Please. In most recent history, M2 growth surpassed 10 percent in the crisis of 2001 and 2009, during which an expansionary monetary policy was deployed by the central bank, including large scale asset purchases. 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. In other words, MZM money is M2 money minus time deposits. Low money velocity is usually associated with recessions and contractions. U.S. corporations are now sitting atop the highest corporate debt mountain in U.S. history. The velocity of MZM helps determine how often financial assets are switching hands within the economy. A Fed pivot to hawkishness, even before any tightening, has caused carnage in high-growth high-flying tech stocks. Back then, it was Chinese imports. The views expressed are those of individual authors and do not necessarily reflect official positions of the Federal Reserve Bank of St. Louis, the Federal Reserve System, or the Board of Governors. annualized growth rate of M2, which is now -3.4%, down sharply from a high of over 40% in August of 2020. Lucas Jr, Robert E. Two Illustrations of the Quantity Theory of Money. The American Economic Review 70, no. The Quantity Theory of Money A Restatement. In The Optimum Quantity of Money and Other Essays, published 1969. 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. 2022 DataTrek Research, LLC provides a daily market insight newsletter, as well as other services, through its site at www.datatrekresearch.com. Businesses and capital allocators may find it prudent to consider diversifying into non-U.S. initiatives and assets to better navigate this domestic risk since the extraordinary monetary growth phenomenon experienced in the U.S. has been less pronounced in most other developed economies. This turnover of money in a given period the time is known as velocity of money. issn: 00028282.http://www.jstor.org/stable/1805778. We can think of shorter- term transactions as consumption we might make on an everyday basis. M2 increase of 20% to GDP followed by 3 years of 5% inflation. Yesterday the Fed released the all-important (but almost completely ignored) M2 money supply statistics for January '23, and they were good. 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. Why was there only a handful of economists who commented on it, as I noted a year ago? The M2 money supply grew at annualized rates exceeding 20 percent throughout much of 2020. Barnett, William A. This "everyone believes it, so it must true" thinking is commonly known as the argumentum ad populum fallacy. CPI Inflation year-over-year Figure 3: In Contrast to the Great Depression, the Fed Prevents Substantial Deflation in the Great Recession 2007 2009 2011 2013 Not a huge surprise, that, given Fed bond buying and a sluggish post-Great Recession recovery. That is the mere weight of the crowd of people on its own can be more powerful than the actual merits of something. 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. Federal Reserve Bank of St. Louis, Units: 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. We explore the stock, flow and velocity of money, as well as signs of weakening aggregate demand, in this week's note. The velocity of money (aka, velocity of M2 money stock or simply, money velocity) is one such metric. Please update to a modern browser: a list is available here. 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. M2 contained non-M1 components which are contractionary. Which is precisely what inflation is. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. How this graph was created: Search FRED for "M2 Money Velocity" and choose the series "Velocity of M2 Money Stock", or M2V. Velocity is a ratio of nominal GDP to a measure of the money supply (M1 or M2). Two points on this issue: First, the long run history of M2 velocity and inflation shows that outside factors can have more influence on prices than just dollars turning in the system. What you are seeing is a yuuge increase in the supply of money. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. , edited by Robert Cord and Daniel Hammond. Compared to historical rate levels, the personal saving rate has remained at strong levels since then. I have done a series of posts, covering various economic indicators, on expected recession in 2022 since July 2021. m2 6 r^2 = 0.0259. 1956. His research interests include macroeconomics and the Chinese economy. Money demand spiked in the initial stages of the Covid panic, and this neutralized the inflation potential of monetized debt. 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. One Federal Reserve Bank Plaza, The monetary base includes notes and coins in circulation as well as bank reserves. We see 3 things going on here: As a result, M2 stands more than 36 percent higher today than it did at the end of 2019. 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. Sign up or read more information atwww.datatrekresearch.com. Historically, M2 has grown along with the economy (see in the chart below). The relationship between money supply and velocity has significant implications for security markets going forward, particularly as it relates to inflation. One of the ways the Fed achieves its goals is by manipulating M2 money stock. Expertise from Forbes Councils members, operated under license. According to the Quantity Theory of Money, inflation depends on the money supply and its velocity. Sumner, Scott. 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. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. St. Louis, MO 63102, More Then the owner of the store spends it to buy groceries. This could effectively pump the breaks on continued U.S. economic expansion and may even become a stronger headwind. A nice clean relationship. The gap is closing, and the money printing presses have been shut down. A declining M2 constitutes deflation. Thousands of investors and financial journalists rely on Nick and Jessicas newsletter every day for their thought-provoking work on markets, data and disruption. 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. Velocity of M2 Money Stock . I can think of two reasons. 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. Federal Reserve Bank of St. Louis; One Federal Reserve Bank Plaza, The. 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). The frequency of currency exchange can be used to determine the velocity of a given component of the money supply, providing some insight into whether consumers and businesses are saving or spending their money. These put persistent pressure on prices. FRED Series Velocity of M2 Money Stock. 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. Then they can buy something else with it. 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 If the velocity of money is increasing, then more transactions are occurring between individuals in an economy. If you have an ad-blocker enabled you may be blocked from proceeding. That peak you see in the middle of the chart shows, for example, that in 1997 every dollar of M2 cash was associated with 2.2 dollars of GDP (i.e., it turned twice in that year). Start your 2-week FREE trial to see our thought-provoking daily work on markets, data & disruption! Source: 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. One, M2 is partially endogenous to inflation (well, really NGDP). Everything's Endogenous. EconLog. 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 . Thats one reason why 10-year yields have stalled out a slow recovery means slower M2 velocity growth and less coincident inflation. 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. 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. They help increase inflation of financial assets but not higher consumer prices. 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. Federal Reserve Bank of St. Louis, 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. Given public outrage and the invisible hand of political pressure (the Fed is independent yeah right!!! How is velocity of money calculated? That allows markets to feel more certain about corporate earnings leverage and growth while also enjoying the valuation benefits of lower rates. Friedman and Divisia Monetary Measures. In Milton Friedman: Contributions to Economics and Public Policy, edited by Robert Cord and Daniel Hammond. Please enter your email address or username below. Sumner, Scott. 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