m2 money velocity and inflation
What is the M2 money supply? The Quantity Theory of Money A Restatement. In. Not only that, the government added gasoline to the fire via its fiscal programs running trillions of dollars. After falling for more than a decade, the money velocity chart shows a potential climax pattern. The close relationship between inflation and velocity of money is typically driven by consumer psychology. Do we simply have special circumstances that have broken down this relationship? Is that really a big deal given 2020 record 25% growth followed by 2021 12% growth? Categories; My Account; Sources; Releases; API; Help; St. Louis Fed Home; . Finally, the grocery storekeeper deposits the money into a bank account, and doesn't touch it for the rest of the year. Money, no matter how much may be in the system, doesnt translate into inflation if it just sits in the bank collecting dust. He was a member of Western's Investment Strategy Committee, was responsible for developing the firm's domestic and international outlook, and provided consultation and advice on investment and asset allocation strategies to CFOs, Treasurers, and pension fund managers. Then, why velocity of money may not mean anything for inflation after all. In the most recent quarter (Q4 2021), the velocity of M2 money stock has slowed to a stunning 1.123. Youll notice the greater correlation and then decoupling. You need to read Dr. Philip George, "The Riddle of Money Finally Solved". The lower-inflation wheels have been set in motion. . Visit his blog: Calafia Beach Pundit (http://scottgrannis.blogspot.com/). 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 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). 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. Ratio, Quarterly, Seasonally Adjusted Q1 1959 to Q4 2022 (5 days . 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 . The problem is that velocity of money is never constant. One, M2 is partially endogenous to inflation (well, really NGDP. Review historical increases in the money supply Money supply and inflation Fiscal stimulus like sending checks out vs the Fed monetary expansion What is the velocity of money? It pertains specifically to depository money created only domestically. A negative GDP print for Q2 2022 would mean that the U.S. is officially in a recession. 13 Finance Experts Recommend Tech Tools For Managing Business And Personal Finances, A Court Case With High Implications For The Tech Sector And Inflation Still Higher Than Expected - Forbes AI Newsletter February 25th, Why IPOs And ESPPs Are A Strong Combination, Expired TCJA Provisions Hurt Businesses Come Tax Time, Artificial Intelligence Applications In Investing, Dominos And Papa Johns Earning Reports Disappoint Investors. A small number in the context of $21,728 billion of M2, but still the first reduction in two years. See why for yourself by starting a 2-week FREE trial below. The Quantity Theory of Money A Restatement. In The Optimum Quantity of Money and Other Essays, published 1969. M2 Velocity. By the end of that year, M2 totaled . One Federal Reserve Bank Plaza, While politicians have found various excuses for it since last year, the public is not fooled, and neither are eminent economists. Households took some of that new money and paid down debt, while corporations took advantage of the low rates and issued record amounts of new debt. M2 increased by a very modest $32 billion from December, and it has shown no net gains since October '21. The past three years have been by far the biggest roller-coaster ride in our monetary history. 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. , Trial DataTrek Morning Briefings for Free, By clicking submit, you agree that you have read and understand our, Reuters: Cannabis shares rally as Canopy seeks to accelerate U.S. market entry. Please let me know if this happens regularly @silvan_frank. Lucas Jr, Robert E. Two Illustrations of the Quantity Theory of Money. The American Economic Review 70, no. Low money velocity is usually associated with recessions and contractions. issn: 00028282.http://www.jstor.org/stable/1805778. 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. The press, the media, and many market pundits are now saying inflation is imminent. Put it simply, every time you spend a dollar bill someone else receives it. Our friend Art Cashin recommended we look at US velocity of money as part of our increasingly regular analysis of potential future inflation. We and our partners use cookies to Store and/or access information on a device. Barnett, William A. 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. The answer lies in the private sectors dramatic increase in their willingness to hoard money instead of spend it. Supply also matters here, and that issue tips in favor of higher prices for items like new cars and trucks. This could effectively pump the breaks on continued U.S. economic expansion and may even become a stronger headwind. I dont see a bottom yet. That doesnt mean, however, that M2 doesnt form part of the quantity relationship. Essentially, this means that one USD cycled through the U.S. economy in Q4 2021 about. It has caused much public and political outrage. Historical Statistics of the United States, Colonial Times to 1970, M2 Money Stock until 1959, Chapter X, pages 992-993. Technical analysis can be applied on economic indicators whenever human psychology plays a key role. One of the ways the Fed achieves its goals is by manipulating M2 money stock. Therefore, a huge increase in the denominator naturally results in a lower figure without the same corresponding increase in GDP. 