Is U.S. Monetary Policy Creating an Inflationary Environment?

1. A monthly report produced for Commerce Real Estate Solutions by Stephen P. A. Brown, PhD, Center for Business & Economic Research University of Nevada, Las Vegas
Issue 17 May 2012
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Is U.S. Monetary Policy Creating
an Inflationary Environment?
With the U.S. economy still performing poorly, U.S. monetary policy remains quite easy. Because
expected inflation is greater than short-term interest rates, real short-term interest rates are negative.
In addition, the Federal Open Market Committee (FOMC) announced on Wednesday, June 20
that it will take steps to further reduce long-term interest rates by selling some of the shorter-
term government bonds it holds and using the proceeds to buy longer-term government bonds.
Is conduct of monetary policy creating an environment in which we should worry about inflation?
Evidence of Monetary Ease inflationary environment. In the first four years after
The most convincing evidence of monetary ease is real U.S. monetary policy took real short-term interest rates
short-term interest rates—that is, interest rates on negative, the price of gold rose by 121 percent, which
short-term treasury bills minus expected inflation. In provides a strong indication of inflationary fears. After
late 2007, the FOMC began targeting interest rates reaching a high in November 2011, however, gold
below expected inflation, and that action has yielded prices have slipped by 11 percent, perhaps because the
negative real interest rates for nearly five years. feared inflation had not been realized or the dollar
began strengthening.
To maintain these exceedingly low real interest rates,
the Federal Reserve System (Fed) greatly boosted U.S. inflation has been relatively subdued. As measured
monetary liquidity. Since late 2007, the U.S. monetary by the consumer price index (CPI), inflation has
base has grown at a 28.3 percent annual rate.1 The been fairly volatile over the past five years, but it has
biggest gains occurred in 2008 and 2009, when averaged about 2.0 percent. Much of the volatility in
annualized growth rates in the monetary base were the CPI owes to fluctuations in food and energy prices.
around 100 percent. Excluding food and energy prices from the index yields
a much less volatile series known as “core CPI.” Core
Gold Prices Suggests Possible Inflation; CPI shows inflation has averaged 1.8 percent over the
Actual Inflation Remains Subdued
Gold prices typically rise in an inflationary environment
or from fears that monetary policy is creating an This report is commissioned by
Commerce Real Estate Solutions
info@comre.com • 801-322-2000
1 The monetary base is a relatively narrow measure of
money. It includes cash and reserve accounts that commercial
banks hold at the Fed.

2. nevada’s Economy May 2012
past five years. By the historical standards set over the rate of more than 6 percent since late 2007. In fact,
past 40 years, these inflation rates are quite low. the velocity of money—which measures the amount
Why Not Much Inflation? of economic activity supported by a given quantity of
money—has dropped considerably over the past five
Several different reasons have been offered for monetary years.
ease not generating much inflation. One reason offered
for lack of inflation is that the broader monetary The drop in velocity suggests a different explanation
aggregates—such as M2—have not grown nearly as for relatively mild inflation—the considerable excess
fast as the monetary base.2 Another reason offered for capacity in the economy. At 8.2 percent, the U.S.
the lack of inflation is the considerable excess capacity unemployment rate is much higher than the 5.6 percent
in the economy. Both of these developments are the rate the Congressional Budget Office (CBO) estimates
result of the financial crisis that created the most recent as the natural rate of unemployment. Similarly, the
recession. first quarter 2012 reading of U.S. GDP was 5.5 percent
below potential. With such excess capacity in the
Examining M2, we do find that it has grown much more economy, competition keeps prices from rising, and
slowly than the monetary base since late 2007, with inflationary pressure remains subdued.
the former showing an annualized growth rate of only
6.6 percent. As the Fed The Inflation Outlook
The drop in velocity pushed more liquidity These findings suggest that current monetary ease
suggests a different into the economy is unlikely to generate much inflationary pressure in
explanation for through the monetary the near future. Inflation is likely to remain subdued
base, it found weaker as long as the U.S. economy has considerable excess
relatively mild inflation— growth in the broader capacity. As the economy nears full capacity and the
the considerable monetary aggregates. relationship between money and the economy tightens,
excess capacity in the Because commercial the Fed must be prepared to act quickly to remove any
economy. banks have not been excess liquidity. Otherwise, the liquidity will quickly
lending very much, they turn into inflationary pressure.
have not turned all of the additional liquidity provided
by the Fed into equally strong growth of M2.
Nonetheless, the growth rate of M2 since late 2007 is
consistent with a considerably higher inflation rate than
we have actually seen. Given the annualized growth
rate of real GDP has been only 0.3 percent since late
2007, we might have expected an annualized inflation
2 M2 includes the monetary base plus checking and
savings accounts.
