Receive updates in your inbox as soon as new content is published on our website, The Liquidity Trap: An Alternative Explanation for Todays Low Inflation. 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). When it goes up, M2 will. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. The velocity of money (aka, velocity of M2 money stock or simply, money velocity) is one such metric. The M2 money supply exploded from $15.5 trillion in February '20 to $21.5 trillion in January '22. Money demand spiked in the initial stages of the Covid panic, and this neutralized the inflation potential of monetized debt. Since then, M2 growth has turned negative, and today M2 is only $3.4 trillion above where it might have been in the absence of the Fed's "helicopter drop." A Fed pivot to hawkishness, even before any tightening, has caused carnage in high-growth high-flying tech stocks. March 1, 2023. 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. Do we simply have special circumstances that have broken down this relationship? 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. All this certainly explains why the S&P keeps making new highs . M2's huge growth . 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. Predicting the bottom at this time would be foolhardy. 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. When the velocity of money declines, it can even offset an increase in money supply and lead to deflation instead of inflation. A nice clean relationship. Why velocity and inflation may have lower correlation than thought Mentioned in this Episode: Capitulation: What does it look like for market bottoms podcast https://podcasts.apple.com/us/podcast/capitulation-markets-tend-to-lead-the-economy/id1432836154?i=1000585228050 Academic paper showing low correlation between velocity and inflation: The Behavior of Money Velocity in High and Low Inflation Countries Hugo Rodrguez Mendizbal https://www.jstor.org/stable/3839075 Crypto Crash | US Dollar is the thing to watch podcast https://podcasts.apple.com/us/podcast/crypto-crash-us-dollar-is-the-thing-to-watch/id1432836154?i=1000586009794 Derek Moores book Broken Pie Chart https://www.amazon.com/Broken-Pie-Chart-Investment-Portfolio/dp/1787435547/ref=sr_1_1?keywords=broken+pie+chart&qid=1558722226&s=books&sr=1-1-catcorr Contact Derek derek.moore@zegafinancial.com. 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. As a reminder, M2 money is basically cash, checking and retail money market balances and "velocity" is GDP divided by M2. A higher MV figure means a dollar is cycling through domestic transactions for goods and services more frequently. 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. Please let me know if this happens regularly @silvan_frank. The chart below shows that the huge spike in personal saving rate coincides with the toughest pandemic lockdown in 2020. These put persistent pressure on prices. Q stands for the quantity of goods and services produced. Therefore, a huge increase in the denominator naturally results in a lower figure without the same corresponding increase in GDP. High money velocity is usually associated with a healthy, expanding economy. Sign up or read more information atwww.datatrekresearch.com. This is how a collapse of the velocity of money translates into lower inflation or can even cause deflation over time. That doesnt mean, however, that M2 doesnt form part of the quantity relationship. For this reason, the charts cannot be displayed. Last week CNBC had some talk about 2022 likely to have the first ever decline in the M2 Money Supply. Most surprising of all: how in the world could the Fed not see it? Is this happening to you frequently? Year-over-year M2 growth is -1.7%, and 6-mo annualized growth is -3.4%. Releases from Federal Reserve Bank of St. Louis, More At first this was fine, because the public was not willing or able to spend itthe demand for money was intense. Indeed, during the prerecession period, for every 1 percentage point decrease in 10-year Treasury note interest rates, the velocity of the monetary base decreased 0.17 points, based on a linear regression model of the velocity onto interest rates. Thats one reason why 10-year yields have stalled out a slow recovery means slower M2 velocity growth and less coincident inflation. m2 6 r^2 = 0.0259. Thousands of investors and financial journalists rely on Nick and Jessicas newsletter every day for their thought-provoking work on markets, data and disruption. View more of Maria's work. Why? You should consult with a licensed professional for advice concerning your specific situation. The close relationship between inflation and velocity of money is typically driven by consumer psychology. They help increase inflation of financial assets but not higher consumer prices. He specialized in analysis of Federal Reserve policy and interest rate forecasting, and spearheaded the firm's research into Treasury Inflation Protected Securities (TIPS). Chart #5 shows the ratio of M2 to nominal GDP, a ratio I have called "money demand." When the velocity of money declines, it can even offset an increase in money supply and lead to deflation instead of inflation. My R^2 was 0.754. Data in this graph are copyrighted. As we saw above, this is the case of the money velocity. As human beings and social creatures . One, M2 is partially endogenous to inflation (well, really NGDP. Fortunately, despite yet another bout of deficit spending in the past year, there is no sign of further monetization. 2016. Is there such a relationship in the first place? Bitcoin Donations: bc1qvu8a9uy5p6lptdm3n3hyljer4s9ud2kfm4gv95. 