MonetaryTrends February Does Stock Market Volatility Forecast Returns? When stock market risk, or volatility, increases, risk-averse investors tend to reduce their holding of equities relative to safe assets such as Treasury bills. Thus, to induce investors to hold a broadly measured stock market index, the expected excess stock market return the difference between the return on the stock market index and a risk-free rate has to rise. Such a positive relation between stock market volatility and returns is an important prediction of the widely accepted capital asset pricing model. The level of volatility tends to persist over time, and, hence, we expect that past volatility should provide some indication of future stock market returns. Several studies, however, have found that volatility, by itself, explains little of the variation of stock market returns. We replicate this result in the accompanying table. Quarterly realized volatility is measured by the sum of the squared daily stock market returns in a quarter. We regress quarterly excess returns, measured by the difference between the return on the Standard & Poor s index and the yield on threemonth Treasury bills, on this measure of volatility. Row 1 shows that the adjusted R from this regression is.1, indicating that volatility accounts for only about 1 percent of the variation of the one-quarter-ahead excess stock market return. The weak estimated relationship between stock market volatility and returns may reflect the fact that other factors also affect stock prices. For example, Guo () shows that, in addition to the risk premium, a liquidity premium is also an important component of excess stock market returns. 1 Intuitively, if investors have excess liquidity, they might be willing to hold stocks when expected return is low, even though expected volatility is high. However, the theory still stipulates a positive relation between stock market volatility and returns after taking into account the liquidity premium. Although the liquidity premium is not directly observable in data, the consumption-to-wealth ratio is a suitable proxy for it. Row shows that the one-quarter-lagged consumption-to-wealth ratio has predictive power for excess stock market returns. Moreover, when this proxy for liquidity is included in the regression, we find that past volatility explains a significant portion of excess stock returns (row ). Thus, theory and empirical evidence both indicate that stock market returns increase when volatility rises. Hui Guo 1 Guo, Hui. Limited Stock Market Participation and Asset Prices in a Dynamic Economy. Working Paper -1B,, January. This corroborates the finding in Lettau and Ludvigson: Consumption, Aggregate Wealth, and Expected Stock Returns. Journal of Finance, June 1, (), pp. 1-9. Forecasting Excess Stock Market Returns: Regression Coefficient Estimates Consumptionto-wealth Intercept Volatility ratio Adjusted R 1.9.7.1. 1.9.9 1.1.71.1.1 NOTE: The sample spans 19:Q to :Q. The p value for volatility is. percent in row 1 and is less than 1. percent in row. Views expressed do not necessarily reflect official positions of the Federal Reserve System. Available on the web at research.stlouisfed.org
Contents Page Monetary and Financial Indicators at a Glance Monetary Aggregates and Their Components Monetary Aggregates: Monthly Growth 7 Reserves Markets and Short-Term Credit Flows Measures of Expected Inflation 9 Interest Rates 1 Policy-Based Inflation Indicators 11 Implied Forward Rates, Futures Contracts, and Inflation-Protected Securities 1 Velocity, Gross Domestic Product, and M 1 Bank Credit 1 Stock Market Index and Foreign Inflation and Interest Rates 1 Reference Tables 1 Definitions, Notes, and Sources Conventions used in this publication: 1. Unless otherwise indicated, data are monthly.. Except where otherwise noted, solid shading indicates recessions, as determined by the National Bureau of Economic Research. The NBER has not yet determined the end of the recession that began in March 1; however, the hatched shading indicates this recession ended in November 1, as determined by a statistical model for dating business cycle turning points developed by Marcelle Chauvet ( An Econometric Characterization of Business Cycle Dynamics with Factor Structure and Regime Switching, International Economic Review, November 199, pp. 99-9) and discussed by Marcelle Chauvet and Jeremy Piger ( Identifying Business Cycle Turning Points in Real Time, Federal Reserve Bank of St. Louis Review, March/April, pp. 7-).. change at an annual rate is the simple, not compounded, monthly percent change multiplied by 1. For example, using consecutive months, the percent change at an annual rate in x between month t 1 and the current month t is: [(x t /x t 1 ) 1] 1. Note that this differs from National Economic Trends. In that publication, monthly percent changes are compounded and expressed as annual growth rates.. The percent change from year ago refers to the percent change from the same period in the previous year. For example, the percent change from year ago in x between month t 1 and the current month t is: [(x t /x t 1 ) 1] 1. We welcome your comments addressed to: Editor, Monetary Trends P.O. Box St. Louis, MO 1- Effective January 9,, the Board of Governors of the Federal Reserve System established primary and secondary credit programs, which replace adjustment and extended credit programs. Beginning this issue, the primary credit rate is reported on pages and 9. For further information, please refer to <http://www.frbdiscountwindow.org/>. or to: stlsfred@stls.frb.org Monetary Trends is published monthly by the of the. Single-copy subscriptions are available free of charge by writing to the Public Affairs Department,, P.O. Box, St. Louis, MO 1- or by calling (1) -9. Subscription forms may also be completed online at research.stlouisfed.org/order/pubform.php. For more information on data in this publication, please visit research.stlouisfed.org/fred or call (1) -9. The entire publication is also available on the Internet at research.stlouisfed.org/publications/mt.
