Monday, January 21, 2013

The US Economy: Back to the 1930s?

Recently I've been more careful of how the world macro-economy evolves. Especially it seems to me that the US economy is going back to the 1930s' Great Depression.

I might have been much influenced by that very serious New York Times' columnist, but while just looking at the data of the FRB (the central bank of the US), we can see how much the quantitative easing (QE), FRB increasing the money is stabilizing the US economy:

(1) Monetary base (the money that FRB can directly increase): since the Lehman shock of 2008, FRB has increased so much of it.

(2)M1 money stock(the money that was once called money supply and that FRB cannot directly increase): since then it has been increased gradually.

(3)M1 money multiplier(the ratio of the money stock to the monetary base,
money stock/monetary base, that FRB cannot control directly either): interestingly it has been decreasing since the bankruptcy of Lehman Brothers, and been crawling below 1. That is, though FRB has put an extremely large amount of the monetary base, the money stock has not increased so far more than had been expected.

(4)Velocity of M1 money stock (the number of times one dollar is used to purchase final goods and services included in GDP): Following the declining money multiplier, it has been also decreasing since the Great Recession of 2008, which means that the American people spend less than before.

The point is, as Milton Friedman and Anna Schwartz(1963) saw the Great Depression of 1930s, that a great rise in the monetary base, though we can see a gradual increase in the money stock and we can conclude that an increase in the base money increases the money stock, results in a fall in the money multiplier and the velocity of the money stock.

Some pundits say, the solution to a deep recession is, Friedman and Schwartz suggested but I am reluctant to agree, FRB increasing much base money.

Until now the modern US economy looks like that of the Great Depression of 1930s and we have to look more carefully at how it is going to be. Will the QE work well? Tomorrow never knows.

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