M1 Money Stock
fred.stlouisfed.orgI've weighed in a few times on this but it bears mentioning again. This graph is presented strictly without context. Inflation is a function of both money supply and velocity. The M1 velocity graph is basically the mirror image of the M1 supply graph. [1]
US domestic savings rates are near all-time highs. [2]
The money supply was expanded in order to offset the drop in velocity from Americans putting their money into savings accounts and into the stock market - risking a deflationary spiral. The Fed has tools available at its disposal to contract the supply should velocity go up in order to meet its goal of a steady 2% rate of inflation. [4] They have admitted it may be transiently higher than 2% as the economy re-opens but their goal is an average of 2%, not to avoid spikes. Spikes historically are normal and common.
[edit] A good way to conceptualize this is if the Fed printed a $1T coin and gave it to me, then I threw it into a vault and didn't spend it, would that impact the prices in the CPI basket? No, because the supply expanded and the velocity contracted commensurately. This is what's happening around America on a smaller scale as COVID spooked folks into saving. More about the relationship between supply and velocity and inflation here. [3]
The "inflation scare" people are talking about now isn't whether there's already secret inflation we're not talking about (although it does come up, it's more of a fringe idea). Rather, whether the Fed's tools to reduce supply are sufficient to offset a big increase in velocity now and moving forward.
[1] https://fred.stlouisfed.org/series/M1V
[2] https://fred.stlouisfed.org/series/PSAVERT
[3] https://seekingalpha.com/article/4411210-money-supply-myster...
I started reading about M1/M2/M3 about a year ago, it is a fascinating topic. You are right about inflation being a function of money supply and velocity. Once you start to understand what is happening - it raises so many questions which are hard for a novice to answer like what happens if velocity increases? M1SL has always increased, can it be decreased? Incessant money printing is shafting the savers - should savers just have bought Bitcoin?
My personal take? Inflation affects cash - dollars - only. Not investments. Bitcoin and other cryptos are 100% inflation resistant just like investing in SPY shares, or in real estate, or in ham sandwiches. Once you're not holding dollars, your goal is to find the optimal productive asset based on constant dollar rate of return. Inflation affects the units of measurement of invested value, not the invested value.
For the record, on average across the US, house prices on a dollars per square foot basis have kept pace with inflation, as have wages. [1,2] Should they not have? Maybe, but that's a fiscal policy matter, not a monetary policy matter (i.e. take it up with Congress, not JPow).
Inflation is a forcing function to invest your idle capital as idle capital is worthless. GDP = Supply * Velocity. If you hold your capital, you're lowering the GDP.
Yes supply tends not to drop, the Fed prefers to allow the economy to "grow into" the supply, through increasing productivity, increasing population and through the 2% inflation target.
[1] https://fee.org/articles/new-homes-today-have-twice-the-squa...
[2] https://www.pewresearch.org/fact-tank/2018/08/07/for-most-us...
You've addressed CPI, but would you also care to discuss the effects on asset prices and the future issues of those price movements?
My understanding is that high levels of savings (hence, investments) and the low interest rates have combined to create a massively leveraged asset market. US margin debt is at all-time highs too. [1] Generally such high levels of debt precede pretty big crashes; an increase in interest rates could meaningfully de-leverage the market. That's my biggest fear about being in equities, but I really don't know how this will play out.
[1] https://markets.businessinsider.com/news/stocks/stock-market...
What's driving me nuts is that this has been a big fear about equities for nearly a decade. I ditched a lot of my S&P holdings at the start of the pandemic, saying "Surely this will cause a de-leveraging spiral." That aged like milk.
The market has remained irrational far longer than any of us can remain solvent. Eventually Coyote has to look down and fall... right?
I suppose I'd have to watch the Fed, which is holding interest rates at basically zero, and thus continuing to pump money into the asset markets. It's not causing CPI inflation because what goes into the asset markets isn't increasing demands for milk, and while it's weirding the real estate market, it's swamped by pandemic-based real estate weirdness.
Yup, the real estate stuff is interesting; most folks in the US buy on 30 year fixed rate mortgages, and the amount they can afford is based on their monthly payment. A reduction from 5% APR to 2.5% APR means they can afford a house 20% more expensive for the same monthly payment, and even their down payment isn't as big of a factor as they can just take out a non-conforming mortgage with a smaller down payment and once their LTV goes above 20% they stop paying PMI.
Interest rates will start at our near zero (or below) until the next monetary regime or paradigm.
