Doubling the Minimum Wage: Part of a Master Plan to Reinvigorate the Economy?

The Federal Reserve is now a zero-reserve system. The Fed announced the change on 15 March 2020:

In January 2019, the FOMC announced its intention to implement monetary policy in an ample reserves regime. Reserve requirements do not play a significant role in this operating framework. In light of the shift to an ample reserves regime, the Board has reduced reserve requirement ratios to zero percent effective on March 26...

 

On 24 April 2020 they took the next logical step, eliminating the "regulatory distinction" between savings and checking:

Federal Reserve Board announces interim final rule to delete the six-per-month limit on convenient transfers from the "savings deposit" definition in Regulation D

The regulatory limit in Regulation D was the basis for distinguishing between reservable "transaction accounts" and non-reservable "savings deposits." The Board's recent action reducing all reserve requirement ratios to zero has rendered this regulatory distinction unnecessary.

Observe the effect that the "interim final rule" had on M1 money:

Graph #1: M1 Money

Almost all of that massive increase occurred in just one month.

David Andolfatto and Joel Steinberg discussed the rise in M1 in the FRED Blog post of 11 January 2021. My summary:

Andolfatto and Steinberg say that the big increase in M1 is a result of banks opting to call the accounts "transaction" accounts. In other words, it's not an increase in the quantity of money. It's a change in the way money is counted. That makes sense: As they point out, there is no comparable big increase in M2 money (of which M1 is part).

This suggests that the rapid acceleration in M1 since May 2020 is mainly from money moving out of the non-M1 components of M2 into M1, rather than reflecting any acceleration in the demand for transaction balances.

This all makes sense.

(I did also say "But it's not like nothing happened." And, responding to their statement that "it’s not immediately clear what advantage there is from the bank’s perspective in relabeling savings accounts as transactions balances", I said But there must be an advantage: "the big increase in M1" is evidence of it.) But getting back to the point, now...

Jim points out that "M2 has grown more than M1 after covid" and shows this graph:

Graph #2:  M1 (blue) and M2 (red)

That's an interesting observation. It looks like the red line would be lower than the blue is now, if not for the unusual and concurrent increase in M2. But I can't tell from this graph how much of the M2 increase was caused by things other than the M1 increase.

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I just thought of another graph I can use to evaluate the sudden change in money.

As a reminder, before 24 April 2020, and even now I suppose, M1 was the part of M2 that is "readily accessible for spending". Over-simplified, M1 is the money we spend; M2 is M1 plus the money we save. (But good grief, Art, that's the old definition.)

M1 is part of M2. In the next graph I compare M1 to the other part of M2. I split M2 into two parts, and compare them. The graph shows that the changes in M1 are, in some measure, offset by changes in the rest of M2. 

Any changes in M1 that are *not* offset by changes in the other part of M2 will show up as changes in the total of the two parts: in M2.

The data frequency is monthly. Each month is shown as a dot on the plotted lines. We look at the most recent five years of data. The covid recession, which started 1 Feb 2020, is indicated by the pale yellow background. Here, the components of M2 Money: M1, and the rest of M2:

Graph #3: M1 Money (red) and the other part of M2 Money (blue)

Both lines run remarkably straight from 2016 to the start of recession in February 2020.  They both show gradual increase. We could add the red and blue together to see M2 Money; if we did, M2 would also run remarkably straight and show gradual increase before the recession; this increase would be the sum of the increases visible here in red and blue.

Both lines increase more rapidly than usual in March and again in April. Dunno why. (Maybe that was the Fed's initial reaction to the covid problem.) We could add these more rapid increases together and see that M2 also increased more rapidly in the two months after February 2020 than during the several years before that date.

The blue line peaks in April 2020 and drops dramatically in May. In May also, the red line, M1, shows dramatic increase. Here, the increase in M1 is largely offset by the fall in the other part of M2, as Andolfatto and Steinberg describe.

"Largely"?

M1 increased from $4799.1 billion in April 2020 to $16,268.1 billion in May, an increase of $11,469.0 billion, or nearly 11.5 trillion dollars.

The other part of M2 fell from $12,234.7 billion in April to $1615.1 billion in May, a drop of $10,619.6 billion or something over 10.5 trillion.

The difference, the increase in the M1 component less the decrease in the other component of M2, is something less than one trillion dollars (11,469 billion - 10,619.6 billion = 849.4 billion). That difference is the May 2020 increase in M2 that I was trying to see on Graph #2.

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I'm thinking that with the technology we have today, savings can be transferred almost instantaneously to checking. So the old plan designed to keep savings and checking separate doesn't really work any more. So, why shouldn't we count it all as M1?

Why? Because sometimes, like when the economy is "normal", an excess quantity of "funds that are readily accessible for spending" can cause inflation. During a war, for example, when the government is spending a lot on the war. And after the war, when people have a lot of money that they earned but didn't get to spend during the war. And, maybe, after the economic mess we've been in since 2008.

