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Very Broad Money and the Price Level

Summary:
I keep on getting missives from the IIMR. Here’s today’s, from a Tim Congdon: In May the annual increase in M3 broad money in the United States of America was 25.5%, the highest figure in modern peacetime history. (My source here is the research company, Shadow Government Statistics (www.shadowstats.com, to whom I express thanks.) What’s the concern? In an earlier article, Congdon worries about inflation: I am very worried about a sequel in which annual inflation takes off into the double digits, at least in the USA. Well, what does M3 look like vs. the price level (I use Fed data through 2006Q1, and show M2 until 2020Q2; for concerns about Shadow Government Statistics as a data source, see Jim’s post)? Figure 1: End of quarter M3 to real GDP ratio (dark blue), end of quarter M2 to real

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I keep on getting missives from the IIMR. Here’s today’s, from a Tim Congdon:

In May the annual increase in M3 broad money in the United States of America was 25.5%, the highest figure in modern peacetime history. (My source here is the research company, Shadow Government Statistics (www.shadowstats.com, to whom I express thanks.)

What’s the concern? In an earlier article, Congdon worries about inflation:

I am very worried about a sequel in which annual inflation takes off into the double digits, at
least in the USA.

Well, what does M3 look like vs. the price level (I use Fed data through 2006Q1, and show M2 until 2020Q2; for concerns about Shadow Government Statistics as a data source, see Jim’s post)?

Very Broad Money and the Price Level

Figure 1: End of quarter M3 to real GDP ratio (dark blue), end of quarter M2 to real GDP (light thin blue), and GDP deflator, 2012=1 (red), both on log scales. Q2 observation based on 6/22 M2. NBER defined recession dates shaded gray. Source: Fed, BEA, NBER and author’s calculations. [note: OECD’s M3 measure shown in a previous version is identical to Fed’s M2 measure

It’s hard to see the correlation, except in the very long run, between the price level and the money-income ratio (implied by the quantity theory with velocity constant). In fact, application of the Johansen multivariate cointegration tests, with a variety of assumptions regarding trends, fails to reject the null hypothesis of zero cointegrating vectors in favor of one.

What about growth rates (which could exhibit a relationship if velocity were time varying)? Here’s the corresponding graph, using y/y growth rates (in logs).

Very Broad Money and the Price Level

Figure 2: 4 quarter log difference of M3 to real GDP ratio (blue), M2 to real GDP (light thin blue), and GDP deflator (red). Q2 observation based on 6/22 M2. NBER defined recession dates shaded gray. Source: Fed, BEA, NBER and author’s calculations. [note: OECD’s M3 measure shown in a previous version is identical to Fed’s M2 measure

There is a positive correlation, with adjusted R-squared of 0.13 0.27. That being said, it’s hard to know what direction the causation goes… so count me not yet worried about hyperinflation.

Update, 7/7 noon Pacific: Debate over inflation in Deutsche Bank’s current issue of Konzept, between Oliver Harvey vs. Robin Winkler and George Saravelos here.

Menzie Chinn
He is Professor of Public Affairs and Economics at the University of Wisconsin, Madison

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