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Questions and Answers
What significant reversal occurred in the first quarter of 1985?
What significant reversal occurred in the first quarter of 1985?
- The inflation rate increased to 30%.
- Demand for gold and silver drastically declined.
- The Federal Reserve shifted to loose money measures.
- The economy fell at a four percent rate. (correct)
Why was the crisis of 1980 not reflected in the velocity statistics?
Why was the crisis of 1980 not reflected in the velocity statistics?
- The Federal Reserve introduced new measurement tactics.
- The crisis was short-lived. (correct)
- Velocity statistics were not collected during this period.
- It was a prolonged crisis.
What did the Federal Reserve do in response to the crisis during the 1980s?
What did the Federal Reserve do in response to the crisis during the 1980s?
- Issued more dollar notes to stabilize the currency.
- Increased liquidity in the market.
- Held historic emergency meetings to begin tight money measures. (correct)
- Adopted inflation-targeting policies.
What can be inferred about the 'inflation-indexed' bonds introduced in 1997?
What can be inferred about the 'inflation-indexed' bonds introduced in 1997?
What does a sharp increase in demand for 'inflation-indexed' bonds indicate?
What does a sharp increase in demand for 'inflation-indexed' bonds indicate?
What was a significant consequence of the lack of reliable indicators during a crisis according to the content?
What was a significant consequence of the lack of reliable indicators during a crisis according to the content?
What does the statement 'your family was one of the victims' imply regarding the economic context discussed?
What does the statement 'your family was one of the victims' imply regarding the economic context discussed?
What challenge does the Federal Reserve face regarding the demand for money?
What challenge does the Federal Reserve face regarding the demand for money?
What is the typical range for velocity calculations of the money supply in recent years?
What is the typical range for velocity calculations of the money supply in recent years?
How much can velocity calculations show variations in a given month?
How much can velocity calculations show variations in a given month?
Over what time span are velocity calculations considered to yield useful data?
Over what time span are velocity calculations considered to yield useful data?
What does a five percent increase in velocity signify?
What does a five percent increase in velocity signify?
What alternative measures does the Federal Reserve consider for measuring money supply?
What alternative measures does the Federal Reserve consider for measuring money supply?
What was the velocity change noted in the fourth quarter of 1984?
What was the velocity change noted in the fourth quarter of 1984?
What contributes to the unpredictability of money supply decisions by the Fed?
What contributes to the unpredictability of money supply decisions by the Fed?
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Study Notes
Velocity of Money
- The demand for money is difficult to measure accurately and impossible to forecast.
- Velocity of money calculation is used to determine the number of times an average dollar changes hands.
- Velocity calculations are highly volatile, with swings of plus or minus 5% and sometimes more.
- Velocity calculations provide a clear picture when averaged over a longer period like 5-10 years, but they show no short-term trends.
Federal Reserve's Dilemma
- The Federal Reserve has limited knowledge of the demand for money, making it difficult to determine the appropriate money supply.
- The Federal Reserve is left with making monetary policy decisions without understanding the underlying demand for money.
- Velocity is an unreliable indicator for short-term adjustments.
Effects of Inflation and Deflation
- Inflation leads to a flight from the dollar. Governments can print money to counter deflation but are limited in combating stage-three inflation, leading to a potential catastrophe.
- The recession is the only reliable indicator for the Federal Reserve to determine if inflation or deflation is under control.
1980 Crisis and Velocity
- The 1980 crisis was short-lived, and its impact was not reflected in the velocity statistics, even though bankers and metals dealers experienced a panicked shift from paper currencies to precious metals.
- The statistics failed to reflect the crisis indicating that velocity is not a reliable indicator of short-term events.
Inflation-Indexed Bonds
- In 1997, the US authorities introduced inflation-indexed bonds, which offer interest payments tied to the consumer price index (CPI).
- The government also issues non-indexed bonds with fixed interest rates.
- Tracking the difference in demand between inflation-indexed and non-indexed bonds is a new metric for assessing the demand for money.
- Increased demand for inflation-indexed bonds indicates falling demand for money and rising velocity, requiring the Federal Reserve to tighten the money supply and raise interest rates.
- This will likely slow the economy and deflate existing hot spots.
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