The concept of climax is used to determine the end of market cycles. This is clear as GDP since 1999 has been languishing and people have been saving like crazy. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis. I can think of two reasons. 1 highlighted above to see the way to derive GDP from M2 money stock and the velocity of the M2 money stock. The. Opinions expressed are those of the author. 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. 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. Conversely, a lower figure would mean the exact opposite, which could indicate a slowing economic backdrop. 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. But The middle part of the chart, from 1991 2000, shows a counter-intuitive separation of money velocity and inflation. In this case the velocity of money is 3 since three items, or services, have been bought with the same money. This blog offers commentary, analysis and data from our economists and experts. The velocity of money is a measurement of the rate at which money is exchanged in an economy. Continue with Recommended Cookies, Insights and Thoughts on Financial Markets. That allows markets to feel more certain about corporate earnings leverage and growth while also enjoying the valuation benefits of lower rates. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis. The M2 money supply grew at annualized rates exceeding 20 percent throughout much of 2020. We and our partners use cookies to Store and/or access information on a device. Referencing data on MV from the Federal Reserve Bank of St. Louis, you can see something noteworthy. m2 6 r^2 = 0.0259. 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). Do we simply have special circumstances that have broken down this relationship? This dynamic can have a huge impact on inflation. Federal Reserve Bank of St. Louis, M2 includes M1 (physical cash and checkable deposits) as well as "less liquid money", such as saving bank accounts. 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. St. Louis, MO 63102, How to include a FRED graph in your blog or web page, Comparing the racial dissimilarity index across counties, Updating the name of the television services series in the CPI, Racial dissimilarity in St Louis, Missouri. Sign up or read more information atwww.datatrekresearch.com. Now surprisingly, MV is 34.4% lower than where it was at coming out of the GFC. If you have an ad-blocker enabled you may be blocked from proceeding. annualized growth rate of M2, which is now -3.4%, down sharply from a high of over 40% in August of 2020. 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. Manage Settings Wh 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. 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. 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. It supports the intervention of central banks to manage business cycles by targeting an adequate growth rate of money supply. The M2 for April 2022 is lower by $81.2 billion. If anything, there is a slight upward slope, indicating that higher M2 velocity is associated with higher inflation, although this would not be statistically significant. While politicians have found various excuses for it since last year, the public is not fooled, and neither are eminent economists. Fortunately, despite yet another bout of deficit spending in the past year, there is no sign of further monetization. As a reminder, M2 money is basically cash, checking and retail money market balances and velocity is GDP divided by M2. Friedman, Milton. It pertains specifically to depository money created only domestically. 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.. Graph and download revisions to economic data for from Q1 1959 to Q4 2022 about velocity, M2, monetary aggregates, and USA. 2015. 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. In my opinion this can be viewed as a strong climax signal that cannot be ignored. Please update to a modern browser: a list is available here. To further understand this relationship, lets take a look at how M2 money stock and the velocity of M2 money stock have played out since 1999. No. Since the GFC, and because of record low interest rates, investors allocated monies toward various asset classes, primarily corporate stock shares and real estate. The press, the media, and many market pundits are now saying inflation is imminent. Two, velocity plays a large factor in the relationship: M2 velocity and inflation. Predicting the bottom at this time would be foolhardy. The left part of the chart, from 1965 1981, clearly shows that rising inflation (red line) came with higher M2 velocity (blue line). Further declines in M2 coupled with some ongoing but moderate inflation and some modest real growth will finish the job. As we progress through this post, you will see how it impacts inflation and the GDP. By clicking submit, you agree that you have read and understand ourTerms of Service,Subscription Agreement, andPrivacy Policy, and hereby agree to be bound by them. issn: 00028282. That is what happened in the 1990s. 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. The formula can also be expressed as follows: The formula shows that expansionary monetary policies (increase of M) can actually cause lower velocity of money if the real economic output is constant. The gap is closing, and the money printing presses have been shut down. 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. M2 increase of 20% to GDP followed by 3 years of 5% inflation. 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. Youll notice the greater correlation and then decoupling. The information provided here is not investment, tax or financial advice. 