Yesterday the Fed released the all-important (but almost completely ignored) M2 money supply statistics for January '23, and they were good. This indicates the . In any event, here we are; the flood of funny money is receding. When the velocity of money declines, it can even offset an increase in money supply and lead to deflation instead of inflation. We see 3 things going on here: Case 3 . Videos showing how the St. Louis Fed amplifies the voices of Main Street, Research and ideas to promote an economy that works for everyone, Insights and collaborations to improve underserved communities, Federal Reserve System effort around the growth of an inclusive economy, Quarterly trends in average family wealth and wealth gaps, Preliminary research to stimulate discussion, Summary of current economic conditions in the Eighth District. These put persistent pressure on prices. One logical answer is the rising level Chinese imports during this period. Please update to a modern browser: a list is available here. The total stock of M2 jumped from 70% of GDP to 90% and is now back to 84%. Is that really a big deal given 2020 record 25% growth followed by 2021 12% growth? Household savings rates spiked during the past couple of years, which resulted in cash hoarding in checking and savings accounts. Those are important but dont necessarily tell the whole story on the state of the economy, much less the direction to which things may be headed. According to the Quantity Theory of Money, inflation depends on the money supply and its velocity. An increase in time deposits destroys money velocity. The standard formula of Monetarism predicts the former. The answer lies in the private sectors dramatic increase in their willingness to hoard money instead of spend it. Seasonally adjusted M2 is constructed by summing savings deposits (before May 2020), small-denomination time deposits, and retail MMFs, each seasonally adjusted separately, and adding this result to seasonally adjusted M1. Learn more about the Econ Lowdown Teacher Portal and watch a tutorial on how to use our online learning resources. The standard formula of Monetarism predicts the former, A cursory glance at M2 and inflation shows no correlation. Money velocity is a gauge of the consumers willingness to spend money. Quarterly. We can think of shorter- term transactions as consumption we might make on an everyday basis. This indicates that 40% of the decrease in the velocity of money can be explained by the increase in the adjusted money supply. Since 10-year interest rates declined by about 0.5 percentage points between 2008 and 2013, the velocity of the monetary base should have decreased by about 0.085 points. The issue has to do with the velocity of money, which has never been constant, as can be seen in the figure below. The right side of the equation represents the Gross Domestic product. Ratio, Quarterly, Seasonally Adjusted Q1 1959 to Q4 2022 (5 days . It used to be aggregate M2 was a good measure of this. There are several components of the money supply,: M1, M2, and MZM (M3 is no longer tracked by the Federal Reserve); these components are arranged on a spectrum of narrowest to broadest. M2 velocity and inflation Posted on August 21, 2014 It is quite common to see arguments that if M2 velocity (the nominal GDP/M2 ratio) is low, it must be that inflation is high. Why didnt an increase in transactions/dollar signify rising price pressure? Supply also matters here, and that issue tips in favor of higher prices for items like new cars and trucks. How could that not have resulted in higher prices? The velocity of money refers to the number of times consumers spend each dollar in a year. Please be sure to comment, debate and let me know where you think the dollar goes next. This behavior, which also reflects a decrease in inflation, suggests that confidence in the recovery is still low. Navigating the Waves of Global Shipping: Drivers and Aggregate Implications, From Ye Olde Stagnation to Modern Growth in England, Shipping Prices and Import Price Inflation, Tornado Cash and Blockchain Privacy: A Primer for Economists and Policymakers, Welfare-enhancing inflation and liquidity premia. Please enter your email address or username below. Copyright 2023 Apple Inc. All rights reserved. Ratio,Seasonally Adjusted, Frequency: Sumner, Scott. According to data from the People's Bank of China (PBC), since April 2022, China's M2, a measure of money supply, has maintained a double-digit growth rate. During the first and second quarters of 2014, the velocity of the monetary base2 was at 4.4, its slowest pace on record. Seasonally adjusted M2 is constructed by summing savings deposits (before May 2020), small-denomination time deposits, and retail MMFs, each seasonally adjusted separately, and adding this result to seasonally adjusted M1. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. Categories > Money, Banking, & Finance > Monetary Data > Money Velocity. This means that every dollar in the monetary base was spent only 4.4 times in the economy during the past year, down from 17.2 just prior to the recession. Federal Reserve Bank of St. Louis, The press, the media, and many market pundits are now saying inflation is imminent. Ivan Illan is an award-winning financial services entrepreneur and bestselling author. While M2 velocity is currently at historical lows, inflation is clearly not high. You will see that the velocity of M2 money stock has been steadily declining as M2 money stock has been exploding higher, implying an ever lower impact of money being printed. issn: 00028282.http://www.jstor.org/stable/1805778. What is the M1 money supply? Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors. This study models the velocity (V2) of broad money (M2) since 1929, covering swings in money [liquidity] demand from changes in uncertainty and risk premia spanning the two major financial . Meanwhile, Prof. Hanke predicated in July 2021, based on growth in M2, that the inflation at the end of 2021 would be at least 6% and possibly as high as 9%. I have done a series of posts, covering various economic indicators, on expected recession in 2022 since July 2021. Essentially, this means that one USD cycled through the U.S. economy in Q4 2021 about 1.123 times. In the case of a downtrend, the climax is characterized by a sharp decline after the mature part of an extended downturn. Thats one reason why 10-year yields have stalled out a slow recovery means slower M2 velocity growth and less coincident inflation. Then they can buy something else with it. Scott Grannis was Chief Economist from 1989 to 2007 at Western Asset Management Company, a Pasadena-based manager of fixed-income funds for institutional investors around the globe. No wholesale; no offshore. The. You are using an out of date browser that is missing certain Javascript features. On this post I will discuss he relationship between inflation and velocity of money by covering the following points: Imagine that you spend $30 on a haircut. If you have an ad-blocker enabled you may be blocked from proceeding. By the end of that year, M2 totaled . Now surprisingly, MV is 34.4% lower than where it was at coming out of the GFC. They show the velocity of: We can average the number of times a single unit of money changes hands during a period of time by applying this equation. When they feel that prices are about to raise, customers tend to advance their purchases. However, it has also grown along with Federal Debt to GDP during wars and recessions. Were not sure of the date of Arts anecdote, but here is a chart with M2 money velocity (in blue, left Y axis) and CPI inflation (red, right hand Y axis) back to January 1965. Or. In period 2, the central bank surprises people and announcethat money supply will grow at 2 percent forever, that is, M0 = 100, M1 = 100,M2 = (1.02)M1, M3 . The monetary base includes notes and coins in circulation as well as bank reserves. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis, Federal Reserve Bank of St. Louis, 2022 DataTrek Research, LLC provides a daily market insight newsletter, as well as other services, through its site at www.datatrekresearch.com. Copyright Broken Pie Chart Podcast. We and our partners use cookies to Store and/or access information on a device. The total stock of M2 increased from $19.373 trillion at the start of 2021 to a peak of $21.740 trillion in March 2022. Charts powered by Highcharts. High money velocity is usually associated with a healthy, expanding economy. One of the indicators I looked at was M2 Money Stock and Velocity of M2 and how expected Federal Reserve (Fed) monetary tightening was all but guaranteeing a recession in 2022. Source: That doesnt mean, however, that M2 doesnt form part of the quantity relationship. GDP = M2 Money Stock * The Velocity of M2 Money Stock - (Eq. Since the crisis of 2008, the Fed has pushed up the monetary base from 872.3 billion in August 2008 to 4.1 trillion US dollars in August 2014. The Counter-Revolution in Monetary Theory, Wincott Memorial Lecture, University of London, Sept. 16, 1970. See why for yourself by starting a 2-week FREE trial below. An error appeared while loading the data. I have an alternative to all the "deflation" vs "inflation" debates - an environment that will be stable with just modest inflation . In the most recent quarter (Q4 2021), the velocity of M2 money stock has slowed to a stunning 1.123. Before May 2020, M2 consists of M1 plus (1) savings deposits (including money market deposit accounts); (2) small-denomination time deposits (time deposits in amounts of less than $100,000) less individual retirement account (IRA) and Keogh balances at depository institutions; and (3) balances in retail money market funds (MMFs) less IRA and Money growth has eased somewhat in 2021 but continues to run at rates well above 10 percent per year. Our friend Art Cashin recommended we look at US velocity of money as part of our increasingly regular analysis of potential future inflation. How limited supply of goods and services plays out over the next 12 months is the other question mark (see the must-read link below for a good example from NYC restaurants). In the meantime, today's relatively high interest rates help offset the inflationary potential of the surplus M2 by increasing the incentive to hold on to money balances. Two, velocity plays a large factor in the relationship: . Forbes Finance Council is an invitation-only organization for executives in successful accounting, financial planning and wealth management firms. This dynamic can have a huge impact on inflation. Money velocity (MV) isnt a complicated concept. With higher interest rates projected by the Fed in the coming months and years, a reversing money supply dynamic could give MV a much-needed boost (given its simple formula). Then one day a savvy old trader told him to focus on velocity how often a dollar turns in the US economy if he wanted a real edge on inflation trends. Velocity of M2 Money Stock in the US is at a current level of 1.226, up from 1.191 last quarter and up from 1.142 one year ago. The Quantity Theory of Money A Restatement. In The Optimum Quantity of Money and Other Essays, published 1969. What is the M2 money supply? If not cycling through transactions, where did all that newly minted money go? Second, rate of change matters a lot. Manage Settings Every month we send out an email about the latest developement in the charts. 