Is it time for the Federal Reserve to pursue a single mandate?

12 USC 221 of the Federal Reserve Act provides four main purposes for the Act:

  • To establish Federal reserve banks;
  • To furnish an elastic currency;
  • To afford the means for rediscounting commercial paper; and
  • To establish a more effective supervision of banking in the United States.

The legislation provides statutory support for the Federal Reserve System’s objective of regulating the United States’ money supply.  Specifically, under 12 USC 225a, the Federal Reserve System’s monetary policy objective is to:

“[M]aintain long run growth of monetary and credit aggregates, commensurate with the economy’s long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.”

Among the tools the Federal Reserve System uses to achieve its monetary policy goals are the usual suspects: open market operations; the discount window and discount rate; reserve requirements; and interest on reserve balances.

Over the next several days I will be addressing the monetary policy and legal questions, “What factors does maximum employment address?” and “What factors do stable prices address?”

The media when reporting on maximum employment often references the unemployment rate for labor, while referencing the consumer price index when addressing the achievement of stable prices.  My issue is, why is labor the be all and end all of the full employment issue?

If the Federal Reserve’s goal is to maintain long run growth of money and credit that is commensurate with the economy’s long run potential to increase production, shouldn’t the Federal Reserve System consider or assess the full employment of America’s productive capacity beyond labor? 

The media gives productive capacity a secondary thought and its lack of emphasis on productive capacity does not, in my opinion, keep the trading and merchant community fully informed on how well the economy is actually doing.

I would make the same argument for prices as well.  The Federal Reserve System’s narrative is that too much inflation is bad and it has to be contained.  But is that narrative truly in line with the expectations behind wealth accumulation?  Is it line with creating in consumers a necessary illusion of wealth that results from inflated home prices? 

Growth in asset values gives the average American the impression that her wealth is increasing.  She wants to use her house as an automatic teller machine but can’t do that if rising interest rates slow down demand for her house resulting in a decrease in her value.  Is monetary policy helping her achieve that balance?

It is clearer at this point to see a more direct connection between the Federal Reserve System’s influence on the interbank market for excess reserves and interest rates versus pursuing a four percent unemployment rate (historical full labor employment) via its monetary tools.  For that reason, should not the Federal Reserve focus solely on interest rates?

Could a single mandate may be better for traders who need as clear an assessment of the markets as possible?  Maybe. Maybe not. Let’s explore.

Alton Drew

18 May 2022

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Taking a look at the US money supply numbers: Has the political right missed the mark?

Between February 2021 and February 2022, Board of Governors of the Federal Reserve System (BOG-Fed) data shows that M1 money supply increased 12.7% or 1.05% per month. When you put this data along side unemployment data from the U.S. Bureau of Labor Statistics (BLS), the 1.05% monthly increase in money supply accompanies a monthly 3.2% decrease in the unemployment rate.

Inflation is running at a rate of 7.9% between February 2021 and February 2022, according to BLS data. This translates to a roughly 0.65% monthly increase in household expenditures.

And the dollar index which measures the strength of the US dollar against a basket of other currencies has risen 7.3% over the February 2021 to February 2022 period, which translates to 0.60% per month.

I’m not going to attempt a causal analysis here. A cursory view of the money supply and dollar index could lead one to conclude that the relationship between the money supply and the dollar index is less than unitary which could be interpreted as the existence of price elasticity; that buyers of dollars could find other competitive currencies to carry out a trade. I won’t say “carry trade” since I am not looking at bond yields.

The political right has been consistent in pointing out that inflation is reflective of increased money supply, but I cannot say whether the less than unitary response in the inflation rate when compared to the change in money supply indicates that the political right has missed the mark.

Alton Drew

03.04.2022

For consultation on how this political or legal event impacts your foreign exchange trade, request an appointment at altondrew@altondrew.com.

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Disclaimer: The above is provided for informational purposes and should not be construed as financial or legal advice or as creating an agreement to provide financial or legal advice.

Interbank Market News Scan: Indian rupee strengthens against weakening dollar; US adds 467,000 jobs …

Interbank, Indian rupee. “The rupee surged 18 paise to close at 74.70 (provisional) against the U.S. dollar on Friday tracking the weakness of the American currency in the overseas market….” See article here. Source: The Hindu

Interbank, Pakistan, remittances. “Home remittances are a major source of income for families of expatriate Pakistanis and contribute significantly in country’s economic activities. The State Bank of Pakistan together with the Government of Pakistan has introduced various policy initiatives, from time to time, to increase the flow of home remittances through formal channels …” See article here. Source: MarketScreener

Interbank, Pakistan, remittances. “In order to improve foreign exchange liquidity in the inter-bank market, the State Bank of Pakistan (SBP) and the government are now incentivising Exchange Companies (EC) to surrender 100% of home remittances against Re1 for each U.S. dollar.” See article here. Source: Business Recorder

Interbank, US Department of Labor, unemployment. “Total nonfarm payroll employment rose by 467,000 in January, and the unemployment rate was little changed at 4.0 percent. Employment growth continued in leisure and hospitality, in professional and business services, in retail trade, and in transportation and warehousing. Average hourly earnings increased 23 cents to $31.63.” See report here. Source: U.S. Bureau of Labor Statistics

Foreign exchange rates of interest as of 9:00 am EDT

EUR/USD=1.1350

GBP/USD=1.3577

USD/MXN=20.5930

USD/GTQ=7.5110

USD/NGN=415.614

USD/GHS=6.3273

USD/VND=22,646.7

USD/JPY=114.72

USD/INR=74.7056

USD/BTC=0.00003

USD/ETH=0.00038

Source: OANDA

Dollar Index: 95.64 Source: MarketWatch

Interbank market news scan: The equity markets in the US may be closed, but foreign exchange markets are not resting in light of an improving employment picture …

The U,S, Department of Labor today reported that non-farm payrolls increased in March by 916,000 employees while the unemployment rate fell to 6.0%. Employment gains were led buy the leisure and hospitality, public and private education, and construction sectors. THE EMPLOYMENT SITUATION — MARCH 2021 (dol.gov)

Currency PairsRates as of 9:19am 2 April 2021
EUR/USD1.1768
AUD/USD0.7614
GBP/USD1.3837
USD/JPY110.5800
NZD/USD0.7032
USD/CHF0.9409
USD/NOK8.5335
USD/SEK8.7131
USD/CAD1.2548
  
Selected Rates 
Fed Funds.07
Bank prime rate3.25
Discount window.25
2-yr Treasury.18
10-yr Treasury1.71
30-yr2.36
Sources: Reuters, Bloomberg