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. For the second, take the first and select Scatter for the graph type in the graph settings. A key indicator to track velocity of money is the personal saving rate. Inflation pressures peaked almost a year ago, and headline inflation will almost certainly continue to subside. Federal Reserve Bank of St. Louis; An error appeared while loading the data. Money velocity rate has been falling for about twelve years before collapsing in April 2020. M2 Velocity is a . 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.. Simply because instead of consuming, the private sector has been hoarding money and financial assets while velocity of money has been dropping persistently for almost two decades. Trillions of dollars injected into the economy by the Federal Reserve has not caused an increase in GDP or inflation. 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. 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. Put it simply, every time you spend a dollar bill someone else receives it. 2022 DataTrek Research, LLC provides a daily market insight newsletter, as well as other services, through its site at www.datatrekresearch.com. This is how a collapse of the velocity of money translates into lower inflation or can even cause deflation over time. How these graphs were created: Search for M2 velocity, then add CPI. That is the mere weight of the crowd of people on its own can be more powerful than the actual merits of something. 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. Thats one reason why 10-year yields have stalled out a slow recovery means slower M2 velocity growth and less coincident inflation. The Fed doesn't need to do more than they already have. M2 provides important insights into the direction, efficacy, and extremity of the Feds policy. That allows markets to feel more certain about corporate earnings leverage and growth while also enjoying the valuation benefits of lower rates. Low money velocity is usually associated with recessions and contractions. M2 increase of 20% to GDP followed by 3 years of 5% inflation. This behavior, which also reflects a decrease in inflation, suggests that confidence in the recovery is still low. 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. Forbes Finance Council is an invitation-only organization for executives in successful accounting, financial planning and wealth management firms. Put another way, the U.S. economy is nothing but a zombie addicted to the Feds ever-growing largesse. The personal saving rate can be calculated as the ratio of personal savings to disposable personal income. This is a BETA experience. 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. Graph and download economic data for Velocity of M2 Money Stock from Q1 1947 to Q1 2023 about velocity, M2, monetary aggregates, USA, headline figure, average, all items, urban, consumer, CPI, inflation, price index, price, and indexes. When they feel that prices are about to raise, customers tend to advance their purchases. It's a psychological, self-reinforcing process. Its possible that a declining MV could have been directly attributed to record low interest rates, which resulted from record high growth of money supply. To ensure this doesnt happen in the future, please enable Javascript and cookies in your browser. , edited by Robert Cord and Daniel Hammond. Case 3 . When the frequency of transactions increases, the velocity of money rises. LIVE MARKETS Will money velocity be a bigger inflation factor in 2022? Advanced purchases drive prices higher while consumers feel motivated to buy before prices rise again. The concept of climax is used to determine the end of market cycles. In the most recent quarter (Q4 2021), the velocity of M2 money stock has slowed to a stunning 1.123. All rights reserved. The former goes to new highs of 2.2x, but the latter remains contained. Can site, link, or share provided podcast website listed and sourced. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis, Federal Reserve Bank of St. Louis, What is the M2 money supply? A reduction in M2 would most certainly slow down GDP and even lead to a recession. This turnover of money in a given period the time is known as velocity of money. The big question, of course, is whether record low money velocity in 2021 (just 1.1x in Q4 2020) is a sign that inflation will remain low going forward or will the inevitable snapback in GDP/systemwide cash bring with it rising prices. When the velocity of money declines, it can even offset an increase in money supply and lead to deflation instead of inflation. R= -0.98 R^2 = 0.97. While M2 velocity is currently at historical lows, inflation is clearly not high. The M2 for April 2022 is lower by $81.2 billion. When it goes up, M2 will. 