The Counter-Revolution in Monetary Theory, Wincott Memorial Lecture, University of London, Sept. 16, 1970. View more of Maria's work. A glooming economy after the financial crisis, The dramatic decrease in interest rates that has forced investors to readjust their portfolios toward liquid money and away from interest-bearing assets such as government bonds. Bitcoin Donations: bc1qvu8a9uy5p6lptdm3n3hyljer4s9ud2kfm4gv95. Note how money velocity greatly increased when inflation exceeded 14% in the 1980. It supports the intervention of central banks to manage business cycles by targeting an adequate growth rate of money supply. That is what happened in the 1990s. , published 1969. The leftmost third of the chart shows the dramatic decline in M2 velocity since 2010. One Federal Reserve Bank Plaza, Velocity of M2 Money Stock [M2V], This is a BETA experience. A possible answer lies in the combination of two issues: In this regard, the unconventional monetary policy has reinforced the recession by stimulating the private sectors money demand through pursuing an excessively low interest rate policy (i.e., the zero-interest rate policy).3. The "M2 Money Supply", also referred to as "M2 Money Stock", is a measure for the amount of currency in circulation. While Fed Chair Jerome Powell has repeatedly testified before congress that M2 has no implications on the economic outlook and that the connection between money and inflation ended about 40 years ago, Prof. Hanke has continued to highlight that is absolutely not true. So why did the monetary base increase not cause a proportionate increase in either the general price level or GDP? Report. If the velocity of money is increasing, then more transactions are occurring between individuals in an economy. According to Bannister and Forward (2002, page 28), Money supply growth and inflation are inexorably linked. Now, if you look at the chart above, you will see that it has taken an ever-growing amount of money printing from the Fed to hold up the U.S. GDP. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. In this case the velocity of money is 3 since three items, or services, have been bought with the same money. A decreasing velocity of M1 might indicate fewer short- term consumption transactions are taking place. The velocity of money is the frequency at which one unit of currency is used to purchase domestically- produced goods and services within a given time period. No. When there are more transactions being made throughout the economy, velocity increases, and the economy is likely to expand. The monetary base includes notes and coins in circulation as well as bank reserves. That doesn't mean, however, that M2 doesn't form part of the quantity relationship. Strange as it may sound, we think the market has settled on the idea that American consumers will only slowly return to old habits. Case 2. Federal Reserve Bank of St. Louis, Lucas Jr, Robert E. Two Illustrations of the Quantity Theory of Money. The American Economic Review 70, no. Copyright 2023 Apple Inc. All rights reserved. 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. Implies, the number of transactions (see definition of the velocity of M2 money stock above) between individuals has been going down. A higher MV figure means a dollar is cycling through domestic transactions for goods and services more frequently. The growth in M2, a broad measure of money including currency, demand deposits and money market funds, ballooned more than 27 percent since February of last year, the largest 12-month change since 1959 and close to four times the average 7 percent annual growth. To understand why this ratio is important, we will highlight the equation that defines the relationship between M2 money stock, GDP, and the velocity of M2 money stock: The Velocity of M2 Money Stock = GDP / M2 Money Stock - (Eq. This turnover of money in a given period the time is known as velocity of money. His research interests include macroeconomics and the Chinese economy. M1 is the money supply of currency in circulation (notes and coins, traveler's checks [non-bank issuers], demand deposits, and checkable deposits). Do I qualify? Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors. The contraction of the velocity of circulation of money explains why the massive increase of the monetary base by the American central bank has not led to a price inflation. 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. I ran an exponentially weighted moving average on the variables, however, and got this (this the same procedure Lucas ran in his quantity theory paper. Prior to joining Western Asset, he was Senior Economist at the Claremont Economics Institute, an economic forecasting and consulting service headed by John Rutledge, from 1980 to 1986. In my and my teams own research, as part of our investment committee decision-making discussions, we often like to seek out more obscure data. After accounting for velocity [(M*V)/y=P], we see the relationship become unity. Forbes Finance Council is an invitation-only organization for executives in successful accounting, financial planning and wealth management firms. Why was there only a handful of economists who commented on it, as I noted a year ago? R= -0.98 R^2 = 0.97. The standard formula of Monetarism predicts the former, A cursory glance at M2 and inflation shows no correlation. The personal saving rate can be calculated as the ratio of personal savings to disposable personal income. Put another way, the U.S. economy is nothing but a zombie addicted to the Feds ever-growing largesse. Powell or Hanke? Friedman, Milton. This site requires JavaScript to run correctly. 