Tuesday, December 15, 2009

M2 Money Growth Lowest Since 2005

Many economists and analysts are getting more and more concerned now about inflation, including Larry Kudlow, Brian Wesbury and Bob Stein, here's the latest from Brian and Bob

The Federal Reserve is twiddling its thumbs waiting for consistent signs of falling unemployment before it starts raising interest rates. The Fed’s theory is that inflation won’t show up until the labor market gets a lot stronger than it is today. But inflation isn’t just arriving early, it’s bashing down the door.  With the economy recovering faster than the Federal Reserve anticipated, the easy money policy it continues to hold onto is a dangerous problem. With each passing month the Fed is getting further and further behind the curve.

MP: And yet the money supply figures, at least M2 growth, don't necessarily indicate any inflationary pressures.  The chart above displays year-to-year M2 growth (data here) back to January of 2005, and shows that M2 growth has been falling since the first of the year when it peaked above 10%, and now the most recent growth rate of 4.5% through the end of November is the lowest annual growth in M2 since December of 2005.   What gives?  Wouldn't M2 money growth have to be much higher to fuel the kind of inflation many are worried about?


At 12/15/2009 6:52 PM, Blogger Ironman said...

Mark asked:

Wouldn't M2 money growth have to much higher to fuel the kind of inflation many are worried about?

Not necessarily. It depends on how the spike of money created has been structured. If a good portion of that created money is presently sitting in bank reserves earning interest, then it hasn't really entered the economy. Should the money no longer earn interest, then look for it to enter into the economy (as opposed to its current role of helping prop up shaky bank balance sheets.)

Something like that has happened before in U.S. history. The Fed created an enormous amount of money during World War 2. Inflation that would have resulted was delayed through a combination of price controls and by tying up the money in debt instruments (aka war bonds).

The price controls ended soon after the war did, but the war bonds had a more profound effect - the key to seeing it is to note their minimum holding period before they could be redeemed of one year.

When the war bonds could finally be redeemed, inflation soon followed (with about a one-year lag after their redemption). Essentially, people put the money in banks which contributed to an increase in the money supply through fractional reserve lending.

Check the timing - the last two bond drives of the war (the 7th and 8th) were the most popular. The 7th occurred just after Germany's surrender in May 1945, while the 8th coincided with the end of the war in August 1945.

Now factor in a one-year minimum holding time to redeem the bonds. Now park the money in banks for another year, as industry had not converted to support consumer demand.

Now guess when inflation really began to rise!

The dynamics here also explain another event: the stock market's boom beginning in May 1945 and its otherwise unexplained crash in May 1946. That was the result of a hedging strategy for expected inflation from the war bond redemptions by the big money players of the day.

At 12/15/2009 7:04 PM, Anonymous Lyle said...

Note that it had always been in the plan to pay interest on reserves at the Fed, it was just brought forward last year, so it is unlikely to be taken away.

At 12/15/2009 7:18 PM, Anonymous Benny The Man said...

Like in wages? No.
Housing is cheaper than a year ago.
As this blog has pointed out many times, almost all manufactured goods are continually getting cheaper.
Go to cell phones for cheaper telephone service, or Internet for free service.
Office rents are down all across America, and factory rents too.
Oil is half the peak price.

Gold? Yes, it is spiking. I think it will tumble like 10 pins for the next 10 years.

So, Bush could not find bin Laden, and I cannot find inflation.

PS: We need a few years of moderate inflation and balanced federal budgets to ever get out of this debt-mess we are in. I say print money until the plates melt, Bernanke!

At 12/15/2009 7:42 PM, Blogger Fullcarry said...

Right now M2 is more a metric for money demand. USTs owned by banks don't count as money. When they are owned by the public through money market accounts they become part of M2. As the excessive money demand of late 2008 has diminished, M2 has as well. We all need to understand what these metrics like M2 really mean. This seems to be a common misunderstanding on the Web.

At 12/15/2009 8:21 PM, Blogger PeakTrader said...

A permanent lower level of real GDP growth can be inflationary, given the positive relationship between M2 and nominal GDP, and nominal growth minus real growth is inflation.

Also, at some point, the Fed will need to preempt inflation, from the quantitative easing, and may fall behind the curve.

At 12/15/2009 9:42 PM, Blogger bobble said...

right now, i see deflation not inflation.

i think helicopter ben sees the same thing. that's why he's still furiously filling the economy with liquidity, like some giant water balloon. it won't help until businesses and individuals decide they want some loans .

At 12/15/2009 9:47 PM, Anonymous IO SATURNALIA said...

Although perhaps with more lag-time, is fiscal policy more potent than monetary policy? Do Fed Governors control only the monetary? Are FG, Fed Governors holding less control by interests rates but greater control by their open-market operations? Even when they control money supply is the money velocity more dangerous than supply? Can tiny electrons spinning around inside computers the world over suddenly make a run on your bank? Can your bank collapse faster than you can enunciate, "Jackie Robinson's wife with Joe DiMaggio"?

Is that why the FG were eating fiber for two weeks before they could finally get their bowels to move. Why their wives were on vibrators for even longer? Changing the batteries every day? Is that why Nancy started pouring sodium silicate into perfectly good V8 engines? Perfectly good other than the stupid EGR, exhaust gas recirculation valves that have been slowing us down for years.

One thing for sure -- when your EGR valve turns on you, you have to remember that we are dust in the wind. We have to take care of each other. That is why I am trying to cheer you guys up tonight. Since it will hardly last that long, look on the bright side. Feel better now?

Happy Holidays

At 12/15/2009 9:48 PM, Anonymous Anonymous said...

Here's a nice interactive chart for Money Supply:


If you click on the chart legend, you can turn on and off some of the series, then double click on the chart to redraw.

There is another good one for CPI:


At 12/15/2009 10:13 PM, Blogger Scott Grannis said...

This is a favorite subject of mine, and I have posted my answer to Mark's question on my blog here:


At 12/15/2009 10:31 PM, Anonymous Badger said...

I'm surprised that you're not seeing the same that I'm seeing. Money growth growth was exceptionally during the last four years, particularly 2009. It looks indeed pretty bad to me. Considered that prices have not moved much during the period, you can easily see that this has the potential to become a problem in the future. Monetary lags are long, and should be even longer now, given the crisis, but the effects of excessive money growth are inexorable.

At 12/19/2009 6:14 PM, Anonymous Ajay said...

To jump on what others have said, M1 has obviously risen a great deal. However, the multiplier (M2/M1) has fallen because of a drop in bank lending and hoarding of reserves because of economic uncertainty. The inflationists believe that can turn on a dime, that the banks will start lending again as the economy recovers and the great increase in M1 could fuel a big jump in M2 very quickly. The argument is that Bernanke will be loath to mop up M1 for various reasons, mostly political, and M2 will then explode. I could see it going either way, as I don't think Bernanke is that stupid not to see the great problems with refusing to mop up M1, but the Fed has made many mistakes already: this one could be in the cards too.

At 3/04/2010 10:36 AM, Blogger Ben Eng said...


The Federal Reserve reports M1 to be $1,716 billion as of February 15th. When deposit currency created by the Federal Reserve is added to the traditional definition of M1, M1 after adjustment is actually 170% higher at $2,918 billion. Its annual growth increases to 29.5%, nearly 3-times the rate reported by the Fed and more importantly, is an annual rate of growth in the quantity of dollar currency that is approaching hyperinflationary levels.


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