et 20020901 monetary and financial markets pdf.pdf

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FRB Cleveland September 2002 5 Money and Financial Markets 3.8 4.5 5.2 5.9 10/97 10/98 10/99 10/00 10/01 10/02 0 3 6 9 12 Trillions of dollars M2 growth, 1997–2002 b 5% 1% 5% 1% 5% 1% 10% 5% 5% 1% THE M2 AGGREGATE 150 200 250 300 350 400 450 500 1990 1992 1994 1996 1998 2000 2002 CASH PRICE OF GOLD, HANDY AND HARMAN BASE c Dollars per troy ounce a. The estimated expected inflation rate and the estimated real rate are calculated using the Pennacchi model of inflation estimation and the median-forecast GDP implicit price deflator from the Survey of Professional Forecasters . Monthly data. b. Growth rates are calculated on a fourth-quarter over fourth-quarter basis. Data are seasonally adjusted. c. Wall Street Journal. SOURCES: Board of Governors of the Federal Reserve System, “Selected Interest Rates,” H.15; Bloomberg Financial Information Services; and Wall Street Journal. The Federal Open Market Commit- tee’s August 13 statement indicated that the balance of risks for the econ- omy tilted toward economic weak- ness, a change from its previous statement that economic weakness and inflation were evenly balanced. How do the financial markets view the current balance of risks? Put another way, do market participants see a 1.75% federal funds rate or an M2 growth rate of more than 5% as a sign of inflation? Over the long term, the answer seems to be no. One market mea- sure of expected inflation, the spread between yields on 10-year nominal Treasury bonds and 10-year Treasury inflation-indexed bonds, has fallen. In late May, the spread im- plied expected inflation exceeding 2%; it now implies values closer to 1.75%. In the short term, the
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