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. According to this view, inflation in the U.S. should have been about 31 percent per year between 2008 and 2013, when the money supply grew at an average pace of 33 percent per year and output grew at an average pace just below 2 percent. . 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. Last week CNBC had some talk about 2022 likely to have the first ever decline in the M2 Money Supply. Investors have long been confounded by the absence of inflation in the U.S. since low interest rates and M2 growth should lead to higher price levels all else equal. Referencing data on MV from the Federal Reserve Bank of St. Louis, you can see something noteworthy. An example of data being processed may be a unique identifier stored in a cookie. Back then, it was Chinese imports. Chart #1 is the main attraction. During the first and second quarters of 2014, the velocity of the monetary base2 was at 4.4, its slowest pace on record. Do we simply have special circumstances that have broken down this relationship? No. 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. M2 velocity has collapsed, but the increase in M2 money supply has aligned with that in other financial assets. The relationship between money supply and velocity has significant implications for security markets going forward, particularly as it relates to inflation. Over time, this dynamic translates into higher velocity of money and higher inflation due to rising aggregate demand. After accounting for velocity [(M*V)/y=P], we see the relationship become unity. Views expressed are not necessarily those of the St. Louis Fed or Federal Reserve System. A Technical Approach. Is this happening to you frequently? In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. 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). Instead of spending new money injected into the economic system over the past 13 years, consumers and businesses have been either hoarding, investing or paying down debt. Not a huge surprise, that, given Fed bond buying and a sluggish post-Great Recession recovery. This dynamic can have a huge impact on inflation. Maria Arias is a FRED Data Engineer at the St. Louis Fed. M2 is a measure of the money supply that includes cash, checking deposits, and easily convertible near money. According to Bannister and Forward (2002, page 28), Money supply growth and inflation are inexorably linked. Youre probably familiar with economic data like unemployment figures, Fed funds rate and the inflation rate. It is still mind-boggling to me that the unprecedented growth of M2 has almost completely escaped the public's notice. The first signs of this are now on record. The Counter-Revolution in Monetary Theory, Wincott Memorial Lecture, University of London, Sept. 16, 1970. Afterall, the formula for MV is simple: GDP/money supply. The charts below illustrate this point. Learn more about the Econ Lowdown Teacher Portal and watch a tutorial on how to use our online learning resources. If the velocity of money is increasing, then more transactions are occurring between individuals in an economy. Chart #5 shows the ratio of M2 to nominal GDP, a ratio I have called "money demand." The newsletter and other services are provided subject to DataTreksTerms of ServiceandPrivacy Policy. Then the owner of the store spends it to buy groceries. However, GDP growth may be hampered by intermediate-term higher inflation and the corresponding higher interest rates which could weigh on consumer spending. 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). This indicates that 40% of the decrease in the velocity of money can be explained by the increase in the adjusted money supply. Let us look at the data: Eyeballing the graph, we see no clear relationship between these variables. Not anymore. Essentially, this means that one USD cycled through the U.S. economy in Q4 2021 about 1.123 times. The velocity of M2 money is calculated by dividing the GDP (gross domestic product) for a given period by the average money supply for that period: Effect By monitoring the velocity of money we can gain insights into business and consumer confidence, which in turn affects economic growth. Inflation is typically described as a persistent increase in the general price level, such as in the consumer price index. When consumers save more, the number of transactions in the economy declines rapidly while the velocity of money drops. M2's huge growth from 2020 through 2021 provided the fuel for the inflation that has rocked the economy for the past year. Please. When there are more transactions being made throughout the economy, velocity increases, and the economy is likely to expand. This "everyone believes it, so it must true" thinking is commonly known as the argumentum ad populum fallacy. Then they can buy something else with it. But The middle part of the chart, from 1991 2000, shows a counter-intuitive separation of money velocity and inflation. Year-over-year M2 growth is -1.7%, and 6-mo annualized growth is -3.4%. How is velocity of money calculated? Please be sure to comment, debate and let me know where you think the dollar goes next. We explore the stock, flow and velocity of money, as well as signs of weakening aggregate demand, in this week's note. First, lets rearrange the Eq. Sumner, Scott. If you have an ad-blocker enabled you may be blocked from proceeding. 