Federal Reserve’s Statements Don’t Match Its Actions

Published January 23, 2011

The Fed has finally reported relevant money data for December.

In the two months from October through December (roughly referred to as the QE2 period), the Fed increased bank reserves by $34.3 billion. During the same period, banks increased their deposits with the Fed by $33.5 billion. Hence, the net increase in bank reserves used for bank deposits, loans, and investments was less than $1 billion.

Bank reserves

As you may recall, the Fed’s statement in early November gave the impression that since the Fed  would be purchasing $75 billion in Treasury securities each month, this was the amount of monetary stimulus we should expect. As has occurred so often, the Fed’s statements are completely inconsistent with its actions. This inconsistency means one of two things.  Either the Fed’s statements are designed to deceive the public, or (what is more likely), Fed officials have no idea what they are doing.

Okay for Now
So, what does it all mean? The immediate implication of the monetary numbers is that there is sufficient money in the system to allow the recovery that is underway to continue. The average annual growth in bank reserves less excess reserves for the 2 years ending in the fourth quarter of 2010 is close to 5 percent.

This suggests that there is sufficient money to permit the rate of current dollar spending to grow at roughly a 5 percent to 7 percent pace this year. However, growth from the fourth quarter of 2009 to the fourth quarter of 2010 was only 1 percent, highlighting the erratic shorter-term pattern.

Still Big Risks
The main caveat regarding monetary policy is the same as it has been. Since Fed officials seem to have no idea of what they are doing, there is always an uncomfortably high probability that they will produce either much more or much less liquidity than would be consistent with stable growth.

This means it will be important to continue to monitor what the Fed does, as opposed to what it says it is doing.

Robert Genetski ([email protected]) is a Heartland Institute policy advisor and runs classical principles.com, which provides financial guidance using classical economic and investment principles.