Brian Wesbury hit the nail on the head with his Op-Ed piece in the Wall Street Journal today (Monday June 23). I would provide a link, however the filthy capitalist pigs at the Journal require you to be a subscriber to view. (When the revolution comes, the Journal’s offices will certainly be converted to headquarters for the New Propaganda Daily). The main theme of his editorial is that the problem with this economy lies not in prevailing interest rates, and will not be solved through more cutting of said rates, rather the lack of velocity of money flow is what holds us back. Citing Irving Fisher’s brilliantly simple formula of (M)Money X (V)Velocity = (P)Price X (Q)Quantity , we can see that the Fed gets the most bang for its buck by exerting influence on V. I will let Mr. Wesbury’s piece speak for itself on how to do just that.
For an alternative viewpoint, visit my friend Andrew Strasmann’s site, which is updated daily with econ-o-pinion as well as hockey commentary.
Update: Here is the link to Brian Wesbury’s article. Since they obviously allow GKST to republish, I take back what I said about The Journal.
Great piece by Wesbury.
Umm, if M*V = P*Q, then please explain how increasing Velocity has a greater effect than simply increasing money supply. It appears to me that M and V have equal weights.
Ummmm, well, M is a very very large number, and V is a much smaller number. As such, the incremental change in M has to be very large to have the same effect as a very small change in V. That’s the arithmetic explanation, here is an anectdotal one. The economy is stuffed with cash right now, it is just being held by white-knuckled bankers, pension plans, individuals, who are afraid to make loans on or invest in anything but a knock-down sure thing. Getting those funds moving through the system will have far more positive impact than increasing the amount of those funds.
Well, if you’re saying that getting each person in the country to spend or invest one dollar under their own initiative would be more effective than increasing the money supply by 200 mil, I agree. However, I would take the position that it is much easier to increase the money supply (entirely under the Fed’s control) than it is to change individual (or corporate) behavior. If the arithmetic holds, simply having the Fed manipulate the money supply should be all that is required to increase or decrease the P*Q.
Might I humbly suggest that since this is patently not true, and since M seems to have a direct effect on V (the two are not independent variables) it might be a good idea to re-examine the arithmetic.
Neil, I re-read my original post and subsequent comments, and cannot find any statement saying M and V were independent and do not effect one another , nor did I say anything about the relative ease or difficulty in taking action on either variable. What I said was that the Fed would achieve more by influencing V than by influencing M, especially with present economic conditions, which you have agreed with. My reason for posting in the first place was to get people to check out Wesbury’s piece, which I hope you took the time to do. While there are many voices berating Greenspan for having spent his ammo, not many speak toward the importance of Velocity.
Good article and corrective.
So what can the Fed do to increase Velocity, other than slowing the growth in M, either absolutely or below the growth rate of GDP? Don’t just do something – stand there, and wait for the pent-up animal spirits to work their magic?
I think the Fed’s done more than enough. What we need now is for Congress and the executive branch to call off the legislative and regulatory jihad against risk taking.
Jonathan brings up a very good point, one which exposes a flaw in my original post. I should have said that the economy as a whole gets more bang for the buck with an increase in V. Both Kelly and Jonathan are quite correct in questioning Fed’s ability to produce that increase in V. I believe there may be a systemic problem developing here, with an ever-increasing reliance on risk-transfer mechanisms and products sucking up disproportionate amounts of money. Insurance, Re-Insurance, Re-Re-Insurance, highly complex hedging and swap activity, all of these transactions have embedded friction, with every party and counterparty taking their slice. I am working on a new post on this topic, but wanted to give credit where it was due.
Thanks for the post.
Yeah, this stuff is very interesting.