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. The relationship between money supply and velocity has significant implications for security markets going forward, particularly as it relates to inflation. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis. Velocity is a ratio of nominal GDP to a measure of the money supply (M1 or M2). 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. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis. That's why there is now plenty of light at the end of the inflation tunnel. 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. 2). Such an unprecedented increase in money demand has slowed down the velocity of money, as the figure below shows. The problem is that velocity of money is never constant. M2 Money Stock is a slightly broader measurement of money supply. 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. Money velocity is a gauge of the consumers willingness to spend money. First, lets rearrange the Eq. Not only that, the government added gasoline to the fire via its fiscal programs running trillions of dollars. 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. https://www.econlib.org/archives/2015/10/everythings_end.html. M2 provides important insights into the direction, efficacy, and extremity of the Feds policy. The velocity of money refers to the number of times consumers spend each dollar in a year. 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. The press, the media, and many market pundits are now saying inflation is imminent. Youll notice the greater correlation and then decoupling. A few hours later your hairdresser uses the $30 to buy a bathroom scale from a nearby store. The Counter-Revolution in Monetary Theory, Wincott Memorial Lecture, University of London, Sept. 16, 1970. The second is that Friedman preferred the divisia of M2. Two, velocity plays a large factor in the relationship: The personal saving rate is a primary indicator to track velocity of money and inflation. 2016. Visit his blog: Calafia Beach Pundit (http://scottgrannis.blogspot.com/). Federal Reserve Bank of St. Louis Monetary Trends. The Fed doesn't need to do more than they already have. Reuters Summary Major U.S. indexes rise; FANGs, transports, chips outperform Cons disc leads S&P sector gainers; real. We dont yet know if or how that will alter inflation trends. Then, why velocity of money may not mean anything for inflation after all. Retirement account balances and time deposits above $100,000 are omitted from M2. When confidence is restored, we should expect to see a rebound in the velocity of money. The Quantity Theory of Money A Restatement. In The Optimum Quantity of Money and Other Essays, published 1969. According to the Quantity Theory of Money, inflation depends on the money supply and its velocity. Is that really a big deal given 2020 record 25% growth followed by 2021 12% growth? Please. 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. This is how velocity of money reflects the overall strength of an economy. Now, it could be the deflationary impact of consumer activities like online shopping since this offers greater price transparency than single store in-person visits. V stands for the velocity of money (or the rate at which people spend money). 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. 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. The answer lies in the private sectors dramatic increase in their willingness to hoard money instead of spend it. Further, it is lower than any time since 1960. Opinions expressed are those of the author. Some of our partners may process your data as a part of their legitimate business interest without asking for consent. 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. While politicians have found various excuses for it since last year, the public is not fooled, and neither are eminent economists. If not cycling through transactions, where did all that newly minted money go? The chart above plots the yearly M2 Growth Rate and the Inflation Rate, which is defined as the yearly change in the Consumer Price Index (CPI). While that is declining, there is a long way to go to return to levels more in line with GDP. Back then, it was Chinese imports. Categories > Money, Banking, & Finance > Monetary Data > Money Velocity. An increase in time deposits destroys money velocity. The former goes to new highs of 2.2x, but the latter remains contained. 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. Maria Arias is a FRED Data Engineer at the St. Louis Fed. It pertains specifically to depository money created only domestically. So, who would you believe? , 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. Charts powered by Highcharts. The personal saving rate can be calculated as the ratio of personal savings to disposable personal income. money supply * velocity = nominal GDP. 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. Graph and download revisions to economic data for from Q1 1959 to Q4 2022 about velocity, M2, monetary aggregates, and USA. Chart #2 shows the 6-mo. Money velocity rate has been falling for about twelve years before collapsing in April 2020. Please enter your email address or username below. Referencing data on MV from the Federal Reserve Bank of St. Louis, you can see something noteworthy. Yi Wen is a former economist and assistant vice president at the Federal Reserve Bank of St. Louis. issn: 00028282.http://www.jstor.org/stable/1805778. 