But how could the banker work out the loan, if he can't borrow from a lender of last resort? I thought that was the whole point of the Fed system. Yet your work suggests the fed was in place before this all unwound. My beliefs about what happened need to be reconciled with the facts. I await your book. <g>
You might check your library for a copy of Deflation: How to survive and thrive in the coming wave of deflation by A Gary Shilling. Chapter 18- he takes a swipe at the idea there is a connection between money supply and inflation or deflation. I understand the results of rabid debasing- wheelbarrow's of cash for a loaf of bread. Perhaps in less extreme cases, money supply might be independent of general price levels, if I understand what he is saying.
A portion of the text I scanned in that might be relevant:
MONEY SUPPLY GROWTH AND DEFLATION
Many argue that central banks can and will stop deflation flood of money. Some even worry that the recent rapid growing the U.S. money supply will re-ignite inflation. Note the acceleration (Figure 18-1), starting with the onset of the Asian crisis in mid-1997 of the adjusted monetary base. It is composed of currency in circulation and commercial bank reserves with the Federal Reserve that support bank deposits and other forms of money. Part of its growth is due to the leap in currency in circulation, as Russians, Argentines, and many others in shaky or worthless currency lands use the buck as their medium of exchange. The Fed estimates that in 1996, 60 percent of all the dollars in circulation were held overseas.
But note that the jump in currency in circulation isn't the explanation for the acceleration in the adjusted monetary base, or in the M2 measure of money. All three growth rates are moving together(figure 18-1). And they exceed the 5 percent growth in GDP in 1998. The United States is not alone in its money supply growth exceeding that of its economy. Much the same is true in Europe (Table 18-1). Before you leap to inflationary conclusions, however, note that the same is the case in deflationary Japan. The Bank of Japan may not have been overly aggressive earlier in this decade, but the money supply there has still been growing faster than the economy.
Table 18-2 shows that this has been the case during deflation in the United States-during the good U.S. deflation of 1870-1896 and the 1920s, and even during the bad deflation of the 1930s. Money then was barely growing, but, believe it or not, it still rose faster than GNP. Even though M2 fell in 1930, 1931, and 1932, GNP fell faster in each of those years. Many blast the Fed for not being aggressive enough in the 1930s-and blame the Bank of Japan for being too cautious in the 1990s, which is Japan's deflationary depression equivalent. I don't know if the criticism of the Bank of Japan is justified, at least through Japanese eyes. They have a very different culture and thought process than in the West. As for the Fed's action in the 1930s, however, recall that the economy, and therefore the demand for money, was collapsing faster than anyone realized as bankruptcies and layoffs spread. Banks were so shell-shocked that didn't want to lend, and businesses and consumers were too scared to borrow. It may be the same situation in Japan today.
In bad deflation, many may be too scared to borrow and also may be so concerned over the Outlook that they wanted to hold more money than usual, in and out of banks. But why would they also want surplus funds in good deflation when business was strong? That's why the recent Japanese decision to essentially hand out free money from every noodle shop across the country probably won't help. Furthermore, easier credit in Japan will continue to depress the yen, and Japanese leaders seem Willing to accept a weaker currency. That will put pressure on other Asian currencies, including the Chinese yuan, and could spawn another round of competitive devaluations. Weaker Asian currencies might make those lands more competitive in global markets, but would raise the costs and servicing burdens of their dollar-denominated debts, chase away foreign investors who lose as currencies depreciate and force local interest rates higher to keep currencies from falling further.
When I first found that the money supply grew faster than the economy in deflation, especially in the bad U.S. deflation of the l930s and in Japan in the I 990s, I was quite surprised. Maybe it's because the monetarists have been so critical of the Fed's behavior in the Depression that I, too, slipped into the belief that the Fed had at least contributed to the collapse in business. It's one thing to say that the credit authorities didn't do enough to revive business. It's quite another, however to imply that they caused the downturn by constricting credit. With the economy falling much faster than the money supply, even in the darkest days of the early 1930s, that was hardly the case. Ditto for Japan in this decade.
There is another reason why the money supply grows faster than the economy in deflationary times, even in good deflation when borrowers and lenders aren't frightened, and mattress money has little appeal. Money is worth more as prices fall, and low interest rates mean that people don't have much opportunity costs on deposits that pay little or no interest. Of course, as I'll explore in Chapter 20, real interest rates are higher in deflation than inflation, but many depositors apparently look at their returns in nominal and not in real terms.
In any event, there is a rough correlation between short-term interest rates and the velocity of money, the ratio of GNP to the money supply (Figure 18-2). Long-term interest rates and money velocity are similarly related. The turnover of money slows as interest rates fall, and vice versa. It's hard to explain, however, why velocity didn't leap when interest rates spiked in the late 1960s and 1970s. Perhaps the elimination of caps on interest rates for bank and S&L deposits convinced people to keep their funds in deposit form. Still, that was the time when appreciation on real estate and other tangible investments was far outdistancing the returns on deposits or any other financial assets. Furthermore, even though nominal interest rates were high and rising, real interest returns were negative in the mid- and late-197Os (Figure 20-2), and the depositor was a big loser.
Irrespective, the money supply grew more slowly than the economy in the inflationary postwar era, both while prices were accelerating in the 1939-1980 years and the deceleration since then (Table 18-2). This is fascinating. The money supply grows faster than the economy in deflation and slower than business activity in inflation. This is exactly the reverse of what most investors - and economists - believe.
TABLE 18-1
Money Supply (M2) and Nominal GOP Growth in Developed
Countries (3 Qtr. 97-3 Qtr. 98)
Money Supply Nominal GDP
United States 7.4% 4.5%
France 8.0% 3.6%
Germany 5.3% 3.7%
Italy 7.2% 3.7%
United Kingdom 5.6% 4.1%
Japan 3.7% -3.4%
Source Haver Analytics and Federal Reserve Board
TABLE 18-2
Money and GOP Growth in Deflation and Inflation
Money Supply Nominal GNP GNP
1870-1896 4.6% 2.0% -1.8%
1920-1929 4.6% 2.3% -1.3%
1929-1939 0.5% -0.7% -1.4%
1939-1980 8.2% 8.7% 4.8%
1980-1998* 6.5% 6.9% 4.1%
*Note: Figures for 1980-1998 represent GOP
Source: The American Business Cycle and Haver Analytics
comment: There is somewhere on the internet a paper on what happens as inflation approaches zero, how the effect is non linear as consumers start to anticipate lower prices in the future rather than higher. |