Yes, the key role of velocity of money in the monetary equation [1] is an excellent point to call out. An article from Nov 21st 2020 [2] discussed how velocity of money has fallen since the 1980s and dropped sharply last year. I’ll be curious to watch: (a) if velocity of money picks up after COVID and leads to consumer inflation; (b) the impact of money supply on interest rates and asset prices unrelated to consumer inflation.
[1]: https://en.wikipedia.org/wiki/Equation_of_exchange
[2]: https://www.economist.com/finance-and-economics/2020/11/21/w...
> Americans putting their money into savings accounts and into the stock market.
What do savings accounts pay in the USA? We are getting much less than inflation here in New Zealand. A regular savings account might get 0.25% at best, and just 0.90% pa return for a 3 year term deposit (which is an investment not a savings account but short term term deposits are commonly used as pseudo savings accounts in NZ).
As for putting money into the stock market, surely that money needs to be spent eventually or moved into bonds, so couldn't the government just stop selling bonds to force spending?
> What do savings accounts pay in the USA?
Right now, the best ones are at about 0.5% APY, maybe just a tiny bit higher. 3 year CDs are about 0.8% or so.
Thanks for the additional nuance, it is a very complex subject.
What do you think of the current fear of hyperinflation?
When you refer to the Fed's tools for reducing the money supply, do you mean the selling of financial assets?
Since the average person has money saved and this is not greatly effected by the financial markets, does it not stand to reason that the Fed has limited power to reduce inflation outside of said financial markets? I.e. the price of things people care about such as food, services and rent will continue to rise even as the Fed sells assets?
> When you refer to the Fed's tools for reducing the money supply, do you mean the selling of financial assets?
Correct me if I'm wrong folks, but my understanding is the Fed controls the money supply through adjusting fractional reserve lending rates, benchmark interest rates, and through selling purchased assets (mostly T-bills).
The US economy is largely debt-driven, and increasing reserve rates means fewer loans are available to create. Increasing interest rates means loans are less attractive. Selling back bonds means that cash leaves circulation.
>What do you think of the current fear of hyperinflation?
In principle it is justified, the money supply is increasing endlessly. The problem is that this money doesn't flow, it's in some stagnating pond basically. You have to consider though, that although this an increase in the money supply, it is also a liability that has to be paid back eventually. When inflation doesn't materialize for a long period of time and then suddenly it goes up to a level above the target, but not in an unsustainable fashion, the Fed will be able to increase interest rates again.
E.g. house prices can no longer rise because future funding is more expensive/scarce than present funding. People stop taking on more debt and they do one additional thing, they start pay their debts off. Things are heading into the exact opposite direction, as you are paying off your debts, the money supply contracts.
This is why the Fed doesn't want unconventional policy like helicopter money, because there is nothing that cancels out the increase in supply, the problem with debt and QE is that you need to be credit worthy or own assets so it is extremely regressive.
>I.e. the price of things people care about such as food, services and rent will continue to rise even as the Fed sells assets?
This actually has nothing to do with the Fed, rather it has to do with the fact that people are working and they are producing the things that you want to buy. If there is inflation in food this is a signal that companies should produce more food, so the real question becomes whether companies are able to expand production and whether they can do so fast enough to outpace inflation. Of course, beyond a certain level of inflation it becomes increasingly difficult to do this.
Simplified example: Think about it this way, you play an MMORPG and an AI can automatically generate items that people want to buy. People keep putting dollars into your game and those dollars are not consumed. You get a premium currency in the game and from a theoretical perspective it is effectively worthless, you can't buy groceries with it. However, you can buy in-game items. Now lets say you are a "central bank" in the MMO and just send everyone 1 million premium currency. The currency should be worthless now right? Actually, the AI can keep up with the production of new items, its relative value compared to items is still the same, you actually run into a completely different problem, too much money in bank accounts after people bought all the items they wanted. If new players join the game there might be enough money for everyone but it is not distributed equally and therefore they don't get any items.
> The M1 velocity graph is basically the mirror image of the M1 supply graph. [1]
See also M2 velocity:
But look at the history of the M1 money stock and the history you linked to of the velocity of the M1 money stock. These jokers never pull back on the money stock even after velocity picks up. It just establishes a new normal.
For the last decades they have succeeded in keping the inflation rate where they indend, so apparently the "new normal" larger money stock is/was the appropriate amount for the growing economy. If "these jokers" would have pulled back on the money stock more than they did, then instead of 2% inflation per annum there would be 0% inflation or a deflation, and one of their key duties is to ensure that it doesn't happen.
