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St. Louis Fed Economist Says QE Could Spark Higher Inflation

Feb. 28 (Bloomberg) -- Federal Reserve Bank of St. Louis economist Daniel Thornton said the central bank’s asset purchases, or quantitative easing, could spark higher money supply growth that leads to a surge in inflation.

The Fed’s two rounds of asset purchases totaling $2.3 trillion have resulted in an “enormous increase” in excess reserves, which “constitute an enormous potential to increase the money supply as the economy improves and banks’ opportunities to lend and invest improve,” Thornton wrote in an essay posted on the bank’s Website.

Fed Chairman Ben S. Bernanke and central bank policy makers have said the Fed can avoid an inflation surge by removing accommodative policies at the right time and that inflation results in part from rising expectations of the public rather than money growth. The Fed has defined price stability as price increases of 2 percent, and policy makers described inflation on Jan. 25 as “subdued in recent months” with the public’s expectations “stable.”

“While discussions of the money supply are nearly nonexistent in modern monetary theory and policy, both economic theory and historical experience suggest that a significant and persistent expansion in the money supply will be associated with a significant increase in the longer-run inflation rate,” Thornton wrote.

“The recent acceleration in the growth of the money supply is of particular concern because the year-over-year consumer price index inflation for December 2011 is 3.0 percent,” or more than the Fed’s target.

To contact the reporters on this story: Steve Matthews in Atlanta at smatthews@bloomberg.net;

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net

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