[ExI] M0 singularity... you're soaking in it

[Gordon Swobe]

> Ben Bernanke's Fed has doubled the monetary base in a single year! 
> Holy cow.

Normally the Fed responds to tough economic times by reducing short term interest rates. But short term rates have reached their lower bound. We're in a zero interest rate economy. The Fed has run out of bullets, or at least it has run out of bullets of the conventional kind.

To stimulate the economy in this zero interest rate economy, the Fed can try to expand the money supply directly. The code phrase for this is "quantitative easing". 

The Bank of Japan tried something like it in the 90s. It didn't work very well. Banks held onto the money instead of lending it. The Japanese economy languished for years. It seems we face the same scenario in the US.

This chart below shows the M1 Multiplier. Normally the multiplier is well above 1, meaning that for every dollar added to the banking system, more than one dollar is added to the money supply. The Multiplier is normally well above 1 because banks lend the money, which gets spent and saved and re-lent. As the chart shows, the M1 Multiplier has fallen off a cliff. As far as I know, this is the first time in modern history that the M1 Multiplier has fallen below 1.

http://research.stlouisfed.org/fred2/series/MULT?cid=25

As for inflation concerns, in response to the financial crisis the spread between the yields on ten year treasury bonds and TIPS (ten year treasury inflation protected securities) dropped radically from more than 2% to near 0%. This means investors in treasury bonds have stopped demanding compensation for inflation risk. If this market is efficient (and it might not be, but that's another discussion) then the TIPS spread is telling us to expect virtually no inflation for the next ten years. But a little inflation is a good thing; this indicator is as worrisome as the others, and suggests that deflation/depression is the greater risk going forward.

These disturbing developments argue for fiscal stimulus: tax cuts and government spending.

-gts