Interest Rate cuts (and other monetary policies) can’t fix a supply shock

by lolux123

It seems some of you degenerates are taking the expected interest rate cuts at face value.

I think it’s time for a lesson in Macroeconomics.

Now to start.

Of the four “tools” the FED uses to control the country’s economy, the federal funds rate seems to have the most tangible effect on the economy. In terms of the markets.

To summarize:

When interest rates go down, bank say “I have monee ”

Bank goes to fed and ask “how much it cost for monee?”

Fed say “a sprinkle under 1.75%”

Bank say “ok thx”

Borrower go to bank and ask “I have this much monee”

And then the bank loans an appropriate amount of money based on the fed funds benchmark rate and the collateral of the borrower. When rates are high borrowing goes down because the cost of money is expensive and the opposite happens when rates are down.

Now this is fine and dandy when the problem has to do with investment in the economy. It works well and GDP posts a positive outlook. However, since the current decline is a result of a virus that is literally shutting down the manufacturing center of the world, there will be more money circulating but there will be not enough raw materials or goods to spend it on. This along with the increase in the money supply in the United States creates what is known as cost-push inflation.

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Cost-push inflation is when the aggregate supply decreases this stints economic growth and causes consumer prices to rise. This is called a supply shock.

As firms try to meet stakeholder expectations, they may cut labor in the short-run (because you can’t be as productive with lower available inputs) and unemployment will increase. If this persists (which it likely will, the US economy is already overheated and far below the natural unemployment rate) It results in what is known as stagflation.

During a period of stagflation inflation is occurring at the same time as a decrease in buying power. Consumer spending falls off a cliff and stocks GO DOWN.

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And that’s not even the worst of it.

Since interest rates are already so low the USA will be entering uncharted waters by continuing to lower them.

Usually when the eventual rebound of a supply shock occurs the fed can lower the rates and kick start investment again, but if the rates have no where to go but 0 and it comes to that, there will be no incentive for banks to loan funds. AND THEN BOOOM GOES THE F*CKING DYNAMITE.

New research is conducted to prevent such a calamity from ever happening again, some policy is enacted, and the cycle begins anew. Then stocks GO UP. But as of right now, the market is f*cked.

 

 

Disclaimer: This information is only for educational purposes. Do not make any investment decisions based on the information in this article. Do you own due diligence.

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