updated through /1/ Monetary Trends M and MZM Billions of dollars 1 9 1 9 1 9 M MZM Reserve Market Rates 7. 1 1 1 1.......... 1. 1.. Discount Rate Effective Federal Funds Rate Intended Federal Funds Rate Primary Credit Rate Adjusted Monetary Base change at an annual rate 1-1 - Treasury Yield Curve. Week Ending:. /1/ 1/17/. /1/...... 1. - 1 1 1. m 1y y y y 7y 1y Total Bank Credit change at an annual rate 1 Interest Rates Nov Dec Jan Federal Funds Rate 1. 1. 1. Discount Rate..7. Prime Rate... Conventional Mortgage Rate.7..9... Treasury Yields Yields:... -Month Constant Maturity 1. 1.1 1.19 -Month Constant Maturity 1. 1.7 1. 1-Year Constant Maturity 1.9 1. 1. -Year Constant Maturity...1 -Year Constant Maturity... 1-Year Constant Maturity... -1 1 1
Monetary Trends updated through /1/ MZM and M1 1 1 MZM M1 - -1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 M 1 1-7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 M 1 1-7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Monetary Services Index - M 1 1-7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1
updated through /1/ Monetary Trends Adjusted Monetary Base 1 1-7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Domestic Nonfinancial Debt 1 1 Total Currency Held by the Nonbank Public 1 1 - Federal -1 199 199 1997 199 1999 1 1 199 199 1997 199 1999 1 1 Time Deposits Checkable and Savings Deposits Large Denomination 1 1 1 1 Savings Small Denomination - - -1-1 Checkable -1-1 1 1 1 1 Money Market Mutual Fund Shares Repurchase Agreements and Eurodollars Billions of dollars Billions of dollars Institutional Funds Repos (left) 1 1 Retail Funds Eurodollars (right) - -1 1 1 1 1 1
Monetary Trends updated through /1/ M1 change at an annual rate - - - 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 MZM change at an annual rate 1-1 - 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 M change at an annual rate 1-1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 M change at an annual rate 1-1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1
updated through /1/ Monetary Trends Adjusted and Required Reserves Billions of dollars 1 Adjusted Required 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Total Borrowings, nsa Excess Reserves plus RCB Contracts Billions of dollars Billions of dollars.... 1 1. 1. 1.. 199 1997 199 1999 1 199 1997 199 1999 1 199 1997 199 1999 1 199 1997 199 1999 1 Nonfinancial Commercial Paper - - 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Consumer Credit 1 1 - -1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 7
Monetary Trends updated through // Inflation and Inflation Expectations 1 Federal Reserve Bank of Philadelphia Humphrey-Hawkins CPI Inflation Range University of Michigan CPI Inflation 7 9 9 91 9 9 9 9 9 97 9 99 1 The shaded region shows the Humphrey-Hawkins CPI inflation range. Beginning in January, the Humphrey-Hawkins inflation range was reported using the PCE price index and therefore is not shown on this graph. See notes on page 19. Treasury Security Yield Spreads Yield to maturity 1-Year less -Month 1-Year less -Year -Year less -Month - 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Real Interest Rates, Real rate = Nominal rate less CPI inflation 1-Year Treasury Yield Federal Funds Rate - 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1
updated through // Monetary Trends Short-Term Interest Rates 1 9-Day Commercial Paper 1 1 Prime Rate -Month Treasury Yield 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Long-Term Interest Rates 1 Conventional Mortgage 11 9 7 Corporate Aaa 1-Year Treasury Yield 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Long-Term Interest Rates 9 7 Corporate Baa 1-Year Treasury Yield Short-Term Interest Rates 1 1 1 1 9 7 1 9-Day Commercial Paper -Month Treasury Yield FOMC Intended Federal Funds Rate, Discount Rate, and Primary Credit Rate 1 1 Intended Federal Funds Rate Discount Rate Primary Credit Rate 7 9 9 91 9 9 9 9 9 97 9 99 1 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 9