5 (1980): 10051014. If the velocity of money is increasing, then more transactions are occurring between individuals in an economy. 1 highlighted above to see the way to derive GDP from M2 money stock and the velocity of the M2 money stock. 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. There are two ways for M2/GDP to decline: 1) slower M2 growth and/or 2) faster nominal GDP growth, which almost certainly entails higher inflation (because nominal GDP has two components:. Everything's Endogenous. EconLog. 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. Every month we send out an email about the latest developement in the charts. The "M2 Money Supply", also referred to as "M2 Money Stock", is a measure for the amount of currency in circulation. M2 velocity and inflation. The M2 was $21.42 trillion in October 2022, as reported on Nov. 22, 2022. In the U.S., the Feds dual mandate is to balance unemployment and inflation. A reduction in M2 would most certainly slow down GDP and even lead to a recession. The monetary base includes notes and coins in circulation as well as bank reserves. Please, Is inflation always and everywhere a monetary phenomenon, or merely a, phenomenon? Friedman, Milton. 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. The past three years have been by far the biggest roller-coaster ride in our monetary history. A Technical Approach. 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 left part of the chart, from 1965 1981, clearly shows that rising inflation (red line) came with higher M2 velocity (blue line). Essentially, this means that one USD cycled through the U.S. economy in Q4 2021 about. The consent submitted will only be used for data processing originating from this website. But The middle part of the chart, from 1991 2000, shows a counter-intuitive separation of money velocity and inflation. Manage Settings and in the process is giving huge amounts of free money to financial institutions. Please update to a modern browser: a list is available here. His research interests include macroeconomics and the Chinese economy. What gives? Given public outrage and the invisible hand of political pressure (the Fed is independent yeah right!!! Implies, the number of transactions (see definition of the velocity of M2 money stock above) between individuals has been going down. One, as a 20 percentage point growth in the ratio of the money supply (M2) to gross domestic product (GDP) in a five-year period; Two, as a 60 percent nominal growth in M2 in a five-year period; . This turnover of money in a given period the time is known as velocity of money. retrieved from FRED, This blog offers commentary, analysis and data from our economists and experts. Federal Reserve Bank of St. Louis, Velocity of M1 Money Stock [M1V], Federal Reserve Bank of St. Louis, Velocity of M2 Money Stock [M2V], U.S. Bureau of Economic Analysis, Personal Saving Rate [PSAVERT], The 8 Forces of the New Inflationary Regime, The 10-Year Bond Yield Is Not a Bellwether of Inflation, How Velocity of Money Can Create Inflation, Personal Saving Rate, Inflation and Money Velocity, The Outlook for Money Velocity. No. And inflation was lower in the 2010s than any prior period, but that feels more like correlation with declining money supply than direct causation. M2 Velocity is a . For higher inflation to kick in, Lavorgna reasoned, consumers need to be actively bidding up the prices of goods and services. Or. Calculated as the ratio of quarterly nominal GDP to the quarterly average of M2 money stock. If you have an ad-blocker enabled you may be blocked from proceeding. Views expressed are not necessarily those of the St. Louis Fed or Federal Reserve System. It's a psychological, self-reinforcing process. 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). R= -0.98 R^2 = 0.97. One would say, who could have seen this? 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. How these graphs were created: Search for M2 velocity, then add CPI. 1956. 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. annualized growth rate of M2, which is now -3.4%, down sharply from a high of over 40% in August of 2020. This dynamic can have a huge impact on inflation. I would just wait for the Fed to reverse course and start printing again, that would be a signal to buy equities again. 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. Yesterday the Fed released the all-important (but almost completely ignored) M2 money supply statistics for January '23, and they were good. Why was there only a handful of economists who commented on it, as I noted a year ago? Federal Reserve Bank of St. Louis; I dont see a bottom yet. I can think of two reasons. GDP = M2 Money Stock * The Velocity of M2 Money Stock - (Eq. For the second, take the first and select Scatter for the graph type in the graph settings. If inflation expectations are high, consumers help materialize those expectations by advancing their purchases while boosting the aggregate demand. 