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3. Is U.S. Monetary Policy Creating
an Inflationary Environment?
Nevada Economic Conditions
U.S. economic growth slowed substantially in first by 600 jobs (0.1 percent) from March to April. The
quarter 2012. Consumer spending remained fairly Nevada unemployment rate decreased from 12.0
strong, and investment expenditures made positive percent in March to 11.7 percent in April as the result
contributions, but government spending and net of reduced labor force participation. Visitor volume
exports made negative contributions. Nevada’s was 1.2 percent lower in April than a year earlier.
tourism and gaming industries continue to drive the Nonetheless, gaming revenue was 6.2 percent higher in
state’s economic recovery. Nevada’s construction April than a year earlier—mostly as a result of baccarat
sector remains mired at relatively low levels. Rising and slot play. Taxable sales were 7.2 percent higher in
employment and reduced labor force participation March than a year earlier, Table 2.
meant a lower statewide unemployment rate in April. Signs of Slowing Economic Growth in Clark County
U.S. Economy Continues to Show Slowing Growth Clark County’s economy also shows signs of slowing.
The U.S. economy continues to show signs of slowing Seasonally adjusted, the region’s employment fell
growth. Revised data show U.S. real GDP grew at by 600 jobs (0.1 percent) from March to April. The
an annualized rate of 1.9 percent during first quarter Las Vegas unemployment rate fell from 12.6 percent
2012, which represents a substantial slowing from in March to 12.4 percent in April. Compared to a
the fourth-quarter rate of 3.0 percent. Consumer year earlier, visitor volume was down by 1.2 percent in
spending drove most of the gains. Business fixed April. Nonetheless, gaming revenue was 8.9 percent
investment, residential investment and inventories also higher in April than a year earlier—mostly as a result
made positive contributions. Government spending of baccarat and slot play. Taxable sales for March
and net exports made negative contributions. U.S. were only 1.9 percent above those for a year earlier.
nonfarm employment rose by only 69,000 jobs in Residential construction permits slipped in April after
May, marking the weakest gain since May 2011. The rising sharply in March. Commercial construction
unemployment rate ticked up to 8.2 percent in May, permits dropped to a very low level, Table 3.
as labor force participation rose by more than new Slowing Economic Growth in Washoe County
employment opportunities. More favorably, housing
prices stabilized, and sales of both new and existing Washoe County also shows slowing economic growth.
homes rose in April. Consumer sentiment increased Seasonally adjusted, Reno-Sparks employment fell by
slightly in May, but consumer confidence slipped. Story continues after graphs
Personal consumption expenditures increased for the
tenth straight month in April, but retail slipped in
May for the second straight month. The Kansas City
Financial Stress Index rose to just about its long-run
average in May, which suggests financial headwinds
are not impeding economic growth. The quantity of
commercial paper outstanding remains low, which
means relatively little external financing is being used
to support business investment, Table 1.
Some Evidence of Slowing Economic Growth in
Nevada
The Nevada economy shows some evidence of slowing.
Seasonally adjusted, statewide employment decreased
Issue 17 | ©Copyright 2012 - All Rights Reserved

4. nevada’s Economy May 2012
U.S. Date Units Current Previous Change Year Ago Change
Table 1
Employment 2012M05 million, SA 133.009 132.940 0.1% 131.227 1.4%
Unemployment Rate* 2012M05 %, SA 8.2 8.1 0.1% 9.0 -0.8%
Consumer Price Index 2012M04 82-84=100, SA 229.2 229.1 0.0% 224.0 2.3%
Core CPI 2012M04 82-84=100, SA 229.0 228.4 0.2% 223.8 2.3%
Employment Cost Index 2012Q1 89.06=100, SA 115.3 114.7 0.5% 113.2 1.9%
Productivity Index 2012Q1 2005=100, SA 110.5 110.7 -0.2% 110.1 0.4%
Retail Sales 2012M05 $billion, SA 404.6 405.3 -0.2% 384.2 5.3%
Auto and Truck Sales 2012M05 million, SA 13.73 14.37 -4.5% 11.69 17.4%
Housing Starts 2012M04 million, SA 0.717 0.699 2.6% 0.552 29.9%
