Bernanke's Tepid Testimony

by: James Picerno

Fed Chairman Bernanke's Senate testimony Wednesday offered little reason to expect that the central bank was about to embark on a bold, new plan of monetary stimulus to offset the recent signs that deflationary pressures were bubbling anew. As Bloomberg News reported, "the Fed chief devoted a bigger portion of his prepared testimony to how the Fed would eventually withdraw its unprecedented credit expansion."

Soft pedaling the deflationary risks and de-emphasizing what the Fed could do with additional monetary stimulus left several dismal scientists discouraged, including Scott Sumner and Paul Krugman, who wrote that the Fed head's commentary "lack all sense of urgency" about battling apparent increase in the D risk lately.

Meanwhile, the market's outlook for inflation continues to bounce around at the 1.7% level, based on the yield spread between the 10-year nominal and inflation-indexed Treasuries. That's down sharply from the 2.45% range of late-April and sign that the crowd sees the D risk as more than a trivial threat.

Indeed, the appetite for a safe haven continues to rise. The benchmark 10-year Treasury yield is now 2.90%, as of yesterday. It's been steadily falling from 4% in early April. For reasons that presumably need no explanation these days, a material jump in the demand for liquidity is a distinctly unhealthy sign at this late date, as it implies that the crowd's anxious about the economy.

One of the critical measures for deciding if the Fed is letting deflation build a new head of steam is the annual pace of change in the nation's money supply. Various gauges of the money stock were recently dropping at the steepest rates since the Great Depression, suggesting that the demons of contraction were overtaking Bernanke and company's efforts to keep the expansion going. The trend inspired our question last month: Is it time to crank up the printing presses…again?

The latest reading on money supply suggests that the aggregates are no longer in freefall. For instance, the currency stock of M1 money supply has recently stabilized at just under a 4% annual pace. That's down from the 10%-plus rate of a year ago, but it appears that M1's rate of change is moving sideways in positive territory. (Click to enlarge)

But the broadest measure of U.S. money supply (M2), while also treading water these days, is advancing at less than a 2% annual pace…

And the MZM definition of money (basically the liquid components of M2) is in outright retreat on an annual basis, as it has been since April…

Overall, the recent trend for the monetary aggregates is a mixed bag. For the moment, that's worrisome because the outlook for the economy isn't any better.

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