I have really been trying to stay away from politics and controversy both here on my blog and in my life in general. However, I heard something the other day that I have not been able to get out of my head: a potential fatal fissure is starting to break open in the US, namely that inflation is starting to pick up while real unemployment is still very high. Why is this a problem? Simple really – people without jobs have a hard time paying for things. That gets even harder when things get more expensive. When it becomes impossible then you get a US version of what is happening in Egypt, Tunisia and Libya (don’t believe for a minute that the masses that are involved are motivated by political aspirations – they need to eat!).
How can this be happening? Wasn’t all the money we were spending on bailouts, printing from thin air and pumping into the economy supposed to create jobs? Wasn’t that the whole point? From all the speeches I saw it was, so something must be broken. The real question is what and in attempt to answer that lets start at the top, where the money comes from: the Federal Reserve. The Fed creates the money. The sell debt for each dollar they create (usually to other countries and institutional investors, but increasingly to themselves – but that’s a whole other can of worms). This part of the chain seems to be working. We still are able (for now) to sell our debt and create money – for proof that the money supply is indeed growing see these charts from Shadow Stats (look at the gray colored areas).
So what’s next in the chain? Loaning the money the Fed creates to regional banks. The Fed encourages this by lowering interest rates. With interest rates at historic lows they are doing all they can to encourage borrowing. And although the Fed doesn’t give too much insight into its balance sheet there is some evidence that its balance sheet is growing, although this may just be due to the monetization of debt (buying our own debt to print more money from debt – don’t think about it too long or you will go insane) rather than real loans to banks. So there maybe something broken here, but without more disclosure from the Fed, we can’t really figure it out.
So let’s assume that the lowest intra-bank interest rates in history are good enough to convince the regional banks to borrow money from the Fed to turn around and lend to make 3-4 points on the spread. So what’s in the chain after that? Businesses. They borrow money from the bank and pay them back plus interest (where the 3-4 points of spread comes from). From the Philly Fed’s most recent beige book we can see that this part is working too:
business loan and residential mortgage volumes edged up
Now, what do the business do with the money they borrow? They spend it to either make capital investments (equipment) and meet cash flow needs (supplier payments and payroll). I couldn’t find any good US wide / cross-industry statistics on capital spending (if you know of any please leave a link in the comments) but my friends at ADP do publish monthly data on payrolls (warning – PDF link). Chart 4 of this report shows that payroll size for small, medium and large employers is up slightly (0.1 to 0.25%). This uptick in employment is mirrored in the overall unemployment rate (interesting to compare the view of official u3 rate that we hear all the time and the u6 rate that includes people that have stopped looking, etc) However, the wages an individual US worker can expect for a days work continue to stagnate. So the jobs picture is a bit brighter than it has been in the last 2 years but the pay you take home is stuck in neutral and if you take into account inflation, quickly sliding into reverse.
My conclusion on all of this is that the inflation of the money supply is not translating quickly enough to wage and job growth. The money supply is clearly increasing, price inflation is clearly increasing, jobs are on a light uptick and wages are frozen. The money is getting lost somewhere between the Fed, the banks, and businesses before it gets to the workers. I’m pretty sure the Fed is creating money OK. I am also pretty sure that its getting from the Fed to the regional banks. I am a little hazier on whether the banks are lending it and I’m at a loss as to what the companies that are borrowing are actually doing with the money other than the fact that they are not paying workers at anywhere near the same rate as the money is being created at the top of the chain. This is the source of the fissure I started this post with. If we can’t figure out where the money is going then it will only get wider as more and more Americans can’t afford the basics.
The scary fact about this is if I (who took my last Econ class when i was getting my MBA 10 years ago and haven’t thought about supply and demand, price elasticity or yields since then) can figure this out, then I would think that the people in charge of all of this could too. And they probably have access to better data to actually pinpoint where the system is failing. Which leads me to my final conclusion for this post, which similar something I heard said about aliens a few years ago: There are only two possible scenarios. Either the government knows that what they are doing isn’t working or they don’t…the implications of either are profound.