Thank you...
If I understand you correctly, the pool of dollars (i.e. slips of paper in circulation) is constant (assuming neutral Fed policy). Therefore, your point is that if I convert my stock certificates into dollars, the actually supply of dollars remains unchanged, so the money supply remains unchanged. Makes sense to me.
Now, let's think beyond the mechanics. Why is money supply important? The value of paper currency, on one hand, is ostensibly (directly?) related to the (perceived) economic stability and wealth of the issuer and on the other, ostensibly (directly?) related to the relative return that a holder of such currency expects (i.e. short-term money rates). Inflation (i.e. devaluation of the currency) can occur when the Fed prints money (i.e. changes the supply of slips of paper relative to the underlying asset value) or when economic conditions create upward price pressures on goods, services and wages (but a strong economy should improve the currency's relative value and drive up short-term rates, both of which should help mitigate the inflation?? Argg..I'm getting a headache).
What's the point? Rising equity prices create actual or perceived wealth by increase actual or perceived income (i.e. realized or unrealized gains). Since "consumers prefer current consumption to future consumption", higher incomes should translate into greater spending (a correlation which is exacerbated (or multipled) by America's comparably low savings rate). This feedback loop has bolstered the domestic economy at a time when external factors (i.e. the Asian crisis) have substantially deflated the cost of important imported goods (oil comes to mind). So we have the illusion of Nirvana...good economic growth coupled with very modest price pressures (i.e. inflation) resulting in low interest rates and sky-high PE multiples. This is what I believe Greenspan was talking about in his recent congressional testimony. As investors we are charged with asking the question, Is Nirvana Sustainable? And secondarily, IF Nirvana is Not Sustainable, what gives out first...does the U.S. economy tank or do domestic interest rates rise.
The more I think about it, the more certain I am that I should devote my attention to concepts within my skill set.
Best regards,
Gregg |
