The minutes from the last FOMC meeting were released. You can view them here if you need to read something to fall asleep. There are a few parts that may be interesting, but most of it is Fed speak and mostly useless.
While the FOMC hiked its target federal funds rate at the last meeting, that isn’t really the big news. This rate does not mean a lot right now anyway because it is not driving the monetary base. It is the overnight lending rate for banks, but most banks don’t need to borrow overnight to meet required reserves because they have built up massive excess reserves since 2008.
In the past, when the Fed wanted to raise its target rate, it would sell off assets into the open market. This was monetary deflation. In the inverse, it would buy assets if it wanted to lower its target rate. Since 2008, this no longer holds true. The Fed is hiking its target rate by paying a higher interest rate on bank reserves. It is independent of the monetary base. The only reason its hike in its target rate is possibly deflationary is because the higher rate paid on bank reserves might entice banks to lend even less money. If the banks can keep deposits with the Fed and earn a higher interest rate than before, why risk loaning out the money?
The bigger story with the Fed is its overall balance sheet. It is now talking about reducing its balance sheet by not rolling over all of its maturing debt. The big question mark right now is the timing of all of this. Will they start soon? Will it be next year? And if they wait too long and the economy shows signs of a recession, would this take the balance sheet reduction off the table?
The only dissenting vote in the last FOMC meeting was Neel Kashkari. He dissented because he thinks the Fed is being too hawkish.
It is important to note though that the Fed has not been inflating since it ended QE3 back in October of 2014. In another three months, assuming nothing changes, we can say that the Fed has gone the last three years without inflating the money supply.
Our problem isn’t the Fed’s tight money policy of the last three years. Our problem is the really loose monetary policy from 2008 to 2014.
I think the Fed is trying to tighten its policy in case there is another recession. It has been almost 9 years since the financial crisis hit (when it became evident), and the monetary base is still almost 5 times higher than where it originally was. If another recession were to hit right now, is the Fed going to double or triple its balance sheet on top of what it has already done?
In the FOMC minutes, there is one particular part that caught my attention: “However, the Committee would be prepared to resume reinvestment of principal payments received on securities held by the Federal Reserve if a material deterioration in the economic outlook were to warrant a sizable reduction in the Committee’s target for the federal funds rate. Moreover, the Committee would be prepared to use its full range of tools, including altering the size and composition of its balance sheet, if future economic conditions were to warrant a more accommodative monetary policy than can be achieved solely by reducing the federal funds rate.”
In other words, if the economy turns down, the Fed will not hesitate to resume its monetary inflation.
I would like to point out one other thing regarding these minutes and the stories linked to them. There is an almost obsession with consumer price inflation being relatively low. I follow the CPI numbers closely because everyone else is. But I would like to remind everyone that you can still be in a bubble economy even with relatively low price inflation. This is exactly what happened in the late 1920s in the lead-up to the Great Depression. Consumer price inflation was low, but assets were booming.
Of course, Hoover, and then Roosevelt, did many bad things to prolong the initial downturn and make things far worse than they ever should have been. But the point remains that stocks crashed from their bubble while consumer prices had remained relatively stable up to that point.
In other words, just because there is low consumer price inflation as measured by the government’s statistics, it doesn’t mean that there isn’t bubble activity in certain sectors. This seems especially important to point out right now as stocks keep hitting new highs, despite continual lackluster economic growth.
This isn’t to say that stocks won’t run higher still. But the saying here holds that I would rather be out too early than a day too late.