Monetary Trends updated through 1// Federal Funds Rate and Inflation Targets 1 % % % 1% % Target Inflation Rates 9 Actual 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 Calculated federal funds rate is based on Taylor s rule. See notes on page 19. Actual and Potential Real GDP Billions of chain-weighted 199 dollars 1 9 9 7 7 Actual Components of Taylor s Rule Potential PCE Inflation and Projections 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 The shaded region shows the range of projections published in the Monetary Policy Report to Congress. 1 Monetary Base Growth* and Inflation Targets 1 Actual 9 % 1% % % % Target Inflation Rates 199 199 199 199 1997 199 1999 1 9 9 9 9 97 9 99 1 *Modified for the effects of sweeps programs on reserve demand. Calculated base growth is based on McCallum s rule. Actual base growth is percent change from year ago. See notes on page 19. Monetary Base Velocity Growth - 1-Year Moving Average -Year Moving Average Components of McCallum s Rule Real Output Growth 1-Year Moving Average 1-Year Moving Average - - 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 9 9 9 9 97 9 99 1 9 9 9 9 97 9 99 1 1
updated through /1/ Monetary Trends Implied One-Year Forward Rates Week Ending: // 1/1/ /7/ Rates on -Month Eurodollar Futures, daily data 1. Apr 1. Feb 1. Mar y y y 7y 1y 1. 1/9 1/1 1/ 1/ 1/ 1/1 1/ 1/7 / /1 Rates on Selected Fed Funds Futures Contracts, daily data 1. 1. Mar Feb Implied Yields on Fed Funds Futures 1. 1// 1// 1. 1.1 Apr 1/9 1/1 1/ 1/ 1/ 1/1 1/ 1/7 / /1 1.1 /7/ Feb Mar Apr May Jun Jul Inflation-Protected Treasury Yields Inflation-Protected Treasury Yield Spreads, weekly data, weekly data... -Year. -Year.. 1-Year 1-Year 1. 1. 1999 1 1999 1 1999 1 1999 1 Inflation-Indexed -Year Bonds, weekly data Inflation-Indexed 1-Year Bonds, weekly data U.S. Canada U.S. U.K. U.K. 1 1 1999 1 1999 1 1 11 197 11 17 171 1 11 197 11 17 171 11
Monetary Trends updated through 1// MZM Velocity and Opportunity Cost Velocity = Nominal GDP / MZM. Opportunity cost 1... Velocity 7... 1. Opportunity Cost (-mo T-bill rate less MZM own rate) 7 9 9 91 9 9 9 9 9 97 9 99 1.. M Velocity and Opportunity Cost Velocity = Nominal GDP / M.. 1.7 Velocity Opportunity Cost (-yr T-bond rate less M own rate) Opportunity cost 1. 7.. 1. 1. Opportunity Cost (-mo T-bill rate less M own rate) 7 9 9 91 9 9 9 9 9 97 9 99 1.. M, MZM, and Nominal GDP Billions of dollars 1 1 Nominal GDP M MZM 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Interest Rates 1 1 -yr Bond -mo Bill M Own MZM Own 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 1
updated through 1// Monetary Trends Gross Domestic Product 1 1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Dashed lines indicate 1-year moving averages. Real Gross Domestic Product 1 1-7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Dashed lines indicate 1-year moving averages. Gross Domestic Product Price Index 1 1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Dashed lines indicate 1-year moving averages. M 1 1 7 9 9 91 9 9 9 9 9 97 9 99 1 19 19 197 19 199 199 1991 199 199 199 199 199 1997 199 1999 1 Dashed lines indicate 1-year moving averages. 1
Monetary Trends updated through 1/1/ Bank Credit 1 1 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 Investment Securities in Bank Credit at Commercial Banks 1 1-199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 Total Loans and Leases in Bank Credit at Commercial Banks 1 1-199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 Commercial and Industrial Loans at Commercial Banks 1 1 - -1 199 199 199 199 1997 199 1999 1 199 199 199 199 1997 199 1999 1 1