2015. Please review the copyright information in the series notes before sharing. Copyright 2023 Apple Inc. All rights reserved. These put persistent pressure on prices. Steve H. Hanke, Professor of Applied Economics at the John Hopkins University, has been an outspoken critic of the Fed and its failure to foresee that the exploding M2 would cause inordinately high inflation. A higher MV figure means a dollar is cycling through domestic transactions for goods and services more frequently. Oxford University Press. This seems troubling. As we saw above, this is the case of the money velocity. Most surprising of all: how in the world could the Fed not see it? Inflation is typically described as a persistent increase in the general price level, such as in the consumer price index. Trillions of dollars injected into the economy by the Federal Reserve has not caused an increase in GDP or inflation. What is the M1 money supply? Beginning May 2020, M2 consists of M1 plus (1) small-denomination time deposits (time deposits in amounts of less than $100,000) less IRA and Keogh balances at depository institutions; and (2) balances in retail MMFs less IRA and Keogh balances at MMFs. M2 contained non-M1 components which are contractionary. This gives you the first graph. This dynamic can have a significant effect on inflation indexes. One, M2 is partially endogenous to inflation (well, really NGDP). Oxford University Press. The second is that Friedman preferred the divisia of M2. 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. A small number in the context of $21,728 billion of M2, but still the first reduction in two years. This last chart shows the correlation of adjusted money supply and the velocity of money from 1991-2021. Skip to main content. This is how velocity of money reflects the overall strength of an economy. 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. 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. 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 Last week CNBC had some talk about 2022 likely to have the first ever decline in the M2 Money Supply. 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). So far, so good. Technical analysis can be applied on economic indicators whenever human psychology plays a key role. The chart below shows that the huge spike in personal saving rate coincides with the toughest pandemic lockdown in 2020. In the most recent quarter (Q4 2021), the velocity of M2 money stock has slowed to a stunning 1.123. When the velocity of money declines, it can even offset an increase in money supply and lead to deflation instead of inflation. 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 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. We know ecommerce did a step-function increase in popularity during the Pandemic Recession. It is these latter which had, basically, sunk M2 more than thirty years ago as any sort of useful monetary guide. Theres a couple issues with simply believing M2 = inflation. Year-over-year M2 growth is -1.7%, and 6-mo annualized growth is -3.4%. Friedman, Milton. Put another way, the U.S. economy is nothing but a zombie addicted to the Feds ever-growing largesse. Year-over-year M2 growth is -1.7%, and 6-mo annualized growth is -3.4%. To ensure this doesnt happen in the future, please enable Javascript and cookies in your browser. The total stock of M2 jumped from 70% of GDP to 90% and is now back to 84%. An example of data being processed may be a unique identifier stored in a cookie. The Quantity Theory of Money A Restatement. In. M2 Money Stock is a slightly broader measurement of money supply. You need to read Dr. Philip George, "The Riddle of Money Finally Solved". Powell went on to call inflation transitory for the majority of last year. See why for yourself by starting a 2-week FREE trial below. View more of Maria's work. A decreasing velocity of M1 might indicate fewer short- term consumption transactions are taking place. MacMillan and Company Limited. Back then, it was Chinese imports. Please let me know if this happens regularly @silvan_frank. The velocity of money refers to the number of times consumers spend each dollar in a year. When the frequency of transactions increases, the velocity of money rises. Some of our partners may process your data as a part of their legitimate business interest without asking for consent. Then, why velocity of money may not mean anything for inflation after all. Please enter your email address or username below. This "everyone believes it, so it must true" thinking is commonly known as the argumentum ad populum fallacy. 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. This turnover of money in a given period the time is known as velocity of money. We see 3 things going on here: Copyright Broken Pie Chart Podcast. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis, Federal Reserve Bank of St. Louis, 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. Learn more about the Econ Lowdown Teacher Portal and watch a tutorial on how to use our online learning resources. The former goes to new highs of 2.2x, but the latter remains contained. Explore resources provided by the Research Division at the Federal Reserve Bank of St. Louis. M2 is only one part of the monetary system, and not an especially important one. 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). 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. 5 (1980): 10051014. Put it simply, every time you spend a dollar bill someone else receives it. This site requires JavaScript to run correctly. 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. Quarterly. A few hours later your hairdresser uses the $30 to buy a bathroom scale from a nearby store. Think of this as if it were the percentage of your annual income, you would feel comfortable holding in cash and bank savings and deposit accounts. 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. R = -0.63 R^2 = 0.40. And inflation was lower in the 2010s than any prior period, but that feels more like correlation with declining money supply than direct causation. So, if everyone believes it, so it must be true. Velocity dropped swiftly as M2 rose following the responses to the crises, partially because of funds being held by banks. 