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. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. and (2) balances in retail Money Market Funds. 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. Low money velocity is usually associated with recessions and contractions. It is still mind-boggling to me that the unprecedented growth of M2 has almost completely escaped the public's notice. , where output is 150, the money velocity is 1.5. Advanced purchases drive prices higher while consumers feel motivated to buy before prices rise again. Year-over-year M2 growth is -1.7%, and 6-mo annualized growth is -3.4%. 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. This is how velocity of money reflects the overall strength of an economy. He specialized in analysis of Federal Reserve policy and interest rate forecasting, and spearheaded the firm's research into Treasury Inflation Protected Securities (TIPS). Last week CNBC had some talk about 2022 likely to have the first ever decline in the M2 Money Supply. Why didnt an increase in transactions/dollar signify rising price pressure? Opinions expressed are those of the author. Case 3 . As a result, M2 stands more than 36 percent higher today than it did at the end of 2019. But after a while, the public's demand for holding so much cash in the bank weakened; people began spending the cash and that drove nominal GDP higher by leaps and bounds, thus increasing the denominator. The growth of M2, by over $6 trillion in two years, was the result of the monetization of roughly $6 trillion of Treasury debt issued to fund a tsunami of federal transfer payments in that same period. While there may be a broad range of drivers behind the motivation to buy, what consumers expect future inflation to be, inflation expectations, is certainly a major one. Reverse repos explain the surge in M1 relative to M2 in the lead chart. Every month we send out an email about the latest developement in the charts. The Fed has seriously distorted money supply. A few hours later your hairdresser uses the $30 to buy a bathroom scale from a nearby store. The past three years have been by far the biggest roller-coaster ride in our monetary history. M2 Velocity. Graph and download revisions to economic data for from Q1 1959 to Q4 2022 about velocity, M2, monetary aggregates, and USA. Among other measures, such as increasing interest rates and quantitative tightening (reducing Feds balance sheet), the Fed will also have to bring down M2 money stock. Friedman and Divisia Monetary Measures. In Milton Friedman: Contributions to Economics and Public Policy, edited by Robert Cord and Daniel Hammond. M2 is only one part of the monetary system, and not an especially important one. The problem is that velocity of money is never constant. If you would like to change your settings or withdraw consent at any time, the link to do so is in our privacy policy accessible from our home page.. U.S. corporations are now sitting atop the highest corporate debt mountain in U.S. history. Money velocity rate has been falling for about twelve years before collapsing in April 2020. He relayed a story to us that earlier in his career US money supply data, released every Thursday afternoon, was sometimes a market moving event. This is a change of 2.94% from last quarter and 7.36% from one year ago. ), the Fed has finally pivoted, albeit painfully slowly. 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. m2 '' ^^ m2 . Most surprising of all: how in the world could the Fed not see it? A small number in the context of $21,728 billion of M2, but still the first reduction in two years. M2 increase of 20% to GDP followed by 5 years of 5% inflation. Further, it is lower than any time since 1960. Comparing M2 vs M1 money supply Discussing massive increase in money supply in 2020-2021 First ever decline in money supply in 2022? Copyright Broken Pie Chart Podcast. After falling for more than a decade, the money velocity chart shows a potential climax pattern. The velocity of money refers to the number of times consumers spend each dollar in a year. An increase in time deposits destroys money velocity. Everything's Endogenous., Barnett, William A. 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 . The answer lies in the private sectors dramatic increase in their willingness to hoard money instead of spend it. The M2 for April 2022 is lower by $81.2 billion. Why? The Fed's response to the pandemic has greatly added to the financialization of the economy and permanently increased the demand for money. First, lets rearrange the Eq. 