updated through // Monetary Trends Standard & Poor s 1 1 1 1 Price/Earnings Ratio (right) 1 Composite Index (left) 1 7 9 9 91 9 9 9 9 9 97 9 99 1 Recent Inflation and Long-Term Interest Rates United States Canada France Germany Italy Japan United Kingdom Consumer Price Inflation Rates Long-Term Government Bond Rates Q1 Q Q Q Sep Oct Nov Dec 1. 1. 1...7.9.. 1. 1.....7...1 1. 1.7..9.1.. 1.9 1.1 1.......1.7.1.77..7.7. -1. -.9 -.. 1.1.97.. 1.1 1. 1...9.1.. Inflation and Long-Term Interest Rate Differentials Canada Canada U.K. Germany Germany Japan U.K. - - Inflation differential = Foreign inflation less U.S. inflation Japan Long-term rate differential = Foreign rate less U.S. rate - - 1999 1 1999 1 1 11 197 11 17 1 11 197 11 17 1
Monetary Trends updated through /1/ Money Stock M1 MZM M M Bank Credit Adjusted Monetary Base Reserves MSI M 199. 1.1 77.7.9 77.1 9.7.9 7. 1. 1999. 111. 17.. 7. 7. 7. 7. 7.. 11.. 79.7.9 7.7 9.1.19 7.7 1. 117.1 1.991 1.119 71...7.9 9.1. 1191. 9. 19.91.1. 7. 7.77 19. 1 111. 7.7 9.9.1.79 9.1 7.9.7. 117.9.9 77.91 79. 99.. 7.97 7.. 11. 9.7. 919. 1. 9.. 7.. 19..17 9.9 7.1 19. 9. 7.11 7. 1 1 11. 1.7.9 7.79 7.99..77.1. 111.7 1.197 1.7 7.71. 1.99. 9.7. 11.9.7 7.777 771.9 7..771 7... 117.91.7 99. 79.9..9 7.9.9 1 11. 719. 9.1.979.. 7.97 11.. 11.77 1..9 1. 9. 7.11 9.1 1.97. 119. 9. 7. 1.7..7 9.77.1. 1. 7. 77..99 7.7 9. 71.7.9 1 Jan 19.9 7.17 91.1 719.9 7.1..9.1. Feb 11.19 9.7. 77. 7.997 7...99. Mar 117.9 9. 79.7 7.179 9... 7.7. Apr 11..1 1.9 7.9 1.1..9 9.. May 1117.17 9.9 19.1 7.99 7. 1.9 7.119 9.7. Jun 11.1 19.7 19. 71. 9.97 1.79. 9.1. Jul 11...9 7.1.91 19.. 9.7. Aug 119.7 77.79. 77..7 7..79 99.. Sep 11.7.77 7.91 7. 9.1.19 7... Oct 11.7 7.. 7.911.. 7.9.. Nov 11.7 1.9 9.99 79.7.7.17 9.7 7.. Dec 117. 7.71.7 799.1 1.7.117 9. 9.19 Jan 1179.7 7.1..7.77.9 7. 1.1. Feb 11.1 7..77.9.97 7.17 71. 11.9. Mar 11.1 77....7.91.9 1.9. Apr 117. 77. 91.7 71.9.799 7.91. 11.7. May 11.9 1. 7. 1.11 9.99 7.1 7. 1.1. Jun 119.. 9. 171.1.7 7.1.1 1.9. Jul 1197. 91.7 7.9.97 91.9..9 19.7. Aug 11. 99. 77.1 9.1 7.1.7 9.1.9. Sep 119.17 9. 7.97.7 7. 7.9 7..19. Oct 1.9 99. 71.1 7.9 79.7 9. 7.71.9. Nov 1. 99. 77.1.7 7. 9.7 71. 9.. Dec 111. 1.7 791.7.7.9 9.9 7.. Jan 11.17 1.1.17.119. 71.1 7.97. *All values are given in billions of dollars. 1
updated through // Monetary Trends Federal Discount Prime -mo Treasury Yields Corporate S & L Conventional Funds Rate Rate CDs -mo -yr 1-yr Aaa Bonds Aaa Bonds Mortgage 199...9..7.91.1...9.9 1999..97. 7.99..7.9. 7.. 7....7 9..... 7... 1..9.1.9.9.7.. 7..99.97. 1.7 1.17. 1.7 1..1.1.9.7. 1..19.9..7.. 7.71....7.7 9..7.9..1 7.77.7.... 9....1.9 7.1....7. 9..9...7 7.. 7. 1 1.9.11...9.. 7.. 7.1... 7..1.7..7 7..11 7.1....7...9.9 7.11.7.97..1 1..1. 1.9..77.9.97.7 1 1.7 1..7 1. 1.7.7....97. 1.7 1..7 1. 1.7.77.1.71.1.1. 1.7 1..7 1.7 1.7....7.9. 1..9. 1.9 1..7.1..71. 1 Jan.9. 9...9.77.1 7.1.99 7.. Feb.9....1.71.1 7.1.9 7.. Mar.1.1..9...9.9..9. Apr.. 7...97..1 7..1 7.. May.1.7 7...7.1.9 7.9.1 7.1. Jun.97.7.9.7.7.. 7.1. 7.1. Jul.77..7..9.1. 7.1.79 7.1. Aug..1.7....97 7..9.9. Sep.7.77..7.9..7 7.17.9.. Oct.9...1..1.7 7..9.. Nov.9 1..1. 1.91...97... Dec 1. 1.. 1. 1.7..9.77.1 7.7 Jan 1.7 1..7 1.7 1..... 7.. Feb 1.7 1..7 1. 1.7..91.1.9.9. Mar 1.7 1..7 1.91 1..1..1.9 7.1. Apr 1.7 1..7 1.7 1.7.1.1.7.9.99. May 1.7 1..7 1. 1.7..1.7..1. Jun 1.7 1..7 1.1 1.7.9.9..9.. Jul 1.7 1..7 1.79 1.71.1...1.9. Aug 1.7 1..7 1.7 1....7.7.9. Sep 1.7 1..7 1.7 1...7.1..9. Oct 1.7 1..7 1.7 1.1..9...11. Nov 1... 1.9 1....1.77.7. Dec 1..7. 1. 1.1...1.7. Jan 1... 1.9 1.19.1..17..9 *All values are given as a percent at an annual rate. 17
