St. Louis: Yes, Cheap Money Is Fueling Expensive Commodities

Current data does suggest that it is easy money policy driving commodities prices higher, but it’s only “suggestive,” according to St. Louis Fed vice president Daniel Thornton.

Thornton writes that the Fed’s chosen policy of keeping interest rates extremely low, and conducting quantitative easing, is making the market more liquid. The result may be that lending institutions are using that money to invest in commodities, rather than give out loans.

From Daniel Thornton:

Keeping the policy rate significantly and persistently below “long-run equilibrium rates” may inflate the prices of other assets as well. Economic agents with revenues in excess of expenditures can either lend or purchase real assets. With the real rate significantly below its equilibrium level, it is reasonable to assume that some investors might purchase real assets rather than lend at very low or negative real rates. One possibility is investors could purchase commodities—for example, industrial and precious metals or petroleum— rather than lend.

But while it may seem obvious to some that all this cash is funding a new asset bubble, Thornton is not ready to confirm that as fact.

From Daniel Thornton:

Of course, asset prices are global and the Fed is not the only central bank that has pursued an aggressively easy monetary policy. Moreover, the second chart is only suggestive. The dramatic increase in commodity prices since the early 2000s could be due to other factors independent of central banks’ interest rate policies. For example, the increased demand associated with a shift to commodities being assets in a port- folio should increase asset prices independent of Fed policy.

While there are plenty of other arguments out there for why commodity prices are rising (weather, demand) it’s is important to note the spread of this opinion throughout the Fed.

Note the ease of policy, and its relationship to rising commodity prices (and how that didn’t apply from 2007-2008).


Photo: St. Louis Fed

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