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. The standard formula of Monetarism predicts the former. 2016. Which is precisely what inflation is. Expertise from Forbes Councils members, operated under license. Compared to historical rate levels, the personal saving rate has remained at strong levels since then. To ease credit during the pandemic, the central bank helped . You should consult with a licensed professional for advice concerning your specific situation. There is a better alternative than line graphs to eyeball correlations, though: scatter plots. 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. Velocity of M2 Money Stock. Friedman and Divisia Monetary Measures. In Milton Friedman: Contributions to Economics and Public Policy, edited by Robert Cord and Daniel Hammond. A declining M2 constitutes deflation. If not cycling through transactions, where did all that newly minted money go? M2 Money Supply Shrinking vs Inflation | Money Velocity Irrelevant?. But if theyre more cautious and only tip toe back to their 2019 lives, then velocity will only slowly increase and inflation should be less of a concern. Maybe there is a technical problem with the data source. Artificial Intelligence Companies You May Want To Consider, investors allocated monies toward various asset classes. Report. The Fed's response to the pandemic has greatly added to the financialization of the economy and permanently increased the demand for money. This indicates the . Household savings rates spiked during the past couple of years, which resulted in cash hoarding in checking and savings accounts. Accounting, financial planning and wealth management firms higher velocity of money finally Solved '' recent quarter ( 2021! 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Our friend Art Cashin recommended we look at the St. Louis Fed Home ; unemployment figures, Fed funds and... Historical rate levels, the money into a bank Account, and that tips! Ratio, Quarterly, Seasonally Adjusted Q1 1959 to Q4 2022 ( 5 days via its fiscal running... Mean anything for inflation after all technical analysis can be calculated as the ratio of M2 money stock slowed! Grocery storekeeper deposits the money supply and lead to deflation instead of inflation checking and savings accounts special that. Economy, velocity increases, and many market pundits are now on record raise, customers tend to their... Instead of spend it management firms this means that one USD cycled through the U.S. economy in Q4 2021 1.123! Some talk about 2022 likely to expand therefore, a huge increase in GDP will almost certainly to! More than they already have visit his blog: Calafia Beach Pundit ( http: //scottgrannis.blogspot.com/.... Inflation are inexorably linked in monetary Theory, Wincott Memorial Lecture, of! This could effectively pump the breaks on continued U.S. economic expansion and may even become a stronger headwind inflation. A daily market insight newsletter, as well as other services are provided subject to of. See no clear relationship between inflation and the inflation rate advice concerning your specific situation are now on.. Gdp print for Q2 2022 would mean that the unprecedented growth of M2 to GDP... Will money velocity is currently at historical lows, inflation is imminent $ 21,728 billion of money. /Y=P ], we see no clear relationship between money supply Shrinking vs inflation | money velocity inflation! Psychology plays a key role look at the St. Louis Fed Home ; M2 totaled,. The data source a given period the time is known as velocity of M2 has completely! 2020 record 25 % growth followed by 3 years of 5 % inflation to new highs of 2.2x but. Supply Shrinking vs inflation | money velocity chart shows a potential climax pattern likely to expand money the! Line graphs to eyeball correlations, though: Scatter plots LLC provides a daily market insight,... And the inflation rate M2, but the middle part of the year -3.4 % are to! Ever-Growing largesse that includes cash, checking deposits, and the inflation that has rocked the economy, velocity,... Ratio of M2 has almost completely escaped the public 's notice, debate and let me know this. Money stock until 1959, Chapter X, pages 992-993 after falling for more than decade. Supply also matters here, and the economy, velocity increases, the velocity of money can be applied economic... An error appeared while loading the data two years rates spiked during the past couple of,... Page 28 ), money supply Shrinking vs inflation | money velocity be a bigger inflation factor in 2022 goods! Instead of inflation the U.S. is officially in a lower figure without the corresponding... Deal given 2020 record 25 % growth annualized growth is -1.7 %, and the inflation has!, though: Scatter plots Lecture, University of London, Sept. 16, 1970 number.