Monetary Trends updated through /1/ M1 MZM M M change at an annual rate 199. 1. 11.7 7. 1. 1999.. 1. 7..71...1. 9. 1..99 1.77.7 11.9..7 1.9 7.7 7.99 1..1. 11.11. -1.9.91..1. -1.9..9 9.. -.7 7..1.9 1 1. 1.9 1. 1...1.7 1.1 1.77. 1.7 17. 1.19 9.7. 1. 19.. 1.9 1.7 9..7.7. -...7.1..1 9. 9.1 7...77.7.9 7.1 1 Jan 9..7 1. 17.7. Feb 7..7 1.9 1.7. Mar.. 1.1 11.11. Apr -1. 19. 1.1 19.. May 11. 17.1. 1.7. Jun 9. 1. 1. 1.9. Jul 1.1 1. 7.9.9. Aug 11.97 7.7 7. 1.. Sep. 9.... Oct -7. 1.9 -.17.7. Nov 1. 1.7 9. 11.. Dec 7. 1. 9. 9.19 Jan... 1.. Feb. 11.. 7.9. Mar..1.17 1.. Apr -1. -. -.1.1. May 1.9 1. 1.9 9.. Jun.9 9.9... Jul 7.1 1. 1. 7.. Aug -11.9 9.. 1.1. Sep.9...17. Oct 11.9.... Nov -. 1.79 7.7 1.9. Dec.1.9.7 7.1 Jan 1.9 -..9 -.7 1
Monetary Trends Definitions M1: The sum of currency held outside the vaults of depository institutions, Federal Reserve Banks, and the U.S. Treasury; travelers checks; and demand and other checkable deposits issued by financial institutions (except demand deposits due to the Treasury and depository institutions), minus cash items in process of collection and Federal Reserve float. MZM: M minus small-denomination time deposits, plus institutional money market mutual funds. The label MZM was coined by William Poole (1991) for this aggregate, proposed earlier by Motley (19). M: M1 plus savings deposits (including money market deposit accounts) and small-denomination (less than $1,) time deposits issued by financial institutions; and shares in retail money market mutual funds (funds with initial investments of less than $,), net of retirement accounts. M: M plus large-denomination ($1, or more) time deposits; repurchase agreements issued by depository institutions; Eurodollar deposits, specifically, dollar-denominated deposits due to nonbank U.S. addresses held at foreign offices of U.S. banks worldwide and all banking offices in Canada and the United Kingdom; and institutional money market mutual funds (funds with initial investments of $, or more). Bank Credit: All loans, leases, and securities held by commercial banks. Domestic Nonfinancial Debt: Total credit market liabilities of the U.S. Treasury, federally sponsored agencies, state and local governments, households, and nonfinancial firms. End-of-period basis. Adjusted Monetary Base: The sum of currency in circulation outside Federal Reserve Banks and the U.S. Treasury, deposits of depository financial institutions at Federal Reserve Banks, and an adjustment for the effects of changes in statutory reserve requirements on the quantity of base money held by depositories. This series is a spliced chain index; see Anderson and Rasche (199a,b). Adjusted Reserves: The sum of vault cash and Federal Reserve Bank deposits held by depository institutions and an adjustment for the effects of changes in statutory reserve requirements on the quantity of base money held by depositories. This series, a spliced chain index, is numerically larger than the Board of Governors measure, which excludes vault cash not used to satisfy statutory reserve requirements and Federal Reserve Bank deposits used to satisfy required clearing balance contracts; see Anderson and Rasche (199a) and research.stlouisfed.org/aggreg/newbase.html. Monetary Services Index: An index that measures the flow of monetary services received by households and firms from their holdings of liquid assets; see Anderson, Jones, and Nesmith (1997). Indexes are shown for the assets included in M; additional data are available at research.stlouisfed.org/msi/index.html. Note: M1, M, M, Bank Credit, and Domestic Nonfinancial Debt are constructed and published by the Board of Governors of the Federal Reserve System. For details, see Federal Reserve Bulletin, tables 1.1 and 1.. MZM, Adjusted Monetary Base, Adjusted Reserves, and Monetary Services Index are