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One good thing might be said about the bizarre increase in the quantity of M1 money: It is causing debt-per-dollar to fall insanely fast:

Graph #4: Private Non-Financial Debt per Dollar of M1 Money

It's lower now than it was in 1960!

To be more precise, it was lower at the end of the third quarter of 2020 than in 1960. That's the most recent debt data that I found. This graph shows the Fed's early response to covid. Most of that sudden drop on the right is in the second quarter -- in May 2020, following the April 24 press release.

Debt per dollar of M1 money is down, way down. And you know, this is what I've been saying has to happen -- for decades I've been saying it. The only thing is, it's not going to do anything to improve the economy if the money isn't circulating as it would in a normal economy. You can't just issue press releases that cause money to move from one pocket to another in the same pair of pants, and expect the economy to get healthy as if by magic. It would be magic if that happened. It won't happen.

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Everything they've done avoids fixing the real problem: There is too much debt in the private sector. Debt-per-Dollar has been falling since 2008 because M1 is going up, not because debt is going down.

If you want a good economy, businesses need customers. Businesses need customers who are willing to spend, not customers with so much debt they don't want to borrow another dollar or, if they want to borrow, nobody wants to lend to them. These are not customers that make an economy great.

I thought the years of Quantitative Easing after 2007 was a lot of money printing. I was hopeful then. But I guess the money stayed with banks or mostly in finance or it led to asset inflation, and the rest of us never even got so much as a peek at that money. And ten years later, the economy was still growing at a flaccid two percent annual.

So eventually I learned that their best plans wouldn't work. But it looks like they didn't learn, because they're doing it again now with covid money -- and no reserve requirement.

I shouldn't forget, Andolfatto and Steinberg are probably right, it's not so much an increase in the quantity of money as it is a re-definition of money, so that money in savings now counts as "money readily accessible for spending". But that's not going to accomplish anything unless increased spending actually happens.

Rich people don't care if you say they can spend their savings. They put it in savings because they didn't need to spend it. So they won't be the people who bring the economy back to life.

At the other end of the spectrum, poor people don't have money in savings. You're not going to get us to spend it, because we don't have it. So we won't be the people who bring the economy back to life.

We're going to need some other kick to get this economy going again. Some other tweak to policy. And you know, maybe they do have a plan. Maybe the $15 minimum wage is part of that plan. As you know, $15 is double, slightly more than double what the minimum wage is now. If they go with that plan, and rising wages at the bottom rung lead to rising wages all up and down the ladder, then maybe people will have a little more money to spend and that's what it will take to bring life to this economy.

Think of doubling the minimum wage as a gambit that puts money where money will be spent. If successful, it creates the customers businesses need, customers with money. If successful, it boosts aggregate demand and leads to better economic growth.

Unfortunately it also looks like a plan to create inflation. To me, it's the wrong plan. I've been saying for years we need to reduce debt in the private sector. My standard of measurement is debt relative to the money we spend -- which, as you saw on Graph #4, has suddenly gone low. It looks like what we need. But they didn't do it by reducing debt in the private sector. They did it by fiddling with definitions of money. It's the most insane thing I've seen since Nixon was allowed to appoint his successor before resigning in disgrace.

So it looks like they are ready to have some inflation. They've got the quantity of money way up. They're talking about doubling wages, at least at the low end of the scale. And who knows what else they have up their sleeve... $1400 checks? Also, as more and more people get their vaccinations, more and more people will want to be splurging on vacations and other "social" activities that involve spending. So if we start to see inflation, I won't be at all surprised. 

Everything is in place, except policies to accelerate the repayment of private-sector debt.

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If it is true, as many people say, that the Fed held inflation down by holding wages down by raising interest rates early and often, then maybe they could do the same thing but with a different target: They can shoot for 5% inflation -- or whatever they think they need -- and go with the high target instead of the 2% target, but use the same strong "reaction function" that's been so effective in not letting inflation go above target. I dunno. It might work.

Why inflation? Because if inflation is pushing wages up, it's easier for people to pay down debt, and if we pay down debt fast enough we can reduce debt in the private sector, and if we do this long enough the economy will start to grow again. And when that finally happens, we can stop reducing our debt and start reducing the inflation target. 

But we will have to keep paying down debt fast enough that debt in the private sector stabilizes at the low level. That's the most important thing.

We still have to do all the stuff I always say about changing policy so it encourages people to pay down debt, instead of encouraging people to remain in debt as it does now. Of course, that's probably not a popular idea in the financial sector, or with banks or central banks, or with the millionaires in Congress. If you want to collect interest on your money, what you need is people in debt.

But we've got too much finance already, and too much financial cost creating cost-push pressure. And, because inflation has been disallowed for 40 years, the cost pressure created by finance has been causing economic growth to get gradually and persistently slower. It's a simple cost-push story, except that the villain is finance, not wages.