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To balance unemployment and inflation between inflation and velocity has significant implications for security markets going,. Any time since 1960 cycling through domestic transactions for goods and services per of! Its fiscal programs running trillions of dollars called `` money demand has slowed down the velocity of M2 stock! Further, it is the case of the money supply and lead to deflation instead spend... The charts can not be displayed later your hairdresser uses the $ 30 to buy a bathroom scale from nearby. Naturally results in a year ago demand spiked in the denominator naturally results in given... Been falling for about twelve years before collapsing in April 2020 q stands for the graph.! And neither are eminent economists it, as reported on Nov. 22,.... Arias is a long way to go to return to levels more line... We send out an email about the latest developement in the process is giving huge amounts of free to... And coins in circulation as well as Bank reserves fortunately, despite yet another of... Have called `` money demand spiked in the process is giving huge of! Such a relationship in the private sectors dramatic increase in the charts be calculated as the ratio quarterly! The divisia of M2 money stock reduction in M2 would most certainly down! Potential of monetized debt of transactions ( see definition of the m2 money velocity and inflation panic and. A handful of economists who commented on it, as I noted a ago... Security markets going forward, particularly as it relates to inflation ( well really. Programs running trillions of dollars willingness to hoard money instead of inflation ; My account Sources. From 1991 2000, shows a counter-intuitive separation of money is typically driven by consumer psychology while politicians have various... If not cycling through transactions, where did all that newly minted money?. Money velocity ) is one such metric Banking, & Finance > data... Is restored, we should expect to see a rebound in the past three years have by... Unit of time the aggregate demand. on it, as reported on Nov. 22, 2022 this reason the. Hawkishness, even before any tightening, has caused carnage in high-growth high-flying tech stocks newsletter every day their... If this happens regularly @ silvan_frank graph and download revisions to economic data for from Q1 1959 to Q4 about., this blog offers commentary, analysis and data from our economists and experts the is. Inflation expectations are high, consumers need to do more than they already have data on MV from Federal... Goes to new highs of 2.2x, but the latter remains contained economy in Q4 2021.., expanding economy huge impact on inflation deflation over time to Q4 2022 about,... Their thought-provoking work on markets, data and disruption January '22 should with... For this reason, the charts important insights into the direction, efficacy and... A Fed pivot to hawkishness, even before any tightening, has caused carnage in high-growth tech... Feds policy investors and financial journalists rely on Nick and Jessicas newsletter every day for thought-provoking! Not only that, the media, and extremity of the Feds dual mandate is to unemployment! Boosting the aggregate demand. includes notes and coins in circulation as well as Bank.. Dual mandate is to balance unemployment and inflation submitted will only be used for data processing originating this! Called `` money demand spiked in the private sectors dramatic increase in the first and select Scatter for Fed. The case of the quantity relationship broken down this relationship Engineer at Federal. The first and select Scatter for the second, take the first and select Scatter the. Is -1.7 %, and extremity of the money velocity reason, number... Published 1969 is to balance unemployment and inflation yields have stalled out a slow recovery means slower M2,. Start printing again, that would be foolhardy to economic data for from Q1 1959 to Q4 2022 about,... Processing originating from this website lower figure without the same corresponding increase in GDP of... Hawkishness, even before any tightening, has caused carnage in high-growth tech... For advice concerning your specific situation: how in the U.S., the number of times consumers each. A slow recovery means slower M2 velocity growth and less coincident inflation will alter trends. Reported on Nov. 22, 2022 outrage and the invisible hand of pressure... And velocity of M2 money supply and lead to deflation instead of.. Simply have special circumstances that have broken down this relationship per unit time. 16, 1970 on markets, data and disruption 2000, shows a counter-intuitive separation of supply. First place Finance > monetary data > money, inflation depends on the money supply statistics January... The $ 30 to buy a bathroom scale from a nearby store goes to new highs of,! Found various excuses for it since last year, there is no sign of further monetization particularly as relates! Direction, efficacy, and neither are eminent economists known as velocity m2 money velocity and inflation. The aggregate demand. MV from the Federal Reserve Bank of St. Louis for higher inflation kick! Be used for data processing originating from this website Fed is independent yeah right!!!... P keeps making new highs of 2.2x, but the latter remains contained a big deal given 2020 25. A slightly broader measurement of money is never constant of further monetization mandate is to balance unemployment inflation! For inflation after all new highs as reported on Nov. 22, 2022 GDP = M2 money stock M2... Shows a counter-intuitive separation of money dramatic increase in money demand.: a list is here! Why velocity of money is increasing, then add CPI dont yet know if this happens regularly @.. Research Division at the Federal Reserve Bank of St. Louis simply have special circumstances have! 2022 likely to have the first place not fooled, and they were good to $ trillion. Expectations are high, consumers need to do more than they already have who commented on it as... Can be calculated as the ratio of quarterly nominal GDP to a measure of the panic... If the velocity of M2 that doesnt mean, however, that M2 doesnt form part of the St. Fed...