constructed and published by the of the Federal Reserve Bank of St. Louis. Notes Page : MZM, or Money, Zero Maturity, includes the zero maturity, or immediately available, components of M. MZM equals M minus smalldenomination time deposits, plus institutional money market mutual funds (that is, the money market mutual funds included in M but excluded from M). Readers are cautioned that since early 199 the level and growth of M1 have been depressed by retail sweep programs that reclassify transactions deposits (demand deposits and other checkable deposits) as savings deposits overnight, thereby reducing banks required reserves; see Anderson and Rasche (1) and research.stlouisfed.org/aggreg/swdata.html. For analytical purposes, MZM largely replaces M1. The Primary Credit Rate, Discount Rate, and Intended Federal Funds Rate shown in the chart Reserve Market Rates are plotted as of the date of the change, while the Effective Federal Funds Rate is plotted as of the end of the month. Interest rates in the table are monthly averages from the Board of Governors H.1 Statistical Release. The Treasury Yield Curve shows constant maturity yields calculated by the U.S. Treasury Department for securities with months and 1,,,, 7, and 1 years to maturity. Daily data and descriptions are available at research.stlouisfed.org/ fred/data/wkly.html. See also Federal Reserve Bulletin, table 1.. The -year constant maturity series was discontinued by the Treasury Department as of February 1,. Page : Checkable Deposits is the sum of demand and other checkable deposits. Savings Deposits is the sum of money market deposit accounts and passbook and statement savings. Time Deposits have a minimum initial maturity of 7 days. Large Time Deposits are deposits of $1, or more. Retail and Institutional Money Market Mutual Funds are as included in M and the non-m component of M, respectively. Page 7: Excess Reserves plus RCB (Required Clearing Balance) Contracts equals the amount of deposits at Federal Reserve Banks held by depository institutions but not applied to satisfy statutory reserve requirements. (This measure excludes the vault cash held by depository institutions that is not applied to satisfy statutory reserve requirements.) Consumer Credit includes most short- and intermediate-term credit extended to individuals. See Federal Reserve Bulletin, table 1.. Page : Inflation Expectations measures include the quarterly Federal Reserve Bank of Philadelphia Survey of Professional Forecasters, the monthly University of Michigan Survey Research Center s Surveys of Consumers, and the annual Federal Open Market Committee (FOMC) range as reported to the Congress in the February Humphrey-Hawkins Act testimony each year. Beginning February, the FOMC began using the personal consumption expenditures (PCE) price index to report its inflation range and therefore is not shown on this graph. CPI Inflation is the percentage change from a year ago in the consumer price index for all urban consumers. Real Interest Rates are ex post measures, equal to nominal rates minus CPI inflation. Page 9: FOMC Intended Federal Funds Rate is the level (or midpoint of the range, if applicable) of the federal funds rate that the staff of the FOMC expected to be consistent with the desired degree of pressure on bank reserve positions. In recent years, the FOMC has set an explicit target for the federal funds rate. Page 1: Federal Funds Rate and Inflation Targets shows the observed federal funds rate, quarterly, and the level of the funds rate implied by applying Taylor s (199) equation f * t =. + π t 1 + (π t 1 π * )/ + 1 (y t 1 y P t 1 )/ to five alternative target inflation rates, π * =, 1,,, percent, where f * t is the implied federal funds rate, π t 1 is the previous