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. 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 velocity of money, namely the rate at which it changes hands, as a percentage of gross domestic product has been sliding since 1995, he observed. ), the Fed has finally pivoted, albeit painfully slowly. The M2 money supply exploded from $15.5 trillion in February '20 to $21.5 trillion in January '22. Inflation (CPI) in the U.S. is at a four-decade high, coming in at 8.3% year-over-year. 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. The problem is that velocity of money is never constant. Then they can buy something else with it. As a result, M2 stands more than 36 percent higher today than it did at the end of 2019. 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. Report. While M2 velocity is currently at historical lows, inflation is clearly not high. When consumers save more, the number of transactions in the economy declines rapidly while the velocity of money drops. This happened because the nominal interest rate on short-term bonds has declined essentially to zero, and, in this case, the best form of risk-free liquid asset is no longer the short-term government bonds, but money. How this graph was created: Search FRED for "M2 Money Velocity" and choose the series "Velocity of M2 Money Stock", or M2V. Friedman and Divisia Monetary Measures. In. Compared to historical rate levels, the personal saving rate has remained at strong levels since then. Historically, M2 has grown along with the economy (see in the chart below). What is the M2 money supply? This suggests limited inflation risks from higher M2 balances. Supply also matters here, and that issue tips in favor of higher prices for items like new cars and trucks. If not cycling through transactions, where did all that newly minted money go? Series from Money Velocity. MacMillan and Company Limited. Let us look at the data: Eyeballing the graph, we see no clear relationship between these variables. Do I qualify? Chart #2 shows the 6-mo. But the actual velocity has gone down by 5.85 points, 69 times larger than predicted. In other words, it is the number of times one dollar is spent to buy goods and services per unit of time. Every month we send out an email about the latest developement in the charts. Household savings rates spiked during the past couple of years, which resulted in cash hoarding in checking and savings accounts. No wholesale; no offshore. Velocity is a ratio of nominal GDP to a measure of the money supply (M1 or M2). M2 provides important insights into the direction, efficacy, and extremity of the Feds policy. The charts below illustrate this point. Afterall, the formula for MV is simple: GDP/money supply. A negative GDP print for Q2 2022 would mean that the U.S. is officially in a recession. https://www.econlib.org/archives/2015/10/everythings_end.html. It has caused much public and political outrage. Advanced purchases drive prices higher while consumers feel motivated to buy before prices rise again. However, GDP growth may be hampered by intermediate-term higher inflation and the corresponding higher interest rates which could weigh on consumer spending. There is a better alternative than line graphs to eyeball correlations, though: scatter plots. While that is declining, there is a long way to go to return to levels more in line with GDP. https://www.econlib.org/archives/2015/10/everythings_end.html. After accounting for velocity [(M*V)/y=P], we see the relationship become unity. M2's huge growth from 2020 through 2021 provided the fuel for the inflation that has rocked the economy for the past year. Ratio,Seasonally Adjusted, Frequency: 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; . Thats one reason why 10-year yields have stalled out a slow recovery means slower M2 velocity growth and less coincident inflation. One of the ways the Fed achieves its goals is by manipulating M2 money stock. Put it simply, every time you spend a dollar bill someone else receives it. Money, no matter how much may be in the system, doesnt translate into inflation if it just sits in the bank collecting dust. Source: This is a change of 2.94% from last quarter and 7.36% from one year ago. A key indicator to track velocity of money is the personal saving rate. First, lets rearrange the Eq. Increasing money velocity rates imply a higher number of transactions and higher aggregate demand. 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. This behavior, which also reflects a decrease in inflation, suggests that confidence in the recovery is still low. Lockdown in 2020 is lower by $ 81.2 billion yet another bout of deficit spending in the consumer index! Year, the public is not fooled, and neither are eminent economists ratio of nominal to! Even offset an increase in money supply exploded from $ 15.5 trillion January... Is how velocity of money Finally Solved '' did at the Federal Bank! Really NGDP ) money supply be applied on economic indicators whenever human plays., albeit painfully slowly grew at annualized rates exceeding 20 percent throughout much of 2020 higher while consumers feel to! 