2). The M2 money supply grew at annualized rates exceeding 20 percent throughout much of 2020. https://www.econlib.org/archives/2015/10/everythings_end.html. The Quantity Theory of Money A Restatement. In. Inflation expectations today are consistent with inflation falling to the Fed's target of 2% within the next 9-12 months, as Chart #6 shows. Given public outrage and the invisible hand of political pressure (the Fed is independent yeah right!!! One of the most important theories to explain inflation is the monetarist view that, according to Milton Friedman, Inflation is always and everywhere a monetary phenomenon.1 In other words, inflation occurs because there is too much money available to buy the same amount of goods and services produced in the economy. Federal Reserve Bank of St. Louis, Units: As Milton Friedman might have described it, the government minted $6 trillion out of thin air and dropped it from helicopters all over the country. ). https://fred.stlouisfed.org/series/M2V, How is velocity of money calculated? It can be thought of as the rate of turnover in the money supply--that is, the number of times one dollar is used to purchase final goods and services included in GDP. For the second, take the first and select Scatter for the graph type in the graph settings. While M2 velocity is currently at historical lows, inflation is clearly not high. All rights reserved. 5 (1980): 10051014. Why even bother with it? M2's huge growth from 2020 through 2021 provided the fuel for the inflation that has rocked the economy for the past year, and it's great news that it's fading away. Back then, it was Chinese imports. The personal saving rate can be calculated as the ratio of personal savings to disposable personal income. The opposite is also true: Money velocity decreases when fewer transactions are being made; therefore the economy is likely to shrink. However, that will depend on GDP remaining at least at its current level. During the Great Financial Crisis (GFC), MV went from a high of 1.989 at the GFCs start in Q3 2007 to a low of 1.712 by end of the crisis in Q1 2009. The linked post was written on February 3, 2022, and unsurprisingly, the U.S. printed a negative 1.4% GDP read. m2 '' ^^ m2 . Is there such a relationship in the first place? These expectations are important because they affect consumer's behavior. Then, why velocity of money may not mean anything for inflation after all. Chart #4 compares the growth of M2 with the year-over-year change in the CPI, which is shifted one year to the left in order to show that money growth leads inflation by about one year. This would shock the markets even more than what the market has gone through since October 2021. Amazon Return To Office Mandate, And Whats Happening With Amazon Stock? Therefore, a huge increase in the denominator naturally results in a lower figure without the same corresponding increase in GDP. That said, nothing goes down in a straight line, but intermittent rallies should be sold into. Sign up or read more information atwww.datatrekresearch.com. A key indicator to track velocity of money is the personal saving rate. When inflation is high, people spend their money quickly, before it loses more value, which, in turn, exacerbates inflation. Two, velocity plays a large factor in the relationship: For each quarter, CPI inflation is plotted on one axis (horizontal) and M2 velocity is plotted on the other (vertical): Not much of a relationship can be found here. Artificial Intelligence Companies You May Want To Consider, investors allocated monies toward various asset classes. The velocity of money (aka, velocity of M2 money stock or simply, money velocity) is one such metric. By clicking submit, you agree that you have read and understand ourTerms of Service,SubscriptionAgreement, andPrivacy Policy, and hereby agree to be bound by them. MacMillan and Company Limited. What you are seeing is a yuuge increase in the supply of money. It is still mind-boggling to me that the unprecedented growth of M2 has almost completely escaped the public's notice. MZM (money with zero maturity) is the broadest component and consists of the supply of financial assets redeemable at par on demand: notes and coins in circulation, traveler's checks (non-bank issuers), demand deposits, other checkable deposits, savings deposits, and all money market funds. Such an unprecedented increase in money demand has slowed down the velocity of money, as the figure below shows. For more information on the H.6 release changes and the regulatory amendment that led to the creation of the other liquid deposits component and its inclusion in the M1 monetary aggregate, see the H.6 announcements and Technical Q&As posted on December 17, 2020. Consumer 's behavior M2 doesnt form part of our increasingly regular analysis of potential future inflation accounts. Part of the Quantity Theory of money is receding Council is an award-winning financial services and... Rising price pressure Case 3 is a yuuge increase in the most recent quarter ( Q4 2021 ) the! In transactions/dollar signify rising price pressure in monetary Theory, Wincott Memorial Lecture, of. Really a big deal given 2020 record 25 % growth followed by 12... You think the dollar goes next in their willingness to spend money may not mean for... Refers to the Quantity Theory of money hoarding in checking and savings accounts year, M2 totaled savings... 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