Inflation doesn’t show up in CPI but it sure has shown up in asset prices as a direct consequence of their unwillingness to pull back on M1. So your initial point that you have to keep reminding people that we won’t see inflation because velocity of money has declined is not accurate. We have seen it in all asset classes and it is because they never, ever pull back on M1.
You have to consider that if asset appreciation was a mirror image of CPI inflation then rent payments must go up to compensate for the increase in housing prices. They did go up, but mostly in major cities and they didn't catch up with asset appreciation.
Remember, when you get a mortgage to buy a house including land you will eventually have to pay the mortgage back and if you aren't doing so yourself, then your tenants have to do it and their income gains don't exceed CPI as of now (assuming no job switch). Even if you sell, you are speculating that someone else thinks that way and if no such person exists then the price of housing will go down.
If a given quantity of assets (let's say 1 SPY share) will buy you more good from the CPI basket this year than last year, that's not inflation, that's a return on investment. It would only be inflation if while the notional price of SPY shares went up the quantity of goods you can buy with it stayed flat or went down.
their "tool" for constricting it is raising interest rates and causing a recession which they will never do for political reasons. especially with the most dovish president weve ever had. theyd rather 20% inflation.
They can also increase reserve rates and sell off the bonds on their books. [1]
[1] https://fredblog.stlouisfed.org/2020/09/the-feds-balance-she...
Do note the postscript below the graph - in May 2020, they changed how the M1 is calculated, adding all of the savings accounts into it. That explains the giant jump.
Is the Fed printing money? Yes. Is it dire? Unknown.
M2 is a better chart now since they added savings accounts in May 2020 making the M1 misleading and hard to follow.
M2 is "M1 plus savings and time deposits, certificates of deposits, and money market funds".
Washington post has a good article talking about the cases for and against inflation rising [1]. This chart shows one case for inflation, cases against include supply chain problems, unemployment, and cautious households.
[1]https://www.washingtonpost.com/business/with-no-inflation-in...
Lies, damn lies, ...
It's not as bad as that graph makes it look.
Last April, all the money that was in savings and money market accounts seemingly got transferred to the m1.
"...the modification of Regulation D in late April has effectively rendered savings accounts almost indistinguishable from checking accounts from the perspective of depositors and banks. Accordingly, the composition of M2 between M1 and non-M1 components conveys little economic information."
https://fredblog.stlouisfed.org/2021/01/whats-behind-the-rec...
Yes, once you understand what caused the spike, spreading this graph without the explanation is basically misleading propaganda.
with a Federal Reserve Digital Dollar, at least under one proposal, the Fed could, as a matter of monetary policy, just create new dollars directly into everyone's personal Federal Reserve account. Most of the money they created here is still just sitting in big banks and isn't moving around so it does not really add to the velocity of money. If they could hand out all the new money to everyone with like a federal venmo app with USD stable coins that you can convert to cash at an ATM, then maybe they would have another lever to try to meet their 2% inflation goal.
> Most of the money they created here is still just sitting in big banks and isn't moving around so it does not really add to the velocity of money.
I agree that establishing a direct relationship between the Fed and individuals could be a better way to stimulate the economy than expanding the availability and demand for loans and buying bonds, but does it have to be done on the blockchain? Couldn't it simply be handed like any government account, and keyed to, for instance, your SSN? You can then transfer it via ACH/RTP or FedWire to your bank account.
I'm open to the idea that a CBDC could be an interesting innovation I'm just not entirely sure what the specific benefit would be here, and would be interested in your opinion.
There's a chunk of Americans who don't have bank accounts (or could work a government account online), so standard methods may not work for 100% of the population.
Also, the Fed is very leery of destroying commercial banking in the US via postal banking or a direct CBDC - I'd expect (if we ever do go that way) for there to a hybrid model. Under that system, banks provide the services to support a digital dollar, while the Fed works through them.
As for "why blockchain" - there's no real reason if the Fed is going to do the work/be the source of trust.
You’d have a traditional deposit account at the Fed. You might even have different types of dollars in your account, one traditional, one “helicoptered” from the Fed they inject, ad hoc or on a cadence, with an expiration date (“use it or lose it”).
https://greatdemocracyinitiative.org/document/central-bankin...
Two graphs of different things stitched together as if they were one.
...which is an abject failure on the Fed's part. Changing methodology in-flight is kind of dumb. Discontinue the earlier time series and start a new one, don't pretend that apples and lychees are comparable.