Thursday, March 15, 2007

. Andrew Balls. "What Has Changed, What Has Not Changed, and What We are Doing", PIMCO.

As Fed governor Randall S. Kroszner recently wrote, "the use of the term liquidity spans a wide variety of meanings". You only need to check out PIMCO's (magnificent) web site to understand this. Andrew Balls, for one, presents a couple of "money-based measures of global liquidity" (based on M2 and M3, that is). These measures can hardly be called "global" indicators. Remember 1998: domestic liquidity was increasing in the US, but only as a result of an explosive demand for money market funds (flight-to-quality buying).

Global dollarized liquidity, meanwhile, was on the verge of collapse ― as the Asian currency crisis forced other central banks to sell Treasuries. Eventually, the Fed eased. Had the FOMC based its forecast on M2 and M3 (as some monetarist members of the committee argued at that time), a full blown domestic banking crisis would have erupted. Memo to Mr. Balls: forget about M2 and M3 as meaningful global liquidity indicators.

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