Recession fears and money supply growth

In his letter (July 14) in response to our editorial “The Fed Ignored the Money Supply and a Recession Is Coming” (July 8), Professor Robert Stauffer argues that we “must recognize that the current slowdown in M2 growth is very different from the restrictive Federal Reserve policies of the past. We recognize various mechanisms for reducing M2 growth, such as weaker loan growth, reduced purchases of securities by banks and disposals of maturing securities by the Fed. But empirical research from many countries and times shows that what matters for real GDP and inflation is the growth rate of broad money, not how it is achieved.

Stauffer says quantitative tightening will only make a small dent in reserve accumulation, “but it won’t have a significant effect on the availability of loanable funds from the banking system.” Under this regime, the only way to control short-term interest rates is for the Fed to pay interest on excess reserves to set a floor on the federal funds rate. This is only true if the objective of monetary policy is to keep all money market rates within the range chosen by the Fed for the federal funds rate and ignore the consequences for other objectives, such as the money supply growth rate.

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