Question

The Federal Reserve is the major influencing body of monetary policy. Suppose the Fed wishing to encourage economic growth by increasing the money supply. How could this positively or negatively influence your investment in a company? Is this effect different for cyclical vs. defensive companies?

Answer 1

Increase in money supply leads to decrease in interest rate and spurs higher economic activity through greater lending. However, this also leads to increase in inflation reducing the value of money. So, the investment in a company can go up through higher profits and higher share price of the company’s stock. However, this could also get negated by higher cost of living. While net impact is generally positive, an excessive or un-calibrated loosening can cause more damage.

The effect is the same for both cyclical and defensive companies.