period s inflation rate (PCE) measured on a year-over-year basis, y t 1 is the log of the previous period s level of real gross domestic product (GDP), and y P t 1 is the log of an estimate of the previous period s level of potential output. Potential Real GDP is as estimated by the Congressional Budget Office. Monetary Base Growth and Inflation Targets shows the quarterly growth of the adjusted monetary base (modified to include an estimate of the effect of sweep programs) implied by applying McCallum s (19, 199) equation MB * t = π * + (1-year moving average growth of real GDP) (-year moving average of base velocity growth) to five alternative target inflation rates, π * * =, 1,,, percent, where MB t is the implied growth rate of the adjusted monetary base. The 1-year moving average growth of real GDP for a quarter t is calculated as the average quarterly growth during the previous quarters, at an annual rate, by the formula ((y t y t )/) 1, where y t is the log of real GDP. The fouryear moving average of base velocity growth is calculated similarly. To adjust the monetary base for the effect of retail-deposit sweep programs, we add to 19
Monetary Trends the monetary base an amount equal to 1 percent of the total amount swept, as estimated by the Federal Reserve Board staff. These estimates are imprecise, at best. Sweep program data are available at research.stlouisfed.org/aggreg/swdata.html. Page 11: Implied One-Year Forward Rates are calculated by this Bank from Treasury constant maturity yields. Yields to maturity, R(m), for securities with m = 1,..., 1 years to maturity are obtained by linear interpolation between reported yields. These yields are smoothed by fitting the regression suggested by Nelson and Siegel (197), R(m) = a + (a 1 + a )(1 e m/ )/(m/) a e m/, and forward rates are calculated from these smoothed yields using equation (a) in table 1.1 of Shiller (199), f(m) = [D(m)R(m) D(m 1)] / [D(m) D(m 1)], where duration is approximated as D(m) = (1 e R(m) m )/R(m). These rates are linear approximations to the true instantaneous forward rates; see Shiller (199). For a discussion of the use of forward rates as indicators of inflation expectations, see Sharpe (1997). Rates on -Month Eurodollar Futures and Rates on Selected Fed Funds Futures Contracts each trace through time the yield on three specific contracts. Implied Yields on Fed Funds Futures displays a single day s snapshot of yields for contracts expiring in the months shown on the horizontal axis. Inflation-Protected Treasury Yields are yields on the most recently issued inflation-protected securities of 1- and -year original maturities. Inflation-Protected Treasury Yield Spreads equal, for 1- and -year maturities, the difference between the yields on the most recently issued inflation-protected securities and the unadjusted bond yields of similar maturity. Inflation-Indexed -Year Bonds shows the yield of an inflation-indexed bond that is scheduled to mature in approximately (but not greater than) years. The current bond for Canada has a maturity date of 1/1/1, the current U.K. bond has a maturity date of 7//, and the current U.S. bond has a maturity date of /1/. Inflation-Indexed 1-Year Bonds shows the yield of an inflation-indexed bond that is scheduled to mature in approximately (but not greater than) 1 years. The current U.K. bond has a maturity date of //11 and the current U.S. bond has a maturity date of 7/1/1. Page 1: Velocity (for MZM and M) equals the ratio of GDP, measured in current dollars, to the level of the monetary aggregate. MZM and M Own Rates are weighted averages of the rates received by households and firms on the assets included in the aggregates. Two alternative opportunity costs are shown, one relative to