The Week in Review: January 27, 2020
Interest Rates and Today’s Long-Lasting Expansion
On Wednesday, the Fed will conclude its two-day meeting. It is widely expected that central bankers will keep the fed funds rate at 1.50 – 1.75%.
Economic growth has moderated versus a year ago, and interest rates are low and continue to underpin the economy.
One way we can determine whether or not interest rates are supportive or restrictive of economic growth is to compare the current fed funds rate with nominal GDP (Gross Domestic Product—the broadest measure of the value of economic output). Nominal GDP is actual GDP plus inflation.
The graphic below compares the quarterly average fed funds rate with the eight-quarter average of nominal GDP going back to 1960.
Normally, we see the red line (the fed funds rate) touch or surpass the blue line (8-quarter avg of nominal GDP) prior to or at the onset of a recession.
Note that during the 1981-82 recession, the Fed hiked interest rates to sky-high levels, pushing the economy into a steep downturn that was designed to snuff out inflation. A relatively restrictive policy (high interest rates) remained in place throughout the 1980s.
During the current economic expansion, monetary policy has been quite accommodative. Today, the fed funds rate remains well below nominal GDP.
Of course, a recession could be blamed on factors outside the Fed, or Fed policy could contribute to a recession.
But today monetary policy is not restricting growth, which has eased concerns that a near-term recession could interrupt the economic expansion that is in its 11th year.
Two for the Road
At the end of 2019, private equity firms- which also includes venture capital, had a total of $1.45 trillion sitting in cash. - Dailyalts, January 7, 2020
The U.S. foreign trade gap narrowed by 8.2% in November of 2019 to the lowest deficit in three years. The deficit with China fell to $357 billion, down from $419 billion a year ago. - WSJ, January 17, 2020
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