New Favorite Test of US Monetary Policy Limits

April 20, 2011
By

[This article was first published on Timely Portfolio, and kindly contributed to R-bloggers]. (You can report issue about the content on this page here)
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After a little additional thought, I discovered that my Death Spiral Warning Graph post can be improved through the isolation of the expected inflation component of US 10y yields provided by the US 10y yield – US 10y TIP yield.  Unfortunately, it more accurately reveals the cost of aggressive US Fed monetary policy, and I think offers a more dire assessment of the limits of this policy.

From TimelyPortfolio

The gains we have experienced seem much more transitory and spurious than a simple chart of the S&P 500 reveals.

R code:

require(quantmod)
require(PerformanceAnalytics)

#get data from St. Louis Federal Reserve (FRED)
getSymbols(“DGS10″,src=”FRED”) #load 10yTreasury
getSymbols(“DFII10″,src=”FRED”) #load 10yTIP for real return
getSymbols(“DTWEXB”,src=”FRED”) #load US dollar
getSymbols(“SP500″,src=”FRED”) #load SP500

#new FED monetary policy limit monitor
#US10Y TIP Breakeven Inflation divided by the US Dollar
#old favorite is US 10y Nominal divided by the US Dollar

fedpolicytest<-merge((DGS10-DFII10)/DTWEXB,DGS10/DTWEXB)
colnames(fedpolicytest)<-c(“US10yTIPInflationDivByUSDollar (new favorite)”,”US10yDivByDollar (old favorite)”)
chart.TimeSeries(fedpolicytest[“2003::2011″],legend.loc=”topleft”,
    main=”US Monetary Policy Test-Does Bernanke Have a Limit?”,colorset=c(“cadetblue”,”darkolivegreen3″),ylab=””,
    event.lines=”2008-07-02″,event.labels=”July 2, 2008″)
#add label to denote new recent high
text(NROW(fedpolicytest[“2003::2011″])-15,fedpolicytest[NROW(fedpolicytest),1]+.001,”New High”)
#label previous high
abline(h=fedpolicytest[“2008-07-02″,1],col=”cadetblue”)

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