the -month Treasury constant maturity yield, the other to the -year constant maturity yield. Page 1: Real Gross Domestic Product is GDP as measured in chained 199 dollars. The Gross Domestic Product Price Index is the implicit price deflator for GDP, which is defined by the Bureau of Economic Analysis, U.S. Department of Commerce, as the ratio of GDP measured in current dollars to GDP measured in chained 199 dollars. Page 1: Investment Securities are all securities held by commercial banks in both investment and trading accounts. Page 17: Treasury Yields are Treasury constant maturities as reported in the Board of Governors of the Federal Reserve System s H.1 release. Sources Bank of Canada Canadian inflation-linked bond yields and long-term interest rates. Bank of England U.K. inflation-linked bond yields. Board of Governors of the Federal Reserve System Monetary aggregates and components: H. release. Bank credit and components: H. release. Consumer credit: G.19 release. Required reserves, excess reserves, clearing balance contracts, and discount window borrowing: H..1 and H. releases. Interest rates: H.1 release. Nonfinancial commercial paper: Board of Governors website. Nonfinancial debt: Z.1 release. M own rate. Bureau of Economic Analysis GDP. Bureau of Labor Statistics CPI. Chicago Board of Trade Federal funds futures contract. Chicago Mercantile Exchange Eurodollar futures. Congressional Budget Office Potential real GDP. Federal Reserve Bank of Philadelphia Survey of Professional Forecasters inflation expectations. Adjusted monetary base and adjusted reserves, monetary services index, MZM own rate, one-year forward rates. Organization for Economic Cooperation and Development International interest and inflation rates. Standard & Poors Inc. Stock price-earnings ratio, stock price composite index. University of Michigan Survey Research Center Median expected price change. U.S. Department of the Treasury U.S. inflation-protected security yields. References Anderson, Richard G. and Robert H. Rasche (199a). A Revised Measure of the St. Louis Adjusted Monetary Base, Review, March/April, 7(), pp. -1. and (199b). Measuring the Adjusted Monetary Base in an Era of Financial Change, Review, November/ December, 7(), pp. -7. and (1). Retail Sweep Programs and Bank Reserves, 199-1999, Review, January/February, pp. 1-7., Barry E. Jones and Travis D. Nesmith (1997). Special Report: The Monetary Services Indexes Project of the Federal Reserve Bank of St. Louis, Review, January/February, 79(1), pp. 1-. McCallum, Bennett T. (19). Robustness Properties of a Monetary Policy Rule, Carnegie-Rochester Conference Series on Public Policy, vol. 9, pp. 17-. (199). Specification and Analysis of a Monetary Policy Rule for Japan, Bank of Japan Monetary and Economic Studies, November, pp. 1-. Motley, Brian (19). Should M Be Redefined? Federal Reserve Bank of San Francisco Economic Review, Winter, pp. -1. Nelson, Charles R. and Andrew F. Siegel (197). Parsimonious Modeling of Yield Curves, Journal of Business, October, pp. 7-9. Poole, William (1991). Statement before the Subcommittee on Domestic Monetary Policy of the Committee on Banking, Finance and Urban Affairs, U.S. House of Representatives, November, 1991. Government Printing Office, Serial No. 1-. Sharpe, William F. (1997). Macro-Investment Analysis, on-line textbook available at www.stanford.edu/~wfsharpe/mia/mia.htm. Shiller, Robert (199). The Term Structure of Interest Rates, Handbook of Monetary Economics, vol. 1, B. Friedman and F. Hahn, eds., pp. 7-7. Taylor, John B. (199). Discretion versus Policy Rules in Practice, Carnegie- Rochester Conference Series on Public Policy, vol. 9, pp. 19-1. Note: Articles from this Bank s Review are available on the Internet at