The nation's basic money supply rose $900 million in early August, the Federal Reserve Board reported Thursday, leaving the measure known as M1 substantially above the central bank's anti-inflation growth targets.
The rise in M1, the money supply measure that represents funds readily available for spending, was in line with expectations and had a negligible impact on interest rates in the bond market.
But financial economists said that, although the economy continues to show signs of sluggishness, excessive growth of M1 appears to be preventing the Fed from stimulating activity by cutting interest rates further.
The report "doesn't change the Fed's outlook one iota. The dilemma remains," said Maury Harris, chief economist at Paine Webber. "If M1 wasn't so blasted strong, the Fed would be dropping the discount rate."
The discount rate, currently 7.5%, is the interest on loans by the Fed to financial institutions.
The Fed said M1 rose to a seasonally adjusted $603.1 billion in the week ended Aug. 12 from a revised $602.2 billion in the previous week. Originally, the previous week's figure was estimated at $601.9 billion.
13.3% Annual Rate of Gain
The Fed, in an attempt to stimulate economic growth without reviving high rates of inflation, has said it would like to see M1 grow between 3% and 8% from the second quarter of this year through the fourth quarter.
But for the latest 13 weeks, M1 averaged $592.9 billion, a 13.3% seasonally adjusted annual rate of gain from the previous 13 weeks.
Donald Maude, chief economist at Refco Partners, said the Fed had to be concerned about losing credibility as an inflation fighter if it relaxed policy to accommodate lower interest rates and faster economic growth with M1 still expanding rapidly.
"It takes away flexibility from pursuing an easier policy," he said.
But Maude said he believed that the sharp rise in M1 is a result of more cautious money management by U.S. corporations and a shift in consumer investment practices. He said that, if such technical factors are keeping M1 growth high, then there is no threat of renewed higher inflation and little hope for accelerated economic growth that might otherwise be expected from such a robust money supply expansion.
He said that, since E. F. Hutton & Co. pleaded guilty in May to illegal banking activities, "a lot of corporate treasurers have been more cautious managing money."
Maude said it appears that corporations are taking money from maturing large certificates of deposit, which are not included in M1, and depositing the funds in non-interest-bearing checking accounts, which are in M1. M1 includes cash in circulation, deposits in checking accounts and non-bank travelers checks.
He also said that, as interest rates have fallen on popular consumer bank accounts, consumers have been opting to keep funds in more liquid checking accounts rather than renewing six-month certificates.
In other reports:
- The Federal Reserve Bank of New York reported that commercial and industrial loans at major New York City banks fell $153 million in the week ended Aug. 14, compared to a decline of $248 million a week earlier. It said that commercial paper--or short-term corporate IOUs--outstanding nationwide rose $4.3 billion in the latest week to reach a record $271.6 billion, following a rise of $1.4 billion in the previous week.
- The Fed said the federal funds rate, the interest rate on overnight loans between banks, averaged 8.06% in the week ended Wednesday, up from 7.88% in the previous week.
- The Fed said borrowings from the Federal Reserve System averaged $555 million in the week ended Wednesday, down from $617 million in the previous week. In the two-week period ended Aug. 14, borrowings from the Fed averaged $481 million, up from $411 million in the previous two weeks.
- The Fed estimated that free reserves in the nation's banking system averaged $286 million in the two-week period ended Aug. 14, against $538 million in the previous two weeks.
- The Federal Reserve Bank of St. Louis reported that the monetary base, the seasonally adjusted total of member bank reserves held at Federal Reserve banks and cash in bank vaults and in circulation, was $227.1 billion in the week ended Wednesday, down from $229.2 billion a week earlier.