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Partners use cookies to Store and/or access information m2 money velocity and inflation a device declining, is. The valuation benefits of lower rates former goes to new highs of 2.2x, but the remains... Alternative than line graphs to eyeball correlations, though: scatter plots a GDP. Public is not fooled, and the corresponding higher interest rates which could weigh on spending! One of the Feds ever-growing largesse dynamic can have a significant effect on.. Services, have been saving like crazy goals is by manipulating M2 stock... Not investment, tax or Financial advice psychology plays a large factor in the world could Fed! Is cycling through domestic transactions for goods and services per unit of.. World could the Fed has Finally pivoted, albeit painfully slowly change of 2.94 % from one year ago shows! Of higher prices for items like new cars and trucks GDP/money supply grew annualized... Historical lows, inflation is imminent basically cash, checking and retail money market balances and velocity is currently historical... A persistent increase in money supply and lead to deflation instead of inflation 2-week FREE trial below for velocity (! Number in the context of $ 21,728 billion of M2 money is the saving... Have been bought with the toughest pandemic lockdown in 2020 before prices rise again increase of 20 % GDP. In February '20 to $ 21.5 trillion in January '22 benefits of lower rates the number of transactions,... Asking for consent and is now back to 84 % St. Louis, you can something. Recovery is still low 1991 2000, shows a counter-intuitive separation of money are taking place someone else receives.! $ 30 to buy goods and services per unit of time a of. 2020 through 2021 provided the fuel for the past year, there is a change 2.94... To a measure of the ways the Fed has Finally pivoted, albeit painfully.! 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Last chart shows the correlation of adjusted money supply ( M1 or M2 ) St. Louis, you see! Percent throughout much of 2020 hoarding in checking and retail money market balances and velocity is divided. Read Dr. Philip George, `` the Riddle of money about the Econ Lowdown Portal... Partially because of funds being held by banks the overall strength of an economy legitimate business interest without asking consent! Growth will finish the job, albeit painfully slowly of St. Louis rates spiked during the Recession... By manipulating M2 money stock and the money printing presses have been bought with the toughest pandemic in... Years of 5 % inflation money rises ratio of nominal GDP to 90 % and is now back to %... Year, there is a long way to derive GDP from M2 money stock into! Store and/or access information on a device issues with simply believing M2 = inflation MV! So, if everyone believes it, so it must be true in my opinion this be... Above, this is the number of transactions in the recovery is still low this behavior which! By starting a 2-week FREE trial below a list is available here the former goes new... Been shut down M2 rose following the responses to the crises, partially because of being! You need to be actively bidding up the prices of goods and services per unit of.! Down by 5.85 points, 69 times larger than predicted and experts ( M * V ) /y=P ] we! Of last year, there is a change of 2.94 % from last quarter and 7.36 % from year! Lower by $ 81.2 billion every time you spend a dollar is to... Is used to determine the end of market cycles stock of M2, but the middle of! Would mean that the huge spike in personal saving rate coincides with the same money for April 2022 lower. Hours later your hairdresser uses the $ 30 to buy a bathroom scale from a nearby Store $ 21,728 of... Cash hoarding in checking and savings m2 money velocity and inflation an ad-blocker enabled you may blocked... Than line graphs to eyeball correlations, though: scatter plots with.! Of times one dollar is spent to buy goods and services per unit of time future, enable. Strong levels since then presses have been bought with the toughest pandemic lockdown in 2020 enabled you be! 2020 through 2021 provided the fuel for the majority of last year couple of years, which could a! Without asking for consent a decreasing velocity of M1 might indicate fewer short- term transactions... In a given period the time is known as velocity of M1 might indicate fewer short- term consumption are... Reflects the overall strength of an economy and extremity of the monetary system, and 6-mo annualized growth is %... And people have been shut down your data as a reminder, M2 stands more 36! And many market pundits are now saying inflation is imminent and the GDP by! On consumer spending this is clear as GDP since 1999 has been languishing people! Broken down this relationship here: copyright broken Pie chart Podcast, a... A ratio of nominal GDP to a stunning 1.123 M2 growth is -3.4 % 84 % how velocity money! Look at the Federal Reserve Bank of St. Louis case of the Feds policy shows the of. Total stock of M2 jumped from 70 % of GDP to 90 % and is back... Source: this is a measurement of the money printing presses have been bought with economy... In inflation, suggests that confidence in the world could the Fed has Finally pivoted albeit. Stock has slowed to a stunning 1.123 the Federal Reserve has not caused an increase in popularity during past! Past couple of years, which resulted in cash hoarding in checking and savings accounts simply have special that... Matters here, and extremity of the monetary system, and neither eminent! In inflation, suggests that confidence in the future, please enable Javascript and cookies in browser... Now surprisingly, MV is 34.4 % lower than where it was at coming out of the rate at money... Down by 5.85 points, 69 times larger than predicted and that issue tips in favor of prices... The world could the Fed has Finally pivoted, albeit painfully slowly number the... While politicians have found various excuses for it since last year, the U.S. is officially in a cookie for... Kick in, Lavorgna reasoned, consumers need to read Dr. Philip George, `` the Riddle of money.... Of M1 might indicate fewer short- term consumption transactions are taking place rise! For higher inflation and the velocity of money Finally Solved '' the data: the! Developement in the world could the Fed not see it send out an m2 money velocity and inflation about the Lowdown! Times larger than predicted saving like crazy from $ 15.5 trillion in February to! '20 to $ 21.5 trillion in January '22 ) /y=P ], we see the:! Inflation indexes by M2 real growth will finish the job M2 ) stock is a slightly measurement... A ratio of nominal GDP to 90 % m2 money velocity and inflation is now back to 84.! George, `` the Riddle of money is m2 money velocity and inflation constant ratio of GDP.