A tidy round-up in Global Finance magazine (free subscription here) on the "Shortage of dollars" hit my snail-mail box a couple of days ago.

The "credit crunch" by another name, the shortage began in earnest, as everyone knows, when free lunches were removed and Lehman went down. Serious dollar hoarding followed amongst banks and money market funds (a key source of dollar finance to non-US banks). BRIC countries are at it too as they look to rebuild dollar reserves dropping precipitously - October ’08 saw these fall by $140bn, a monthly record.

Though the article ignores the additional dollar-supportive role of deleveraging by non-US banks, in visual form - and taking last Spring as the starting point - it all adds up to something like this:

US Dollar index, weekly:

(Chart source, Marketclub)

Quite surprising for a currency whose central bank seems to be bent on printing money willy-nilly since its November $500bn purchase of Fannie Mae, Freddie Mac and Ginnie Mae mortgage backed securities (plus the additional liquidity programme of $100m). And there is the doubling (to over $600bn) of Federal Reserve swap lines to the European Central Bank (and others), mitigating the aforementioned money market hoarding, to bear in mind too.

This shift to a "creation of money’" policy in harness with the previous stand alone "price of money" stance is the crux of the deflation/inflation debate so much cyber and real ink is being spilt over. Toss in the financing form of the bigger-every-day Obama fiscal package - Treasury sale vs reserve creation by the Fed – and watch it run and run.

Then, yesterday as I confessed (without irony or basis) to coveting the credit for her post Ethics Exam, Cassandra Does Tokyo sent me this link to an excellent Econobrowser post and highlighted the comment below from Professor Perry Mehrling of Columbia University:

"It seems to me that what we are seeing is simply the balance sheet consequences of the Fed's decision to take the wholesale money market onto its own balance sheet…In this view, inflation seems much less likely. Why not? If the original wholesale money market borrowing and lending was not inflationary, then why should its substitute be inflationary? Indeed, the real question is whether the expansion of the Fed's balance sheet is keeping pace with the contraction of money market credit more generally. If not, then the consequence may be deflationary."

That elevates the discussion, I think, to one about the health and future structure of the wholesale money market. Is it a salvage and rebuild job? Or does it only need time to heal itself back to normal (at which point, ZIRP and money creation will be revealed as excessive and bite back)?

An era of salvage, reconstruction and enduring deflation is what is very clearly signposted currently - including the impact of today's ongoing policy responses. But, citing from a Bloomberg appearance by Bill Poole a few days ago, "shit happens".

Which is econ speak for "beware the lags".

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  1. Charles Butler // 1/16/2009 11:42:00 AM

    Hello Rawdon,

    It's hard to get a real bead on the ultimate effects of the Fed's actions because too much of the debate is in fact an argument over whether government intervention is, per se, good or bad - irrespective of the action circumstances, and even actual results themselves, that is.

    Hard pressed to say exactly how, but a reasonable suspicion would be that continuing to frame the discussion in late 19th century philosophical terms ignores a very changed international economic and political landscape. One can come up with lots examples of the transcendance of the family fight leaving once important cultures and nations outside the mainstream.

    Concur with prior comments on the incomparable economy of expression of CC, btw.


  2. RJH Adams // 1/16/2009 12:13:00 PM

    Hi Charles!

    Thanks. Course, you're dead right: it's all talking in the dark (or at least less than half-light).

    That said, and pragmatically speaking (don't think I could be called an ideolouge), I do believe politics with its cycle of precedent has consistently obliged/duped governments into economic actions which, though well-intentioned, have contributed generously to our presence at this pass (eg the Maestro 'saving' LTCM and subsequent interventions thereby encouraged). But I'm not Ayn Rand either.

    On the marginalisation of once great nations agree but can't think that big right now on an empty stomach. Not sure who'd pick up the crown either...seems everyone is getting taken down a few pegs these days - seen some of the stories coming out of China on bailouts and domestic demand?


    PS/Shouldn't you be fixing delivery prices with the olive mill or something about now?

  3. Charles Butler // 1/16/2009 01:21:00 PM

    Had no intention of getting into fall of civilizations and the like, either. But there are certain repeating patterns of structural difficulty producing ideological infighting rather than solutions.

    As for who picks up the crown - the solution to that will not be the one who thinks that selling more stuff to countries that are already saturated is the future. Those flush with cash might make the decision to fund the new rather than bail out the old, for example.

    Prices are fixed by others. In the meantime, having made my contribution to the local economy by delivering at what is promising to be a loss, I'm out dumpster diving.

  4. RJH Adams // 1/16/2009 02:23:00 PM

    Charles said:

    "Those flush with cash might make the decision to fund the new rather than bail out the old, for example."

    Bring on the entrepreneurs! Creative destruction etc etc!

    Commisserations on the crop pricing - time for vertical integration/creative destruction and a move into milling the stuff?


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