Monday, January 4, 2010
Wisconsin Real Estate Viewpoint Blog
Greg Mankiw's recent blog post on the exploding monetary base sparked some discussion among UW faculty. Morris Davis, assistant professor of Real Estate and Urban Land Economics, shares his thoughts:Historically there has been a fairly high rate of correlation of growth of trend m1 (which is not the same as growth in reserves), gM, and growth of trend in the consumer price level from NIPA, gP. The picture below shows the two series from 1959:1 – 2009:3. Trends are computed using the HP Filter. The overall correlation (59:1-09:3) is 68 percent and the correlation of the two series after 1985 is 88 percent.Based on this picture, it does not appear as if we’re in for a sudden spike in consumer prices.HOWEVER, the HP filter is discounting the recent growth in M1 we’ve had until we see more evidence that the new level of M1 is permanent. You can see this from the graph below that shows m1 and trend M1 from 2000:1 – 2009:3.That is, in a few years time, the HP Filter might redo its “trend” to take on board the growth in M1 we’ve had (the HP Filter is a 2-sided filter, meaning that new data can affect historical trend calculations).So I think we need to wait before we can be convinced any inflation is coming.Also, for what it is worth, I agree with this paragraph from Mankiw:"Does this mean that investors should stop worrying about inflation? No. Yet the worry should stem not from the monetary base but from the political economy and difficult tradeoffs facing monetary policymakers. As the economy recovers, interest rates will likely need to rise. Will the Bernanke Fed, feeling the political heat, get behind the curve and allow inflation to take off? Will it decide that a little bit of inflation is not so bad compared with the alternative of risking an anemic recovery, a double dip recession, or (gasp!) congressional action to reduce Fed independence? Maybe. This is, I think, the right way to argue that higher future inflation is a plausible outcome."