| Is the Fed Really Running the Printing Presses? |
by John Jagerson Currently the phrase "printing presses" is thrown around a lot by financial writers referring to the Fed's monetary policy activities and the risks of inflation in the U.S. This phrase is misleading and does not accurately portray the risks and opportunities of investing during a period of rising inflation or rising inflationary expectations. We suspect that many writers are using the term "printing presses" as a euphemism for the Fed's quantitative easing program. This is a handy alliteration for writers who value sensationalism over education but it can be very confusing to many retail investors who believe the Fed is actually printing and distributing physical currency. Learn more about what quantitative easing is here. The money supply in the U.S. could be divided into two rough categories. There is physical currency including bills and coins that is sometimes referred to as a component of "M0." This category of money supply has been increasing over the last few years but not at a surprising rate. This is the kind of money that is printed and authorized by the U.S. Treasury and co-managed with the Federal Reserve system banks. The other kind of money supply consists of everything that is not physical currency. This long list of money includes checks, loans, money market deposit accounts and time deposits among other things. The bottom line is that the kind of money that actually comes off the printing presses is not really increasing at an unusually high rate. Financial writers and analysts are probably referring to the second kind of money supply (if they even understand the difference) when they say the Fed is "printing" too much, which has been increasing dramatically over the last year. The Fed has been increasing the second side of the money supply dramatically over 2008-2009. They have done this in a number of ways including an unprecedented quantitative easing strategy. This is a process, in which the Fed and its reserve system banks "create" money which will hopefully offset the risks of deflation. To learn more about the risks of deflation, click here. However, unlike actually printing money, the process of creating money through quantitative easing is reversible. Money can be destroyed by reversing the process used to create it. This is something the Fed could do with a great deal of efficiency if inflation appeared to be getting out of control. No one really knows the long term effects of a quantitative easing campaign or of a campaign to reverse quantitative easing on the money supply. However, that does not mean we can't prepare for investing in an inflationary environment. Short bonds, long yields, long gold and long TIPS positions are all reasonable investing strategies in an inflationary period. Click here to learn more about investing in yields. Click here to learn more about investing in gold. Click here to learn more about investing in TIPS. The reason it is important to understand the difference between actually printing physical money versus increasing the money supply through quantitative easing is that the risks of each activity are different. Not understanding the measures the Fed may take to reverse their strategy could leave investors overconfident and unprepared. Next: Investing in an inflationary environment. Keep up with us:
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3.25 Copyright (C) 2007 Alain Georgette / Copyright (C) 2006 Frantisek Hliva. All rights reserved." |
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