The Fed’s New “Twist” – Not Likely To Help

Late Wednesday The Federal Reserve announced a new program to try to stimulate  the economy so that maybe somebody, somewhere could get a new job, or maybe it’s so that critics would shut-up about employment.  It’s always hard to tell what The Fed’s real objectives are.  I don’t have time to explain now why it’s not likely to do much. But I didn’t want it to go unnoticed, so I’ll give you Stephanie Kelton from neweconomicperpectives, the UM Kansas City MMT people:

Ben Kenobi Launches Operation Twist: Will it Save the Republic?

The Federal Open Market Committee (FOMC) just announced that it’s going to begin another round of asset buying, this time offsetting its purchases of longer-dated securities with sales of shorter term holdings. The goal? Flatten the yield curve. The hope? Engineer a recovery by helping homeowners refinance at lower rates and making broader financial conditions more attractive to would-be-borrowers.

At this point, it looks like Obi-Ben Kenobi realizes that Congress isn’t going to lend a hand with the recovery. Indeed, as a scholar of the Great Depression, he’s probably deeply concerned by the “Go Big” mantra that is now drawing support from people like Alice Rivlin, former Vice Chair of the Federal Reserve.  And so it is Ben, and Ben alone, who must fight to prevent the double-dip. It is as if he’s responding to the public’s desperate cry, “Help me Obi-Ben Kenobi. You’re my only hope.” Will it work?  Not a chance, but that conversation is taking place over at Pragmatic Capitalism, so drop in and find out why.  Below is a description, taken from the full FRB press release, that describes just what the Fed is going to do.  May the force be with us all.

“To support a stronger economic recovery and to help ensure that inflation, over time, is at levels consistent with the dual mandate, the Committee decided today to extend the average maturity of its holdings of securities. The Committee intends to purchase, by the end of June 2012, $400 billion of Treasury securities with remaining maturities of 6 years to 30 years and to sell an equal amount of Treasury securities with remaining maturities of 3 years or less. This program should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative. The Committee will regularly review the size and composition of its securities holdings and is prepared to adjust those holdings as appropriate.

To help support conditions in mortgage markets, the Committee will now reinvest principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities. In addition, the Committee will maintain its existing policy of rolling over maturing Treasury securities at auction.”

Inflation Still Not A Problem

Inflation is notoriously difficult to measure.  Economists attempt to measure using the change in various price indices such as Consumer Price Index or GDP Deflator. But that’s flawed since it depends on the basket of goods chosen and the various adjustments made to the index to reflect quality changes, etc.  It’s even more flawed when there are highly volatile items in the index (the prices are volatile, not the items themselves, although gasoline is both). Bankers and conservative politicians like to measure inflation by the change in money supply on the assumption that increased money must translate into inflation soon (although it really doesn’t). The average person in the street tends to measure inflation by whatever it was they last purchased, which is usually food or gasoline.  This is a horrendous way to measure inflation.

Nonetheless it’s necessary to look at a variety of price indices and look particularly at the trend of all prices.  I really do not see any significant inflation in the U.S. for a long time yet. It appears Ben Bernanke and the Federal Reserve agree with me.  From Ben’s Congressional Testimony today (via Calculated Risk):

On the inflation front, we have recently seen significant increases in some highly visible prices, notably for gasoline. Indeed, prices of many commodities have risen lately, largely as a result of the very strong demand from fast-growing emerging market economies, coupled, in some cases, with constraints on supply. Nevertheless, overall inflation remains quite low: Over the 12 months ending in December, prices for all the goods and services purchased by households increased by only 1.2 percent, down from 2.4 percent over the prior 12 months. To assess underlying trends in inflation, economists also follow several alternative measures of inflation; one such measure is so-called core inflation, which excludes the more volatile food and energy components and therefore can be a better predictor of where overall inflation is headed. Core inflation was only 0.7 percent in 2010, compared with around 2-1/2 percent in 2007, the year before the recession began. Wage growth has slowed as well, with average hourly earnings increasing only 1.8 percent last year. These downward trends in wage and price inflation are not surprising, given the substantial slack in the economy.