The Fed's very easy policy stance
Amid growing anxieties about the Fed's intention to discontinue asset purchases next October, you may find reassuring that its monetary base expanded by a hefty $52 billion during the first three weeks of July. That is well above the average monthly increase of $38.5 billion in the first six months of this year. And the Fed's balance sheet continues to grow at an annual rate of 22 percent.
Banks' excess reserves (aka loanable funds) held at the Fed at an interest rate of 0.25 percent hit a new high of $2.63 trillion at the last reserve reporting period on July 23, 2014. So far this year, these reserves have been rising at an average monthly rate of $31 billion; they are also a whopping 30 percent above their year-earlier level.
Is it any wonder that the Fed's key policy rate – the effective federal funds rate – was 0.06 percent at the close of trading last Friday? That marks a year during which that rate was kept in a 0.05-0.10 percent range – less than half the Fed's official target of 0.25 percent.
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These are hardly the makings of a situation where the Fed is seen rushing to raise interest rates in an economy growing well below its non-inflationary potential and struggling with an actual unemployment rate of 12.4 percent.
I am sure the strong headwinds from trade with Europe, China and Japan (that is 42 percent of world GDP) also loom large in Fed's policy decisions.
Japan's valiant efforts to keep the economy growing may be compromised by falling real incomes, weakening private consumption and declining business investments. China's economy seems set to stay on the path of its officially targeted 7.5 percent growth rate, but its increasingly difficult trade and investment environment may already be causing serious problems for U.S. companies.
The EU, destination of one-fifth of U.S. exports, is running the risk of aborting its fledgling economic recovery with overly restrictive fiscal policies and broad-ranging sanctions in its trade with the Russian Federation.
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The Socialist governments in France and Italy are trying to shake things up a bit. Undermined by rising unemployment, these two countries (representing almost 40 percent of the euro area) are plotting – with the help of some German Social Democrats – a head-on assault on stifling austerity policies. That could be very exciting. Stay tuned for next week's report.
Germany's government is also under attack from some of its businesses because they are being hard-hit by their sanctions-eroded sales and investments in Russia.
Incidentally, the ISM report on U.S. manufacturing activity published on August 1, 2014 also talks about sanctions and problems caused by worsening global political instabilities.
For example, the U.S. chemical industry fears that "geopolitics still presents a considerable risk as well as the European market," and various manufacturers in healthcare industries report that "Russia's demand for medical devices from the U.S. has dropped by 40 percent."
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Being fully-valued, U.S. equity markets may experience occasional downdrafts, but the Fed is not about to sink Wall Street by a needless rush to begin raising interest rates. Even when the Fed decides to initiate that process with global ramifications, it will proceed carefully and gradually. Also, please note that the higher interest rates will only begin to "bite" aggregate demand in earnest when the federal funds rate hits 4 percent or higher.
Timing? I don't know. And neither does the Fed. We all have to do what the Fed does: Watch the data on economic activity, labor markets, costs and prices.
And here is for the very long view: Gold bugs (whom I frequent occasionally) have no fear and no doubt. Gold prices (+7.2 percent from the year ago) are anticipating accelerating inflation, rising interest rates and the next cyclical downturn – or much worse.
Michael Ivanovitch is president of MSI Global, a New York-based economic research company. He also served as a senior economist at the OECD in Paris, international economist at the Federal Reserve Bank of New York and taught economics at Columbia.
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