Reich who quipped, “A little inflation never hurt anyone.” Talk like that makes you want to buy TIPs and gold.
Which may be happening. Those assets recently traded at new highs, and expected inflation is creeping up. But it’s not money that worries us. It’s politics.
Douglas R. Tengdin, CFA
Chief Investment Officer
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