Real GDP*** 2012Q1 2005$billion, SA 13,491.0 13,429.0 1.9% 13,227.9 2.0%
U.S. Dollar 2012M05 97.01=100 100.724 99.027 1.7% 95.307 5.7%
Trade Balance 2012M04 $billion, SA -50.062 -52.617 -4.9% -43.556 14.9%
S and P 500 2012M05 monthly close 1,310.33 1,397.91 -6.3% 1,345.20 -2.6%
Real Short-term Rates* 2012M04 %, NSA -3.12 -3.82 0.7% -4.54 1.4%
Treasury Yield Spread* 2012M05 %, NSA 1.71 1.97 -0.3% 3.13 -1.4%
Nevada Date Units Current Previous Change Year Ago Change
Table 2
Employment 2012M04 000s, SA 1,128.6 1,129.2 -0.1% 1,123.2 0.5%
Unemployment Rate* 2012M04 %, SA 11.7 12.0 -0.3% 13.6 -1.9%
Taxable Sales 2012M03 $billion 3.910 3.223 21.3% 3.649 7.2%
Gaming Revenue 2012M04 $million 855.71 854.59 0.1% 806.05 6.2%
Passengers 2012M04 million persons 3.881 4.000 -3.0% 3.827 1.4%
Gasoline Sales 2012M03 million gallons 90.40 83.72 8.0% 91.47 -1.2%
Visitor Volume 2012M04 million persons 4.160 4.377 -5.0% 4.212 -1.2%
Clark County Date Units Current Previous Change Year Ago Change
Table 3
Employment 2012M04 000s, SA 809.5 810.1 -0.1% 807.7 0.2%
Unemployment Rate* 2012M04 %, SA 12.4 12.6 -0.2% 14.1 -1.7%
Taxable Sales 2012M03 $billion 2.791 2.416 15.5% 2.738 1.9%
Gaming Revenue 2012M04 $million 743.67 733.49 1.4% 682.95 8.9%
Residential Permits 2012M04 units permitted 612 841 -27.2% 375 63.2%
Commercial Permits 2012M04 permits 5 23 -78.3% 16 -68.8%
Passengers 2012M04 million persons 3.554 3.655 -2.7% 3.462 2.7%
Gasoline Sales 2012M03 million gallons 62.72 57.89 8.4% 63.14 -0.7%
Visitor Volume 2012M04 million persons 3.609 3.836 -5.9% 3.654 -1.2%
Washoe County Date Units Current Previous Change Year Ago Change
Table 4
Employment** 2012M04 000s, SA 188.9 190.2 -0.7% 189.6 -0.4%
Unemployment Rate* 2012M04 %, SA 11.5 11.7 -0.2% 13.1 -1.6%
Taxable Sales 2012M03 $billion 0.466 0.398 17.1% 0.452 3.0%
Gaming Revenue 2012M04 $million 54.20 61.43 -11.8% 64.11 -15.5%
Residential Permits 2012M04 units permitted 82 42 95.2% 38 115.8%
Commercial Permits 2012M04 permits 5 9 -44.4% 13 -61.5%
Passengers 2012M04 million persons 0.276 0.293 -5.8% 0.296 -6.6%
Gasoline Sales 2012M03 million gallons 13.50 13.10 3.0% 13.44 0.5%
Visitor Volume 2012M04 million persons 0.353 0.333 6.1% 0.357 -1.2%
*Growth data represents change in percentage rate
**Reflects the Reno-Sparks MSA which includes Washoe and Storey Counties
***Recent growth is an annualized rate
Sources: Nevada Department of Taxation; Nevada Department of Employment, Training, and Rehabilitation; UNR Bureau of Business and Economic
Research; UNLV Center for Business and Economic Research; McCarran International Airport; Reno/Tahoe International Airport; Las Vegas
Convention and Visitors Authority; Reno-Sparks Convention and Visitors Authority; U.S. Department of Commerce; U.S. Bureau of Labor Statistics;
U.S. Census Bureau; U.S. Federal Reserve Bank.
Note: NSA = Not Seasonally Adjusted, SA = Seasonally Adjusted
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5. Nevada Economic Conditions
1,300 jobs (0.7 percent) from March to April. The
Reno-Sparks unemployment rate fell from 11.7 percent
in March to 11.5 in April. Compared to a year earlier,
April visitor volume was down by 1.2 percent. Gaming
revenues were down by 15.5 percent over the same
period. Residential construction permits rose sharply
in April, and commercial construction permits fell to
extremely low levels, Table 4.
Nevada Economic Outlook in Brief
The pace of national economic growth slipped
during first quarter, and a number of signs—such
as employment and the pace of spending—point to
relatively weak economic growth in second quarter.
The most recent data suggest slowing in Nevada’s
tourism and hospitality sectors—both in Southern
Nevada and Washoe County. Employment gains are
proving to be elusive in most areas of the state.
Issue 17 | ©Copyright 2012 - All Rights Reserved

6. This information is provided compliments of
Michael M. Lawson
President and CEO of Commerce Real Estate Solutions
Commerce Real Estate Solutions
Mike Hillis, SIOR, CCIM 3980 Howard Hughes Parkway, Suite 100
Las Vegas, NV 89169
Principal, Las Vegas office
Tel (702) 796-7900 • Fax (702) 796-7920
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