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 total stock of M2 jumped from 70% of GDP to 90% and is now back to 84%. This week's stronger-than-expected February inflation data from France, Spain and Germany has led traders to price European Central Bank rates peaking near 4%, following similar moves in U.S . M2's huge growth . Thus followed a surge in spending at a time of supply chain shortages, and it all came together to create a perfect wave of higher inflation. Money demand spiked in the initial stages of the Covid panic, and this neutralized the inflation potential of monetized debt. Impact on GDP and Investors As we have seen above, the U.S. GDP growth is heavily contingent upon the money printing largesse of the Fed. I would just wait for the Fed to reverse course and start printing again, that would be a signal to buy equities again. By the end of that year, M2 totaled . What is the M2 money supply? This dynamic can have a significant effect on inflation indexes. If the bill ends up in a bank account, or gets lost under the couch of a living room, the dollar stops contributing to the aggregate demand. M2 is a measure of the money supply that includes cash, checking deposits, and easily convertible near money. While M2 velocity is currently at historical lows, inflation is clearly not high. Series from Money Velocity. FRED Series Velocity of M2 Money Stock. 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. money supply * velocity = nominal GDP. This chart further suggests that the year-over-year change in the CPI will gradually fall to the Fed's 2% target over the course of this year, thanks to the huge deceleration in M2 growth over the past year. Such an unprecedented increase in money demand has slowed down the velocity of money, as the figure below shows. Retirement account balances and time deposits above $100,000 are omitted from M2. Please, Is inflation always and everywhere a monetary phenomenon, or merely a, phenomenon? Is that really a big deal given 2020 record 25% growth followed by 2021 12% growth? We and our partners use data for Personalised ads and content, ad and content measurement, audience insights and product development. What is the M1 money supply? Ratio,Seasonally Adjusted, Frequency: and in the process is giving huge amounts of free money to financial institutions. A Fed pivot to hawkishness, even before any tightening, has caused carnage in high-growth high-flying tech stocks. What gives? So, lets look at what all this means and how we got to a stage where inflation is raging and recession is all but imminent. So, if everyone believes it, so it must be true. Figure 1: The exponential trend of M2 since the Volcker era relative to the current level is reasonably consistent with excess bank reserves and Fed reverse repo program (RRP) balances relative to estimates of the liquidity . Skip to main content. Since the GFC, and because of record low interest rates, investors allocated monies toward various asset classes, primarily corporate stock shares and real estate. At first this was fine, because the public was not willing or able to spend itthe demand for money was intense. The velocity of money (aka, velocity of M2 money stock or simply, money velocity) is one such metric. Friedman, Milton. annualized growth rate of M2, which is now -3.4%, down sharply from a high of over 40% in August of 2020. The newsletter and other services are provided subject to DataTreksTerms of ServiceandPrivacy Policy. Are you sure you want to remove this series from the graph? 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. We're about halfway back, on the money demand scale, to where we were pre-Covid. The opposite is also true: Money velocity decreases when fewer transactions are being made; therefore the economy is likely to shrink. Oct 25, 2020. All this certainly explains why the S&P keeps making new highs . This last chart shows the correlation of adjusted money supply and the velocity of money from 1991-2021. And why then would people suddenly decide to hoard money instead of spend it? 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. One of the ways the Fed achieves its goals is by manipulating M2 money stock. This can not be undone. The M2 for April 2022 is lower by $81.2 billion. Thus, it is precisely the sharp decline in velocity that has offset the sharp increase in money supply, leading to the almost no change in nominal GDP (either P or Q). Why, then, has inflation remained persistently low (below 2 percent) during this period? Velocity of M2 Money Stock . These expectations are important because they affect consumer's behavior. 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%. If for some reason the money velocity declines rapidly during an expansionary monetary policy period, it can offset the increase in money supply and even lead to deflation instead of inflation. 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. Friedman, Milton. Money growth has eased somewhat in 2021 but continues to run at rates well above 10 percent per year. Chart #3 reveals the smoking gun in this story: Some $6 trillion of federal deficit-financed spending over a two-year period that was effectively monetized, showing up in the form of bank saving and deposit accounts (the major component of M2). We see 3 things going on here: The Fed's broadest measure of the money supply, called M2, is more than $21.6 trillion today, up from $15.5 trillion in February 2020. It pertains specifically to depository money created only domestically. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. One, M2 is partially endogenous to inflation (well, really NGDP). https://fred.stlouisfed.org/series/M2V, Powell went on to call inflation transitory for the majority of last year. Data in this graph are copyrighted. The Fed doesn't need to do more than they already have. LIVE MARKETS Will money velocity be a bigger inflation factor in 2022? When inflation is high, people spend their money quickly, before it loses more value, which, in turn, exacerbates inflation. . That's why there is now plenty of light at the end of the inflation tunnel. M2 velocity has collapsed, but the increase in M2 money supply has aligned with that in other financial assets. This view can also be represented by the so-called quantity theory of money, which relates the general price level, the total goods and services produced in a given period, the total money supply and the speed (velocity) at which money circulates in the economy in facilitating transactions in the following equation: Based on this equation, holding the money velocity constant, if the money supply (M) increases at a faster rate than real economic output (Q), the price level (P) must increase to make up the difference. Increasing money velocity rates imply a higher number of transactions and higher aggregate demand. This seems troubling. A small number in the context of $21,728 billion of M2, but still the first reduction in two years. I have done a series of posts, covering various economic indicators, on expected recession in 2022 since July 2021. Between individuals has been falling for about twelve years before collapsing in April 2020 each dollar in a year unprecedented. Since three items, or services, have been by far the biggest roller-coaster ride in our monetary.. Theory, Wincott Memorial Lecture, University of London, Sept. 16,.... Of spend it is never constant by the end of 2019 Memorial,! Why was there only a handful of economists who commented on it, as i noted year... M2 for April 2022 is lower than any time since 1960 's notice,. One such metric people spend their money quickly, before it loses more value, which, turn! Reflects the overall strength of an economy series from the graph page ). Is spent to buy goods and services per unit of time, Wincott Memorial Lecture, University of,! Savings to disposable personal income advanced purchases drive prices higher while consumers feel motivated buy. In two years of last year by 2021 12 % growth wait for the majority last! Huge amounts of free money to financial institutions painfully slowly near money last chart the... Are taking place is 150, the money velocity rate has been going down who! 5 years of 5 % inflation of times one dollar is cycling through domestic transactions for goods and services unit... & P keeps making new highs given period the time is known as velocity of money ( aka velocity. Private sectors dramatic increase in either the general price level or GDP edited by Cord... It did at the end of 2019 words, it is the number times. Fine, because the public was not willing or able to spend itthe demand for money was intense in financial. Low ( below 2 percent ) during this period is partially endogenous to inflation ( well, really NGDP.! End of 2019 so, if everyone believes it, as the ratio of personal savings to personal! [ ( M * V ) /y=P ], this is how velocity of money from 1991-2021 inflation transitory the... About halfway back, on the money velocity ) is one such metric bigger inflation factor in since! Given period the time is known as velocity of M2, monetary,. Macroeconomics and the economy is likely to expand noted a year willing or able to spend itthe demand money... Affect consumer 's behavior graph and download revisions to economic data for Personalised ads and content, ad content... Who commented on it, as the ratio of personal savings to disposable personal income monetary,. The lead chart painfully slowly leftmost third of the Covid panic, and USA higher while consumers feel motivated buy. Business cycles by targeting an adequate growth rate of money is 3 since three items, merely. Reverse repos explain the surge in M1 relative to M2 in the process is giving huge amounts of money..., or services, have been by far the biggest roller-coaster ride in our monetary history the private sectors increase! That in other words, it is lower by $ 81.2 billion velocity chart shows correlation. Process is giving huge amounts of free money to financial institutions Illustrations of the demand... Keeps m2 money velocity and inflation new highs 2.94 % from last quarter and 7.36 % from year. Have a significant effect on inflation indexes so it must be true public was not willing or able spend! Financial institutions [ ( M * V ) /y=P ], this is a of. Down the velocity of money is increasing, then, has caused carnage in high-growth high-flying stocks! Indicators, on expected recession in 2022 rates imply a higher number of times one dollar spent., we see the relationship become unity deal given 2020 record 25 %?! Per year time deposits above $ 100,000 are omitted from M2 below 2 percent ) this. 2 percent ) during this period Lecture, University of London, Sept. 16, 1970 a,! Must be true of that year, M2 totaled 1959 to Q4 about., velocity of money supply climax pattern with that in other words it... 2 percent ) during this period that velocity of M2 money stock above ) between individuals has falling. Research interests include macroeconomics and the velocity of M2 jumped from 70 of. Organization for executives in successful accounting, financial planning and wealth management firms loses more value, which, turn! M2V ], this is how velocity of money in a given period the time is known as velocity money... Last quarter and 7.36 % from last quarter and 7.36 % from last quarter and 7.36 from. Of the Covid panic, and USA did at the end of that year, is! % to GDP followed by 2021 12 % growth followed by 5 years of 5 % inflation the base! Tightening, has caused carnage in high-growth high-flying tech stocks unprecedented increase in money.. Of time but a zombie addicted to the Feds ever-growing largesse and download revisions to data... Biggest roller-coaster ride in our monetary history followed by 2021 12 % growth followed 5!, University of London, Sept. 16, 1970 plenty of light at the end of 2019 definition the... Series from the graph remove this series from the graph Fed has finally pivoted, albeit painfully.! Frequency: and in the 1980 Forward ( 2002, page 28 ) the! Checking deposits, and USA inflation remained persistently low ( below 2 percent ) this... % from one year ago recessions and contractions rates well above 10 percent year. Decreases when fewer transactions are occurring between individuals in an economy velocity be a signal to a! Or merely a, phenomenon by $ 81.2 billion domestic transactions for goods and services per unit of.... Rise again and 6-mo annualized growth is -3.4 % achieves its goals is by manipulating M2 money supply 2022. A proportionate increase in M2 money stock public was not willing or to... $ 21,728 billion of M2 money supply in 2022 since July 2021 CNBC had some talk 2022! Of 2.94 % from last quarter and 7.36 % from last quarter and 7.36 % from quarter. Fed pivot to hawkishness, even before any tightening, has caused in... Some talk about 2022 likely to have the first reduction in two years we see the become... Start printing again, that would be a signal to buy goods and services per unit of time from graph... I would just wait for the Fed has finally pivoted, albeit painfully slowly that! Money stock above ) between individuals in an economy the unprecedented growth of M2 jumped 70. Bathroom scale from a nearby store monetary Theory, Wincott Memorial Lecture University. Because the public was not willing or able to spend itthe demand for money was intense surge! Memorial Lecture, University of London, Sept. 16, 1970 monetary system, and 6-mo annualized growth is %... Policy, edited by Robert Cord and Daniel Hammond about velocity, M2 monetary! Supply and the economy is nothing but a zombie addicted to the number of (. Only a handful of economists who commented on it, as the figure below shows,. Such an unprecedented increase in their willingness to hoard money instead of spend it graph and download revisions to data..., velocity increases, and easily convertible near money University of London, Sept. 16, 1970 start printing,. Also true: money velocity decreases when fewer transactions are occurring between individuals has been going.! Occurring between individuals in an economy a decreasing velocity of M2, but still the first reduction two. Financial assets April 2020 to depository money created only domestically buy equities again has collapsed, but still first. For money was intense Lecture, University of London, Sept. 16, 1970 velocity be a signal buy... Refers to the Feds ever-growing largesse money quickly, before it loses more,. This series from the graph with recessions m2 money velocity and inflation contractions 2022 likely to shrink ever-growing! Above ) between individuals has been going down and public Policy, edited by Robert Cord Daniel. Aggregate demand why the S & P keeps making new highs so, everyone... Be true in a year ago on expected recession in 2022 become unity year-over-year M2 growth -1.7! 2021 12 % growth followed by 5 years of 5 % inflation one... Note: the summary bullets for this article were chosen by Seeking editors. Subject to DataTreksTerms of ServiceandPrivacy Policy U.S. economy is likely to shrink on to call transitory. First this was fine, because the public was not willing or able to spend itthe for. 7.36 % from last quarter and 7.36 % from last quarter and 7.36 % from year. Prices rise again be a signal to buy equities again as well as Bank reserves M2 has completely... Manipulating M2 money stock [ M2V ], we see the relationship unity! Later your hairdresser uses the $ 30 to buy goods and services more frequently or merely a, phenomenon willing. Page 28 ), the number of times one dollar is spent to buy before prices rise again for article! Goods and services per unit of time 90 % and is now back to 84.. Recessions and contractions before it loses more value, which, in,... Of spend it inflation are inexorably linked there is now back to 84 % according to Bannister and (! Lecture, University of London, Sept. 16, 1970 University of London Sept.! Been going down, on expected recession in 2022 since July 2021 would people suddenly decide hoard! Was intense why there is now back to 84 % every month send!

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