FED and Money supply

Three research documents play an important role in the monetary policy process and the Federal Open Market Committee meetings. The national forecast for the next two years, generated by the Federal Reserve Board of Governors’ Research and Statistics Division, is placed between green covers and is thus known as the “Green book”. It is provided to all who attend the FOMC meeting.

The “blue book”, in the blue covers, also provided to all participants at the FOMC meeting, contains the projections for the monetary aggregates by the Monetary Affairs Division at the Board of Governors and typically presents three alternative scenarios for the stance of monetary policy (labeled A, B and C). The “Beige book”, with beige covers, is produced by the Reserve banks and details evidence gleaned either from surveys or from talks with key businesses and financial institutions on the state of the economy in each of the Federal Reserve districts.

This is the only one of the three books that is distributed publicly, and it often receives a lot of attention in the press. The figures 1 and 2 as well as table1 developed above shows us the movement of the money supply (M1) and M2 and their growth rates in a monthly bases from 2005-2006 and help us understand recent movements of the money supply. Information on how those movements in money supply are determined, can be derived from the money supply equation M=m*(MB+BR).

This equation suggests that the movement in the money supply that we can see in Table1and Figure1 is explained by either changes in MB+BR (the nonborrowed monetary base plus borrowed reserves) or by changes in m (the money multiplier). Over long periods, the primary determinant of movements in the money supply is the nonborrowed monetary base (MB), which is controlled by the Federal Reserve open market operations.

For shorter time periods, the link between the growth rates of MB and the money supply is not always close, primarily because the money multiplier (m) experiences short-run swings that have a major impact on the growth rate of the money supply. The Federal Open Market Committee (FOMC) consists of twelve members–the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining eleven Reserve Bank presidents, who serve one-year terms on a rotating basis. The FOMC holds eight regularly scheduled meetings per year.

At these meetings, the Committee reviews economic and financial conditions, determines the appropriate stance of monetary policy, and assesses the risks to its long-run goals of price stability and sustainable economic growth. As we can see from the above tables the last meeting of the FOMC was on December 14th of 2010 and the next scheduled meeting is on January 25-26 of 2011. By comparing the last two statements of the FOMC meetings (November and December 2010) we can see that there hasn’t been any significant change in the state of the economy.

Both statements say that the economic recovery is continuing but in a very slow rate that has been insufficient to decrease unemployment. Household spending is increasing in a moderate level due to the fact of high unemployment levels, low income growth, lower housing wealth and tight credit (all of these make people feel uncertain for the future and as a consequence they spend less). Business spending is rising but not as fast as in the beginning of the year. Housing sector continues to be depressed AND Inflation expectations remain stable.